CHAPTER - 8

CORPORATE RESTRUCTURING AND REVIVAL OF SICK

COMPANIES

Corporate restructuring is an expression that connotes a restructuring process

undertaken by business enterprises for the purpose of bringing about a change for the

better and to make the businesses competitive. Restructuring is a method of changing the

organizational structure in order to achieve the strategic goals of the organization or to

sharpen the focus on achieving them. Corporate restructuring a comprehensive process by

which a company can consolidate its business operations and strengthen its position for

achieving its short-term and long-term corporate objectives – synergetic, dynamic and

continuing as a competitive and successful entity. In the words of Justice Dhananjaya Y.

Chandrachud, Corporate restructuring is one of the means that can be employed to meet

the challenges which confront business.

Corporate restructuring has become an imperative need in the wake of challenges

and opportunities made available to the economy. The emergence of World Trade

Organization, joint ventures and alliances between Indian and multinational companies,

approval to the new takeover code regulations and other factors have influenced the

corporate organizations in their decisions or moves towards joint ventures, mergers,

amalgamation and takeovers. Mergers are subject to approval by shareholders bodies of

both companies as well as judicial review.

In India, the process of economic liberalization and globalization ushered in the

early 1990‟s created a highly competitive business environment which motivated many

companies to restructure their corporate strategies. The restructuring process led to an

unprecedented rise in strategies like amalgamations, mergers including reverse mergers,

demergers, takeovers , reverse takeovers and other strategic alliances.

A business may grow over time as the utility of its products and services is

recognized. It may also grow through an inorganic process, symbolized by an

instantaneous expansion in work force, customers, infrastructure resources and thereby an

overall increase in the revenues and profits of the entity. Merger, amalgamations,

acquisitions, consolidation and takeovers are the expressions that have become common

to the corporate sector. Mergers and Acquisitions (M&A) serve as a vital instrument of

Corporate Governance to increase corporate efficiency. Mergers and acquisitions provide

the platform where corporate ethos, minority rights protection, cultural conditions,

regulatory environment and other contentious issues are tested over times. The economic

reforms have resulted in a radical change in the process of corporate control and other

forms of restructuring.

The procedure for putting through a merger and acquisition transaction under the

Act is very tedious and a lot of time is consumed in the completion of this process.

Sections 391 to 396 deal with the procedure, powers of the court and allied matters. The

basic difference between a court merger and an acquisition is that, in case of a merger,

the transferor company will be dissolved, whereas, in case of acquisition, the transferor

company continues to exist. A resolution to approve the scheme of arrangement has to be

passed by the shareholders in the general meetings. The shareholders have to vote on the

resolutions on the schemes of arrangement on the basis of the disclosures in the notice/

explanatory statement. Section 393 of the Act specifies the broad parameters of the

disclosures which should be made to the shareholders/ creditors for approving a statutory

scheme of arrangement.

The provisions of the Act, specifically sections 391 to 394, contain an elaborate

framework that enables companies to give effect to arrangements and compromises with

their shareholders and creditors. The expression „arrangement‟ has been interpreted to

include a wide range of transactions, such as mergers, demergers and other forms of

corporate restructuring (including debt restructuring). This framework has largely

functioned well and in fact, the above provisions have been extensively used by the

corporate sector in India, much more so than similar provisions contained in statutes in

other countries. The judiciary has also clearly laid out the parameters within which such

schemes of arrangement may be initiated, approved by shareholders and creditors and

then accorded the sanction of the court.

The Supreme Court has held 1 that the court has the necessary power to go into

all the incidental and ancillary questions in an effort to satisfy itself whether the scheme

has the approval of the requisite majority.

Never have the mergers and acquisitions been so popular from all angles – policy

considerations, businessmen‟s outlook and even consumers point of view. Courts too

have taken emphatic view towards mergers. The classic example is the remarks of

Supreme Court in the HLL – TOMCO merger case‟ where in the court had stated that in

this era of hyper competitive capitalism and technological change, industrialists have

realized that mergers/ acquisitions are perhaps the best route to reach a size comparable

to global companies so as to effectively compete with them. The harsh reality of

globalization has dawned that companies which cannot compete globally must sell out as

an inevitable alternative.

Public Sector Undertakings, private sector companies, as also family enterprises

are seeking recourse to restructuring on the assumption that it will put their enterprise to

the path of growth and success. They also believe that the challenge of internal and

external competition can be met only through restructuring the organization. Corporate

restructuring usually pays attention to the various criteria such as the objectives to be

achieved, the nature of the business i.e. trading, marketing, manufacturing or servicing,

territory of operations, the people to be organized in a network of relationship, the

product, process, technology to be adopted, the time dimension of operations and

activities, the extent of mechanization and automation, computerization, competitors,

customers, suppliers, contractors, collaborators, financial institutions and also the

stakeholders.

1 Miheer H. Mafatlal v. Mafatlal Industries (1996) 4 Comp LJ 585 (Guj)

A well thought process in depth, systematic and scientific study of restructuring

will take into account the different vital factors such as – the broad macro level

economic and financial indicators pointing the trend and direction of business and the

enterprise vis-à-vis the other entities engaged in similar or related activities; the

perceived impact or actual effect of merger, acquisition or a takeover of the enterprise,

the likely impact of the government policy on the present and future status of business

such as demolition of protective barriers, withdrawal of incentives, encouragement of

foreign capital inflow, investment and competition; perceived ability or inability of the

existing structure and its components to meet the requirements of the enterprise in the

near future; other stray signals or specific technology related changes or innovations or

break through which might render the extent structure inadequate, the likely intent of

business to expand by diversification, entering into collaboration or a joint venture for

increasing market share or for taking recourse to exports; a broad profile of the available

manpower resources and similar other factors.

Corporate restructuring being a matter of business convenience, the role of

legislation, executive and judiciary is that of a facilitator for restructuring on healthy

lines. The present stand of the Government is that monopoly is not necessarily bad

provided market dominance is not abused.

In India, the concept has caught like wild fire with a merger or two being reported

every second day and this time Indian Companies are out to make a global presence. The

Jamshedpur based steel giant, Tata Steel won the two-month long battle for Corus group

against Anglo-Dutch Steelmaker Cia Sidemrgica National (CSN) by offering $ 12.2

billion for the 20 million-tonne high grade steelmaker to become the fifth largest in the

world.

The going global is rapidly becoming Indian Company‟s mantra of choice. Indian

companies are now looking forward to drive costs lower, innovate speedily and increase

their International presence. Companies are discovering that a global presence can help

insulate them from the vagaries of domestic market and is one of the best ways to spread

the risks. Indian Corporate sector has witnessed several strategical acquisitions. Tata

Steel‟s acquisition of Corus Group, Mittal Steel‟s acquisition of Arcelor, Tata Motors

acquisition of Daewoo Commercial Vehicle Company, Tata Steel acquisition of

Singapore‟s Natsteel, Reliance‟s acquisition of Flag is the culmination of Indian

Companies efforts to establish a presence outside India. Not only this, to expand their

operations overseas, the Indian companies are acquiring their counterparts or are making

efforts towards efforts the end viz. the merger of Air India and Indian Airlines.

The corporate restructuring exercise generally involves the following techniques:

Joint Venture – Joint venture is a business enterprise for profit in which two or more

parties share responsibilities in an agreed upon manner by providing risk capital,

technology, patent/trademark/brand names and access to market. Joint ventures with

Multi National Corporations contribute to the expansion of production capacity, transfer

of technology and capital and above all, penetration into the global market.

Would a deadlock situation between partners under a joint venture be a justifiable

ground for passing an order of winding up of the joint venture company under the “just

and equitable clause” of section 433 (f) of the Act? The Delhi High Court held that it

would be justifiable in the facts of the case before it where the equal joint venture

partners had reached a deadlock; no further investments were being made in the company

and the disagreements on the management of the company had reached irreconcilable

hostility2.

Merger, Amalgamation and Takeover – Reconstruction of companies is crowded with

various hurdles which have to be crossed before an acquisition or a merger takes place.

Though such laws and regulations are in place to protect the interest of the shareholders

and creditors. However, for any merger or acquisition of any company, the report of the

auditor plays a very important role in the process. He initiates and concludes the

accounting process in the process of reconstruction of a company. The books of the target

2 Sangram Singh P. Gaekwad v. Shantadevi P. Gaekwad (D) (2005) 2 Comp LJ 385(SC)

company can also be inspected in order to protect the rights of the acquires company, so

as not to be defrauded later. The Official Liquidator had conducted an audit by

appointing auditors to look into the financial affairs including the balance sheet dated 30

June, 2006 of the Indian Charge Chrome Ltd3 and had categorically reported that the

audit did not reveal any information or indication that the affairs of the company had not

been conducted in a manner prejudicial to the interest of its members or the public.

The court allowing the application had opined that the thing which needs to look

into is firstly whether the accounts have been prepared according to the set standards of

accounting and secondly whether the scheme of reconstruction is reasonable, fair and

according to the law and in the interests of the secured creditors4. What is sine qua non

for the court to pass an order for sanction of scheme of amalgamation is primarily the

meeting of the creditors or the class of creditors or shareholders apart from being aware

of the financial position of the company5.

A merger involves the decision of two companies to combine and become one

entity; it can be seen as a decision made by two “equals” or little less than equals. Merger

and acquisition are manifestations of an inorganic growth process. While merger can be

defined to mean unification of two companies into a single entry, acquisitions are

situations where one entity buys out the other to combine the bought entity with itself. It

may be in the form of a purchase, where one business buys another or a management

buys out, where the management buys the business from its owners. A variety of reasons

such as growth, diversification, economies of scale, managerial effectiveness, utilization

of tax shields, lower financing costs, strategic benefit and so on are cited in support of

merger proposals. Domestic examples of some of the recent mergers are merger of

Reliance Petroleum Ltd with Reliance Industries Ltd and merger of JP Hotels Ltd with JP

Associates Ltd and examples of international mergers can be merger of American

3 In re: Indian Metals and Ferro Alloys Ltd; In re: Indian Charge Chrome Ltd (2009) 149

Comp Cas 362 (Orissa) 4 In Re Lord Chloro Alkalies Ltd (2009) 148 Comp Cas 873

5 In re Spartek Ceramics India Ltd (2006) 1 ALT 589

Automaker, Chrysler Corporation with German Automaker, Daimler Benz in 1998 to

form Daimler Chrysler.

Mergers and acquisitions are strategic decisions taken for maximization of a

company‟s growth by enhancing its production and marketing operations. They are being

used in a wide array of fields such as information technology, telecommunications and

business process outsourcing as well as in traditional businesses in order to gain strength,

expand the customer base, cut competitions or enter into a new market or enter into a new

market or product segment.

Amalgamation signifies the transfer of all or some of the assets and liabilities of

one or more existing business entities to another existing or new company. While a

merger is used for the fusion of two companies to achieve expansion and diversification,

amalgamation is an arrangement for bringing the assets of two companies under the

control of one company.

Thus, mergers and amalgamations may take two forms:-

Merger through Absorption – Absorption is a combination of two or more companies

into an „existing company‟. All companies except one lose their identity in such a merger.

For example, absorption of Tata Fertilisers Ltd (TFL) by Tata Chemicals Ltd(TCL).

TCL, an acquiring company, a buyer, survived after merger while TFL, an acquired

company, a seller, ceased to exist. TFL transferred its assets, liabilities and shares to

TCL.

Merger through Consolidation – A consolidation is a combination of two or more

companies into a „new company‟. In this form of merger, all companies are legally

dissolved and a new entity is created. Here, the acquired company transfers its assets,

liabilities and shares to the acquiring company for cash or exchange of shares. For

example, merger of Hindustan Computers Ltd, Hindustan Instruments Ltd, Indian

Software Company Ltd and Indian Reprographics Ltd into an entirely new company

called HCL Ltd.

Besides, there are three major types of mergers:-

Horizontal Merger – It is a combination of two or more firms in the same area of

business. It is a merger where the companies manufacturing similar kinds of commodities

or running similar type of business merge with each other. For example, combining of

two book publishers or two luggage manufacturing companies to gain dominant share.

Examples of this merger are merger of Lipton India and Brooke Bond, Bank of Mathura

with ICICI Bank, BSES Ltd with Orissa Power Supply Company, Associated Cement

Companies Ltd with Damodar Cement.

Vertical Merger – It is a combination of two or more firms involved in different types of

production or distribution of the same product or a merger between two companies

producing different goods or services. For example, joining of a TV manufacturing

(assembling) company and a TV marketing company or joining of a spinning company

and a weaving company.

Conglomerate Merger – It is a combination of firms engaged in unrelated lines of

business activity. For examples, merging of different businesses like manufacturing of

cement products, fertilizer products, electronic products, insurance investment and

advertising agencies. L&T and Voltas Ltd are examples.

Concentric Merger – It is a merger of firms which are similar type of business. For

example merger of cement business of L&T with the cement business of Kumar

Mangalam Birla group of Companies and merger of Shaw Wallace with United Spirits

Ltd or merger of Sahara Airlines with Jet Airways and merger of Deccan Air with King

Fisher Airlines.

The process of mergers and acquisition in India is court driven, long drawn and

hence problematic. The process may be initiated through common agreements between

the two parties but that is not sufficient to provide a legal cover to it. The sanction of the

High Court is required for bringing it into effect. The Companies Act, 1956 consolidates

provisions relating to mergers and acquisitions and other related issues of compromises,

arrangements and reconstruction. The Central Government has a role to play in this

process and it acts through an Official Liquidator (OL) or the Regional Director of the

Ministry of Company Affairs. The entire process has to be the satisfaction of the court.

This sometimes results in delays.

In case of a proposed scheme for amalgamation of company which is being

dissolved without winding up, the law requires a report form the OL or ROC that the

affairs of company have not been conducted in a manner prejudicial to the interest of its

members or to public interest. The Act also requires that no order for dissolution of any

transferor shall be made by the court unless the OL makes a report to the court that the

affairs of the company have not been conducted in a manner prejudicial to the interest of

its members or to public interest. The Committee felt that the above two requirements

under the present law can be recovered by issuing notices to ROC and OL respectively

who may file the report on the proposed merger before the court. Filing of the such report

may be time-bound, beyond which it may be presumed that ROC/OL concerned have no

comments to offer.

Single Window Concept

The law should provide a single forum which would approve the scheme of

mergers and acquisition in an effective time bound manner. In Company Law Bill, 2009,

„there are new provisions to provide for a single forum for approval of merger &

acquisitions along with a shorter merger process for holding & wholly owned subsidiary

companies or between two or more small companies.‟ The law should also provide for

mandatory intimation to regulators in respect of specified class of companies.

Court decisions on merger and amalgamation

There have been a number of situations, when the companies with similar

business have applied for amalgamation and the same have been sanctioned.

The transferor and transferee companies were carrying on business which was

more or less similar in nature6. The board of directors of the two companies felt that

amalgamation would be in the interest of both the companies. Members and Creditors of

the company had no objection. The OL and Regional Director okayed the merger. The

court granted sanction.

The decision is that there can be no objection to amalgamation of companies with

similar objects if those objects are such that they can be conveniently and advantageously

combined7. The scheme was approved because apart from this, there were no objections

as to fraud manipulation or evasion of Taxes.

Where the transferor and transferee companies were engaged in the same line of

business, their amalgamation was sanctioned because the scheme would enable both

companies to effect internal economy and optimize productivity8.

Similarity of objects and business not essential for amalgamation or mergers of

companies in the case9

, the scheme of amalgamation was opposed by the Regional

Director of the CLD on the ground that the claim that transferor and transferee companies

are engaged in same/ similar business has been found to be factually incorrect. Reliance

was placed on the Balance Sheet of the transferor company for the year ending

31.03.2003. The counsel for the petitioner in the reply affidavit stated that the transferor

and transferee companies are run by the same management. The counsel for the applicant

argued that for sanction of the scheme of amalgamation, it is not mandatory that the

objects of the two companies are pari materi or that the companies are involved in

similar businesses. He placed reliance on the decisions in the cases10

the court had held

that amalgamation u/s 394 of the Act is primarily an internal matter of the two companies

and requires approval of the shareholders secured and unsecured creditors of the

6 Cheminor Drugs Ltd (2001) 29 SCL 277 (AP)

7 Mcleod Russel (India) Ltd, Re (1997) 4 Comp. LJ 60 (Cal)

8 Debikay Sales (P) Ltd Re. (2000) CLC 757 (Del.).

9 Steel Kingdom Netcom Ltd. In re. (2004) 62 CLA 118 (Del)

10 W.A. Beardsell & Co. (P) Ltd. In re. (1968) 1 Comp. LJ (102) (Mad.) and Mcleod

Russel (I) Ltd. In re. (1997) 4 Comp. LJ 60 (Cal.)

companies seeking amalgamation, it is essentially an arrangement for mutual benefit in

creating a larger resource base and streamlining administration. The scope of interference

by the court is confined to considerations of legality and public interest only. Diversity of

objects of the two companies cannot in any case be a ground for declining sanction to the

proposed scheme of amalgamation.

When there is a merger of subsidiary company and also there is clubbing of

authorized share capital of the transferor and transferee company, there is no need to

follow the provision of Section 94 and 97 of the Companies Act, 1956. The Company

Court is duly empowered to sanction the same under Section 394.11

The Bombay High Court held that no additional fee is payable upon the merger of

the authorized capitals of the transferor and transferee companies12

.

The Bombay high Court in a matter of scheme of amalgamation, considered the

issue of devolution of interest of transferor on transferee13

. The concept of abatement is

not attached to a situation where, as a result of a scheme of amalgamation, the transferor

company ceased to exist and there was devolution of interest upon the transferee, the

transferee was entitled to be impleaded in the proceedings.

Scheme of amalgamation – Sanction of Court

The provisions of Rule 85 of the Company (Court) Rules, 1959 are not attracted

because there was no reduction of share capital being resorted to as a consequence of the

scheme. The scheme of amalgamation of the transferor company with the transferee

company has been approved by the shareholders and creditors of both the companies and

both the Official Liquidator and the Regional Director , Northern Region. Company Law

Board has not found any objection to the scheme of amalgamation being approved. The

scheme was sanctioned and the same shall be binding on all the shareholders and the

11

Kemira Laboratories Ltd, In re (2007) 140 Comp Cas 817 (AP) 12

You Telecom India Pvt. Ltd, In Re (2008) 141 Comp Cas 43 13

Delta Distilleries Ltd v. Shaw Wallacne and Co. Ltd (2009) 148 Comp Cas 809 (Bom)

creditors of the transferee company and all the assets, liabilities and reserves of the

transferor company shall vest in the transferee company14

.

Where the valuation of the assets of the transferor company is not made properly

and disinterestedly the court cannot sanction a scheme of amalgamation of two

companies15

.

The Supreme Court observed “Amalgamation or reconstruction has no precise

legal meaning16

. In amalgamation two or more companies are fused into one by merger

or by taking over by another when two companies are merged and are so joined as to

form a third company or more is absorbed into one or blended with another the

amalgamating company loses its identity.”

A scheme of amalgamation approved by the majority of the equity shareholders

and unanimously by the secured and unsecured creditors was sanctioned by the court in a

petition by the transferee company17

. The objections raised by the objector regarding

undue haste shown in moving the scheme and regarding the fairness of the reports

prepared by the two experts were rejected by the single judge also refused to consider the

objections received by post after conclusion of hearing of the petition (Reliance Inds. Ltd,

in re (2009) 151 Comp cases 124 (Bom). On appeal, the Division Bench held that in the

absence of any material contradicting the conclusions reached by the experts with

respect to valuation and fairness, it would be difficult to come to a finding that the

conclusions drawn by those experts were absurd. The methods employed by the valuers

were standard methods. The court could not go into the technical aspect regarding the

approach of the methods.

The court refused to give sanction to the scheme on the ground that the documents

filed by the petitioners were contrary to each other and the petitioners had withheld

14

Gulmohar Finance Ltd. (1998) 93 Comp case 544 15

Patiala Starch and Chemical Works Ltd. In re. AIR 1958 Punj 30 (1958) 28 Comp.

Cases 111: 60 Punj LR 89 16

Saraswathi Industrial Syndicate Ltd v. CIT (1991) 70 Comp. Cas 184 (SC) AIR 1991

SC 70 (1990) 3 Comp LJ 200 (SC) (1990) 186 ITR 278 (SC) 17

Anup Kumar Sheth v. Reliance Inds. Ltd (2010) 154 Comp. Case 278 (Bom)

material facts from the court and had filed documents to mislead the court. The court

clarified that the scheme of amalgamation could not be approved till the matter was

disposed by the CLB. 18

Scheme can be limited to sale of assets:

Whether such schemes could be sanctioned despite their being opposed to law and

whether such schemes can be resorted to only to restore the company to its original

business. The following questions arose19

in the context of the provisions of sections 391-

394 of the Act: (I) could a scheme for compromise or arrangement be limited to the sale

of assets of the company? (ii) Could the scheme not contemplate revival of the

company‟s main business? (iii) Could a scheme be sanctioned which only provided for

the revival of the company‟s corporate existence? The court answered all the above

questions in affirmative. Once the parameters under the sections as set out by the

Supreme Court were satisfied the court will have no further jurisdiction to sit over the

commercial wisdom of the scheme20

. The court further held that the company court in

sanctioning a scheme could revoke the order of winding up as held in the earlier cases21

.

Scheme contrary to statutory provisions – Can a scheme of arrangement whose terms

are contrary to any statutory provisions be permitted ? The Karnataka High Court

answered this in the affirmative22

.

A non-banking financial company formulated a scheme to repay the depositors

years after the maturity of the deposits and to utilise its statutory liquidity ratio (SLR) to

make these payments. Held that there was nothing in the provisions which prohibited the

court from according sanction even if the terms of the scheme were contrary to any

statutory provision applicable to the company. Reliance was on a recent judgement of the

248

Nu-line India P. Ltd., In re, (2010) 155 Comp cas 186 (HP) 19

Shree Niwas Girni Kamgar Kruti v. Rangnath Basudev Somani (2005) 6 CLJ 246

(Bom-DB) 20

Miheer H Mafatlal v. Mafatlal Industries Ltd (1996) 4 Comp LJ 124(SC) 21

Sudarshan Chits (I) Ltd v. Sukumaran Pillai (1984) 3 Comp LJ 40 (SC); Shankar Lal

Bansal, In re (2004) 118 Com Cases 602 (Raj). 22

Maharashtra Apex Corporation Ltd, In re (2005) 5 Comp LJ 78.

Supreme Court, where a similar argument that the delayed repayment of deposits under

the scheme would violate the law was not considered23

.

Power of Court to pass interlocutory orders before sanction – The Andhra Pradesh

High Court considered a scheme for amalgamation and arrangement of non-banking

financial companies which had outstanding payments on deposits accepted from the

public24

. Having regard to the powers of the company court to pass interlocutory orders

before and after the sanction of the scheme under section 392 including powers to order

winding up, appointment of a provisional liquidator or administrative, the court

concluded that a committee of administrators could be appointed to protect the assets of

the company pending consideration of the scheme. It is submitted that this decision

requires reconsideration since both section 392(1)(a) and (b) and section 394(1)(vi)

which empower the issuance of any incidental or supplemental orders by the court refer

to the exercise of such powers only at the time of or after the order sanctioning the

scheme. Two cases relied on by the court refer to the exercise of such powers only after

the sanction of the scheme25

.

Meeting of Creditors/Members mandatory –

The karnataka High Court held that an order for dispensation of the meeting of the

members or creditors under section 391(1) of the Act would be antithetical to the

provisions which is a provision for permission to hold a meeting. There is a definite

purpose and object to the law26

. That cannot be done away with by a process of

dispensation.

No adjudication at the stage of meeting –

23

Rahuta Union Co-operative Bank Ltd v. Union of India (2005) 5 Comp LJ 73 (SC) 24

Deepika Leasing and Finance Ltd, In re (2005) 3 Comp LJ 51 (AP) 25

S.K. Gupta v. K.P. Jain AIR 1979 SC 734; Mansukhlal v. M.V. Shah (1976) 46 Com

Cases 279 (Guj) 26

Ansys Software (P) Ltd, In re (2005) 1 CLJ 60 (Kant)

The Delhi High Court held that at the stage of directing meetings of creditors/ members

the court need not satisfy itself about all material facts relating to the company or take

account of its financial position27

.

Held that a scheme of amalgamation or compromise or merger was a commercial

document and once a finding was arrived at that, the legal requirements had been

complied with the company court had no jurisdiction to sit in appeal over the commercial

wisdom of the class of persons who had approved the scheme28

.

The Karnataka High Court in an application under section 391 of the Act, allowed

the applicants to convene a meeting of its equity shareholders to consider a scheme to

amalgamate the transferor companies with the applicant and for dispensation of the

meeting of the preference shareholders and creditors29

.

The equity shareholders had already given their consent to the proposed scheme30

.

The Official Liquidator and the regional director had not opposed the scheme. The

scheme of amalgamation was, therefore, sanctioned.

The Bombay High Court examined the jurisdiction of the company court31

. It held

that the company court had jurisdiction to pass appropriate orders or directions to

modify a scheme

only in the given facts and circumstances under sections 391 and 394 of the Act.

The court sanctioned the scheme of amalgamation when it found that the scheme

was in the interest of the companies, their members and creditors32

. However, where the

scheme was found against their interests, the court declined to give its approval.

27

Batliboi Ltd v. Mideast Integrated Steel Ltd (2005) 3 Comp LJ 75 (Del) 28

Modern Denim Ltd, In re (2009) 148 Comp Cas 873 (Raj), 29

Mysore Cements Ltd, In re (2009) 149 Comp Cas 50 (Karn) 30

Webneuron Services Ltd., In re (2009) 149 Comp Cas 61 (Del) 31

Reliance Natural Resources Ltd v. Reliance Industries Ltd., (2009) 149 Comp Cas 129

(Bom) 32

Surabhi Chemicals and Investments Ltd., In re (2009) 149 Comp Cas 278 (Guj)

The Gujarat High Court held that the scheme sought to transfer some of the assets

of one company to another company in the name of a scheme of demerger. The court

refused to sanction it on the grounds that section 391 of the Companies Act, 1956 does

not contemplate all kinds of schemes but only schemes that are either a compromise or an

arrangement with the creditors or members or any class of them. The onus to satisfy that

the scheme is one that can be sanctioned u/s 391 is upon the company33

. Contrary to this

judgement, the Delhi High Court has held that the expression „arrangement‟ under

section 391/394 of the Companies Act includes transfer of assets by a company without

consideration by way of a gift. The court took the view that here is no legal impediment

to a company transferring property by gift to another company34

.

Compromise or Arrangement – Share exchange ratio in amalgamation – whether

Central Government can raise objection

The Calcutta High Court reiterated the principles laid down in a number of cases

and held that that it was to be presumed that the shareholders of a company are prudent

businessmen. They had scrutinized the scheme in detail and were presumed to have

clearly understood what they had to give and what they would receive from the scheme

and how the scheme was likely to promote the business interests of the company and of

themselves. Therefore, the court should not ordinarily interfere with their decision. The

resolution adopting the scheme had been taken by such overwhelming majority of

shareholders of the transferee company and unanimously by shareholders of the

transferor company in their commercial wisdom. The objection of the Central

Government was overruled35

. By permitting the scheme, the court held that the scheme

was for the entire revival of the company sine it safeguards the interest of the workers

and the payment of all dues of the company. 36

The petitioner company sought the

33

Vodafone Essar Gujarat Ltd, In re (2011) 161 Comp. Cas. 144 34

Vodafone Essar Mobile Services Ltd, In re (2011) 163 Comp. Cas 169 35

Quippo Infrastructure Equipment Ltd & Srei Infrastructure Finance Ltd – In re (2011)

162 Comp. Cas 186 36

Thermopack Industries v. Ajay Electrical Industries Ltd (2010) 153 Comp Cas 470

(Del.)

sanction for a scheme of arrangement in which it was proposed to create developmental

plans for the improvement of its business. 37

Minority Interest

Protection of minority interest should be recognized under the law, only

shareholders/ creditors having significant stake at a level to be prescribed under the law

should have a right to object to any scheme of mergers. Where an act done by the

majority amounts to a fraud on the minority, an action can be brought by an individual

shareholder. This principle was laid down as an exception to the rule in Foss v. Harbottle

in a number of cases. On the same principle the majority shareholders are not allowed to

purchase the shares of a minority compulsorily 38

. Any resolution passed by the majority

to that effect is void39

.

Held, the plaintiff who were in minority in the defendant company carried on a

competing business. The validity of the resolution was challenged on the ground that it

was not for the benefit of the company as a whole. The court rejected the contention and

held that it was very much for the benefit of the company to get rid of the members who

were in competing business as such members have the unique opportunity of exploiting

the company‟s business secrets against it‟s very interest40

. The Court sought not to

interfere with decision of the majority in a general meeting if that decision is arrived at

fairly and honestly41

.

Amalgamation in Public Interest

Existing Section 396 empowers Central Government to order amalgamation of

two or more companies in public interest. It has been suggested that these provisions

37

Sasken Communication Technologies Ltd., In re, (2010) 155 Comp Cas 463 38

Cock v. Deeks (G.S.), (1916) 1 A.C. 554 39

Brown v. British Abrasive Wheel Company (1919) 1 Ch. 290 40

Sidebottom v. Kershaw Leese & Co., (1920) 1 Ch. 154 41

Re. Transval Gold Exploration and Land Co. Ltd (1885) 1 T.L.R. 604

should be reviewed and amalgamation should be allowed only through a process

overseen by the Courts/ Tribunals. If the object of the scheme is to prevent investigation

or there is failure in the management of affairs of the company or disregard of law or

withholding of material information from the meeting or the scheme is against public

policy, the court will not sanction the scheme42

However, in certain cases the court has

also held that where the scheme was approved by the majority and was not in violation of

public policy but the auditors report stated that the business of the company was

conducted in a manner prejudicial to the interest of the members of the company, the

court sanctioned the scheme for amalgamation.

Advantages of Mergers and Acquisitions

The merger wave across India‟s corporate sector tends to show that companies

want to avoid stiff and unequal competition. New business combinations are reshaping

India‟s largest industries and affecting not only dividend rates, business strategy and job

prospects but also the prices of necessities as competitors become fewer and more

powerful. The merger boom is more pronounced in such industries as dry cell batteries,

paints, toiletries, transport, banking and financial service, food, soft drinks, liquor and

entertainment. The most common advantages of mergers and acquisitions are as under: -

Accelerating a company‟s growth, particularly when its internal growth is constrained

due to paucity of resources. Internal growth requires that a company should develop

its operating facilities – manufacturing, research, marketing etc. But lack or

inadequacy of resources and time needed for internal development may constrain a

company‟s pace of growth. Hence, a company can acquire production facilities as

well as other resources from outside through mergers and acquisitions. Specially, for

entering in new products the company may lack technical skills and may require

special marketing skills and a wide distribution network to access different segments

of markets. The company can acquire company or companies with requisite

infrastructure and skills and grow quickly.

42

J.S. Davar v. Dr. S.V. Marathe, AIR 1967 Bom. 456 (DB)

Enhancing profitability because a combination of two or more companies may result

in more than average profitability due to cost reduction and efficient utilization of

resources.

Diversifying the risks of the company particularly when it acquires those businesses

whose income streams are not correlated. Diversification implies growth through the

combination of firms in unrelated businesses. It results in reduction of total risks

through substantial reduction of operations. The combination of management and

other systems strengthen the capacity of the combined firm to withstand the severity

of the unforeseen economic factors, which could otherwise endanger the survival of

the individual companies.

A merger may result in financial benefits for the firm in many ways i.e. (I) by

eliminating financial constraints (II) by enhancing debt capacity. This is because a

merger of two companies can bring stability of cash flows which in turn reduces the

risk of insolvency and enhances the capacity of the new entity to service a larger

amount of debt (III) by lowering the financial costs. This is because due to financial

stability, the merged firm is able to borrow at a lower rate of interest.

Limiting the severity of competition by increasing the company‟s market power

merger can increase the market share of the merged firm. This improves the

profitability of the firm due to economies of scale. The bargaining power of the firm

vis-à-vis labour, suppliers and buyers is also enhanced. The merged firm can exploit

technological breakthroughs against obsolescence and price wars.

Procedure for evaluating the decision for mergers –

The three steps are involved in the analysis of mergers and acquisitions: -

Planning – It will require the analysis of industry-specific and firm-specific

information. The acquiring firm should review its objectives of acquisition in the

context of its strengths and weaknesses and corporate goals. It will need industry data

on market growth, nature of competition, ease of entry, capital and labour intensity,

degree of regulation.

Search and screening – Search focuses on how and where to look for suitable

candidates for acquisition.

Financial Evaluation – It is needed to determine the earnings and cash flows, areas of

risk, the maximum price payable to the target company and the best way to finance

the merger.

A merger is said to be at a premium when the offer price is higher than the target

firm‟s pre-merger market value. The acquiring firm may have to pay premium as an

incentive to target firm‟s shareholders to induce them to sell their shares so that acquiring

firm is able to obtain the control of the target firm.

Regulation for Merger & Acquisitions

Mergers and acquisitions are regulated under various laws in India. The objective

of the laws is to make these deals transparent and protect the interest of all

shareholders.They are regulated through the provisions of :-

1. The Companies Act, 1956

The Act lays down the legal procedures for mergers or acquisitions;-

Permission for merger - Two or more companies can amalgamate only when the

amalgamation is permitted under their memorandum of association. In the absence of

these provisions in the memorandum of association, it is necessary to seek the

permission of the shareholders, Board of Directors and the Company Law Board

before affecting the merger.

Information to the Stock Exchange – The acquiring and the acquired companies

should inform the stock exchanges about the merger.

Approval of Board of Directors – The Board of Directors of the individual companies

should approve the draft proposal for amalgamation and authorize the management of

the companies to further pursue the matter.

Application in the High Court – An application for approving the draft amalgamation

proposal duly approved by the Board of Directors of the individual companies should

be made to the High Court.

Shareholders and Creditors Meetings – At least, 75% of shareholders and Creditors in

separate meeting, voting in person or by proxy, must accord their approval to the

scheme.

Sanction by the High Court – After the approval of the shareholders and creditors on

the petitions of the companies, the High Court will pass an order, sanctioning the

amalgamation scheme after it is satisfied that the scheme is fair and reasonable. The

date of the court‟s hearing will be published in two newspapers and also the regional

director of the Company Law Board will be intimated.

Filing of the Court Order – After the Court order, its certified true copies will be filed

with the Registrar of companies.

Transfer of assets and liabilities – The assets and liabilities of the acquired company

will be transferred to the acquiring company in accordance with the approved scheme

with effect from the specified date.

Payment by cash or securities – As per the proposal, the acquiring company will

exchange shares and debentures and cash for the share and debentures of the acquired

company.

2. The Competition Act, 2002

The Act regulates the various forms of business combinations through Competition

Commission of India. Under the Act, no person or enterprise shall enter into a

combination in the form of an acquisition, merger or amalgamation which causes or is

likely to an appreciable adverse effect on competition in the relevant market and such a

combination shall be void. Enterprises intending to enter into a combination may give

notice to the Commission but this notification is voluntary. The Commission while

regulating a „combination‟ shall consider the following factors:-

Actual and potential competition through imports

Extent of entry barriers into the market

Level of combination in the market

Degree of countervailing power in the market

Possibility of the combination to significantly and substantially increase prices or

profits

Availability of substitute before and after the combination

Extent of effective competition likely to sustain in a market

Market share of the parties to the combination individually and as a combination

Possibility of the combination to remove the vigorous and effective competitor or

competition in the market

Nature and extent of vertical integration in the market

Nature and extent of innovation

Whether the benefits of the combinations outweigh the adverse impact of the

combination

Thus the Competition Act does not seek to eliminate combinations and only aims to

eliminate their harmful effects.

The other regulations are provided in the The Foreign Exchange Management Act,

1999 and The Income Tax Act, 1961. The Securities and Exchange Board of India

(SEBI) has also issued guidelines to regulate mergers and acquisitions. The SEBI

(Substantial Acquisition of Shares and Take-over) Regulations, 1997 and its subsequent

amendments aim at making the take-over process transparent and also protect the

interests of minority shareholders.

Takeovers - Takeover implies acquisition of control which is already registered through

the purchase or exchange of shares. Takeovers usually take place when shares are

acquired or purchased from the shareholders of a company at a specified price to the

extent of at least controlling interest in order to gain control of that company. Takeover is

availed of as a business strategy to acquire control over the other company - either

directly or indirectly. When an acquisition is „forced‟ or „unwilling‟, it is called a

takeover and the management of the target company would oppose a move of being taken

over but when management of acquiring and target companies and willingly agree for the

takeover, it is called acquisition or friendly takeover.

Takeovers are taking place all over the world. Those companies whose shares are

underquoted on the stock market are under a constant threat of takeover. In fact every

company is vulnerable to a takeover threat. Takeover is a corporate device whereby one

company acquires control over another company usually by purchasing all or a majority

of its shares. Ordinarily, a larger company takes over a smaller company. It must be noted

that takeover of management is quite distinct from takeover of possession for the purpose

of sale of establishment. The takeover strategy has been conceived to improve corporate

value, achieve better productivity and profitability by making optimum use of the

available resources in the form of men, materials and machines.

Under the Monopolies and Restrictive Practices Act, takeover meant acquisition

of not less than 25 % of the voting power in a company. While in the Companies Act

(Section 372), a company‟s investment in the shares of another company in excess 10%

of the subscribed capital can result in takeovers. An acquisition or takeover does not

necessarily entail full legal control. A company can also have effective control over

another company by holding a minority ownership. But now MRTP Act has been

repealed and Competition Act, 2002 has come into force.

Regulation for Takeover

SEBI‟s Takeover Code for substantial acquisitions of shares in Listed companies

– In India take-overs are controlled. The first attempt at regulating takeovers was made in

a limited way by incorporating a clause in the listing agreement which provided for

making of public offer by any person to acquire 25% or more voting rights in a company.

This was later brought down to 10%.

On 4th

November 1994, SEBI announced a take-over code for the regulation of

substantial acquisition of shares, aimed at ensuring better transparency and minimizing

the occurrence of clandestine deals. Bhagwati Committee was set up in 1995 to review

these regulations . The SEBI Takeover Regulations, 1997 were based on the report of

Bhagwati Committee, 1997. The second amendment regulations were notified in 2002.

Regulations 23 of the SEBI Takeover Regulations 1997 deals with the general

obligations of the target company. The Bhagwati Committee desired that the regulations

should have definite provisions making it obligatory for the target company to transfer

the shares and allow changes in the Board of Directors once the acquires fulfills fulfill

their obligations under the regulations.

The take-over code covers three types of take-overs i.e. negotiated takeovers,

open market takeovers and bail-out takeovers.

The procedure for Merger and Takeover are as under:-

1. Accounting

All assets and liabilities of the “Transferor Company” before amalgamation should

become assets and liabilities of the “Transferee Company”

Shareholders holding not less than 90% of shares of the “Transferor Company”

should become the shareholders of the “Transferee Company”

The consideration payable to the shareholders of the “Transferor Company” should

be in the form of shares of the “Transferee Company” only

Business of the “Transferor Company” is intended to be carried on by the “Transferee

company”

The “Transferee Company” incorporates in its balance sheet the book values of assets

and liabilities of the “Transferor Company” without any adjustment except to the

extent needed to ensure uniformity of accounting policies.

The accounting treatment of an amalgamation in the books of the “Transferee

Company” is dependent on the nature of amalgamation.

2. Legal/Statutory Approvals

The process of mergers or amalgamations is governed by Sections 391 to 394 of the

Companies Act, 1956 and requires the following approvals:-

Shareholders Approval – The shareholders of the amalgamating and the amalgamated

companies are directed to hold meetings by the respective High Courts to consider the

scheme of amalgamation. The scheme is required to be approved by 75% of the

shareholders, present and voting and in terms of the voting power of the shares held,

in value terms.

Section 395 of the Companies Act stipulates that the shareholding of dissenting

shareholders can be purchased, provided 90% of the shareholders, in value terms, agree to

the scheme of amalgamation. In terms of Section 81(A) of the Companies Act, the

shareholders of the „amalgamated company‟ also are required to pass a special resolution for

issue of shares to the shareholders of the „amalgamated company”.

Creditors/Financial Institutions/Bank Approval – Approvals from these are required

for the scheme of amalgamation in terms of the agreement signed with them.

High Court Approvals – Approval of the High Courts of the States in which

registered offices of the amalgamating and the amalgamated companies are situated,

is required.

Reserve Bank of India Approval – In terms of section 19 of FERA, 1973, Reserve

Bank of India permission is required when the amalgamated company issues shares to

the nonresident shareholders of the amalgamating company or any cash option is

exercised.

3. Valuation

There are several approaches to valuation. The important ones are the discounted cash

flow approach, the comparable company approach and the adjusted book value approach.

Non- compliance of SEBI takeover regulations –

In a case under section 111A, a rectification was sought of the register of

members of the company on the ground that the share acquisition violated regulation 7(1)

of the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 1997. The

Company Law Board (CLB) held that where the respondents, when acquiring the shares

of the company in concert, had failed to disclose their acquisition beyond 5% within four

days of such acquisition as required by regulation 7 (1), such acquisition would be

invalid43

. Accordingly, it directed rectification of the register of members of the company

by removing the names of the respondents in respect of the shares acquired beyond 5%.

This principle was also applied in rejecting a petition filed by the same respondents under

sections 397 and 398 of the Act. The CLB disregarded the acquisition above 5% while

computing the qualification in shareholding of 10% as required by section 399 of the Act.

43

Aska Investments P. Ltd v. Grob Tea Co. Ltd (2005) 126 Comp Cases 603 (CLB)

While doing so, the CLB relied on its earlier ruling, where it had held that such

acquisition, without the preemptory disclosure, would be invalid44

. Since then, however,

there have been rulings by the Andhra Pradesh High Court45

and the Calcutta High

Court46

and the Securities Appellate Tribunal47

to the effect that the consequence of such

acquisition will render the respondents liable to penalties under regulation 45. Although

these judgements have not ruled that such acquisitions will be invalid, the acquisition of

shares in violation of SEBI regulations would be invalid under section 23 of the Contract

Act, 1872. But the CLB disregarded the plea of the respondents that proceedings by the

SEBI were also underway on the same issue, which could result in multiple and possibly

conflicting orders on same issue. Where proceedings with regard to such acquisition are

pending before the SEBI, the CLB ought to have awaited the outcome of these

proceedings.

Cross Border Mergers & Acquisition

The rise of Globalization has exponentially increased the market border M&A.

This rapid increase has taken many M&A firms by surprise because the majority of them

never had to consider acquiring the capabilities or skills required to effectively handle

this kind of transaction. There are also new forces in play that make cross-border

expansion more feasible and capable of creating value. For example, international

deregulation is removing old barriers. Institutional investors are taking a more global

perspective. Customer profiles across markets are becoming more homogeneous. More

generally, the newly created firm will share features of the corporate governance systems

of the two merging firms. Therefore;

Cross-border mergers provide a natural experiment to analyze the effects of changes-

both improvements and deterioration, in corporate governance on firm value.

FDI plays an important role with the cross mergers and takeovers as they are followed

by sequential investment by foreign acquirer sometimes large especially in special

circumstances such as that of privatization.

44

Bombay Dyeing & Mfg. V. Arun Kumar Bajoria (2001) 4 Comp LJ 115 45

Karamsad Investments Ltd v. Nile (2002) 108 Comp Cases 58 46

Arun Kumar Bajoria v. SEBI (W.P. 331/01 – unreported) 47

Mega Resources Ltd v. SEBI (2002) 3 CLJ 179

Cross border M&A can be followed by newer and better technology especially when

acquired firms are reconstructed to increase the efficiency of their operations.

Cross border M&A leads to employment opportunity over time when the sequential

investments take place and if the linkages of the acquired firm are retained or

strengthened.

Divestment Strategy – Divestment strategy also known as divestiture strategy, involves

selling off or shedding business units or product divisions or segments of business

operations to redeploy the resources so released for other purposes. While selling off a

business segment or product division is one of the common forms of divestment, it may

also include selling off or giving up control over a subsidiary or a demerger whereby the

wholly owned subsidiaries may be floated off as independently quoted companies.

Retrenchment Strategy – A strategy option which involves reduction of any existing

product or service line is known as retrenchment strategy. When a firm suffers from poor

performance in terms of lower earnings and profits, it may be required to shut down units

of activity or segments which continue to be a drain on total performance.

A Mixed or Combination Strategy – The main purpose of such a strategy is

optimization of the enterprise profitability and minimizing losses.

Financial Restructuring – This exercise involves reaching an appropriate mix of debt

and equity ensuring a competitive cost structure and optimizing return on investment.

Demerger and Spinoffs

Companies have to downsize or contract their operations in certain circumstances

such as when a division of the company is performing poorly or simply because it no

longer fits into the company‟s plans or to give effect to rationalization or specialization in

the manufacturing process. This may also be necessary to undo a previous merger or

acquisition which proved unsuccessful. This type of restructuring can take various forms

such as demerger or spin off, split off, etc. Large entities sometimes hinder

entrepreneurial initiative, sideline core activities, reduce accountability and promote

investment in non-core activities. There is an increasing realization among companies

that demerger may allow them to strengthen their core competence and realize the true

value of their business.

Typically, in these demergers, stand-alone, non-synergistic business, forming part

of an existing company, are hived off as new firms that are then listed. Their shares are

distributed to the shareholders of the „parent‟ company. As far as the shareholders are

concerned, their interests are fully protected as they now collectively own exactly the

same businesses as before except that the ownership is through separate shareholdings.

“A scheme of demerger is in effect a corporate partition of a company into two

undertakings, thereby retaining one undertaking with it and by transferring the other

undertaking to the resulting company. It is a scheme of business reorganization.”48

The Calcutta High Court dealt with the issue of merger. The scheme was

approved by the requisite majority of the equity shareholders of the two companies at

their respective meetings held at Calcutta. An application was filed by the shareholders

who had objected the sanction of a scheme of arrangement by demerger as it was unfair.

Court rejected the application for sanction of arrangement and demerger.‟

Recently one Landmark judgement is there. A scheme of arrangement

proposed by the appellant company was not sanctioned by the single judge on the ground

that it was in violation of the statutory provisions and prejudicial to the shareholders as

well as the secured creditors of the company49

.

A scheme related to demerger was challenged on the ground that incorporation of

the resultant company after the appointed date could be a reason for rejecting sanction of

the scheme.

48

Justice N.V. Balasubramaniam J in Lucas TVS Ltd. In Re. CP No. 588 and 589 of 2000

(Mad- Unreported) 49

G.V. Films Ltd., in re. (2009) 150 Comp. Case 415 (Mad.)

The logic of a demerger to unlock value for shareholders, stems from a variety of

reasons, such as sharper focus and managerial attention to individual businesses avoiding

cross-subsidization and sub-optimal resource allocation by the management, enhancing

investor interest by generating greater following by security analysts and permitting

portfolio diversification by the investors themselves. The spinoff or the demerger route is

anti-thesis to the process of mergers. The corporate restructuring process can assume

several forms – demergers, spinoffs and equity carve-outs as under:

Demerger involves the effective splitting up of one organization into two or more

parts which may take the form of two or more roughly equal entities.

• Spin-off involves the separation of a company as a subsidiary from the parent by

transfer of operating assets without a substantial change in the constitution of equity

ownership. The equity ownership does not undergo a major change as the subsidiary

company issues equity shares to the parent in lieu of assets transferred to it.

• Equity Carve-out is a variant of spinoff. A company spun off as a wholly-owned

subsidiary comes out with an initial public offering (IPO) for the part of the shares of the

subsidiary. On the completion of the IPO, the shares are traded independently from that

of the parent.

One of the issue50

was whether in a scheme of demerger, incorporation of the

resultant company after the appointed date could be a reason for rejecting sanction to the

scheme. Answering that question in the negative, the Delhi High Court held that the

appointed date is only to identify and the value of assets to be transferred to the resultant

company and hence the fact that the resultant company was incorporated after the

appointed date was not material, the scheme would be effective only on the effective

date.

Short-form Mergers – At present, all mergers, including those between group

companies or between a parent and a subsidiary requires compliance with the entire

process of section 391 and 394, although in certain circumstances courts are willing to

make some dispensations from procedural requirements. Under the new Companies Bill,

50

Alchemist Ltd & Alchemist Foods Ltd – In re (2010) 160 Comp. Cas. 496 (Delhi)

2011, certain mergers can follow an out-of-court approach, without requiring the

approval of the court or NCLT. These are mergers between two or more small companies

or between a parent and its wholly-owned subsidiary. In these types of mergers, there is

greater emphasis on interests of creditors that is the companies must file a declaration of

solvency and the scheme must be approved by at least 90% of the creditors or their

classes. Although this simplifies the M&A regime to some extent, it may only a small

number of transactions without much wider impact.

The provisions that enabled fast-track implementation of merger of small

companies with minimum compliances have been modified slightly. As per the Bill, a

notice has to be issued to the Registrar of Companies (RoC) and official liquidator (OL)

first and objections/ suggestions have to be placed before the members in the general

meeting. Once the scheme is approved by members and creditors, a notice would have to

be given to the central government, the RoC & OL. If the Central Government has any

objections, it may file an application with the tribunal and seek its approval.

Reverse Merger – The companies Bill, 2011, has provided an exit option at a fair value

to compensate for the loss of liquidity for minority shareholders of a listed company in a

reverse merger. The law in force at present does not provide for this. A reverse merger is

a transaction where a listed company is merged with an unlisted one.

In section 45 (h)(B) the Bill states – “If shareholders of the transferor company

decide to opt out of the transferee company, provision shall be made for payment of the

value of shares held by them and other benefits, in accordance with a pre-determined

price formulan or after a valuation is made.”

Other Matters – Some other specific issues where the Bill provides for a different

treatment are:

Notice of the scheme must be provided to various government authorities such as the

Income Tax Department, SEBI, RBI, Competition Commission, OL such that all of

their concerns can be heard by the NCLT before sanctioning the scheme. Although

these authorities can object before a court even at present, there is no such notice

requirement.

The requirement of majority of shareholders or creditors is 75% in value. The existing

additional requirement of obtaining a majority in number of the shareholders or

creditors has been done away with.

Permits the clubbing of authorized capital and claim of set off by transferee company,

of fees, if any, paid by the transferor company on its authorized capital.

Notice of the shareholders meeting and relevant documents will also be required to be

submitted to the Central Government, Income-Tax authorities, RBI, SEBI, Stock

exchanges (in case of listed companies), Registrar, OL, Competition Commission of

India and any other regulator or authorities likely to be affected.

The four pillars holding the foundation of the Bill are accountability, procedural

simplification, disclosure and unification across various regulatory authorities. The

simple process of submitting documents before the court registrar is now a multi-party

affair with a series of documents. Corporates will now necessarily have to deal with

multiple authorities like income tax, RBI, SEBI, Central Government and the

Competition Commission of India as opposed to single-window clearance.

Onerous disclosures such as details of valuation report, statement giving effect of

the restructuring on promoters, auditors certificate, which was earlier mandated by SEBI

for listed companies, stating compliance with accounting standards are required to be

given. The attempt to get a larger number of regulatory authorities – in particular, the

income tax authorities involved from the preliminary stages – could be another indicator

of the legislative desire to provide greater certainty to companies in an M&A process, at

an earlier stage of transaction. The Bill is set to curb the number of holding companies to

two. While there may be an aim to achieve transparency, the move may hinder genuine

need for Indian multi-layered structures. On the other hand, outbound acquisition of

(foreign) multi-layered structure may still allowed in certain situations.

Diversification – Identifying and developing core competencies has become the key

strategy for building up corporate strength and adding to the intrinsic worth of the

company. In fact, expanding and consolidating the base of the company is necessary to

withstand the onslaught of MNCs. However, in all such strategies, the core strengths of

the company can hardly be ignored.

Divestment – The basic objective underlying a divestment strategy is to prevent any

particular unit or segment of business being a drag on the total profitability of the

enterprise, particularly when opportunities of alternative investments exist. Divestment

may be preferred as a deliberate strategic decision for the following reasons:

• To sustain and develop a favourable competitive position in a product-market,

the firm may be required to deploy resources – financial, technical or managerial – which

are lacking. In that situation, the appropriate strategy should be to divest and withdraw

from the particular segment for better utilization of the available resources in some other

product-market.

• Sometimes after the acquisition of a business it may be found that some parts of

the acquired business are not as desirable as others. The unwanted operations may be

justifiably disposed off to recover a part of the acquisition cost.

• If the profitability or growth performance of any unit of business or subsidiary,

which held promises earlier, prove to be unsatisfactory due to unexpected emergence of

strong competitors, rise in costs or a fall in demand.

• The scale of operation of some units, both in relation to the total operations of the

firm and relative to the respective markets, may be a small part of the enterprise

activities and yet involve disproportionately large management efforts.

• For a multi-product, multi-divisional firm, divestment of some of the traditional

activities may be desirable as part of product portfolio strategy.

• Divestment strategy may also be unavoidable in the face of financial crisis

involving liquidity problems which may even threaten the survival of the firm as a

whole.

Compared with acquisitions and mergers, divestment may be a rather infrequent

event. Divestment is an irreversible decision in so far as the divesting firm is concerned.

Divestment, to be effective, should be carried out in a manner and at a time so as to

ensure that replacement investment is worthwhile.

Winding Up of Companies

The Indian economy on the other hand is left to bear huge costs because of delays

in winding up. The delays reflect lack of appreciation on the part of law and legal

administration to preserve the value of the assets of a company that is being wound up

and also the failure to realize the fact that the worst affected parties are workers and

secured creditors. The group, therefore, emphasizes that the winding up procedures must

radically expedite the sale of assets, by sale of assets first as quickly as possible and

adjudicate and distribute later. The group for the purpose of evolving a new and strictly

time-bound approach has recommended the following measures:

• High Courts will have exclusive jurisdiction in the matter of liquidation of a

company.

• Encouragement of voluntary winding up which is generally a more cost and

time-efficient manner of liquidation.

• Distinct separation of the two aspects of liquidation i.e. Asset sale and

Distribution of the proceeds.

• Clarity in winding up order – which should coherently describe the steps that

have to be taken along with time-frames for each action.

• Clear enunciation of the manner which the act shall catalyse rapid, transparent,

market-determined sale of assets which would not only allow for their profitable re-use

but also increase the pool for distribution to claimants including workers.

• Well-defined and non-subjective norms to ascertain whether a company‟s assets

should be sold in totality as a going concern or in parts as individual asset sale.

• Permitting professionals such as chartered accountants, lawyers or company

secretaries to be empanelled by the High Court as liquidators who may be selected as

Official Liquidator (Section 300). Corporate bodies comprising these professionals may

also be appointed as company liquidators. The company liquidator has to submit the

valuation report to the court within a period of 60 days from the date of taking

possession.

The basic guideline has been that the assets of a company being wound up should

be sold within a period of six months of the winding up order. This is sought to be

implemented by a clear time-bound schedule to complete various processes prior to sale

and by making most of the procedures to run concurrent rather than sequential. The

group has also recommended that the High Court should distinguish between asset sale

on the one hand and misfeasance and malfeasance on the other. An application for

misfeasance or malfeasance against the directors, officers or the liquidator has to be

made within a period of two years from the date of order of winding up. At present the

time allowed in this regard is five years. If a director makes a wrong declaration of

solvency, then he could be punished with imprisonment upto a period of one year or fine

up to Rs 50,000 or both.

In 2005, there are few important judgements the court considered the rights of a

secured creditor in the context of the debtor company being in liquidation. The Supreme

Court clarified that the Obiter in paragraph 76 of its earlier judgement to the effect that

workmen‟s dues would have priority over the dues of the secured and unsecured creditors

was unnecessary51

. In this judgement the court also held that the provisions of sections

446 ipso facto did not confer any power on the company court to pass any interlocutory

orders52

and that any such exercise of inherent power in passing interlocutory orders

would have to be exercised in consideration of the factors set out in the Morgan Stanley

case53

. Although power of the court to order for the winding up of the company is

discretionary, it has to take into consideration „public interest‟ involved in such cases. 54

The court held that default in furnishing of specified information was purely a question of

fact and winding up of such petitions could be resolved only by a civil court. 55

Commencement of Winding up – The Madras High Court Administrator, held that where

a company is ordered to be wound up, winding up will be deemed to commence from the

date on which the first winding up petition is filed against the company, even though the

order of winding up is not passed in that petition56

.

Corporate Debt Restructuring

51

Andhra Bank v. Official Liquidator (2005) 4 Comp LJ 33(SC) 52

Allahabad Bank v. Canara Bank (2000) 2 Comp LJ 170 (SC) 53

Morgan Stanley Mutual Fund v. Kartick Das (1994) 3 Comp LJ 27 (SC). 54

HMT Ltd v. N.T. Ramatulla Khan and Associates (2010) 155 Comp cas 169 (Kar.) 55

ICICI Bank Ltd v. Saura Chemicals Ltd (2010) 153 Comp Cas 429 (P&H) 56

MCC Finance Ltd v. Ramesh Gandhi (2005) 127 Com Cases 85 (Mad)

CDR is a non-statutory method, taken up voluntarily by companies to ensure their

viability and resolve their unmet financial obligations. The CDR framework aims at

preserving the viable entities, outside the purview of BIFR, DRT and other legal

proceedings affected by internal and external factors. It also aims at minimizing the

losses to the creditors and other stakeholders in coordinated and transparent fashion.

The Reserve Bank of India has specific tools for fast track debt restructuring

known as the CDR Mechanism (Corporate Debt Restructuring Mechanism). It is often

seen that sometimes even though 75% of the secured creditors consent to the debt

restructuring and make significant sacrifices, minority secured creditors or unsecured

creditors put a spoke through the wheel. As a result, such schemes that would otherwise

enable the return of the corporate to viable operation, get delayed.

As in the case of contractual mergers or schemes of arrangement, the Committee

recommends that if the petitioning creditors or petitioning company is prima facie able to

prove that 75% of the secured creditors who have consented to the CDR Mechanism have

made sacrifices to restructure the company then, notwithstanding the minority dissent,

such as a scheme should be sanctioned on filing.

Appropriate remedies for misstatement and the ability to revoke such an order

with punishment for any misstatement would be an adequate safeguard for false

misstatement. The unsecured creditors are subsequent in the queue and without the

consent of the secured creditors and their debt restructuring; they would have no hope to

receive dues. However, to safeguard their interests and to ensure the continuity of the

company‟s functioning, the scheme must satisfy a minimum liquidity test and should

have provisions for a security pool either made available by the secured creditors as cash

availability or by the promoter to progress the scheme of restructuring.

Since its inception almost a decade back, this sort of mechanism has seen

widespread participation from all quarters of industry and especially from giant

companies such as Kingfisher, Wockhardt, Vishal Retail, Subhiksha, Jindal Steel, Easar

Steel etc. This sort of fast track restructuring is believed to go an long way especially in

the light of the ongoing global economic crisis.

Such schemes must contain safeguards against fraudulent preference and must

have a creditors responsibility statement, similar to a directors responsibility statement,

appended to it. The Court/National Law Tribunal could regulate withdrawal from the

security pool provided for by the liquidity test.

The Committee recommended that the need to file a separate scheme for

reduction of capital simultaneously the scheme for merger and acquisition should be

avoided. The provisions relating to obtaining consent from unsecured creditors should be

done away with. To ensure continuity of the existence of transferee Company/resulting

Company, the Committee felt the need to mandate requirement of a satisfactory liquidity

test and prescribed debt equity norms. The creditors consent may be necessary only in

case of companies not meeting the liquidity test.

According to new Companies Bill, 2011 the application for the scheme of

compromise or arrangement in case of a company under CDR, must disclose safeguard

for the unsecured creditors. It is also said that perhaps the non-participation of various

lenders, India as well as foreign has weakened the CDR mechanism. The case of

Kingfisher, Vishal Retail and Wockhardt have shown very little progress in terms of

revival of the company and recovery by banks. It also shows the inherent tensions and

limitations of the CDR mechanism. It might also help in reducing the pendency of cases

and in expediting recovery of comparatively higher amounts within the existing

framework.

SECTION B - REVIVAL OF SICK COMPANIES

There is one standard joke that there are many financially sick companies but no

financially sick promoters. The problem of industrial sickness is nothing peculiar to our

country or any developing country. In the Indian scenario, it is not possible to shut down

the sick units, as it will lead to substantial national block capital to go waste and create

more unemployment. As sickness is prevailing in country‟s industrial climate, the

Government of India appointed the Tiwari Committee to examine the matter and

recommend suitable remedies. Based on it, a special legislation was enacted, namely the

Sick Industrial Companies (Special Provisions) Act 1985 (1 of 1986) (hereinafter referred

as the “the SICA”).

The main objective of the SICA was to determine the sickness and expedite the

revival of potentially viable units i.e. sick industrial company or closure of unviable units.

It was expected that by revival, idle investments in sick units will become productive and

closure would release the locked up investment in unviable units released for productive

use elsewhere. The SICA applied to companies both in public and private sectors owning

industrial undertaking.

The Central Government had amended the Companies Act, 1956 through the

Companies (Second Amendment) Act, 2002 by inserting Part VI A comprising of

sections 424A to 424L dealing with revival and rehabilitation of sick industrial

companies. Subsequently, the Sick Industrial Companies (Special Provisions) Repeal

Act, 2003 was enacted to repeal the SICA.

The main object of the 2002 Act, was constitution of the National Company

Appellate Tribunal (NCLT). However, the constitutionality of the tribunal was

challenged in various courts and recently in a case the apex court has held that the issues

with regard to the constitution of the tribunal and the areas of their jurisdiction need to be

given a fresh look and the matter deserves to be heard by a Constitution Bench57

. The

matter has been decided upholding the validity of the NCLT. The main issue is not

whether the judicial functions can be transferred to the tribunals, the issue is whether the

judicial functions can be transferred to the tribunals manned by persons who are suitable

or qualified or competent to discharge such judicial powers or whose independence is

suspected. The Supreme Court has answered this issue in partly positive and partly

negative terms. It has upheld the decision of the High Court that the creation of the

57

Union of India v. R. Gandhi (2007) 137 Comp Cas 689; 76 SCL 350

National Company Law Tribunal and National Company Law Appellate Tribunal and

vesting in them, the powers and jurisdiction exercised by the High Court in regard to

company law matters, are not unconstitutional.58

In this case, decided by the constitution

bench, the Supreme Court addressed important issues pertaining not only to company law

but also to constitutional law. 59

As the NCLT takes over the functions of High Court, the members should as

nearly as possible have the same position and status as high court judges. Only officers

who are holding the ranks of Secretaries or Additional Secretaries alone can be

considered for appointment as technical members of the NCLT.

With the proposition of setting up a NCLT by Companies Amendment Act, 2002,

Views started pouring in both supporting and opposing the move. While, on the one

hand, there was hope that this will pave way to a more effective mechanism in solving

the corporate disputes and also reduction of the huge backlog pending in the various

judicial bodies (like CLB, BIFR & AAIFR), High Courts and Supreme Court.

The power of the High Court to interfere with CLB‟s power was examined. The

court held that the CLB cannot grant interim reliefs pertaining to matters which were not

a subject matter of a petition. CLB did not have the power to extend time given by the

High Court for granting of reliefs. 60

In V.L. Sridharan v. Econo Valves P. Ltd., 61

deviating from Andhra Pradesh

High Court‟s 62

view, the Madras High Court held that the Act empowers the CLB to

decide about the competence of the person to file petition under section 397/398 of the

Act.

The underlying objective of constituting the tribunals is speedy justice by

avoiding a multiplicity of authorities and consolidating the jurisdiction and powers of the

CLB, BIFR/AAIFR and High courts. On the other side some viewed it as a threat to the

separation of powers, independence of judiciary and dilution of justice system. The five

58

2010(3) CTC 517 59

(2010) 100 SCL 142 291

Shree Ram Urban Infrastructure Ltd v. R.K. Dhall (2010) 153 Comp Cas 150 (Bom.)

61

(2010) 158 Comp Cas 505 62

B. Subha Reddy V. S.S. Organics Ltd (2009) 151 Comp cas 190

judges constitutional bench of the Supreme Court has upheld the legality of the

Companies (Second Amendment) Act, 2002 providing for the establishment of the NCLT

and NCLAT. The judgment paves the way to make the NCLT and NCLAT functional for

revival/ rehabilitation of sick industrial units, mergers/ amalgamations, reduction of

capital insolvency, winding up and liquidation of companies in a time bound manner63

.

The recent landmark judgment64

rested it all. It upheld the constitutionality of the said

amendment allowing the creation of NCLT and its appellate authority through mandating

certain changes in the structure and composition before the amendment becomes

operational.

It was also clarified that the tribunal was an alternate judicial forum and requires

least interference of the executive in its functioning. In this landmark judgment, the court

upheld the legislative competence of the Parliament to set up the NCLT and directed the

Parliament to modify the law relating to appointment of members to the tribunal.

Company law matters are considered to be technical in nature and require expert

knowledge to resolve it. Although the court gave green signal for the establishment of

tribunals for handling company law matters, the actual functioning of the tribunal would

depend on the proposed amendments in the Act.

Before the constitution of the tribunal, the Board for Industrial and Financial

Reconstruction (BIFR) and the Appellate Authority for Industrial and Financial

Reconstruction (AAIFR) continues to function in dealing with the sick industrial

companies. The SICA, 1985 was also amended by inserting two provisos in section 15

which restrain certain companies from making a reference to the BIFR and in certain

cases empower the creditors to move against the company whose reference is already

registered with the BIFR. With the establishment of BIFR, medium and large-scale

companies whose net worth has been eroded by 50 percent or more are obliged to report

this fact to the Board. The BIFR has been given wide-ranging powers in respect of

approval of rehabilitation packages and revival as well as change of management or

63

UOI v. R.Gandhi (2010) 96 CLA 222 (SC) 64

Union of India v. R. Gandhi, President, Madras Bar Association & Madras Bar

Association v. Union of India (UOI) (2010) 2 Comp LJ 577 (SC)

amalgamations with any other company or sale or lease of a part or whole of the

industrial undertaking or even winding up of the company. BIFR appoints an operating

agency which may be a public financial institution (IDBI, IFCI, ICICI or IRBI) or a

leading commercial bank to prepare a rehabilitation plan. SICA has hardly satisfied the

banks and financial institutions for recovery of dues. BIFR has been called the „Bureau of

Industrial Funeral Rites„. It is high time that we scrap the entire system.

BIFR deals with medium and large-scale sick industrial companies while for

sick companies in the small-sector, separate facilities are available. State Finance

Corporations and commercial banks will be asked to devise a scheme for the

rehabilitation of sick units in the small-scale sector and the assistance given by them for

the revival of such units will e eligible for refinancing by the Industrial Reconstruction

Bank of India (IRBI). IRBI is a principal reconstruction agency which provides

assistance for reconstruction and rehabilitation of sick industrial units.

The judicial nature of the BIFR proceedings makes it obligatory for the

parties to attend the hearing when notified to do so. It is also open to BIFR to specify any

one bank or financial institution as operating agency by a general or special order.

However, BIFR was not armed with powers to dispense with the consent to state

government and its agencies of banks and FIs. This seriously affected speedy

implementation of the sanctioned schemes. While the BIFR mechanism represents a very

important step towards tackling industrial sickness, its effectiveness has been marred by

many limitations- time-consuming, dilatory and frustrating procedures; the exercise

mainly being considered a financial exercise; marketing strategies and technological

improvements which are the two most critical ingredients of rehabilitation plans often

short-changed; concerned parties left to feel that they are not getting a fair treatment etc.

The operating agency has not always been efficient and the management too not very

obliging. Under the existing regulatory framework managements lacked the freedom and

flexibility. Therefore, basic changes are called for regulatory framework.

Directions were issued to the BIFR to examine the proposal of the existing

management for infusion of funds through a strategic investor. The petitioner in a writ

petition contended that the strategic investor was only infusing the funds and there was

no transfer of the management. The Delhi High Court held that there was no participation

by the strategic investor for transfer of shares and the change of management was only a

wrong presumption. 65

BIFR YEAR WISE PERFORMANCE AS ON 30.09.2010

Year Total Cases

Registered

during the

Year

Cases Disposed off during the year

Cases under

Revival

Cases

Revived

Winding up

Recommended

Dismissed

1987 311 0 0 0 8

1988 298 0 1 12 29

1989 202 0 1 31 77

1990 151 1 3 42 45

1991 155 1 5 47 27

1992 177 3 7 30 43

1993 152 3 13 63 59

1994 193 2 38 77 48

1995 115 6 25 61 29

1996 97 6 92 83 25

1997 233 2 34 81 21

1998 370 5 21 49 36

1999 413 4 11 61 72

2000 429 8 37 142 156

2001 463 10 47 113 126

2002 559 21 34 107 212

2003 430 8 42 99 190

2004 399 6 29 50 70

2005 180 17 71 19 180

Year Total Cases

Registered

during the

Year

Cases Disposed off during the year

Cases under

Revival

Cases

Revived

Winding up

Recommended

Dismissed

65

Raam Tyres Ltd v. Appellate Authority for Industrial and Financial reconstruction

(2010) 155 Comp Case 80 (Del.)

2006 118 63 91 22 296

2007 79 66 81 19 205

2008 57 80 64 13 130

2009 64 192 82 19 125

2010 43 690 70 22 118

TOTAL 5687 1199 899 1262 2327

Causes of Sickness

Some industries are born sick and some industries become sick due to a number

of causes and it varies from case to case. In India , the causes of sickness are classified as

under :

A. Internal Causes - These factors are within the internal control of management as

1. Planning which includes

(i) Technical viability i.e. inadequate technical know-how, locational disadvantage,

outdated production process

(ii) Economic viability i.e. high cost of inputs, uneconomic size of project, under

estimation of financial requirements, unduly large investment in fixed assets,

over-estimation of demand.

2. Implementation i.e. cost over-runs resulting from delays in getting licenses/sanctions

and mobilization of finance.

3. Production which includes Production management i.e. inappropriate product mix,

poor quality control, high cost of production, lack of adequate time and adequate

modernisation, high wastage, poor capacity utilisation. Labour management i.e.

excessive high wage structure, inefficient handling of labour problems, excessive

manpower, lack of skilled staff.

External Causes –

Infrastructural bottlenecks i.e. Non-availability/irregular supply of critical raw

materials or other inputs, chronic power shortage, transport bottlenecks.

Government control, policies etc. i.e. Government price controls, fiscal duties,

abrupt changes in Government policies, procedural delays on the part of the

financial/ licensing/other controlling or regulating authorities. Those are banks, RBI,

financial institutions, Government Departments, licensing authorities, MRTP Board

Financial Institution Related Factors i.e. delay in providing finance, inadequate

working and/or long-term capital, inexpert assessment of the client‟s finance

proposal.

The government can take some effective steps particularly towards mitigating the

ineffective management of the units. It should not hesitate to penalize the management

that are found to have willfully turned the units sick. Apex financial institutions such as

IDBI, IFCI, ICICI and nationalised commercial banks are also in a better position to

prevent industrial sickness. The financial institutions can prevent sickness by undertaking

a continuous monitoring which usually takes the form of periodic financial reports, desk

officer for client unit, institutional nominee on the board, periodic inspections etc.

Careful project appraisal is also required coupled with careful scrutiny of technology,

plant size, choice of location, quality of management etc. There may be incentive

schemes for units which remain healthy, in the form of interest relief and in other cases,

imposition of penal interest for avoidable project cost escalation, false sale or profit

projections.

Government accepted the recommendations of the Tiwari Committee with some

modifications and the Sick Industrial Companies (Special Provisions) Act, 1985 was

enacted. But there are some problems relating to SICA:-

1. Procedural Delay – There is some procedural and legal delay in proceedings before

BIFR as it takes one year to determine whether a company is sick and further one

year to formulate revival package. Consideration of the same also takes time by the

banks and FIs. By the time decisions are taken and communicated, it has lost its

viability resulting in failure of revival schemes even after sanction.

2. Lack of timely commencement of proceedings – Under the existing law, a

company can approach the BIFR for adopting steps for its revival, on erosion of its

entire net worth. The erosion of the entire net worth is too late a stage to attempt

restructuring as by the time the net worth is eroded the company is too sick to be

revived.

3. Misuse of protection against recovery proceedings – Under the SICA, an

automatic stay operates against all kind of recovery proceedings against all the

creditors once the reference filed by the company is registered. Erring debtors have

misused the SICA to seek protection and moratorium from the recovery proceedings

. The provisions for suspension of legal proceedings are misused.

4. Lacks of extra territorial jurisdiction – Insolvency laws do not have any extra-

territorial jurisdiction, nor do they recognise the jurisdiction of foreign courts in respect

of branches of foreign banks operating in India. If a foreign company is taken into

liquidation outside India, its Indian business will be treated as a separate matter and will

not be automatically affected unless an application is filed before an insolvency court for

winding up of its branches in India.

BIFR is unsuccessful to serve the purpose with which they are set up. Over-

riding effect of SICA –

The Supreme Court in a case considered the question as to whether the company

court can sanction a scheme of arrangement in relation to Pharmaceuticals Products of

India Ltd under sections 391-394 of the Companies Act, 1956 where proceedings were

pending before the AAIFR in relation to PPIL66

.

During the pendency of proceedings before the AAIFR, PPIL also filed a scheme

of arrangement between some of its creditors and PPIL before the company court. The

company court approved this scheme. The Supreme Court in an appeal filed by Tata

Motors Ltd, inter alia, against the sanctioning of the scheme, followed an earlier

judgement of the Supreme Court, wherein it was held that the Sick Industrial Companies

(Special Provisions) Act, 1985 (SICA) is a special statute and a complete code in itself67

.

The jurisdiction of the company court would arise only when the BIFR or AAIFR,

recommends winding up of the company after arriving at the conclusion that the

company cannot be revived.

66

Tata Motors Ltd v. Pharmaceuticals Products Of India Ltd (PPIL) (2008) 144 Comp

Cas 178 67

NGEF Ltd. v. Chandra Developers P. Ltd (2005) 127 Comp Cas 822; (2005) 8 SCC

219

Legal process under the Companies Act

1. Reference to the Tribunal – When an industrial company has become a sick

industrial company, the board of directors of such company shall make a reference to

the tribunal, prepare a scheme of its revival and rehabilitation and submit the same to

the tribunal along with an prescribed application. Government company may with

the prior approval of the Central Government or a State Government, as the case

may be, make a reference to the tribunal.

SICA Section 22,16 - Jurisdiction of Civil Court – Ouster of Money suit filed against

company for its neglect to pay price of articles supplied – Company had become sick

industry – Reference to BIFR pending since prior to institution of civil suit – suit was

filed without prior consent of Board – Receipt of a reference must be held to be starting

period for proceeding with enquiry in terms of section – 16 of SICA – Civil Court had no

jurisdiction to entertain suit68

.

The Calcutta and Madras High Courts, have held that a reference under section

15 of the SICA will continue to remain pending even though a company has been

declared to be a sick industrial company by the BIFR and financial institutions can

initiate measures under the SARFAESI Act even when a scheme for rehabilitation is

under way69

.

While such measures under the SARFAESI Act, if permitted, may enable

financial institutions to recover public money, it could have bad consequences for

companies being rehabilitated under such schemes, especially if the secured creditors of

such companies have difference of opinion. If such measures are allowed under the

68

AIR 2009 SC 1947 (from Karnataka) Dr. Mukundakam Sharma, JJ Civil Appeal No.

3603 of 2009 (arising out of SLP No. 15301 of 2008) dated 15.05.2009 M.D. Bhoruka

Textiles Ltd v. M/s Kashmiri Rice industries. 69

Imperial Tubes P. Ltd v. Board for Industrial and Financial Reconstruction and

Golden Weaving Mills P. Ltd. v. Tamil Nadu Industrial Investment Corporation Ltd

(2010) 159 Comp Cas 596 (2007) 138 Comp Cas 336

SARFAESI Act, the spirit of the SICA, the revival and rehabilitation of the sick industrial

companies, may be defeated. A reference under sub-section (1) or sub-section (3) shall be

made to the tribunal within a 180 days from the date on which the board of directors of

the company or the Central Government or the RBI or a State Government or a public

financial institution or a state level institution or a scheduled bank, as the case may be

come to know, of the relevant facts giving rise to causes of such reference or within 60

days of final adoption of accounts, whichever is earlier. The tribunal may on receipt of a

reference under sub-section (1) pass an order as to whether a company in respect of

which a reference has been made has become a sick industrial company and such order

shall be final.

1. Inquiry – The tribunal may make such inquiry as it may deem fit for determining

whether any industrial company has become a sick industrial company either upon

receipt of a reference with respect to such company under section 424A.

2. Suitable order by Tribunal – If after making an inquiry under section 424B, the

tribunal is satisfied that a company has become a sick industrial company, the tribunal

shall after considering all the relevant facts and circumstances of the case, by an order

in writing, whether it is practicable for the company to make its net worth exceed the

accumulated losses or make the repayment of its debts referred to in clause (b) of sub-

section (2) of section 424A within a reasonable time.

3. Preparation of sanction – Where an order is made under sub-section (3) of section

424C in relation to any sick industrial company, the operating agency specified in the

order shall prepare as expeditiously as possible and ordinarily within a period of 60

days from the date of such order, having regard to the guidelines framed by the

Reserve Bank of India in this behalf, a scheme with respect to such company

providing for any one or more of the following measures, namely

(i) the financial reconstruction of such industrial company

(ii) the proper management of such industrial company by change in or

takeover of the management of such industrial company

(iii) the amalgamation of –(a) such industrial company with any other

company (b) any other company with such industrial company.

Provided that the tribunal may extend the said period of 60 days to 90 days for

reasons to be recorded in writing for such extension.

4. Rehabilitation – A fresh procedure for revival & rehabilitation of sick companies

has been provided under the proposed Act. After the determination of a sick

company, an application made on interim administrator is appointed to convene a

meeting of creditors and in absence of a draft scheme of revival, the interim

administrator takes over the management of the company to protect and preserve the

assets of the sick company and for its proper management. Interim administrator

would appoint a Committee of Directors. Either a company administrator may be

appointed on the basis of interim administrator‟s report or a winding up can be

initiated.

Whether the scheme relates to preventive, ameliorative, remedial and other

measures with respect to the sick industrial company, the scheme may provide for

financial assistance by way of loans, advances or guarantees or reliefs or concessions or

sacrifices from the Central Government, a State Government, any scheduled bank or

other bank, a public financial institution or State level institution or any institution or

other authority to the sick industrial company.

The Rajasthan High Court acknowledged the board of industrial and financial

reconstruction (BIFR) as an expert body to deal with rehabilitation of the sick company70

.

The court held that it couldn‟t interfere if the BIFR had not given any green signal for the

revival of the sick unit. It also held that the jurisdiction of the company court in this

matter was not appellate but restricted to that of overseeing that the meetings were

properly held and the voting was properly exercised.

The Bombay High Court held that there was no inconsistency between the

provisions of sections 15 to 19 of the Sick Industrial Companies (Special Provisions) Act

where a registered sick company can be provided with a package for rehabilitation to

70

Modern Syntex Ltd, In re, (2009) 148 Comp Cas 843 (Raj)

make the company viable and sections 391 to 394 of the Companies Act71

. The latter

provisions similarly provide for rearrangement of the company‟s business by way of

granting amalgamation, demerger and/ or by sanctioning of a scheme of compromise

which also has the very same purpose and object of reviving the company.

Scheme enforceable only when company complies with its obligations – A company

was under a scheme of rehabilitation formulated by the BIFR. It sought the withdrawal of

the winding up proceedings by the creditors as provided under the scheme. The company

relied on the provisions of section 18(8) of the Sick Industrial Companies (Special

Provisions) Act that made the scheme of rehabilitation binding on the sick industrial

company, its shareholders, creditors, guarantors and employees. The court, however,

refused the application on the ground that the company had breached the terms of the

scheme, which stipulated payments to the creditors concerned. Thus, it could not

implement the provisions of the scheme until its obligations were performed72

.

Expeditious disposal of assets - Now the OL shall dispose of all the assets & collect the

amount payable to the company from the debtors and contributories within 60 days of his

appointment. Final report has to be made by the OL to the tribunal.

The Madhya Pradesh High Court stated that it was the duty rather than legal

obligation of the BIFR to ensure expeditious disposal of the reference (registered one

way or the other at an early date) so that both the creditors and the company should know

their fate to recover the outstanding dues in accordance with law in the event of winding

up of the company73

.

5. Winding up – Where the tribunal, after making inquiry under section 424B and after

consideration of all the relevant facts and circumstances and after giving an

71

National Organic Chemical Industries Ltd v. NOCIL Employees Union (2005) 126

Comp cases 922 (Bom) 72

Mafatlal Industries Ltd v. S. A. Chemicals, (2005) 6 Comp LJ 293 (Guj) 73

Laxmichand Daya Bhavi Exports Co. v. Prestige Foods Ltd (2009) 149 Comp Cas 235

(MP)

opportunity of being heard to all the concerned parties, is of the opinion that the sick

industrial company is not likely to make its net worth exceed the accumulated losses

within a reasonable time while meeting all its financial obligations and that the

company as a result thereof is not likely to become viable in future and that it is just

and equitable that the company should be wound up, it may record its findings and

order winding up of the company.

BIFR controls properties until winding up

The Supreme Court considered the interesting issue of the respective jurisdiction

of the BIFR and the company courts where the petition for winding up of the company is

on a reference by the BIFR/ AAIFR74

. The issue arose on account of the sale of the

company‟s assets under the superintendence of the company court, prior to the winding

up. The court held that the BIFR and the company court do not have concurrent

jurisdiction over the company. Till the company remains sick, having regard to the

provisions of section 20(4) of the Sick Industrial Companies (Special Provisions) Act,

1985, the BIFR alone would have jurisdiction as regards the sale of the assets of the

company, until an order of winding up is passed. This conclusion was arrived at on the

ground that the provisions of the Sick Industrial Companies (Special Provisions) Act

prevailed over the provisions of the Companies Act.

It is submitted that the issue could have been resolved by reference to the powers

of the company court in the course of hearing a petition for winding up under the

Companies Act itself. The companies Act does not vest in the company court the

properties of company until either an order for winding up or for the appointment of a

provisional Liquidator is passed.

74

NGEF v. Chandra Developers (P) Ltd., (2005) 6 Comp LJ 203 (SC)

Section 22 does not mean proceedings filed are not pending

A company was registered before the BIFR as a sick industrial company75

. The

court held that the notice to be given in an application for stay of proceedings under

section 391(6) to creditors who had filed winding up proceedings would not be affected

by section 22 of the Sick Industrial Companies (Special Provisions) Act. The expression

“pending” in rule 71 of the Companies (Court) Rules, 1959 was to be given a liberal

interpretation and suspension of proceedings under section 22 of the Sick Industrial

Companies (Special Provisions) Act would not mean that the winding up proceedings

were not pending in the court.

Role of Official Liquidator in winding up proceedings

The Supreme Court gave due importance to the role of official liquidator in winding

up proceedings and virtually laid down that without the notice of the official liquidator no

action for recovery of debt can be initiated by any tribunal or court76

. The company was

ordered to be wound up and the OL was directed to take charge of the assets of the

company-in-liquidation by the High Court of Bombay. The OL applied for directions to

the company court and sought permission to get the property valued by a valuer from the

panel of valuers of the OL and to sell the properties are public auction.

The issue before the Supreme Court was whether the OL representing a ranked

secured creditor working under the control of the company court could be kept out of the

process of recovery of debt recovery tribunal?

The court observed that the conflict, if any, is in the view that the debt recovery tribunal could sell the properties of the company in terms of the Recovery of Debts Act.

The question was whether the liability with respect to money due from a company in

liquidation towards could be fastened on an independent corporation77

. On review the

application and appeal, the Supreme Court held that under section 446 of the Companies

75

Sharp Industries Ltd., In re. (2005) 3 Comp LJ 221 (Bom) 76

Rajasthan Financial Corporation & Another v. Official Liquidator & Another 77

Punjab State Industrial Development Ltd v. PNFC Karamchari Sangh (2006) 4 SCC

367

Act, the powers of the company judge under liquidation might be wide but that did not

empower him to pass an order making a distinct and separate corporation, a third party,

liable for the liabilities of the company in liquidations.

Financial Restructuring

Cash crunch is an inescapable problem. The preparation of cash flow projections

would highlight „how much‟ cash and when it is required. Cash generating and

conserving, leading to positive cash flow, is the focal point during survival stage. The

implementation of a nursing programme does not mean merely pumping in of additional

funds but more particularly cooperation from all parties concerned viz., the bankers,

creditors, the government, workers, management and financial institutions.