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August 5, 2016 72 taxmann.com 96 (Article)
ARTICLE PUBLISHED On www.taxmann.com
Technology Meets Trade
1. The Companies Act, 2013 ('the Act of 2013') ushered in a new era in the corporate law regime in India and has brought the Indian corporate laws in tune with the global corporate law best practices. The various changes introduced in the Act of, 2013 will have a lasting impact on the way business is conducted by companies in this country.
With the advent of an atmosphere of liberalisation, many new provisions were introduced in the Act of 2013 to make it easy to do business in India, whether for domestic players or for foreign companies investing in Indian companies. One such change which was formally introduced in the Act of 2013 was the enabling power of directors of a company to participate in its Board meetings via video-conferencing. The Act of 2013, thus, allowed and permitted Board Meetings to be held and conducted through the medium of video-conferencing and also enabled company Directors desirous of participating in Board Meetings through video-conferencing and intimating the company in advance of such an intent.
Participation in Board Meetings Through Video-Conferencing Allowed: a Boon for Foreign Directors and Indian Directors Alike
2. In 2014, the Ministry of Corporate Affairs notified the Rules governing such participation through video-conferencing in the form of the Companies (Meeting of the Board and its Powers) Rules, 2014 ('Board Meeting Rules'). The said Rules, which were notified on 31st March, 2014, lay down the parameters for companies to be complaint while conducting and convening Board Meetings through video-conferencing and other audio-visual mode.
Board Decisions that cannot be allowed to be taken via Video-Conferencing
3. With an intention of balancing the scales of power and to prevent abuse thereof, Rule 4 of the Board Meeting Rules prohibits and does not permit certain important corporate decisions to be taken by means of video-conferencing. Rule 4 makes it clear that the following matters shall not be dealt with in any Board Meeting held through video-conferencing or through other audio-visual means:
(a) The approval of annual financial statements of the Company;
(b) The approval of the Report of the Board of Directors of the Company;
(c) The approval of the prospectus;
(d) The Audit Committee Meetings for consideration of accounts; and
(e) The approval of the matter relating to amalgamation, merger, demerger, acquisition and takeover.While the aforesaid recent changes were intended to facilitate the meetings of the Board of Directors of the companies to be conducted through video-conferencing, already litigations have ensued in this regard. The recently constituted National Company Law Tribunal (NCLT) had the occasion to deal with such an issue and its interpretation given vide NCLT New Delhi Bench order dated 22nd June, 2016 in the case of Rupak Gupta v. U.P. Hotels Ltd.  71 taxmann.com 158 (NCLT - New Delhi) (in short Rupak Gupta order) will have a far reaching impact on the functioning of meetings of Board of Directors of companies in India. The main question that was answered in the said ruling was whether company Directors can attend Board Meetings of the company via video-conferencing without prior intimation given at the beginning of the calendar year conveying such intention of participation through video-conferencing.
Brief Facts of the Case: Rupak Gupta v. U.P.Hotels Ltd.
4. In the said Rupak Gupta's case, (supra) the applicant and his mother were continuing as Directors of the Respondent-Company. Owing to their travel plans overseas, they were desirous of participating in the Company's Board Meeting to be held on 4th June, 2016 via video-conferencing. However, the Joint Managing Director of the respondent Company denied the applicant and his mother the right to participate in the said Board meeting via video-conferencing and albeit, certain important decisions were taken in that Board Meeting, including the appointment of an Independent Director of the company and also the appointment of the Company Secretary of the company.
On 28th May, 2016, the applicant received a notice from the Joint Managing Director of the Respondent-company proposing to hold a Board Meeting on 4th June, 2016 for, inter alia,selection of a Company Secretary for the company and to "deal with any other matter with the permission of the Chair". Since the applicant was aware of the importance of the issue of appointment of a Company Secretary, he conveyed his inability to participate in the said Board Meeting owing to prior travel plans overseas from the 1st June, 2016 to 14th June, 2016. Thus, the applicant requested the Joint Managing Director to reschedule the said Board Meeting either on 1st June 2016 or after 14th June, 2016. Further, the applicant himself had two additional recommendations of persons for the post of Company Secretary, which he conveyed to the Joint Managing Director. Thereafter, the Joint Managing Director of the Respondent-Company, on the very same day responded to the applicant's request by assuring him that such rescheduling was possible. The Board Meeting was now fixed for being held on 1st June, 2016. Upon this assurance, the applicant and his mother did not alter their travel plans and decided to continue travel as planned.
However, the applicant was shocked to receive another notice on 30th May, 2016 which rescheduled the Board Meeting from 1st June, 2016 to 4th June, 2016. Upon inquiring, the applicant was told that since the candidates being interviewed for the position of Company Secretary were not available on 1st June, 2016, the meeting had to be fixed for 4th June, 2016. Owing to the importance concerning the position of Company Secretary in the Company, the applicant requested the Joint Managing Director to allow the applicant and his mother to participate in the said Board Meeting, at least, via video-conferencing. To this request, the Joint Managing Director of the Respondent-Company readily conceded and thus, the applicant and his mother left overseas on 1st June, 2016. Very interestingly, just a day before the scheduled Board Meeting, i.e., on 3rd June, 2016, the applicant received another notice by mail stating that the applicant and his mother could not be permitted to participate in the said Board Meeting viavideo-conferencing facility as it would tantamount to violation of Rule 3(3)(e) of the Companies (Meetings of Board and its Powers) Rules, 2014.
Thereafter, the applicant made an attempt to send his representative to the company on the scheduled date of the Board Meeting to arrange for video-conferencing, via skype software, only to find the Joint Managing Director disconnecting the same and not permitting any attempts of the applicant from participating in the said Board Meeting on 4th June, 2016.
Respondent's attempts to Appoint Chairman and Company Secretary without participation of the Applicant
5. In its application before the NCLT, the Applicant submitted that the impugned Board Meeting also had an agenda of appointing one Mr. B.K. Gupta as Additional Director. When this matter was placed before the Board for its approval, an Independent Director of the company, Mr. Ravindra Chaddha, expressed his objection to pass the said resolution on the ground that since the appointment of B.K. Gupta as Additional Director of the company was not mentioned in the agenda circulated to the Directors, such decision could not be permitted to be taken on the pretext of passing it under head of "other matters with the permission of the Chair".
The ill intention of the Joint Managing Director was further revealed when it was submitted by the counsel of the Applicant that despite facing opposition on the appointment of Additional Director, the Joint Managing Director went ahead and also convened yet another Board Meeting thereafter on 22nd June, 2016 to confirm the Minutes of the meeting held on 4th June, 2016, which would confirm the appointment of Mr. B.K. Gupta as non-executive independent Chairman of the company, as well as appointment of another Independent Director of the Company and for the formation of Audit Committee, Nomination and Remuneration Committee and other Committees and for appointment of Chairman of such committees. Additionally, the meeting scheduled to be held on 22nd June, 2016 was also to confirm statutory compliances, signing of balance sheet and annual accounts for the year 2012-2013 and for fixing the date of the Annual General Meeting of the shareholders.
It was argued before the NCLT that first of all, an unabashed attempt was made by the Joint Managing Director of the Respondent-Company to somehow convene the Board Meeting on 4th June, 2016 while the Applicant and his Mother were out of station and secondly, another Board Meeting was proposed to be held on 22nd June, 2016 to give effect to the resolutions passed on 4th June, 2016 by getting the confirmation of the Minutes passed at the Board meeting held on 4th June, 2016. Moreover, it was also contended that an attempt was being made by the Joint Managing Director of the company to appoint the person who was appointed as independent director of the company on 4th June, 2016, as the new Chairman of the company and also ensure appointment of the Joint Managing Director's recommended candidate as the Company Secretary.
Thus, the application was moved before the NCLT to pass interim orders staying the operation of the resolutions passed in the meeting dated 4th June, 2016 and also to restrain the Respondents from convening the board meeting on 22nd June, 2016.
Can Video-Conferencing Participation Right Be Denied to Director of Company?
6. In its defence to the query posed by the Hon'ble NCLT as to why the applicant and his mother were not allowed to participate in the board meeting on 4th June, 2016 via video-conferencing, the Respondents cited Rule 3(3)(e) of the Board Meeting Rules, 2014. For ease of reference the said Rule 3(3)(e) is reproduced below:--
"…Rule 3(3)(e) - The director, who desire, to participate may intimate his intention of participation through the electronic mode at the beginning of the calendar year and such declaration shall be valid for one calendar year."
The Respondents further contended that there being no prior intimation from the Applicant at the beginning of the calendar year for participation in the Board Meetings through video-conferencing, the Applicant and his mother were barred by the fetters of Rule 3(3)(e) of the Board Meeting Rules, 2014, and, thus, could not be permitted to participate in the company's Board Meeting via video-conferencing. Citing this reasoning, the Respondent-Joint Managing Director of the company stated that despite his initial assurance of allowing the Applicant and his mother for participation through video-conference, the Joint Managing Director could not allow the violation of Rule 3(3)(e) in the process.
In this context, it is also pertinent to note the 'Secretarial Standard on Meetings of the Board of Directors', also known as Secretarial Standard-1 (or 'SS-1') were issued by the Council of the Institute of Company Secretaries of India and were approved by the Central Government in line with the provisions of the Act of 2013. Consequently, a company has to mandatorily adhere to or be in compliance with the standards prescribed in the SS-1 as per the provisions of the Companies Act, 2013.
As per clause 1.2.3 of the said SS-1, which deals with participation in Board Meetings by 'Electronic Mode' (which includes video-conferencing):
"any Director may participate through Electronic Mode in a Meeting, if the company provides such facility, unless the Act or any other law specifically does not allow such participation through Electronic Mode in respect of any item of business".
Further, the explanatory clause to Clause 1.2.3 of the SS-1 lays down that Directors shall not participate through Electronic Mode in the discussion on certain restricted items, unless expressly permitted by the Chairman. Such restricted items of business include approval of the annual financial statement, Board's report, prospectus and matters relating to amalgamation, merger, demerger, acquisition and takeover. Similarly, participation in the discussion through Electronic Mode shall not be allowed in Meetings of the Audit Committee for consideration of annual financial statement, including consolidated financial statement, if any, to be approved by the Board, unless expressly permitted by the Chairman.
The SS-1 define's 'Electronic Mode' as follows: in relation to Meetings it means Meetings through video-conferencing, or other audio-visual means. "Video Conferencing or other audio-visual means" means audio-visual electronic communication facility employed which enables all the persons participating in a Meeting to communicate concurrently with each other without an intermediary and to participate effectively in the Meeting.
Thus, even in the SS-1 it is clearly indicated that electronic mode is a valid mode for participation of Directors in a Board Meeting. These standards have to be complied with by companies in validly holding and convening Board Meetings. The SS-1 further lay's down other requirements,inter alia, time-stamp on the minutes, formal written record of the minutes in written or electronic form and even maintaining a minutes book either in physical form or in electronic form. Therefore, the intention of the legislation in formulating these SS-1 is clear as to the extent that video-conferencing and electronic mode of communication and storage are to be allowed and Directors must be enabled to participate in Board Meetings by incorporating such technology.
Respondents' Contention: Applicant Did Not Come to NCLT With Clean Hands
7. Coming back to the Rupak Gupta case (supra) the Joint Managing Director of the Respondent-Company raised another contention that since the company was essentially a family-owned entity and it was facing disputes between two groups of family members, there was actually an impending company application in the NCLT which had ordered that the status-quo be maintained in respect of disputed assets of the company and that the two factions of the family were ordered not to interfere with each other's delineated portion of assets. However, the said company application was pending in the Hon'ble Tribunal. The Respondents submitted that the Applicant had left no stone unturned in trying to get the said order reversed, even to the extent of approaching the Supreme Court but failed in doing so. Therefore, as per the status-quo ordered by the Hon'ble Tribunal in that other matter, the management and control of the Respondent-Company remained in the hands of the Respondent-Joint Managing Director, i.e., R2(e).
The Respondents also contended that the Applicant and his mother would never cooperate with any resolutions proposed to be passed by the Board of Directors of the Company and that the Respondents were not allowing to make statutory compliances. That upon the demise of one of the directors from B group (the group belonging to Joint Managing Director's family), the Board's equation had been changed and, hence, the respondents should be allowed to appoint their candidate on the Board of the company.
NCLT Ruling: Prior Intimation under Rule 3(3)(e) Only a Directive, Not a Mandate – Thus, Director Can Participate via Video-Conferencing
8. Coming to the main issue concerning the Rupak Gupta case (supra) the NCLT analysed the impugned provision of the Board Meeting Rules, 2014 and held that it is the duty of the Directors convening the Board Meeting to inform other Directors regarding the options available to them for participation through audio-video means and video-conferencing. The purpose behind doing so is that the Directors convening the Board Meeting have the obligation to provide every facility to the directors seeking video-conferencing and enable them to participate in the concerned Board Meeting.
Upon an analysis of the Rule 3(3)(e), the Hon'ble NCLT held that the said Rule only states that if a Director gives an intimation at the beginning of the calendar year expressing its desire or request to participate in the Board Meeting through video-conferencing, such intimation shall remain valid for the entire calendar year. However, the Hon'ble NCLT held that nowhere in the language of Rule 3(3)(e) was it stated that if such intimation is not given at the beginning of the year, video-conferencing is not to be provided in that calendar year.
Therefore, the Hon'ble NCLT interpreted the scope of Rule 3(3)(e) of the Board Meeting Rules, 2014 to be an 'enabling' provision rather than a disabling provision. In other words, it is not conditional upon the Directors to mandatorily intimate the company of its decision to participate through video-conference at the beginning of the year. If such intimation is not given at the beginning of the year, the Director seeking video-conferencing shall be permitted to participate in the Board Meeting through video-conferencing or other audio-visual means. The Hon'ble NCLT was of the considered view that when a provision is so read, it has to be read wholly and not in pieces.
Recognizing the Reasoning Submitted by the Respondents
9. The Hon'ble Tribunal was not insensitive to the fact that the balance in the Board of Directors was skewed against the Respondent-Joint Managing Director's side of the family owing to the demise of one of the Directors of the B Group. However, the Hon'ble Tribunal felt that the Respondent-Joint Managing Director ought to have awaited the final decision in the existing company application regarding the status-quo of the disputed assets of the company and ought not to have over-reached the court by adopting this method of balancing the equation of the Board by surreptitiously getting its own candidate appointed as an independent director and Chairman of the Company.
NCLT Stays Operation of Resolution Passed In Board Meeting where Applicant and His Mother were Denied Participation
10. The Hon'ble NCLT came to the rescue of the Applicant and his mother, both of whom being continuing Directors of the Company were wrongly denied the right to participate in the Board Meeting via video-conferencing and, thus, passed interim orders staying the operation of the resolutions passed in the Board Meeting held on 4th June, 2016 and also withheld the passing of resolutions in respect of other important items that were part of the Board Meeting scheduled to be held on 22nd June, 2016.
11. The intention of the law-makers is to encourage ease of doing business in India and enable foreign investors and their nominated foreign Directors to participate in the Board Meetings of the Indian entity via innovative technology, i.e., video-conferencing or skype or other voice-over-internet protocol (VOIP). However, the family-run businesses continue to engage in a tug-of-war between estranged family members who are also stakeholders engaged in protracted legal battles and who will go to any extent to abuse the law by denying other's their legitimate right's and by ensuring that control over the management of the company, remain in the hands of a few. In light of the scheming tactics adopted by the family-run businesses to deny each other any control or even legitimate right of participation in Board Meetings, which is a basic right of a Director, such ruling by the Hon'ble NCLT has proven that the newly-formed Company Law body is determined to weed out attempts by ingrown companies to violate provisions of corporate governance and ensure that a healthy atmosphere of enforceability exists in the Indian corporate ethos.
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Published in Taxmann's 'Corporate Professionals Today' Vol. 32
February 1-15, 2015 Issue
DELEP GOSWAMI, FCS, ADVOCATE, SUPREME COURT, NEW DELHI
ANIRRUD GOSWAMI, ADVOCATE, GOSWAMI&GOSWAMI, ADVOCATES
AND LEGAL CONSULTANTS, NEW DELHI.
When the Companies Act, 1956 (“the Old Act”) got replaced after 57 years by the Companies Act, 2013 (“the Act”), with emphasis on corporate transparency, accountability, corporate social spending, self-governance and less regulatory control, the trade and industry and the three main professional Institutes drew lot of comfort because it allowed liberty and freedom for the corporate sector to take their own decisions without the necessity to seek approval from the Central Government for most of the corporate decisions.
The Act was notified on 29th August, 2013 and the Central Government soon brought into force 283 sections, out of the 470 sections, of the new Act and also notified corresponding 22 sets of Rules necessary for the working of those notified sections. However, during the course of implementation of the enforced provisions of the Act and the corresponding Rules, many teething problems cropped up and clarity was needed in proper interpretation of the provisions of the Act and the Rules. The Central Government was alive to the needs of the corporate sector and wherever needed, clarifications were issued and the Central Government even amended the relevant Rules wherever required. Estimates suggest that in India there are nearly nine lakhs companies registered as purely private limited companies, which are not subsidiaries of public limited companies. Most of the purely private limited companies do not resort to borrowing of funds from the public sector banks and financial institutions and even do not have public shareholdings, and those companies earlier enjoyed several exemptions from the requirement of stricter compliances with the provisions of the old Act. However, in the new Act those exemptions stood more or less withdrawn and has therefore created newer challenges for the promoters/management of those private limited companies. It is also reported that as a result of stricter provisions of the new Act, the rate of registration of new companies has come down in India after April, 2014. The purely private companies continue to argue against the excessive regulatory controls over them and hope that the Government will favourably accede to their pleas and relaxations might be accorded to them.
As is well known, for ensuring good corporate governance, many new provisions were incorporated in the Act and many existing provisions were altered making them more stricter and stringent. Stiff punishments of imprisonment and/or fine were stipulated for non-compliance of those provisions by the corporate sector. The Act also elaborated and defined the duties, responsibilities and liabilities of the Company Directors. To ensure adherence to good corporate governance practice, the Act stipulated mandatory appointment of “Key Managerial Personnel” (“KMP”) in certain specified companies. To dilute the control of the promoters and company management in corporate decision making processes, the law has now made it mandatory for appointment of “Independent Directors” in certain specified companies, and elaborate duties and responsibilities of such independent directors were prescribed in the Act itself and even these independent directors are required to follow a detailed code of conduct, which forms part of the Act itself.
To prevent corporate frauds, for the first time, well defined provisions were incorporated in the Act with detailed procedure for their investigation, and for speedy trial of those cases the Act envisaged for the first time, setting up of Special Courts. To unearth frauds/suspected frauds, the Auditors of the companies have a mandate to report to the Central Government and to the Audit Committee of the Board the incidence of actual or suspected corporate frauds which they might come across during the course of their audit of company accounts and documents. Since a large number of gullible investors were duped and lost their savings/earnings in the “fixed deposit” schemes of companies, in the Act stricter and elaborate provisions have been prescribed for compliance by companies obtaining public deposits and stringent punishments have been earmarked for the defaulters.
To curb the malpractice and misuse associated with the companies entering into contracts and arrangements with relatives of directors and the KMP, as well as with companies in which the company promoters/key managerial personnel are interested, the new Act incorporated elaborate stricter provisions. Collectively they were referred to as “Related Party Transactions” (RPTs) and mainly section 188 of the Act and the corresponding Companies (Meetings of Board and its Powers) Rules, 2014 (“CMBP Rules”) were enacted and it also covered, inter-alia, stricter provisions with regard to giving of loans and guarantees to directors; and also restrictions were imposed on certain transactions between holding and subsidiary company. The provisions of the Act and the said CMBP Rules also prescribed conditions for the Board of Directors of companies to report to the shareholders the details of the terms and conditions of RPTs and their justification. Additionally, specific law was enacted in sub-section (1) if section 184 of the Act restricting investment through not more than 2 layers of investment companies.
All these measures were intended to curb corporate malpractices/mismanagement and to ensure good corporate governance norms by companies. Though the relevant provisions of the Act and the Rules were found to be too complex and complicated and very difficult to follow, yet, gradually the companies and the professionals associated with companies in their implementation started complying with them. However, simultaneously, the Industry bodies and the Professional Institutes started representing to the Government to remove some of the bottlenecks in RPTs to facilitate ease in doing business.
In order to address the issues and concerns raised by the stakeholders including the Professional Institutes and with a view to enabling “ease in doing business”, in the Winter Session of the Parliament, the Government introduced a new Bill viz. The Companies (Amendment) Bill, 2014 (“the Amendment Bill”) proposing 14 amendments to the new Act and on 17th December, 2014, the said Amendment Bill was passed by the Lok Sabha and now awaits its passing from the Rajya Sabha.
In this article, an attempt has been made to elaborate only the proposed changes which dilute the restrictions on “related party transactions”(“RPTs”) as well as liberalises the transactions between the holding and subsidiary companies. Before we analyse the impact of the changes being brought out by the Amendment Bill, it would be necessary to look at some of the important provisions of the new Act which have a direct bearing on the RPTs. One such provision is who is a “related party”. Section 2(76) of the new Act defines that with reference to a company ‘related party’ means :-
Further, section 2(77) of the new Act defines “relative” with reference to any person and it means anyone who is related to another if –
Rule 4 of the Companies (Specification of Definitions Details) Rules, 2014 provides that a person shall be deemed to be the relative of another, if he or she is related to another in the following manner, namely – (i) Father (including step-father); (2) Mother (including step-mother); (3) Son (including step-son); Son’s wife; (5) Daughter; (6) Daughter’s husband; (7) Brother (including step-brother); and (8) Sister (including step-sister).
Section 2 (51) of the new Act defines “KMP”, in relation to a Company means –
To restrict related party transactions (RPTs), sub-section (1) of section 188 of the Act stipulates that “except with the consent of the Board of Directors given by a resolution at a Board meeting and subject to such conditions as may be prescribed, no Company shall enter into any contract or arrangement with a Related Party with respect to –
However, the first two provisos to sub-section (1) of Section 188 of the Act stipulates that RPTs can be entered into by passing “special resolution” by non-related party shareholders of the company. Passing of “special resolution” (75% majority) by non-related shareholders was envisaged so that ostensibly under the garb of entering into contracts or arrangements in respect of the aforesaid areas mentioned in sub-section (1) of Section 188 of the Act, it would be rather difficult for promoters/company’s management to favour their own relatives or group companies and divert company’s funds thereby to the related parties. in this way a tough call for promoter/interested-parties dominated companies.
Additionally, Rule 15(3) of the aforesaid un-amended CMBP Rules prescribed certain pre-conditions for entering into RPTs. As per Rule 15(3)(i) of the un-amended CMBP Rules, no company having a paid up share capital of Rs.10 crores or more could enter into RPTs without following the pre-requisite conditions. Further, Rule 15(3)(ii) prescribed certain limits on the contracts/transactions enumerated in sub-section (1) of Section 188. However, the Central Government vide Notification dated 14.8.2014, amended the aforesaid Rule 15(3) and now the paid-up share capital clause has been omitted. This means that the RPTs are applicable to all types of companies, as the paid-up share capital criteria stands deleted. Certain threshold limits were prescribed in Rule 15(3) of the said CMBP Rules, 2014 but vide notification dated 14.8.2014, the said Rule has been amended. Now, earlier Rule 15(3) of the CMBP Rules stands substituted by the following rules :
“(3) For the purposes of first proviso to sub-section (1) of section 188, except with the prior approval of the company by a special resolution, a company shall not enter into a transaction or transactions, where the transaction or transactions to be entered into –
(a) as contracts or arrangements with respect to clauses (a) to (e) of sub-section (1) of section 188, with criteria as mentioned below –
(i) sale, purchase or supply of any goods or materials, directly or through appointment of agent, exceeding ten per cent of the turnover of the company or rupees one hundred crore, whichever is lower, as mentioned in clause (a) and clause (e) respectively of sub-section (1) of section 188;
(ii) selling or otherwise disposing of or buying property of any kind, directly or through appointment of agent, exceeding ten per cent of net worth of the company or rupees one hundred crore, whichever is lower, as mentioned in clause (b) and clause (e) respectively of sub-section (1) of section 188;
(iii) Leasing of property of any kind exceeding ten per cent of the net worth of the company or ten percent of turnover of the company or rupees one hundred crore, whichever is lower, as mentioned in clause (c) of sub-section (1) of section 188;
(iv) availing or rendering of any services, directly or through appointment of agent, exceeding ten percent of the turnover of the company or rupees fifty crore , whichever is lower, as mentioned in clause (d) and clause (e) respectively of sub-section (1) of section 188;
Explanation: It is hereby clarified that the limits specified in sub-clauses (i) to (iv) shall apply for transaction or transactions to be entered into either individually or taken together with the previous transactions during a financial year.
(b) is for appointment to any office or place of profit in the company, its subsidiary company or associate company at a monthly remuneration exceeding two and half lakh rupees as mentioned in clause (f) of sub-section (1) of section 188; or
(c) is for remuneration for underwriting the subscription of any securities or derivatives thereof, of the company exceeding one per cent of the net worth as mentioned in clause (g) of sub-section (1) of section 188.
Explanation (1) The turnover or net worth referred in the above sub-rules shall be computed on the basis of the audited financial statement of the preceding financial year.
(2) In case of a wholly owned subsidiary, the special resolution passed by the holding company shall be sufficient for the purpose of entering into the transactions between the wholly owned subsidiary and the holding company.
(3) The explanatory statement to be annexed to the notice of a general meeting convened pursuant to section 101 shall contain the following particulars, namely –
(a) name of the related party;
(b) name of the director or key managerial personnel who is related, if any;
(c) nature of relationship;
(d) nature, material terms, monetary value and particulars of the contract or arrangement;
(e) any other information relevant or important for the members to take a decision on the proposed resolution.”
Nonetheless, despite the amendment dated 14.8.2014 to the aforesaid CMBP Rules, the companies were still required to get approval through special resolution for RPTs exceeding the threshold limits. As is known, to oversee the important corporate functions, section 177 of the Act, read with Rule 6 of the CMBP Rules, 2014 mandates setting up an “Audit Committee” of the Board of Directors (consisting of a minimum of three directors with Independent Directors forming a majority) in every listed company and in every public company with a paid-up share capital of ten crore rupees or more; all public companies having turnover of one hundred crore rupees or more; all public companies having in aggregate, outstanding loans or borrowings or debentures or deposits exceeding fifty crore rupees or more. Clause (iv) of sub-section (4) of section 177 deals with the power of the Audit Committee with regard to approval/any subsequent modification of RPTs.
To enable ease in doing business by the public companies, the Amendment Bill inserts a new proviso to Section 177(4) which stipulates “provided that the Audit Committee may make omnibus approval for related party transactions proposed to be entered into by the company, subject to such conditions as may be prescribed.” Thus, the Audit Committee will now be empowered to give omnibus approvals for related party transactions.
In order to make doing business easier for public companies, apart from liberalising abovementioned Section 177 of the Act, the Amendment Bill stipulates that in the first proviso to section 188(1) of the Act, instead of passing of “special resolution” by non-related shareholders in respect of approval of RPTs, “special resolution” has been substituted with “resolution”. In other words, the requirement of passing of “special resolution” of non-related shareholders is being diluted for RPTs, and companies will find it rather easy to get ordinary resolutions passed. Corporate experts and critics fear that while there is no doubt that it will help in “ease in doing business”, yet it would also adversely impact the financial discipline and adherence to good corporate governance standards by public companies.
Not only the abovementioned relaxations in the RPTs, in respect of transactions between the holding and subsidiary companies, the Amendment Bill inserts a new proviso to sub-section (1) of Section 188 and it reads as “provided also that the requirement of passing the resolution under first proviso shall not be applicable for transactions entered into between a holding company and its wholly owned subsidiary whose accounts are consolidated with such holding company and placed before the shareholders at the general meeting for approval.” This amendment also aims in easing entering of transactions between holding and subsidiary company.
Explanation (b) to Section 188(1) of the Act further stipulated that the restrictions shall not apply to any transactions entered into by the Company in its ordinary course of business, other than transactions which are not on arm’s length basis. The expression “arm’s length transaction” was explained as meaning a transaction between two related parties that is conducted as if they were unrelated, so that there is no conflict of interest. In a closely held public company or in a company where the promoters/company management directly or indirectly controls majority voting powers, it would have been rather difficult for the companies to establish and prove that the concerned contract or arrangement was “arm’s length” basis and not between related parties.
This being the statutory provisions restricting RPTs, it covered virtually all the major and substantial transactions of the company relating to sale, purchase or supply of any goods or materials, disposing off, buying/leasing property of any kind and/or availing of or rendering of any services. However, what the corporate sector found most intriguing and bothersome was the requirement of passing of special resolution of un-related shareholders for approving RPTs. So, the trade bodies relentlessly represented to the Central Government to liberalise the mandatory requirement of passing of special resolution by un-related shareholders for approving RPTs. Since, section 188(2) of the Act mandates the Board of Directors of a company to report all RPTs in their report to the shareholders along with adequate justifications and contract/arrangement details, naturally the RPTs could not kept hidden. Further, section 188 stipulates that company may proceed against a director or against any other employee who has contravened the provisions of this section and may proceed for recovery of any loss sustained by it as a result of such contract or arrangements. Also, Section 188 (5) provides that any Director or any other employee of the Company who had entered into or authorized the contract or arrangement in violation of the provisions of this section shall be punishable with imprisonment for a term extendable up to 1(one) year or with fine which shall not be less than Rs.25,000/- but which may extend to Rs.5,00,000/- or with both; and in case of any other company, be punishable with fine ranging between Rs.25,000/- to Rs.5,00,000/-. In addition, provisions of section 192 of the Act also prohibited entering of contracts in which directors are interested, without following the due process of law.
Therefore, the Amendment Bill passed by the Lok Sabha on 17th December, 2014 (which is yet to be passed by the Rajya Sabha), liberalises and dilutes the restrictions in entering into of contract or arrangements in which the directors, their relatives, the KMPs are interested. This will no doubt provide great relief to the companies and will definitely help in “ease in doing business”. One only hopes that this will not adversely impact the adherence to good corporate governance norms by the companies and will continue to protect the interests of the ordinary shareholders who do not exercise control over the functioning of the companies. To accelerate the economic growth, India is expecting huge foreign investments and how the Indian companies perform in maintaining transparency and protections of all the stakeholders, is a moot question and one hopes that the Indian corporate sector and the professionals associated with them will not fail in maintaining ethical standards.
2/24/2016 0 Comments
DELEP GOSWAMI, FCS, ADVOCATE, SUPREME COURT OF INDIA, NEW DELHI
ANIRRUD GOSWAMI, ADVOCATE, GOSWAMI&GOSWAMI, ADVOCATES, NEW DELHI
India has, in recent past, witnessed many scams, like the 2G spectrum scam causing the Government exchequer losses of Rs.1.76 lakh crores and almost Rs.1.86 lakh crores, in the “Coalgate” scam. All these were brought to the notice of the Hon’ble Supreme Court of India through public interest litigations by public interest activists and NGOs like Common Cause and the Centre for Public Interest Litigation (CPIL) and despite the strenuous efforts made by the Government to hide from the public the file noting on decision making processes, the vital information could be fished out by activists by using the Right to Information Act, 2005 (“RTI Act”). However, another important area of concern is frauds and irregularities committed in the Banking sector in opening of Bank Accounts for siphoning off money from India to foreign tax-free havens. Adding to this, there is laxity shown in recovering loans and outstanding from the defaulters and non-remedial action on host of other irregularities and illegalities which plague the banking sector. However, the Reserve Bank of India (‘RBI’) and other banks have been denying disclosure of all these vital and basic information to information seekers/activists under the garb of the veil of secrecy on the plea that the disclosure of such information does not serve any public interest and that, it would, instead adversely impact public interest and confidence in the banking sector, thereby posing very severe implications and prejudicial impact on the financial and economic stability of the country. More particularly, the RBI argued that the information obtained/provided by the Banks inspected, was “fiduciary” in nature and those were shared on the principle of “trust and confidence” and hence such information could not be shared with the information seekers under the RTI Act.
Given this backdrop, a landmark judgement has been delivered on 16th December, 2015 by the Hon’ble Supreme Court of India in Transferred Cases (Civil) Nos.91 to 101 of 2015 (hereinafter referred to as the “RTI Judgement”) which will have a far-reaching impact on the accountability and responsible behaviour of Banks, and more particularly, the RBI. The moot question in the RTI Judgement was: whether the information sought for under the RTI Act can be denied by RBI and other Banks to the public at large on the ground of economic interest, commercial confidence, fiduciary relationship with other Banks on the one hand and the public interest on the other?
On their RTI Applications being denied by the respective Banks, the RTI Activists filed appeals before the Central Information Commission (CIC), which allowed the petitions and directed the Banks to furnish information to the petitioners. Writ petitions were filed by RBI and other banks against these decisions before the High Courts at Bombay and Delhi. At the same time, RBI also filed a petition in the Supreme Court of India to transfer the pending cases to the Supreme Court and this resulted in the common hearing in the aforesaid RTI Judgement.
The information sought for by public interest activists from the RBI and other Banks included, inter alia, the following:-
1. The procedure, rules and regulations of inspection being carried out on Co-operative Banks by the RBI and the copies of inspection and audit reports in respect of Makarpura Industrial Estate Co-op Bank and report on all Co-operative Banks gone into liquidation and action taken against all Directors and Managers for recovery of public funds and powers utilized by RBI and analysis and procedure adopted; and the names of remaining co-operative banks and RBI’s observations against irregularities and action taken reports.
2. Based on the written statement made by the Finance Minister on the floor of the Parliament that some Banks like SBI, ICICI Bank, Bank of Baroda, Dena Bank, HSBC Bank etc. were issued “letter of displeasure” for violating FEMA guidelines for opening of accounts, whereupon some other Banks were even fined Rs.1 crore for such violations, the RTI activist sought for the names of the Banks with details of violations committed by them. The Activist also sought for “Advisory Note” issued to the ICICI Bank for accounts opened by some fraudsters at the Patna Branch and information sought was about the exact nature of irregularities committed by the Bank under FEMA, and details of other offences committed by the IBL through various branches in India and abroad, along with action taken by the Regulator, including the names and designations of the officials; branch name; type of offence committed and the punishment awarded by the concerned Authority etc. While the RBI stated that “Supervisory actions were taken based on scrutiny conducted under Section 35 of the Banking Regulation (BR) Act”, the information in the scrutiny report is denied citing the ground of fiduciary capacity.
3. In another application, the Activist sought from National Bank for Agriculture and Rural Development (NABARD) copies of all correspondence with Maharashtra State Government/RBI/any other Agency of the State/Central Co-operative Bank from January, 2010 onwards and to provide confirmed/draft minutes of meetings of Governing Boards/Board of Directors/Committee of Directors of NABARD from April, 2007 till date of the application.
4. With regard to RBI uploading the entire list of Bank defaulters on the Bank’s website, the RBI replied that pursuant to Finance Minster’s speech made in Parliament on 28.2.1994, “in order to alert the Banks and FIs and put them on guard against the defaulters to other lending institutions, the RBI has put in place scheme to collect details about borrowers of banks and FIs with outstanding aggregating Rs.1 crore and above, which are classified as “doubtful” or “loss” or where suits are filed, as on 31st March and 30th September each year. In February, 1999, RBI had also introduced a scheme for collection and dissemination of information on cases of wilful default of borrowers with outstanding balance of Rs.25 lakhs and above. At present, RBI disseminates list of above said non-suit filed “doubtful” and “loss” borrowed accounts of Rs.1 crore and above on half-yearly basis (i.e. as on March 31st and September 30th) to Banks and FIs for their confidential use. The list of non-suit filed accounts of wilful defaulters of Rs.25 lakh and above is also disseminated on quarterly basis to Banks and FIs for their confidential use. Section 45-E of the RBI Act, 1934 prohibits the RBI from disclosing “credit information” except in the manner provided therein.”
5. Yet, in another application based on newspaper reports, the Activist sought for details from the RBI on the criterion adopted in deciding fine and penalties imposed on the Banks for contravention of various directions and instructions, such as, failure to carry out proper due diligence on user appropriateness and suitability of products, selling derivative products to users not having risk management policies; not verifying the underlying/adequacy of underlying and eligible limits under past-performance route, issued by RBI in respect of derivate transactions. In reply, the RBI stated that for violations, the Banks were issued with Show-cause Notices and denied the information.
6. In another application, an RTI Activist sought for details from RBI about the total Market-to-Market losses suffered on account of currency derivatives to the tune of Rs.32,000/- crores and wanted the Bank-wise breakup of the MTM losses. In reply, the RBI sought exemption under Section 8(1)(a) and ( e) of the RTI Act, 2005 as, under 8(1)(a) the disclosure of information sought would prejudicially affect the sovereignty and integrity of India and the security, strategic scientific or economic interests of the State, in relation with foreign State or lead to incitement of an offence.
7. Yet, in reply to another RTI application seeking information regarding accusations against SCB for non-compliances of RBI instructions on “derivatives”, the RBI stated that complaints are received the RBI and they constitute the “third party information” and as such it could not be disclosed in terms of Section 8(1)(d) of the RTI Act, 2005. As regards, the details sought from RBI regarding all the written replies/correspondence made by SCB with RBI and the RBI recordings on oral submissions made by SCB, the RBI stated that “action has been taken against the Bank based on the findings of Annual Financial Inspection (AFI) of the Bank, which is conducted under the provisions of Section 35 of the BR Act, 1949 and that the findings of the inspection are confidential in nature intended specifically for the supervised entities and for corrective action by them.
8. Yet, another RTI Activist sought for information from RBI about the basis of classification of Banks into various grades.In all of the above cases, the RBI denied providing any information sought for by citing the ground that the concerned information was received by the RBI in a fiduciary capacity and the disclosure of such information would prejudicially affect the economic interests of the State and harm the Bank’s competitive position and hence such information are exempt from disclosure in terms of the provisions of Section 8(1)(a) (d) and ( e) of the RTI Act, 2005.
Thus, during the course of arguments before the Supreme Court, the RBI submitted that the impugned orders passed by the CIC under the RTI Act were illegal and without jurisdiction and referred to various provisions of the RBI Act, 1934; the Banking Regulation (BR) Act, 1949 and the Credit Information Companies (Regulation) (“CICR”) Act, 2005 and submitted that the RBI being the statutory authority has been constituted under the RBI Act, 1934 for the purpose of regulating and controlling the money supply in the country. The powers, role and duties of the RBI were reiterated before the Supreme Court, including RBI’s powers to determine “Banking Policy” in the interest of banking system, monetary stability and sound economic growth. The RBI submitted that it exercises powers conferred under Section 35 of the BR Act, 1949 and conducts inspection of the Banks in the country and in its capacity as the regulator and supervisor of the banking system of the country, RBI has access to various information collected and kept by the Banks and such information accessed by the inspecting officers of the RBI would be confidential. RBI also submitted that its role is to safeguard the economic and financial stability of the country and it has large contingent of expert advisors relating to matters deciding the economy of the entire country and nobody can doubt the bona-fide of the RBI. Referring to the decision of the AP High Court in B. Suryanarayana –vs- TheKolluru Parvathi Co-op Bank Ltd (1986-AIR-AP-244), the RBI submitted that the Court will be highly chary to enter into and interfere with the decision of the RBI and also referring to another Supreme Court decision in Peerless General Finance and Investment Company Limited & Another –vs- RBI (1992-Vol.2-SCC-343) and contended that the Courts are not to interfere with the economic policy which is a function of the experts. The RBI also submitted that it is empowered to supervise and monitor the Banks under its jurisdiction through on-site inspection conducted on annual basis under the statutory powers derived by it under section 35 of the BR Act, 1949, off-site returns on key financial parameters and engaging banks in dialogue through periodical meetings and RBI takes supervisory actions where warranted for violations of its guidelines/directives, depending on the seriousness of the offence, its systematic implications and penal action may range from imposition of penalty, issuance of strictures or letters of warning. RBI further submitted that while RBI recognizes and promotes enhanced transparency in bank’s disclosures to the public, as transparency strengthens market discipline, a bank may not be able to disclose all data that may be relevant to assess its risk profile, due to the inherent need to preserve confidentiality in relation to its customers. Further, as per RBI policy, the reports of the annual financial inspections, scrutiny of all banks/financial institutions are confidential documents and cannot be disclosed as its disclosure would create misunderstanding/misinterpretation in the minds of the public and that may prove significantly counter-productive and would not serve the public interest, as it might adversely impact public confidence on the Banks and would have serious implication for financial stability and would adversely affect the economic interest of the State and would not serve the larger public interest.
The RBI also argued that the CIC also erred in holding that even if the information sought for is “exempted” under Section 8(1)(a), (d) or ( e) of the RTI Act, still Section 8(2) of the RTI Act would mandate the disclosure of the information and questioned whether the RTI Act, 2005 over-rides various provisions of special statutes, which confer confidentiality in the information obtained by the RBI and if the RTI Applicants were right in their contention, the various provisions of the BR Act; RBI Act and CICR Act would be repealed or over-ruled by the RTI Act, 2005. Further RBI contended that under Section 34A of the BR Act, 1949, production of documents of confidential nature cannot be compelled and that its inspection report on other Banks u/s 35(5) can only be disclosed, if the Central Government orders the publishing of such report. The RBI Counsel also pointed out that other statutory provisions of privacy are contained in the SBI Act, 1955; the SBI(subsidiary Banks) Act, 1959 and Banking Companies (Acquisition & Transfer of Undertakings) Act, 1970 and hence, it was argued that the RTI Act, 2005 cannot override the provisions for confidentiality conferred on the RBI by the earlier statutes referred to hereinabove.
RBI also referred to certain exemptions carved out in the RTI Act to harmonise the conflicting interests and in that context referred to the Supreme Court’s decision in CBSE & Another –vs-
Aditya Bandopadhyay & Others (2011-8-SCC-497).
On behalf of the RTI Activists, it was argued that it is the people who have created legislatures, executives and the judiciary to exercise such duties and functions as laid down in the Constitution itself and that the right to information regarding the functioning of public institutions is a fundamental right as enshrined in Article 19 of the Constitution of India. They reiterated observations of the Supreme Court in the case of S.P. Gupta –vs- President of India and Ors (AIR-1982-SC-149) regarding the right to information in the following paragraph:-
“There is also in every democracy, a certain amount of public suspicion and distrust of Government, varying of course, from time to time, according to its performance, which prompts people to insist upon maximum exposure of its functioning. It is axiomatic that every section of the Government must be actuated by public interest, but even so, we find cases, though not many, where Governmental action is taken not for public good, but for personal gain or other extraneous considerations. Sometimes Governmental action is influenced by political and other motivations and pressures and at times, there are also instances of misuse or abuse of authority on the part of the executive. Now, if secrecy were to be observed in the functioning of the Government and the processes of Government were to be kept hidden from public scrutiny, it would tend to promote and encourage oppression, corruption and misuse or abuse of authority, for it would all be shrouded in the veil of secrecy, without any public accountability. But, if there is an open Government with means of information available to the public, there would be greater exposure of the functioning of Government and it would help to assure the people a better and more efficient administration. There can be little doubt that exposure to public gaze and scrutiny is one of the surest means of achieving a clean and healthy administration. It has been truly said that an open Government is clean Government and a powerful safeguard against political and administration aberration and inefficiency.”
The RTI Activist’s counsel also pointed out to para 56 of the Supreme Court’s judgement in Union of India –vs- Association for Democratic Reforms (AIR-2002-SC-2112) that “the right to get information in a democracy is recognized all throughout and is a natural right flowing from the concept of democracy.” Further submission was made that the RTI Act, 2005, as noted in its very preamble, does not create any new right, but only provides machinery to effectuate the fundamental right to information and that the institution of the CIC and the SICs are part of that machinery.
In its aforesaid RTI Judgement, the Supreme Court noted that one of the RTI Activists had asked about the details of the loans taken by industrialists that have not been repaid and he had asked about the names of the top defaulters who have not repaid their loans to public sector banks. The RBI resisted the disclosure of the information claiming exemption under Section 8(1)(a) and 8(1)( e) of the RTI Act on the ground that disclosure would affect the economic interest of the country, and that the information has been received by the RBI from the Banks in fiduciary capacity. The CIC found these arguments made by RBI to be totally misconceived in facts and in law, and held that the disclosure would be in public interest. While tracing the origin of passing of the RTI Bill by the Parliament, the Supreme Court observed that the right to information has been held as inherent in Article 19 of our Constitution, thereby, elevating it to a fundamental right of the citizen. Therefore, a citizen has to merely make a request to the concerned Public Information Officer specifying the particulars of the information sought by him and he is not required to give any reason for seeking information, or any other personal details, except those necessary for contacting him. The RTI Bill also stated that the categories of information exempted from disclosure are a bare minimum and are contained in clause 8 of the Bill and that even these exemptions are not absolute and access can be allowed to them in public interest, if disclosure of the information outweighs the harm to the public authorities. The information exempted from disclosure are those which would prejudicially affect the sovereignty and integrity of India; which has been expressly forbidden, which may result in a breach of privileges of Parliament or the Legislature; and also information pertaining to defence matters and these are listed in Section 8(1) (a) to (g) and that there are exceptions this clause.
With regard to the contention of the RBI about “fiduciary relationship”, the Supreme Court referred to its own decisioin in CBSE & Anr –vs- Aditya Bandopadhyay & Ors, where, after referring to various authorities to ascertain the meaning of the term “fiduciary relation” the Court had observed thus :-
“ A relationship in which one person is under a duty to act for the benefit of the other on matters within the scope of the relationship. Fiduciary relationships – such as trustee-beneficiary, guardian-ward, agent-principal, and attorney-client – require the highest duty of care. Fiduciary relationships usually arise in one of four situations : (1) when one person places trust in the faithful integrity of another, who as a result gains superiority or influence over the first, (2) when one person assumes control and responsibility over another, (3) when one person has a duty to act for or give advice to another on matters falling within the scope of the relationship, or (4) when there is a specific relationship that has traditionally been recognized as involving fiduciary duties, as with a lawyer and a client or a stockbroker and a customer.”
The Supreme Court held that the RBI does not place itself in a fiduciary relationship with the financial institutions (though, in word it puts itself to be in that position) because, the reports of the inspections, statements of the bank, information related to the business obtained by the RBI are not under the pretext of confidence or trust. In this case neither the RBI nor the Banks act in the interest of each other. By attaching an additional “fiduciary” label to the statutory duty, the Regulatory authorities have intentionally or unintentionally created an in terrorem effect. The Supreme Court also observed that the RBI is supposed to uphold public interest and not the interest of individual banks. RBI is clearly not in any fiduciary relationship with any bank. RBI has no legal duty to maximize the benefit of any public sector or private sector bank, and thus there is no relationship of ‘trust’ between them. RBI has a statutory duty to uphold the interest of the public at large, the depositors, the country’s economy and the banking sector. Thus, RBI ought to act with transparency and not hide information that might embarrass individual banks. It is duty bound to comply with the provisions of the RTI Act and disclose the information sought by the respondents herein.
The Supreme Court observed that the baseless and unsubstantiated argument of the RBI that the disclosure would hurt the economic interest of the country is totally misconceived. In the impugned order, the CIC has given several reasons to state why the disclosure of the information sought by the respondents would hugely serve public interest, and non-disclosure would be significantly detrimental to public interest and not in the economic interest of India. RBI’s argument that if people, who are sovereign, are made aware of the irregularities being committed by the banks then the country’s economic security would be endangered, is not only absurd but is equally misconceived and baseless.
The Supreme Court also observed that the Financial Institutions have an obligation to provide all the information to the RBI and such an information shared under an obligation/duty, cannot be considered to come under the purview of being shared in “fiduciary relationship” and that one of the main characteristic of a “fiduciary relationship” is “trust and confidence”, something that RBI and the Banks lack between them.
The Supreme Court also referred to section 2(f) of the RTI Act which defines “information” and it means, inter-alia “information relating to any private body which can be accessed by a public authority under any other law for the time being in force”. The Supreme Court therefore held that the RBI is liable to provide information regarding inspection report and other documents to the general public and that by not making them accessible to the public under the guise of “fiduciary relationship”, reveals that the Banks are trying to cover up their underhand actions and hence they are even more liable to be subjected to public scrutiny, especially when many FIs have resorted to such acts, which are neither clean nor transparent, and the RBI in association with them has been trying to cover up their acts from public scrutiny and thus the Supreme Court observed that it is the responsibility of the RBI to take rigid action against those Banks which have been practising disreputable business practices. The Supreme Court also rejected the argument of the RBI that disclosure of information sought for will also go against the economic interest of the nation and held that argument to be “wholly misconceived”. Making the information available to the people is actually economic empowerment of its citizens so that evaluate the actions of the legislature and executives, which is very important in a participative democracy and this will serve the Nation’s interest better, including its economic interests.
This landmark decision of the Supreme Court would hopefully bring in the desired positive changes in the banking industry which is having non-performing assets worth Rs.2.78 lakh crores as in 2014-15, besides addressing numerous violations plaguing the banking sector.
2/8/2016 0 Comments
DELEP GOSWAMI, FCS, ADVOCATE, SUPREME COURT OF INDIA, NEW DELHI
ANIRRUD GOSWAMI, ADVOCATE, GOSWAMI & GOSWAMI, ADVOCATES, NEW DELHI
For regulating the stock market operations and to prevent stock market manipulations, the Securities and Exchange Board of India (SEBI) exercises a significant and unique role. Towards this end, the SEBI has framed many Rules and Regulations for compliance by the listed companies and by the stock brokers and stock market operators. One such Regulation which is required to be scrupulously complied with by companies and market operators is the SEBI (Substantial Acquisition of Shares & Takeovers) Regulations, 1997 (in short “Takeover Regulations”). Another important regulation is SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003 (in short “2003 Regulations”). Since the provisions of the SEBI Act, 1992 (as amended from time to time) and the various regulations framed by SEBI have tremendous bearing on the stock market operations, SEBI performs its assigned role effectively and more forcefully as a market regulator.
In the aforesaid background, the recent judgement of the Hon’ble Supreme Court of India passed on 18th September, 2015, in re: Kosha Investments Limited –vs- SEBI (2015-61 taxmann.com 264 –SC) (hereafter referred to as the “Kosha Judgement”) deserves to be highlighted as the Supreme Court had the occasion to deal with and interpret the provisions of the aforesaid two Regulations and the principles enunciated in the Kosha Judgement will have tremendous impact on such share market transactions in the times to come. In the Kosha Judgement, the Supreme Court upheld the action taken by SEBI in directing that, in the facts and circumstances of the said case, the Acquirer of shares of a listed company was under obligation to make public announcement for open offer when it exceeded the share acquisition threshold limits set out in the Takeover Regulations, even if the Acquirer subsequently divests the acquired shares. From the Kosha Judgement it becomes clear that when the acquirer company filed appeal before the SEBI’s Appellate Authority (“SAT”), the SAT also upheld the impugned orders passed by the SEBI. However, the Acquirer, namely, Kosha Investments Limited (“KIL”) filed an appeal before the Hon’ble Supreme Court of India, and after hearing both the sides, the Hon’ble Supreme Court of India passed the aforesaid Kosha Judgement.
Brief facts leading to the aforesaid Kosha Judgement is that the Appellant KIL is one of the Indian promoters of another company viz. Snowcem India Limited (“SIL”), which is listed in the Bombay Stock Exchange (BSE) and National Stock Exchange (NSE). As a stock market regulator SEBI noticed that there was a heavy trading in the shares of SIL in BSE and NSE and the prices of the scrips of SIL shot up from Rs.52/- to Rs.128/- during heavy transactions in the said scrip during the period of June, 1999 to August, 1999. SEBI also noticed that the said acquisitions of shares of SIL were made by KIL and by a particular set of share brokers/traders. During its investigation, SEBI noticed that KIL was already holding between 15% to 75% shares of SIL (also described as “the Target Company” under the Takeover Regulations) and as such pursuant to the Takeover Regulations, KIL could acquire additional shares of SIL through creeping acquisition mode, that is, without public announcement only up to 5% of the paid up share capital of SIL during the period of 12 months ending on 31st March, 2000. However, SEBI’s investigation revealed that by acquiring 11,36,700 shares of SIL during the period during June, 1999 to August, 1999, the Appellant KIL had acquired shares constituting more than 5% of the paid up share capital of SIL and for making such acquisition, KIL was liable to make public announcement as required by Regulation 11(1) of the Takeover Regulations.
For the purposes of its investigation, SEBI issued a “Show Cause Notice” (SCN) dated 16.9.2002 to KIL asking it to show cause as to why suitable directions prohibiting it from dealing in securities for a period should not be issued to it under Section 11B of the SEBI Act, 1992 read with Regulation 11 and 12 of the 2003 Regulations for non-compliance of the provisions of the Takeover Regulations. The SCN mentioned that KIL, who was one of the promoters of SIL, was among the top traders who had traded in the scrip with the intention to artificially raise the price of the scrip in co-ordination with certain entities connected with it. It was pointed out in the SCN that there were a common set of clients acting in concert through selected brokers of BSE and NSE who were involved in circular trading. It was also mentioned in the SCN that SEBI’s investigating team had observed that on many occasions, KIL had received funds from SIL and the same were deployed to buy shares of SIL and these payments were in turn made to share brokers to purchase shares of SIL. It was also alleged in the SCN that orders placed by other clients were done in such a way that they were matching and appearing to be acting in concert, which indicated circular trading of the SIL scrip. The SCN alleged that the Appellant KIL had aided and abetted the management of SIL in the price manipulation of the scrip and therefore it violated the Regulation 4(a), (b) and (d) of Securities and Exchange Board of India (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003. The SCN also annexed details of the investigation conducted by SEBI during the aforesaid period.
In reply to the show cause notice issued by SEBI and during the course of personal hearing granted to KIL, the acquirer KIL stated that it was an independent company with its own Board of Directors and that SIL was also run by the Board of Directors as an independent legal entity. However, in their reply, KIL mentioned that being a promoter company, KIL used to get sometimes request from SIL that they needed funds for meeting their financial requirements and KIL would arrange funds from banks and other financial institutions with collateral security of SIL shares. KIL further stated that sometimes it would become necessary to liquidate the shares in the market to meet with the obligations. Therefore, the sale and purchase of shares would happen in order to meet with the loan requirements of SIL. Further, KIL reiterated that all that KIL would do under such circumstances, was to enter into normal financial transactions with the sole objective of meeting the financial needs of SIL and that all transactions with brokers were financial transactions and no attempt was made by KIL to create artificial volumes in the market. Further, KIL also denied that there was any transfer of funds from SIL to KIL and to brokers, and that transactions were done during the normal course of business. On the basis of those submissions KIL requested that the proceedings against it before SEBI should be dropped.
SEBI, in its order, held that KIL was already holding between 15% to 75% in SIL, and thus KIL could acquire additional shares up to 5% during any period of 12 months through creeping acquisition mode and since KIL acquired more than the stipulated 5% shares of SIL during the said period of 12 months, KIL was liable to make a public announcement to acquire shares in accordance with the Takeover Regulations. In view of the findings made by SEBI and in exercise of the powers conferred upon the SEBI under Section 19 read with Section 11-B of the SEBI Act read with Regulations 44 and 45 of the said Regulations, SEBI directed KIL, inter-alia, to make public announcement in terms of Regulation 11(1) of the said Takeover Regulations, taking 29th June, 1999 as the reference date for circulation of offer price and the public announcement was directed to made within 45 days of passing of the SEBI’s order.
Further, in exercising the powers conferred under Section 19 of the Securities and Exchange Board of India Act, 1992, read with Sections 11 and 11B of the SEBI Act, 1992, and Regulation 11 of SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003, SEBI restrained KIL from buying, selling, or dealing in securities in any manner, directly or indirectly for a period of two years.
Against the aforesaid SEBI’s order, KIL filed an appeal before the SEBI’s Appellate Authority (namely, “SAT”) and submitted that the order passed by SEBI was on some surmises, conjectures and suspicion. KIL also contended that as per its Memorandum and Articles of Association, it was empowered to inter alia, invest, hold, sell and deal with shares, stocks, bonds, etc., and to carry on the business of an investment company, and to buy, underwrite sub-underwrite, invest in and acquire and hold shares, stock, etc. Therefore, it was a legitimate activity on the part of the appellant to buy and sell shares, including that of SIL. In SAT, the appellant KIL also argued that the appellant company was trading in the shares of not only SIL, but of other companies also and it also pointed out that the period of June, 1999 to August, 1999 has been taken out of context, whereas KIL had been purchasing and selling the shares of SIL from much earlier period and hence the specified transactions ought to be seen as only financial transactions. KIL further contended that it did not act in concert with a common set of clients/through select brokers of the BSE and NSE as alleged by SEBI and that KIL was not involved in circular trading in the scrip of SIL. KIL contended that it did not push up the price of the SIL scrip to artificial levels and argued that the stated increase in the price of SIL could be because of several independent market factors and reasons and that the share market was buoyant during this period as would be reflected by the indices of BSE and NSE and therefore SEBI should not have come to the conclusion that the increase in the price of the scrip was due to any manipulation. KIL also argued that there was no conclusive evidence to prove that the appellant was responsible for the spurt in volumes and increase in the price of scrip of SIL. KIL argued that there was no evidence to corroborate that KIL in concert with the other entities was responsible for increasing the volume of trade and raising the price of SIL scrip. All transactions entered into by KIL were financial transactions between the appellant and SIL and other brokers involved during the investigation period. Further, KIL argued that there was no evidence to establish the intentions of the Appellant that it had indulged in artificially raising the price of the scrip of SIL in conjunction with other persons /brokers. KIL further argued that if anybody has to be charged under SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003, it should not be done on the basis of preponderance of probability, but there has to be direct evidence to prove. The learned counsel for KIL also argued that SEBI had wrongly restrained KIL from dealing in securities for a period of two years in exercise of the powers conferred on SEBI under Section 19 of the SEBI Act, 1992 read with Sections 11 and 11B of SEBI Act, 1992 and Regulations 11of SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market), Regulations, 2003.
In SAT, the appellant KIL further argued that it had been only arranging funds by way of term loan, bridge loan, ICD, etc., and furnishing the shares of SIL as collateral security in respect of such borrowings, and whenever the aforesaid loans became due for repayment, the borrowing company would request the lender to liquidate either the whole or part of the loan by selling the mortgaged shares that were placed as collateral security after obtaining the consent of the appellant i.e., the pledger in this case. KIL reiterated its argument that such transactions were in the nature of ongoing transactions and there was no intention to increase the volume of transactions and artificially raise the share price of SIL through circular trading. KIL further argued that it was wrong to interpret that transactions between various brokers named in the impugned order and the appellant were unfair or unjust.
Counter arguments were advanced on behalf of SEBI. The SAT accepted the counter arguments advanced on behalf of the SEBI that even during the period June, 1999 to August, 1999, the appellant KIL had acquired 6,61,800 shares of SIL, which constituted 6.29% of the paid up share capital of SIL, which was beyond the permissible limit of 5% and hence the requirement of making public announcement in terms of Regulation 11(1) of the Takeover Regulations, 1997 had to be met by the appellant KIL, which the Appellant KIL failed to do and upheld the orders passed by SEBI against the appellant KIL.
Against the SAT order, the appellant KIL filed appeal in the Hon’ble Supreme Court of India. The appellant KIL contended that KIL as a promoter of SIL, KIL was having more than 15% shares of SIL, but KIL was also in the business of sale and purchase of shares, which was being done simultaneously and hence exceeding the limit of 5% at any one point of time was immaterial, unless on a net accounting, it could be found that such ceiling of 5% had been violated by the Appellant on account of its retaining more than 5% shares of SIL, at the end of a financial year. On the other hand, SEBI reiterated its stand that the ceiling of making acquisition of only up to 5% of the paid share capital of the target company was to be reckoned during a period of 12 months, that is, a financial year, and that the requirement of Regulation 11(1) of the Takeover Regulations, 1997 of making a public announcement was triggered not only on actual acquisition beyond the 5% limit, but even on entering into an agreement for such acquisition or deciding to acquire such volume of shares or voting right, in view of provisions of Regulation 14(1) of the Takeover Regulation, 1997.
The Hon’ble Supreme Court heard the arguments of both sides and to explain the rationale, gave an appropriate example in the following words, i.e., “Let us conceptualise the case of an entity holding 20 per cent of shareholding in a target company on 1st April of a given year. If it were to increase its holding by say 3 per cent and subsequently reduce it to 2 per cent. If at that point, it intended to purchase 4 per cent shares again, whether by way of fractions or otherwise, it would cross the threshold of 5 per cent. It would then have to make compliance with Regulation 11 of the Takeover Regulations, 1997. We hasten to clarify that if the aggregate percentage of acquisitions at any point of time during the financial year exceeds 5 per cent, the provision would get triggered. In other words, the provision of Regulation 11 mandating a public announcement will kick in at any stage, whence the shareholding of the said entity in the target company would exceed 25 per cent.”
In the Supreme Court, the Appellant KIL also contended that only in the event where the securities or shares are converted by the acquirer into voting rights by getting it registered or upon exercise of option to acquire voting rights, does the liability of making public announcement can be fastened. This was rightly countered by SEBI and the Hon’ble Supreme Court rejected the submissions of KIL and held that in respect of the shares acquired by KIL, only Regulation 14(1) of the Takeover Regulations, 1997 was applicable and also noted that no such plea was raised by KIL before SEBI or before the SAT and that such a plea was in desperation and hence undeserving of acceptance and therefore held that KIL was required to comply with Regulation 11(1). The Supreme Court thus dismissed KIL’s appeal and imposed cost of Rs.50,000/- on KIL to be paid to SEBI.
The analysis of the aforesaid judgement of the Supreme Court of India upholding the orders passed by SEBI and its appellate authority, i.e., SAT, points out that the desperate stand of the share market operators to justify the share market manipulations would be dealt with strictly by the regulatory authorities. The Kosha Judgement reinforces the objective behind enacting the Takeover Regulations which were an important step in ensuring that shareholders of a target company are treated equally and not denied any opportunity to decide whether they wish to continue holding shares of a company whose shares have been acquired by the acquirer, triggering the public announcement. Such tactics employed by companies operating in the stock market as intermediaries, only goes on to highlight the manipulative practices used for artificially orchestrating price rise of shares of the target company in the stock market.
It is indeed a step in the right direction and would signal well in disciplining the stock market operations which is the need of the hour to upkeep the confidence of the general investors in the stock market management.
2/8/2016 0 Comments
DELEP GOSWAMI, FCS, ADVOCATE, SUPREME COURT OF INDIA, NEW DELHI
ANIRRUD GOSWAMI, ADVOCATE, GOSWAMI & GOSWAMI, ADVOCATES, NEW DELHI
Special Court Summons Accused in 2G Scam Case
The famous 2G spectrum scam case being investigated by the Central Bureau of Investigation (CBI) generated lot of expectations by the corporate analysts that all the accused booked for the scam would be brought to justice and this case would set the trend of things to come in future in respect of economic fraud perpetrated by the corporate sector in cornering the scarce economic resources of the country in connivance with the responsible Government officials. The reports appearing in newspapers about the resignation of the then telecom minister of the Central Government and the arrest of a reputed member of the Parliament supposedly involved in the 2G scam and the arrest of certain top executives of the telecom companies created an impression that justice would be done and will then prevent repetitions of such types of corporate generated frauds. The question being asked was: “why did the CBI not book the Promoters/Chairman-cum-Managing Director of the companies involved in the 2G scam?” Therefore, when it was reported that the Judge of the Special CBI Court summoned two of the well-known industrialists of the country viz. Sunil Bharti Mittal and Ravi Ruia for prosecution, it was largely felt that at long last instead of catching hold of the “scapegoats”, the Court has correctly summoned the said owner/promoter industrialists to face the charge. However, this summoning of the promoter industrialists led them to approach the Supreme Court of India for their “discharge”, being wrongly summoned and the Supreme Court of India’s judgement dated 9th January, 2015 in the case Sunil Bharti Mittal –vs- Central Bureau of Investigation (2015-61-taxmann.com 220-SC) (in short “Sunil Mittal judgement”) resulted in a brilliant judgement on “vicarious liability” of company directors for offences by companies and will be a trend setter in relieving many promoter/industrialists from the dragnet of prosecution by the regulatory authorities.
Sunil Mittal vs. Central Bureau of Investigation –Accused Approach Supreme Court
The aforesaid Sunil Mittal judgement analysed the duties of the Company Directors. The Special Court which was set up for trying persons involved in the 2G spectrum scam involving telecom bigwigs and ministers alike, issued summons to chairpersons and managing directors of the accused companies by stating that they represent the “alter-ego” of companies and hence the acts of the companies could be attributed to them. The said judgement (“supra”) also analysed as to whether the application of the principle of “vicarious liability” would make the directors of a company liable for an offence committed by the company can be done only if the Statute provides for it and it cannot be applied in reverse order.
Principle of Vicarious Liability – Directors are ‘Alter Ego’ of Company
Brief facts leading to the filing of the petition in the aforementioned Sunil Mittal Judgement are that during monitoring of the investigation of CBI Case in respect of the well known infamous 2G spectrum case, the Hon’ble Supreme Court vide its order dated 16.12.2010 directed CBI to conduct investigation into various irregularities in grant of licences and allocation of spectrum in the 2G band and file charge sheet before the Special Judge. CBI named the then Telecom Secretary and three companies, namely, Bharti Cellular Limited; Hachison Max Telecom (P) Limited and Sterling Cellular Limited as the accused persons in respect of offences under section 13(2) read with section 13(1)(d) of the Prevention of Corruption Act, 1988 and allied offences. The Special Judge passed orders dated 19.3.2013 recording his satisfaction that there was enough incriminating material on record to proceed against the accused persons and thus directed the summons be issued to the three companies. At the same time, the Special Judge also directed that summons be issued to Chairman-cum-Managing Director of the above named three companies who used to chair the meetings of its Board of Directors. The Special Judge held that in light of the capacity in which these directors acted, they could be considered as the persons controlling the affairs of the company and the ‘directing mind and will” of the respective companies. The Special Judge observed that these persons could be considered to be the “alter ego” of their respective companies and the acts of the companies could be attributed and imputed to them. Against the said summoning order of the Special CBI Judge, the Chairman-cum-Managing Directors of the companies, namely, Shri Sunil Bharti Mittal and Shri Ravi Ruia filed appeals in the Supreme Court for quashing of the summoning orders.
Important Question: Can the Company be Prosecuted for an Offence Requiring ‘Mens Rea’?
During the course of argument in the above mentioned Sunil Mittal’s case, the Supreme Court noted that as to the question whether a company could be prosecuted for an offence which requires “mens-rea”, the Constitution Bench of the Supreme Court in its judgement in the case of Standard Chartered Bank –vs- Directorate of Enforcement (2005-60-SCL 217-SC) had held that a company can be prosecuted and convicted for an offence which requires a minimum sentence of imprisonment. In the said judgement, the Supreme Court clarified that it was not expressing any opinion on the question whether a corporation could be attributed with requisite “mens-rea” to prove the guilt. However, the aforesaid question fell directly for consideration of the Supreme Court in the case of Iridium India Telecom Limited –vs- Motorola Inc (2011-9-Taxmann.com 157/106 –SCL-28-SC) and the Court noted the law that prevails in America and England on this issue. After considering the legal propositions, the Supreme Court held that if the person or group of persons who control the affairs of the company commit an offence with a criminal intent (“mens-rea”), their criminality can be imputed to the company as well, as they are “alter-ego” of the company. The Supreme Court noted that an individual who has perpetrated the commission of an offence on behalf of a company can be made accused, along with the company, if there is sufficient direct evidence of his active role coupled with criminal intent and further he can be implicated in those cases where the statutory regime itself attracts the doctrine of “vicarious liability” by specifically incorporating such a provision. However, the Supreme Court held that when the company is the offender, vicarious liability of the Directors cannot be imputed automatically, in the absence of any statutory provision to this effect.
Facts of the Case: Appellant was not named in CBI’s Chargesheet!
In the Sunil Mittal’s case, it was argued on behalf of the appellant Sunil Mittal that the CBI investigated into the role of the appellant and an opinion was formed that there was no material to implicate him and hence his name was omitted from the charge sheet filed in the court. In the case of appellant Ravi Ruia, it was argued that he was not even called for investigation by the CBI which would show that there was no material against him at all and his name was not mentioned in the charge-sheet. However, it was submitted before the Supreme Court that even at a later stage, if any evidence surfaces against the appellant, the Court is not powerless, as any person can be summoned as accused under section 319 of the Criminal Procedure Code at any stage of the trial. On behalf of the CBI, it was argued that there was evidence of meetings between the then Telecom Secretary and the Appellant for the same purpose during the same period which would constitute the circumstantial evidence to implicate these persons. The thrust of the submission of CBI senior counsel was that it is the “human agency” in the accused companies who was responsible as it was a “mens-rea” offence and such an agency/person has to be the top person, going by the circumstantial evidence. Therefore, even if in the charge-sheet, names of these appellants were not included, the Special Judge was within his powers to look into the matter in its entirety as the charge-sheet along with documents spanning over 25000 pages was submitted to him.
The Supreme Court in Sunil Mittal’s case noted that in another judgement of the Supreme Court in the case of Kishan Singh-vs-State of Bihar (1993-2 SCC 16), it was held that the Sessions Court has jurisdiction on committal of a case to it, to take cognizance of the offences of the persons not named as offenders, but whose complicity in the case would be evident from the materials available on record and hence, even without recording evidence, upon committal under section 209, the Sessions Judge may summon those persons shown in column 2 of the police report to stand trial along with those already named therein.
SC: High Court Should Interfere Very Cautiously Only Where Non-Interference Would Lead to Injustice
With regard to the proposition of law on the question of exercise of jurisdiction under section 482 of the Criminal Procedure Code, the Supreme Court noted the submission that interference by the High Court in exercise of its jurisdiction under Section 482 of the Cr PC can only be where a clear case for such interference is made out. Frequent and uncalled for interference even at the preliminary stage by the High Court may result in causing obstruction in the progress of the inquiry in a criminal case, which may not be in the public interest. But, at the same time, the High Court cannot refuse to exercise its jurisdiction if the interest of justice so required, where the allegations made in the FIR or complaint are so absurd and inherently improbable on the basis of which no fair-minded and informed observer can ever reach a just and proper conclusion as to the existence of sufficient grounds for proceeding. In such cases, refusal to exercise the jurisdiction may equally result in injustice, more particularly, in cases where the complainant sets the criminal law in motion with a view to exert pressure and harass the persons arrayed as accused in the complaint.
CBI Argues that Enough Circumstantial Evidence Lay Against Accused Company’s Chairman-cum-Managing Director- Hence Summons Are Justly Issued
On behalf of CBI, it was reiterated before the Supreme Court in the Sunil Mittal’s case that when it was a case of circumstantial evidence which appeared on record in abundance, the trial court was right in summoning the appellants and in fact, the judgement of Keshav Mahindra-vs- State of MP (1996-6-SCC 129) fully supported the impugned order. On behalf of the Intervenor, the role of the appellant Sunil Mittal was highlighted from the records, particularly the extract of file noting which inter-alia, contained the views of the Superintendent of Police and this constituted sufficient material to proceed against him and since it was only a summoning order, the appellants were free to seek discharge before the trial court.
SC: Magistrate Must Express In Its Order That Sufficient Incriminating Material is On Record Before Summoning The Accused
In the aforesaid Sunil Mittal’s case, the Supreme Court noted that the fulcrum of the issue before it was the validity of the impugned order vide which the two appellants who were not named by the CBI in the charge sheet have been summoned by the Special Judge. The Supreme Court noted in the present case, the question is not as to whether there is sufficient material against the appellants filed in the trial court to proceed against them and that whether such a material is there or not, is not reflected from the impugned order as that aspect is not even gone into. The learned Special Judge has not stated in the impugned order that after examining the relevant documents, including statement of witnesses, he is satisfied that there is sufficient incriminating material on record to proceed against the appellant as well. On reading of the impugned order, it is very clear that in para 2 of the impugned order, the Special Judge discusses the submissions of the Public Prosecutor in respect of the persons who were made accused in the charge-sheet. Insofar as charge sheet is concerned, it had named the Telecom Secretary Shyamal Ghosh, who was the public servant and other three accused persons are the corporate entities. Submission of the learned Public Prosecutor is recorded in this para that there is enough incriminating material on record against them and they be proceeded against, as per law. Immediately thereafter in para 3 of the impugned order, the learned Special Judge records his satisfaction on the perusal of the records, namely FIR, charge-sheet, statement of witnesses and documents and states that he is satisfied that there is enough incriminating material on record to proceed against the “accused persons”. Para 3 is clearly relatable to para 2. Here, the “accused persons” referred to are those four persons whose names are mentioned in para 2. Obviously, till that stage, appellants were not accused persons, as they are not named as such in the charge-sheet. After recording his satisfaction qua the four said accused persons, discussion about other three individuals (including the two appellants before the Supreme Court) starts from para 4 where the Special Judge “also” finds and refers to the positions which these three persons hold/held in the three companies respectively. In para 4, the learned Special Judge does not mention about any incriminating material against them in the statement of witnesses or documents etc. On the other hand, the reason for summoning these persons and proceeding against them are specifically ascribed in the para which, prima facie, are:-
Is The Principle of Attribution or Imputation Backed By Law?
The moot question before the Supreme Court was whether the aforesaid proposition to proceed against the Appellants is backed by law. The Supreme Court analysed its earlier judgements in Iridium India Telecom Ltd.’s case and in Standard Chartered Bank vs. Directorate of Enforcement (supra) and noted that it is abundantly clear that the principle which is laid down, is to the effect that the criminal intent of the “Alter Ego” of the company, i.e., the personal group of persons that guide the business of the company, would be imputed to the company/corporation. The legal proposition that is laid down in the aforesaid judgement is that if the person or group of persons who control the affairs of the company, commit an offence, with a criminal intent, their criminality can be imputed to the company as well, as they are “Alter Ego” of the company.
Principle of ‘Attribution’ and Imputation Applicable in Reverse Order in Sunil Mittal’s Case
However, in Sunil Mittal’s case, the Supreme Court noted that in Sunil Mittal’s case, this principle is applied in an exactly reverse scenario. Here, the company is an accused person and the learned Special Magistrate has observed in the impugned order that since the Appellants represent the directing mind and will of each company, their state of mind is the state of mind of the company and, therefore, on this premise, acts of the company are attributed and imputed to the appellants. The Supreme Court felt that it is difficult to accept it as the correct principle of law to be applied in the appellant’s case as it would run contrary to the principle of vicarious liability, detailing the circumstances under which a director of a company can be held liable. The Supreme Court further noted that no doubt a corporate entity is an artificial person, which acts through its officers, directors, managing director, chairman, etc. and if such a company commits an offence involving mens rea, it would normally be the intent and action of that individual who would act on behalf of the company. It would be more so, when the criminal act is that of conspiracy. However, at the same time, it is the cardinal principle of criminal jurisprudence that there is no vicarious liability unless the statute specifically provides so. Thus, an individual who has perpetrated the commission of an offence on behalf of a company, can be made accused, along with the company, if there is sufficient evidence of his active role coupled with criminal intent. Also, the situation in which he can be implicated is in those cases where the statutory regime itself attracts the doctrine of vicarious liability, by specifically incorporating such a provision.
In this regard, the Supreme Court analysed its earlier decisions in the following cases: Aneeta Hada (2012-21Taxmann.com-43/113-SCL-564-SC); Mahashtra State Electricity Distribution Company Ltd.(2010-8Taxmann.com-223/2011-105SCL-253-SC); and S.K.Alagh’s case (2008-5SCC-662). It further noted that in a criminal case of a serious nature, ‘mens rea’, cannot be excluded and once the charge of conspiracy failed, the onus lay on the prosecution to prove affirmatively that the appellant was directly and personally connected with acts or omissions pertaining to the offence.
The Supreme Court was unable to agree with the broad statement of law that the chairman of a company, who used to sign various papers and approve various tenders, even as a matter of routine, should have acted with care and caution and his negligence would be a positive proof of his intention to commit the offence. The Court also noted that the chairman of a company had to deal with a large variety of matters and it would not be humanly possible for him to analyse and go into the details of every small matter in order to find out whether there has been any criminal breach of trust.
SC: There is No Vicarious Liability Under Criminal Law Unless the Statute Also Takes That In Its Fold
The Supreme Court also referred to its earlier judgement in Shyam Sunder vs. State of Haryana (1989-4SCC-630) wherein it was stated that “but we are concerned with a criminal liability under penal provision and not a civil liability. The penal provision must be strictly construed in the first place. Secondly, there is no vicarious liability in criminal law, unless the statute also takes that within its fold. Section 10 does not provide for such liability. It does not make all the partners liable for the offence, whether they do business or not.” The Supreme Court then referred to another judgement in Maksud Saiyed vs. State of Gujarat (2008-5SCC-68) wherein it was held that “where a jurisdiction is exercised on a complaint petition filed in terms of Section 156(3) or Section 200 of Cr.PC, the Magistrate is required to apply his mind. The penal code does not contain any provision for attaching vicarious liability on the part of the managing director or the directors of the company, when the accused is the company… The Bank is a body corporate. Vicarious liability of the managing director and director would arise, provided any proposition exists in that behalf in the statute. Statute indisputably must contain provision fixing such vicarious liabilities. Even for the said purpose, it is obligatory on the part of the complainant to make requisite allegations which would attract the provisions constituting vicarious liability.”
Managing Director or Directors Cannot be Said To Have Committed Offence Merely Because of Their Holding Such Offices.
Yet in another judgement, namely, Keki Hormusji Gharda vs. Mehervan Rustom Irani (2009-4SCC-475), the Supreme Court held that “…the Penal Code, 1860, save and except in some matters, does not contemplate any vicarious liability on the part of a person. Commission of an offence by raising a legal fiction or by creating a vicarious liability in terms of the provisions of a statute must be expressly stated. The managing director or the directors of the company, thus, cannot be said to have committed an offence only because they are holders of offices. The learned Additional Chief Metropolitan Magistrate, therefore, in our opinion, was not correct in issuing summons without taking into consideration this aspect of the matter. The managing director and the directors of the company should not have been summoned only because some allegations were made against the company.”
In Sunil Mittal’s case, the Supreme Court noted that while issuing summons against the Appellants, the Special Magistrate has taken shelter under a so-called legal principle, which has turned out to be incorrect in law. He has not recorded his satisfaction by mentioning the role played by the Appellants which would bring them within criminal net.
Once Prima Facie Case Has Been Made Out, Magistrate is Empowered to Issue Process
The Supreme Court also noted that even if the CBI did not implicate the Appellants, if there was/is sufficient material on record to proceed against these persons as well, the Special Judge is duly empowered to take cognizance against these persons as well. A wide discretion has been given as to grant or refusal of process and it must be judiciously exercised. A person ought not be dragged into Court merely because a complaint has been filed. If a prima facie case has been made out, the Magistrate ought to issue process and it cannot be refused merely because he thinks that it is unlikely to result in a conviction.
Section 204 of Cr.PC - “Sufficient Grounds of Proceeding” – The Most Important Phrase To Consider
The Supreme Court further held that the words “sufficient grounds for proceeding” appearing in Section 204 of Cr.PC are of immense importance. It is these words which amply suggest that an opinion is to be formed only after due application of mind that there is sufficient basis for proceeding against the said accused and formation of such an opinion is to be stated in the Order itself. The Order is liable to be set aside if no reason is given therein while coming to the conclusion that there is prima facie case against accused, though the Order need not contain detailed reasons. A fortiori, the order would be bad in law if the reasons given turn out to be ex-facie incorrect. There has to be a proper satisfaction in this behalf which would be duly recorded by the Special Judge on the basis of material on record. In the instant Sunil Mittal’s Case, no such exercise was done and hence, the Supreme Court held that it was difficult to sustain the impugned Order dated 19.03.2013 in its present form insofar as it relates to implicating the Appellants and summoning them as accused persons and thus, the Supreme Court set aside the Impugned Order.
Supreme Court Reiterates Special Judge’s Power to Issue Summons at Later Stage of Trial
It is very interesting to note that as an epilogue, the Supreme Court stated that “while parting, we make it clear that since on an erroneous presumption in law, the Special Magistrate has issued the Summons to the Appellants, it will always be open to the Special Magistrate to undertake the exercise of going through the material on record and on that basis, if he is satisfied that there is enough incriminating material on record to proceed against the Appellants as well, he may pass appropriate orders in that behalf.” The Supreme Court also made it clear that even if at the summoning stage, no such prima facie material is found, but during the trial if sufficient incriminating material in the form of evidence surfaces against the Appellants, the Special Judge shall be at liberty to exercise his powers under Section 319 of the Cr.PC to rope in the Appellants by passing appropriate orders in accordance with law at that stage.
The whole country is watching and waiting as to how the accused in the infamous 2G Scam are booked, in which decisions were taken by the Central Government to help certain accused telecom companies, resulting in huge losses to the Government Exchequer. And since, the companies act through directors who are the actual beneficiaries of such illegal economic terrorism, these types of cases are required to be dealt with diligently and strictly. In the Sunil Mittal’s judgement, since the Supreme Court has given liberty to the Trial Magistrate to summon the Chairman-Cum-Managing Directors of the accused companies, this aspect needs serious consideration to correct the anomaly in the summoning order. Further, what steps the Central Government takes to attach the properties of the accused, acquired through the ill-gotten money by putting the exchequer to a loss, needs serious consideration. Some urgent steps are needed if the economic benefit are to percolate down to the common masses and not be cornered by few individuals of the company through economic terrorism.