Will the ministry of corporate affairs consider invoking the provisions of Section 396 of the Companies Act, 1956 to make recoveries for bank loan defaults?A new solution for recovering outstanding debt owed to public sector banks may have been discovered which may obviate the need for a recapitalisation plan of Rs 2 lakh crore announced by the government in October-November last year. It is...
Will the ministry of corporate affairs consider invoking the provisions of Section 396 of the Companies Act, 1956 to make recoveries for bank loan defaults?
A new solution for recovering outstanding debt owed to public sector banks may have been discovered which may obviate the need for a recapitalisation plan of Rs 2 lakh crore announced by the government in October-November last year. It is well known that the lifestyles of many defaulter promoters hasn’t gone down proportionately to the size of their defaults, having either gold plated their capital expenditures already or diverted their loans
elsewhere beyond their intended purpose. These “wilful defaulters” might well have met their match. In a recent judgment involving the NSEL exchange payment defaults, the Bombay High Court has sanctioned a merger between it and its holding company, 63 Moons Technologies Limited, under Section 396 of the Companies Act, 1956, (similar to Section 237 of the Companies Act, 2013), pursuant to an order of the ministry of corporate affairs (MCA) which gives it the power to do so, if it is “in public interest”. Without getting into the merits of the case, one of the distinct grounds (not solitary) on which MCA sought to force a merger between NSEL and its parent company is that the parent had the financial resources available to pursue recoveries and that the merger was “in public interest”. The MCA has ordered the amalgamation without adjudicating fraud or conferring the status of creditors on those people who claim to have lost money on NSEL.
Quite a quick fix.
MCA believed that it had adequate grounds to forcibly amalgamate an NSEL into 63 Moons. It has unquestionable grounds to do so for bank defaulter companies that have healthy group companies with the cash flows that banks desire most. MCA may now regularly invoke Section 396 in public interest for recoveries on the grounds that parent or group companies of loan defaulters have financial resources to service debts owed to public sector banks. Moreover, in its arguments, the MCA has claimed that group companies with some common directorships are “alter egos” of each other and therefore, it is justifiable that a debt obligation of one can be forcibly imposed on the other. All it needs is a simple merger order, with no other justification save and except that the MCA justifies it to be “in public interest”. This “solution” is nothing short of a miracle as it doesn’t require evidentiary trials of fraud or adhering to the time tested principles of independent corporate personality.
It needs to be seen whether the banking sector will make representations to the MCA and apply this important tool of forcing mergers with healthier companies within the same group to help sure recoveries for public sector banks instead of seeking recapitalisation of public sector banks from taxpayers’ money. Keeping in mind the stand taken, the banking sector may plead that loans availed of by corporate groups should be expected to be repaid, albeit by different companies within the same group. And, well, if they do not, merging of the healthy with the sick within the same group, and forced repayments may be another option available for recoveries. This miraculous solution doesn’t even need any adjudication. It’s a simple stroke of pen on a cyclostyled sheet of paper!
According to the judgment, so long as the number of shares and the voting rights thereon remain the same, preand
post-merger, regardless of the encumbrance or deterioration of net asset value imposed by a proposed merger, no shareholder is affected. The judgment further provides that Section 396 of the Companies Act, 1956, neither makes any reference to the market value nor to the economic value of the shares when it comes to the determination of the interests of a shareholder in or rights of a shareholder against a company. The erosion of book value of shareholders or their right to surplus on winding up are alien concepts for this “miraculous solution”.
Thus, to summarise, the banking sector may also make a representation to MCA to apply the provisions of Section 396 of the Companies Act, 1956 (similar to Section 237 of the Companies Act, 2013), to recover loans due to public sector banks which may turn out to be more cost-effective for the banks and also less timeconsuming. The question which remains to be answered is whether MCA will consider invoking the provisions of Section 396 of the Companies Act, 1956 (similar to Section 237 of the Companies Act, 2013), for making recoveries for bank loan defaults (even though such a step may result into another company having a distinctive identity and corporate existence to become a debt-ridden company from a debt-free one)? At the altar of such quick fix solutions, the sacrificial lamb is not just the concept of independent corporate personality and limited liability which is the foundation of company law and the first lesson taught in company law. It is the system which now seems to accept its inability to decide matters quickly. The resorting to outsource perceived delivery of justice to a government officer suggests exactly that. Who needs lengthy evidentiary trials when the government can use a “pick and choose” method to fix liability? I shudder to think what foreign investors will think of this move as it makes their investments susceptible to such miraculous, quick fix solutions. Worse, I am not sure what the future holds in store. Mob justice anyone?
Credit:- Business Standard