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TMI Blog2011 (3) TMI 1470X X X X Extracts X X X X X X X X Extracts X X X X ..... quiring the Passive Infrastructure Assets - Board of Directors of the petitioner/transferor company Nos. 2, 5 & 6 and the transferee company in their separate meetings held on 21-9-2007 & 30-4-2008 have unanimously approved the proposed Scheme of Arrangement Regional Director, while referring the Scheme regarding accounting treatment in the books of the transferee company, has further submitted that the transferor company Nos. 2, 5 and 6 have failed to submit a valuation report and that all the transferor and transferee companies may be directed to obtain a valuation report from a recognized firm of Chartered Accountants – Held that:- petitioner companies in their rejoinder have submitted that the petitioner companies, including the transferee company, are 100 per cent subsidiaries of transferor company No. 1 and that since the restructuring involves movement of assets within the Vodafone Essar Limited group of companies, such transfer of assets shall be without consideration, and therefore, no shares are required to be issued by the transferee company to any of the petitioner companies or to any of their shareholders, and accordingly, no valuation report is required to be prepared ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ompanies Act, 1956 seeking sanction of the Scheme of Arrangement between M/s.Vodafone Essar Limited (hereinafter referred to as the transferor company No. 1); M/s. Vodafone Essar Mobile Services Limited (the petitioner/transferor company No. 2); M/s. Vodafone Essar East Limited (hereinafter referred to as the transferor company No. 3); M/s. Vodafone Essar Gujarat Limited (hereinafter referred to as the transferor company No. 4); M/s. Vodafone Essar South Limited (hereinafter referred to as the petitioner/transferor company No. 5); M/s. Vodafone Essar Digilink Limited (the petitioner/transferor company No. 6); M/s. Vodafone Essar Cellular Limited (the transferor company No. 7) and M/s. Vodafone Essar Infrastructure Limited (hereinafter referred to as the transferee company). 2. The registered offices of the petitioner/transferor company Nos. 2, 5 and 6 and the transferee company, all of whom have approached this Court, are situated at New Delhi, within the jurisdiction of this court. 3. The registered offices of the transferor company Nos. 1, 3, 4 and 7 are situated at Mumbai, Kolkata, Ahmedabad and Coimbatore, respectively. 4. The petitioner/transferor company No. 2 was original ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o Vodafone Essar Infrastructure Private Limited after passing the necessary resolution to this effect and obtained the fresh certificate of incorporation on 18-10-2007. The company again changed its name to Vodafone Essar Infrastructure Limited and obtained the fresh certificate of incorporation on 17-1-2008. Thereafter, the company had shifted its registered office from the State of Maharashtra to NCT of Delhi and obtained a certificate in this regard from the Registrar of Companies, NCT of Delhi & Haryana at New Delhi on 28-6-2008. 8. The authorized share capital of the petitioner transferor company No. 2, as on 31-3-2009, is Rs. 2,00,00,00,000 divided into 20,00,00,000 equity shares of Rs. 10 each. The issued, subscribed and paid up capital of the company is Rs. 1,99,71,64,690 divided into 19,97,16,469 equity shares of Rs. 10 each. 9. The authorized share capital of the petitioner/transferor company No. 5, as on 31-3-2009, is Rs. 10,42,00,00,000 divided into 54,00,00,000 equity shares of Rs. 10 each aggregating Rs. 5,40,00,00,000; 2,00,000 preference shares of Rs. 100 each aggregating Rs. 2,00,00,000 and 5,000 preference shares of Rs. 10,00,000 each aggregating Rs. 5,00,00,00, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... companies shall stand transferred to and vested in the transferee company. It is claimed that the segregation of the Passive Infrastructure Assets business and the telecommunications services business is to enable further growth and maximise value in each of the businesses. It is also claimed that it will improve the quality of services to customers by establishing a high service standard and delivering services in an environment friendly manner and will also increase the speed of roll-out and efficiency through the sharing of infrastructure. This initiative of the petitioners is stated to be in line with global trends, as well as the policy of the Government of India, as reflected in the Report of the Working Group on the Telecom Sector for the Eleventh Five Year Plan (2007-2012) issued by the Department of Telecommunications, Ministry of Communications and Information Technology, Government of India, wherein it is recommended, inter alia, in Chapter 5.5. thereof, that the parties concerned; "Promote sharing of infrastructure so that costs can be kept down - this is essential for rural penetration. Incentivize such sharing." 14. So far as the share exchange ratio is concerned, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . Affidavit of service has been filed by the petitioners showing compliance regarding service on the Regional Director, Northern Region and also regarding publication of citations in the aforesaid newspapers on 24th to 27-8-2009 respectively. Copies of the newspaper clippings containing the publications have been filed along with the affidavit of service. 19. In response to the notices issued in the petition, Dr. Navrang Saini, Regional Director, Northern Region, Ministry of Corporate Affairs has filed his report dated 16-9-2009. Relying on Clause 4-4-1 of Part-III of the Scheme, he has stated that, upon sanction of the Scheme of Arrangement, all the employees of the transferor companies engaged in or in relation to the Passive Infrastructure Assets of the Transferor companies who are in such employment as on the appointed date shall continue to remain employees of the respective transferor companies, without any break or interruption in their services. 20. The Regional Director has further submitted that the details of individual assets and liabilities and values thereof pertaining to, "Passive Infrastructure Assets", of all the transferor companies proposed to be transferred to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... transferee company to the transferor company, was sanctioned. In view of the above, the objection raised by the Regional Director does not survive. 24. The Regional Director, while referring to Para 2.4 of Part-II of the Scheme, has further submitted that the transferee company may be directed to obtain the necessary approvals from the Department of Telecommunications for transfer of licenses after sanction of the Scheme by this court, pursuant to the Department of Telecommunications' letter No. 820-I/2003-LR dated 9-6-2003, in which the Department of Telecommunications has clarified that the licensee may transfer the licenses with prior written approval of the licensor even in cases of amalgamation under section 391/394 of the Companies Act, 1956. 25. In response to the above objection, the petitioner companies have submitted that none of the transferor companies are transferring any telecommunication licenses issued by the Department of Telecommunications to the transferee company pursuant to this Scheme and that the aforesaid letter issued by the Department of Telecommunications has no application to this Scheme. Consequently, the transferor companies before this court will c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e account books of the transferor companies, the net worth of some of the transferor companies might be rendered negative, and that, therefore, there was a real likelihood that those companies would be unable to pay their existing and contingent tax liabilities, since there was allegedly insufficient material to demonstrate that those companies would be able to generate enough income to meet the same. It was further claimed that the Scheme, as it stood, was against public interest for these reasons. These are, broadly, the issues raised by the Income-tax Department, which are, in my view, to be considered keeping the tax authorities' interest in mind, i.e., that nothing in the Scheme should come in the way of applicability of the relevant taxing statutes to the transactions flowing therefrom. Although it is disputed by the petitioners, the Income-tax Department has claimed an outstanding tax liability of approximately Rs. 19 crore against the petitioners before this Court, from assessment year 1999-2000 onwards. 28. In this context, two broad submissions were made by the Income-tax Department. The first was that the expression 'arrangement with members' used in section 391, did no ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to contend that a transfer between companies would constitute a gift, provided it was of existing property, transferred voluntarily, made without consideration, and was accepted by or on behalf of the donee. Further, according to the petitioners, the logical consequence of such a transfer by way of gift, is that such a transfer is exempt from the payment of capital gains tax under section 47(iii) read with section 45 of the Income-tax Act, 1961. 32. However, according to the Tax Department, the transfer of assets by way of 'gift' is impermissible, because a scheme of arrangement under sections 391-394, does not and cannot include a gift, as understood in law, and that the "arrangement", contemplated by section 391 can only be a transaction in the nature of a contractual arrangement for consideration. In respect of the effect of this transaction on the non-leviability of capital gains tax, the Income-tax authorities submitted that this rendered the Scheme contrary to public interest, which issue will be taken up subsequently. But first, the issue whether a transfer by gift is within the scope of a Scheme of arrangement, shall be dealt with. 33. Section 391 contemplates a scheme wh ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... has no significance in the context of a non-trading company with assets of £3,000,000 and liabilities which do not exceed £25,000. A member loses his right to attend the annual general meetings and other meetings of the company; his right to make his voice heard at meetings; his right to receive the board's annual report and the company's accounts; his right to question the use which the board makes or omits to make of the company's considerable financial resources; the right to vote on the remuneration of directors; the right to put himself forward for appointment to an area electoral college and thus acquire a say in the election of a director. Admittedly the rights of a member are very limited, and so it may be said that a member does not lose much under the scheme because he has not much to lose. Nor did he pay much for his membership rights in the first place - merely an entrance fee of five shillings. Be that as it may, the company has become prosperous, no doubt as a result of the support which members gave to the company's marketing undertaking during the period that it traded, and the profit thereby made by the company. However little a member originally paid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... is as follows : "arrangement n. - 1. The act or process of arranging or being arranged. 2. The condition of being arranged; the manner in which a thing is arranged. 3. Something arranged. 4. Plans, measures (make your own arrangements). 5. A composition arranged for performance by different instruments or voices. 6. Settlement of a dispute etc. See, Concise Oxford English Dictionary, 10th Edition." 37. In NFU Development Trust Ltd.'s case (supra), the Court was satisfied on facts that the Scheme, which had been passed by the majority, intended to confiscate the rights of the objecting minority shareholders. It was of the view that confiscation of the rights of an objecting minority member by virtue of a majority- approved Scheme, cannot amount to either a 'compromise' or an 'arrangement' by that company with its members and therefore any sanction granted to such a Scheme would amount to sanctioning a scheme of confiscation. It also took the view that it would be improper for the Court to allow such an arrangement to be forced on any class of members, since it could not reasonably be supposed by any sensible commercial standard to be for the benefit of that class. The relevant di ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tithesis of a gift. It follows, therefore, that it would be absurd to suggest that a gift has either resulted in, or is a consequence of, any confiscation or forfeiture. Furthermore, the expressions used in section 391 is, "arrangement"; but nothing prevented the Legislature, in its wisdom, from specifically mentioning the requirement of a, "contract for consideration", also in that Section. Although NFU Development Trust Ltd.'s case (supra) interpreted the expression "arrangement" to mean an implied give and take, the Court did not specify that "give and take" was to mean reciprocal promises by way of consideration. To my mind, the expression "give and take" used in that judgment implies a degree of voluntariness in the transactions contemplated by the Scheme between all parties thereto, and no more. Even the offer of a gift by the donee and its required acceptance by the donor, are sufficient to satisfy this test. In that case (supra), the Court did not venture further since that decision was rendered in the light of a scheme passed by the majority which operated to confiscate the rights of the objecting minority. The scheme was held to be a confiscatory transaction because there ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e unanimously agreed to transfer their assets without recompense, nor are they the guardians of their interests, and therefore, the Income-tax Department cannot be heard to plead that the scheme must be thrown out because, in its opinion, the Scheme operates as a confiscation of the transferor shareholder's rights. The essence of the idea of confiscation is the taking away or abstraction of something from someone without his consent. Once there is consent, there can be no confiscation. 41. I might add that, on a question being put to counsel for the Income-tax Department as to whether a nominal consideration of Re.1 would be considered sufficient consideration, he admitted that it would be sufficient and that, in that case, all objections to the issue of transfer by way of a gift would no longer stand and the Scheme would be squarely covered under section 391 of the Companies Act, 1956. 42. Counsel for the Income-tax Department then tried to rely on Ganpat Rai (supra ), wherein the expression "compromise" in section 20(3) and (5) of the Legal Services Authorities Act, 1987, was examined by the Supreme Court to mean that a compromise is always bilateral and implies mutual adjustme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion or demand." Although the Supreme Court referred to NFU Development Trust Ltd.'s case (supra) while making the aforesaid obser- vation to the effect that a compromise does not mean total surrender, for the reasons I have set out, it has no application in this case. I, therefore, do not agree with the proposition enunciated by the counsel for the Income- tax Department in this behalf and, in my view, this judgment relied on by the objector does not advance his case. 43. At this juncture, the petitioners' response to this issue may also be noted, which was, that the shareholders of the transferor companies and the transferee company have given their unanimous consent to the Scheme for transfer of the passive infrastructure assets for nil consideration, and that there was no dissent expressed by any one of them, nor is there any element of expropriation or surrender in the proposed Scheme. It was also averred by the petitioners that there is indeed a 'compensating advantage' conferred on the transferor companies, i.e., that after the demerger, an asset which previously did not generate any revenue will become a revenue generating asset, and that the enormous maintenance and instal ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f Arrangement is an arrangement to conduct the business of a company by its shareholders. The shareholders having agreed to conduct the management and the affairs of the company in a particular way must be honoured." 45. For all of the above reasons, and since the objector has not been able to place any direct authority, precedent or Rule before this Court to support his contention, and in view of the authorities relied on by the petitioners, counsel for the Income-tax Department has failed to persuade this Court that a transfer by way of gift was not permissible under section 391 of the Companies Act, 1956, or that the Scheme in question was confiscatory, this objection does not survive. 46. The second objection raised by the Income-tax Department was regarding the accounting treatment prescribed in the Scheme. Admittedly, the accounting treatment of the transactions in relation to the demerger is vital for determining the tax treatment of the same. According to the Income-tax Department, by proposing to transfer assets at book value, the petitioners were trying to evade payment of capital gains tax, which would otherwise have been payable if the assets were to be transferred at ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the transferor company No. 1 itself, who is also part of the Scheme. With regard to the petitioners before this Court, i.e., transferor company Nos. 2, 5 and 6 and transferee company; transferor company Nos. 2, 6 and the transferee company, are wholly owned by transferor company No. 1, while transferor company No. 1 has a 49 per cent shareholding in transferor company No. 5. According to Dr. Singhvi, the description of the assets given in the Scheme is sufficient and is all that is required. He further urged that there was no requirement in the statute that a transfer of any asset needed to be carried out at 'fair value', and that parties could agree on what constituted a fair price among themselves. However, notwithstanding that there was no requirement in law to provide a valuation of assets proposed to be transferred pursuant to sanction of a Scheme by a Company Court, with a view to establishing the petitioners' bona fide, the net book value of the passive infrastructure assets proposed to be transferred, as on 31-3-2009, have been disclosed to this Court by the petitioners and placed on record vide written submissions which were handed over in Court in response to the objectio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . 51. Further reliance was placed by the petitioners on Hindalco Industries Ltd., In re [2009] 151 Comp. Cas. 446 2 (Bom.), in support of their proposition that a dispute regarding accounting standards is not sufficient ground to refuse grant of sanction to a Scheme, is well-founded, although that case dealt with the restructuring of a company and not a demerger. In that case, an objection that sanction of the Scheme would result in violation of Accounting Standards by the petitioner company in the course of effecting the proposed restructuring, which would also result in an inaccurate representation of the petitioner company's financial position, was rejected. It was held by the Court that deviation from accounting standards, per se, cannot be a ground for rejection of the Scheme. 52. Moreover, since the question of tax treatment of the transactions arising out of the Scheme, which are obviously based on the financial statements and accounts of the petitioners, is being left open, I see no reason why sanction to the Scheme should be withheld only on this ground. 53. Another ancillary issue raised with respect to the issue of the accounting treatment was that the petitioners wou ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ges paid by the transferor companies would be income in the hands of the transferee company, on which it would be liable to pay tax. Yet, at the same time, the amount paid to the transferee company by the transferor companies would be a sort of revenue expenditure, thereby distorting the tax liability of the transferor companies. However, if the passive infrastructure assets were to remain in the hands of the transferor companies themselves, liability to pay tax would be only on the incomes generated for the transferor companies by the use of those assets and nothing further. 55. In response, the petitioners disputed that there was any outstanding tax liability payable by the companies at present, and that if any tax liabilities were found payable after the demerger, the transferor companies and the transferee company would continue to generate revenue from their operations and meet the same. Admittedly, the ability of the petitioners to meet tax demands can only be assessed by the revenue stream that they are able to generate. Counsel for the petitioners argued that, even if it were assumed for the sake of argument that the post-demerger net worth of the transferor companies woul ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... vasion of capital gains tax, whereas the Central Government had not objected to the Scheme. Reliance was placed on the following observations made therein, at page 624 thereof : "...If the party seeks assistance of the court only to reduce tax liability, the court should be the last instrument to grant such assistance or judicial process to defeat such a tax liability, or even to avoid tax liability..." 58. In the aforesaid judgment, at page 623 thereof, the Court has also made certain observations about the scope of the term 'public interest' used in section 394, which are reproduced as follows : "The expression "public interest" must take its colour and content from the context in which it is used. The context in which the expression "public interest" is used should permit the court to find out why the transferor-company came into existence, for what purpose it was set up, who were its promoters, who were controlling it, what object was sought to be achieved through creation of the transferor-company and why it is now being dissolved by merging it with another company. All these aspects will have to be examined in the context of the satisfaction of the court whether its affair ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Act, 1956, wherein transfer of the benefits of the license held by the transferor company to the transferee company, was objected to on the ground that the transferor company was, in fact, effecting the outright sale of the license to the transferee company, and since no time-limit was fixed for payment of the consideration for the sale by the transferee company to the transferor company, therefore, by this arrangement, the transferor company was avoiding the burden of capital gains tax. It was further contended that the benefits of the license, to be transferred by the transferor company to the transferee company, were not specified, and therefore, the shareholders of both the companies were not in a position to make an informed decision with regard to the fairness and adequacy of the consideration which was to ultimately pass from the transferee company to the transferor company. It was in these circumstances that the Calcutta High Court held that so long as there is no allegation of violation of any provisions of the Companies Act, 1956, and so long as there was compliance with sections 391, 392 and 394 of that Act, the objection raised by the Central Government regarding avoid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and Idea Cellular Ltd., In re [2009] 96 SCL 352 (Guj.). However, counsel for the Income-tax Department claimed that the Schemes sanctioned in the abovementioned matters were, in fact, not identical to the one under consideration in the present petition and, therefore, this justified the differential treatment being accorded to the petitioners herein. Be that as it may, the fact remains that the Scheme under consideration, when placed before the High Courts of Madras, Karnataka and Bombay for their approval, was not objected to by the Income-tax authorities. It is an admitted position that the objections have only been raised by the Income-tax Department to the Schemes filed in this Court and in the Gujarat High Court. 65. Certain additional submissions were also made on behalf of the tax authorities. The first was that the Income-tax Department must be permitted to retain its recourse for recovery in respect of any existing or future tax liabilities of the transferor companies or the transferee company, in respect of the assets sought to be transferred under the proposed Scheme, and that this protection must be made explicit by this Court in its final order and has to bind all the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the petitioners have fairly admitted that any question of tax liability is within the purview of the Income-tax Department and that it is free to pursue either the transferor companies or of the transferee company, as it may be advised, notwithstanding the sanction of the Scheme by this Court. Neither counsel seeks a finding by this Court with regard to the tax implications of the proposed Scheme. It is agreed that the Scheme may be sanctioned whilst relegating the parties to the appropriate fora to determine the tax liability, if any, that may arise. No action which may be violative of a statute is being legitimized by approval of the Scheme, and the Income-tax authorities are free to move against any of the parties concerned, in case they are of the belief that there has been any impermissible evasion of payment of tax by the petitioners. 70. In my view, if the Court is indeed to sanction the Scheme, the powers of the Income-tax Department must remain intact. The authorities relied on by the petitioners also support this proposition, with the only exception being a situation where the Scheme itself has only one purpose, which is to create a vehicle to evade the payment of tax, ..... X X X X Extracts X X X X X X X X Extracts X X X X
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