2008 (4) TMI 509 - HC - Companies Law

Compromise and arrangement - whether vital aspect relating to the affairs of the company, which was under the scrutiny of the RBI had not been disclosed, even though under section 391(2), the company is required to disclose all the relevant factors? Held that - Non-disclosure of the action taken and initiated by the RBI as apparent from the letter dated January 18, 2005, amounted to non-disclosure of relevant facts required to be disclosed under section 391(1) read with section 393(1) of the Act, thus vitiating the bona fides of the company and thereby violating the procedural safeguards. Unable to accept such ingenious submission made by learned counsel for the company and others supporting the scheme. Chapter III-B, which was inserted by way of amendment, has been obviously incorporated with a view to protect the depositors and to avoid exploitation by non-banking financial institutions. Section 45Q itself makes it very clear that the provisions of the Chapter III-B shall have effect notwithstanding anything inconsistent therewith in any other law. The Companies Act as well as the RBI Act are Central Acts. Chapter III-B, which was inserted by Act 55 of 1963 with effect from December 1, 1964, is obviously a later legislative provision.

Summary

Issues Involved:
1. Approval of the scheme of arrangement/compromise under Section 391 of the Companies Act, 1956.
2. Procedural irregularities in convening meetings of bondholders and depositors.
3. Non-disclosure of RBI's inspection findings and directions.
4. Violation of provisions of the Reserve Bank of India Act, 1934, particularly Section 45QA.
5. Impact of the scheme on the statutory obligations under the RBI Act and public policy considerations.

Detailed Analysis:

1. Approval of the Scheme of Arrangement/Compromise:
The company, a non-banking finance entity, sought approval for a scheme of arrangement/compromise under Section 391 of the Companies Act, 1956. The scheme proposed converting deposit-holders and bondholders' dues into secured convertible debentures, which would later convert into equity shares of the company. The scheme aimed to settle dues without immediate cash outflows and was approved by the majority of stakeholders in meetings convened under court supervision.

2. Procedural Irregularities:
The meetings for considering the scheme were held in Chennai, the company's registered office location. Objections were raised that most depositors resided in Kerala, making it inconvenient for them to attend. The court found no illegality in holding the meetings in Chennai, especially since an observer ensured fair participation. The appellate court upheld this view, noting no substantial evidence that stakeholders faced difficulties attending the meetings.

3. Non-disclosure of RBI's Inspection Findings:
The RBI's inspection revealed several violations by the company, including negative Net Owned Fund (NOF), excessive credit exposure, incorrect asset classification, high non-performing assets, and inadequate provisioning. These findings were not disclosed to the stakeholders during the scheme's approval process. The court emphasized that the company should have disclosed these critical aspects to enable stakeholders to make informed decisions. Non-disclosure of such vital information was deemed a violation of the procedural safeguards under Section 391(1) read with Section 393(1) of the Companies Act.

4. Violation of Provisions of the RBI Act:
The core contention was that the scheme violated Section 45QA of the RBI Act, which mandates the repayment of deposits according to the terms and conditions unless renewed. The scheme proposed converting deposits into debentures and equity, which was argued to be inconsistent with the statutory requirement of repayment. The court held that the statutory provisions of Chapter III-B of the RBI Act, including Section 45QA, have primacy over any inconsistent provisions in other laws, including the Companies Act. Thus, the scheme's terms were found to contravene the mandatory provisions of the RBI Act.

5. Impact on Statutory Obligations and Public Policy:
The court highlighted that any scheme under Section 391 must not violate statutory provisions or public policy. The RBI Act's provisions aim to protect depositors and ensure financial stability. The scheme, by circumventing the repayment obligations and statutory protections, was deemed contrary to public policy and statutory mandates. The appellate court concluded that the scheme could not be approved as it undermined the legal framework designed to safeguard depositors' interests.

Conclusion:
The appellate court allowed the appeals, setting aside the single judge's order that sanctioned the scheme. The court emphasized the necessity of compliance with statutory provisions and the importance of transparency and disclosure in the approval process. The scheme's terms, which violated the RBI Act and failed to disclose critical information, were found unacceptable. The judgment's operation was suspended for three weeks to allow the respondent to seek further recourse.