2022 (3) TMI 201 - HC - Companies Law

Transfer of shares - seeking validation of the purchase of 7,000,100 shares of Brainhunter, which were held by Zylog, upon enforcement of the pledge by ICICI Bank Limited, India - whether a secured creditor requires leave under Section 537 of CA 1956? - HELD THAT - Upon perusal of Section 537, it is evident that it deals with attachment, distress, execution and sale of the estate, properties and effects of a company after commencement of winding up. It further prescribes that any of the above, if undertaken without the leave of the court, after the commencement of winding up, is void. On a textual reading, Section 537 does not exclude secured creditors from its ambit - By Act 35 of 1985, the proviso to Section 529(1) was inserted and a pari passu charge was created in favour of the workmen of a company to the extent of the workmen's portion in every secured asset of the company in liquidation. Indeed, by virtue of Clauses (a) and (b) of such proviso, the official liquidator concerned was conferred the statutory right of representing the workmen for purposes of asserting and enforcing the rights of the pari passu charge holder. Besides, Section 529A was introduced in the statute and workmen's dues became entitled to priority over all other debts. On the facts of this case, the Official Liquidator was restrained from taking steps to close the company, but all administrative decisions were required to be taken with his concurrence and he was directed to take over all money transactions and the accounts pertaining thereto. The consequence of appointing the Official Liquidator as the provisional liquidator is that he takes charge of the assets and affairs of the company concerned. When all the above factors are concerned, the only reasonable conclusion is that the legal fiction also gets triggered upon the appointment of the Official Liquidator as provisional liquidator. Although there is no documentary evidence to establish the direct knowledge of the Purchaser, the Purchaser was clearly under an obligation to undertake due diligence before acquiring 100% of the paid up share capital of Brainhunter especially when such transaction involved enforcement of a pledge. Indeed, the documents on record include communications from the Purchaser to the Reserve Bank of India (the RBI) and to the Bombay Stock Exchange (BSE) and the National Stock Exchange (the NSE) - It should also be borne in mind that the Purchaser is a company incorporated in and carrying on business in India. When these facts and circumstances are considered holistically, the only reasonable inference is that the Purchaser was probably aware that the pledgor was a company in liquidation and, without doubt, had the means to discover the same on exercise of reasonable due diligence. Therefore, either the pledgee or the Purchaser should have requested for leave before enforcing the pledge. The Purchaser says that it invested considerable sums to revive Brainhunter after the acquisition by relying upon the financial statement for the financial year ended 31.03.2021 in contradistinction to the financial statement for the financial year ended 31.03.2014 when the acquisition took place. While the accumulated losses have reduced and the share capital has increased, no definitive conclusions may be drawn since too many variables are at play - the disposition is deserving of contingent validation subject to conditions precedent. Ordinarily, a private sale without following a sealed tender or public auction process would not be validated, but in the unique circumstances of this case involving a private sale by a pledgee, in terms of and pursuant to the Pledge Agreement. The valuation of the shares of Brainhunter shall be arrived at as on the date of acquisition by the Purchaser. As regards the pledgee, ICICI Bank India, it was satisfied with the price realised on the basis of the earlier valuation. Therefore, it is just and necessary that ICICI Bank India should not be entitled to any additional consideration even if the shares are found to be of higher value on revaluation. Instead, the entire additional consideration, if any, should accrue to the benefit of Zylog. For purposes of carrying out such valuation, the Purchaser should obtain the concurrence of the learned Administrator and the Official Liquidator and appoint two renowned chartered accountants as valuers - The disposition in favour of the Purchaser is validated subject to and contingent on the fulfillment of the above requirements. If the above requirements are not fulfilled, the disposition stands declared ipso facto void. In such event, it is open to the Administrator and the Official Liquidator to file any consequential applications. In order to verify whether the conditions precedent have been fulfilled, upon receipt of the two valuation reports and after arranging for the differential consideration in terms thereof, the Purchaser shall file an application before this Court seeking permission to proceed to conclude the transaction in terms of this order. Application disposed off.

Summary

Issues Involved:

1. Validity of the transfer of shares of Brainhunter Systems Limited.
2. Requirement of leave under Sections 536 and 537 of the Companies Act, 1956.
3. Bona fide nature of the transaction.
4. Valuation of shares.
5. Role of the Official Liquidator.
6. Consequences of not obtaining leave.

Detailed Analysis:

1. Validity of the Transfer of Shares:
Comp.A.No.859 of 2017 was filed by Zylog Systems Limited (Zylog), represented by its Administrator, to set aside the transfer of 7,000,100 shares of Brainhunter Systems Limited (Brainhunter) to Quess Corporation Limited (Quess Corp). Comp.A.No.359 of 2019 was filed by Quess Corp seeking validation of the purchase of these shares, which were held by Zylog, upon enforcement of the pledge by ICICI Bank Limited, India (ICICI Bank India) on 23.10.2014.

2. Requirement of Leave under Sections 536 and 537 of the Companies Act, 1956:
The primary legal question was whether a secured creditor requires leave under Section 537 of the Companies Act, 1956 (CA 1956). The court examined Sections 536 and 537 of CA 1956, which deal with the avoidance of transfers and the requirement of leave for attachments, executions, or sales after the commencement of winding up. It was concluded that ICICI Bank India required the leave of the Court after the amendments to CA 1956 by Act 35 of 1985, which created a pari passu charge in favor of workmen of the company in liquidation.

3. Bona Fide Nature of the Transaction:
The court considered whether the transaction was bona fide. It was noted that the creation of the security by way of pledge and the call on the pledge were bona fide. However, the enforcement of the pledge was completed subsequent to the order of appointment of the Official Liquidator as Provisional Liquidator. The court inferred that the Purchaser was probably aware that the pledgor was a company in liquidation and should have requested leave before enforcing the pledge.

4. Valuation of Shares:
One significant consideration was whether the valuation was reasonable. The court noted that the investment of Zylog in Brainhunter was about 35-40 million CDN $ in the form of equity and debt. The valuation report produced by the Purchaser valued the shares at CDN $ 100,000 to 125,000 using the discounted free cash flow method (DCF). The court opined that if leave had been requested, it would have insisted that the transaction be consummated at the upper end of the valuation band.

5. Role of the Official Liquidator:
The Official Liquidator was required to take into custody all properties and effects of the company upon the appointment of a provisional liquidator. The court emphasized that the Official Liquidator represents the interests of all stakeholders of a company in liquidation, except the secured creditor seeking to enforce the security by standing outside the winding up. The necessity to involve the pledgor was obviated by having a power of attorney executed in favor of the Security Trustee.

6. Consequences of Not Obtaining Leave:
The court concluded that ICICI Bank India or the Purchaser was required to obtain leave of the Court before enforcing the pledge. The transaction was deemed bona fide but required contingent validation subject to conditions precedent. The court directed that the shares should be subject to fresh valuation as on the date of acquisition by the Purchaser. The entire additional consideration, if any, should accrue to the benefit of Zylog. The disposition in favor of the Purchaser was validated subject to the fulfillment of these requirements. If the requirements were not fulfilled, the disposition would be declared void.

Conclusion:
The applications were disposed of on the terms that the shares be subject to fresh valuation, with the differential consideration accruing to Zylog. The Purchaser was required to file an application before the Court to conclude the transaction in terms of the order. The court granted leave to all parties to approach subsequently if necessary. There was no order to costs.