M.S Mewar v. Lake palace Hotels (1997) 4 CLJ 440

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Introduction

An enterprise is a different legitimate entity from its individuals, with the executives and proprietorship isolated by a slender line of obligations and commitments offered to them. From an overall perspective, it is a local area of individuals who have joined together or given cash to a typical reason and coordinated themselves into a different legitimate element The Companies Act’s entire plan is to guarantee appropriate lead of an organization’s issues in the public premium and the security of the nation’s name in the public premium.

As India is a democratic country, the organizations being a lawful person likewise presents in itself the force of democracy. Corporate democracy is more powerless against it since it is dealt with the number of shares and not with number of people included. The standard of dominance has been made relevant to the administration of the undertakings of the organization. The shareholders and the board of directors’ pass resolutions on different subjects either by majority or three-fourth greater part. Whenever goal is passed by majority it is restricting on all individuals. Accordingly, court won’t commonly intercede to ensure the minority interest influenced by goal unless exceptional circumstances are proven. The commercial wisdom of the management cannot be question by the courts.

Mismanagement refers to inadequate management of a company’s affairs, which can include favouritism and prejudice. The Companies Act of 2013 does not explicitly define two words, but describes them as follows: “the affairs of the company have been or are being conducted in a manner prejudicial to public interest or in a manner prejudicial or oppressive to him or any other member or members or in a manner prejudicial to the interests of the company.” If the conduct of the officials of the company is arbitrary and prejudiced it is oppression and mismanagement. 

The administration of an organization is totally founded on the dominant part rule, be that as it may, simultaneously the interests of the minority can’t be totally ignored. While talking about concerning larger part and minority, A little gathering of investors may hold the dominant part shareholding though most of investors may, among them, hold an exceptionally little level of offer capital. When they obtain control, the dominant part can, in every way that really matters, do anything they desire with the Company with basically no control or oversight, in light of the fact that regardless of whether they are addressed on their demonstrations in the regular gathering, they generally come out victors due to their more prominent democratic strength. Whenever goal is passed by larger part it is restricting on all individuals. Subsequently, court won’t normally intercede to ensure the minority interest influenced by goal.

Like stated before, the administration of an organization is totally founded on the majority rule, be that as it may, simultaneously the interests of the minority can’t be totally disregarded. While talking about as to dominant part and minority, A small group of shareholders may hold the dominant part shareholding though most of investors may, among them, hold a little level of shares. When they get control, the majority holders can, in every way that really matters, do anything they desire with the Company with for all intents and purposes no control or management, in light of the fact that regardless of whether they are addressed on their demonstrations in the comprehensive gathering, they generally come out champs on account of their more prominent democratic strength. In the present case, the court deals with the petition of winding up of the company on the basis of various reasons which is elaborated below.

Facts of the case

In the present case the petitioners have proceeded under Sections 397 and 398 of the Companies Act, 1956 filed by Mewar against Lake Palace Hotels and Motels (P.) Ltd, managing director, of Lake Shore Palace Hotels (P.) Ltd. And other key managerial persons in the company. The respondent company was incorporated in the year1963, as a private company and has now become a public company under Section 43A(1A) of the Act. The present petition has arisen for consideration based on various allegations contained in the petition.

(1) illegal and mala fide transfer and issuance of shares with a view to gain control;

(2) clandestine sale and dissipation of assets of the company;

(3) clandestine manipulation of accounts, fraudulent inflation of expenses and misappropriation of funds;

(4) illegal appointment of ad hoc directors with ulterior motive;

(5) misuse of the position of managing director and as other directors of the company for entering into agreement with the other company which is prejudicial and against the interest of the company ;

(6) specific misappropriation of the company’s funds;

(7) violation of the provisions of law and the articles of association;

(8) ousting the petitioner from management;

(9) holding meetings of the board of directors without the presence of the observer appointed by the court;

(10) other acts of mismanagement prejudicial to the interests of the company.

Apart from these allegation from the other  side, this application challenged the locus standi of the petitioner to maintain the petition called  for dismissing the petition

In summary the two allegations which were ultimately pressed on behalf of the petitioner relate to

(a) clandestine manipulation of accounts, fraudulent inflation of expenses and misappropriation of funds;

(b) misuse of the position by managing director and other key managerial personnels which was wholly prejudicial and against the interests of the company.

In addition, the allegation of investment of substantial funds of the company in other companies were also considered as part of the ground for the prayer for investigation and appointment of a special auditor.

Issues raised

The issue that had arisen for the consideration before this Hon’ble court was that;

1. Whether the company is liable for various allegations made by the petitioner and

2. whether the petition is maintainable by the court of law.

Decision of the Court

The petitioner’s shareholding percentage is claimed to be less than 1/10th of the capital, but the court notes that this is irrelevant because he qualifies to file the petition based on the total number of members of the corporation, which is an alternative test prescribed under Section 399.

In terms of the withdrawal of the High Court petition, the court observed that as long as the Company Law Board has jurisdiction and the petitioner has met the minimum requirements under Section 399 of the Act of 1956, the petition’s maintainability cannot be questioned, regardless of whether the petitioner could have filed the petition in the High Court.

The court also made it clear that when a choice is available to a petitioner, he cannot be forced to forgo the choice. As regards applicability of limitation is concerned that court held that, strictly speaking it does not apply to the Company Law Board proceedings and cannot constitute a ground for non-maintainability.

In this case, since the final issues relate to the accounts though relating to periods prior to three years, this alone cannot be a ground for challenging the maintainability. As a result, the court did not uphold the challenge to maintainability on any of the grounds.

Further on the issue of low profitability of the company is concerned, the court held that even if this is right, it cannot be considered a case of mismanagement; however, it could be a sign of rising expenses.

On the issue related to Intercorporate loans and investments, the court observed that Intercorporate loans and investments by private companies are not very closely regulated by company law as it is done in case of public companies. Though, normally, such intercorporate loans of private companies are not critically looked into, when such transaction is being questioned in a petition under Section 397 & 398, it is necessary to consider whether any prejudice is caused to the company or members concerned.

The loan transaction in the present case is reflected clearly in the books of accounts and also commented upon by the auditors of the company. Moreover, the petitioner has not also alleged further transaction beyond this single transaction. Further the court also observed that due to the insufficiency of arguments made by the petitioners in giving reasons for removing the directors, the court did not pass any orders on the same. 

Therefore, the present case was disposed of with the direction with regard to payment of interest on the loan granted by respondent No. 1 to respondent No. 3-company. All other allegations were dismissed by the Hon’ble Court.

Analysis

The case even though deals with a lot of factual arguments, the legal stand point on the allegations becomes important to notice. One of the noteworthy contentions of the respondents is that application was being promoted, supported, pursued, financed and prosecuted by the Taj group who are strangers and have no concern in the legal proceedings. The contention of the petitioners were that the petitioner is entitled to raise the grievances in his capacity as a shareholder and that the present petition is in continuation of the earlier petition filed before the High Court, the subject-matter is already lis pendens and, therefore, it is maintainable. This stands as a crux of the contentions of respondents on maintainability which was later rejected by the court

On the issue related to Intercorporate loans and investments, the court rightly observed that the law is comparatively relaxed as far as private companies are concerned.  Moreover, in this case, the company has obtained the approval of the board of directors at a meeting for which due notice was stated to have been served on the petitioner, he being a director of the company at that time which qualifies the requirement under the law for loans. Taking a look at the concept of Intercorporate loans,

The ability to contribute the assets of the organization is the right of the Board of Directors. The load up gets this authority from Section 179 of the Companies Act of 2013.The Companies Act has essentially changed the arrangements administering the arrangement of advances, stores, ensures, security, and the procurement of protections of each and every other substance corporate now and again. By and by, a general restriction of 60% of settled up share capital in addition to free holds and protections premium record or 100% of free saves and protections premium record, whichever is more, has been fixed.

The organization will not make any venture or advance or security except if the goal endorsing passed in a meeting of the board with the assent of the relative majorty of directors’ present at the meeting and the prior endorsement of the public financial establishment concerned where any term credit is staying alive is acquired.

Nonetheless, the earlier endorsement of monetary foundations isn’t needed where the total of the credits and speculations so far made, the sum for which assurance or security so far gave to or in any remaining bodies corporate, alongside the ventures, advances, assurance or security proposed to be made or given doesn’t outperform the cut off as indicated in law as decided in law and there is no default in reimbursement of advance portions or instalment of premium consequently according to the terms and states of such advance to the public monetary establishment.

Further, the significant aspect of this case, is the court rightly held that though the in making commercial decisions in a business, the board of directors is the best judge; any transaction in which mala fides are claimed in a proceeding under Section 397/398, the particulars of such transaction must be investigated. If any unfair advantage accrues to someone at the expense of the business, it will be discovered in the details and the matter has to be tested strictly on the merits.

If a company enters into an interest-free loan agreement that has been accepted by the board of directors, the financial implications of that transaction must be balanced with a related profit that can accrue to that company.

Conclusion

Therefore, the present petition was dismissed expect directing the respondents to pay cost of interest for the loans.

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