IN THE HIGH COURT OF KERALA AT ERNAKULAM
Co.Appeal.No. 4 of 2004()
1. K.SUBRAMONY, KERALA FINANCIAL
... Petitioner
Vs
1. THE OFFICIAL LIQUIDATOR,
... Respondent
For Petitioner :SRI.M.PATHROSE MATTHAI (SR.)
For Respondent :SRI.K.MONI
The Hon'ble MR. Justice C.N.RAMACHANDRAN NAIR
The Hon'ble MR. Justice V.K.MOHANAN
Dated :02/01/2009
O R D E R
C.R.
C.N.RAMACHANDRAN NAIR &
V.K.MOHANAN, JJ.
....................................................................
Company Appeal Nos.4,5,6,7,8&9 of 2004
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Dated this the 2nd day of January, 2009.
JUDGMENT
Ramachandran Nair, J.
The connected appeals are filed by some of the Directors of the
company in liquidation by name Malabar Phyto Chemicals, who are
convicted and sentenced by the Company Court for offences
punishable under Sections 454(5), 538(1)(c) and 541(1) of the
Companies Act. We have heard Senior counsel Sri.Pathros Mathai
appearing for the appellants and Sri.C.K.Mony appearing for the
Official Liquidator.
2. The specific case of the appellants is that they were full time
employees of the financial institutions by name Kerala Financial
Corporation Ltd. and Kerala State Industrial Development Corporation
Ltd. and were nominated by these Corporations to the Board of
Directors of the company in liquidation in terms of Section 27 of the
State Financial Corporations Act, 1957 (hereinafter called “the SFC
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Act”) and therefore, they enjoy immunity from the alleged offences
under Section 27(3)(b) of the said Act. Consequently their prosecution
and punishment for offences punishable under the Companies Act are
unauthorised is their contention. Counsel appearing for the Official
Liquidator contended that the appellants being Directors of the
Company in liquidation, answer the definition of “Officer” of the
company defined in Section 2(30) of the Companies Act and so much
so, they were rightly prosecuted and punished for the offences
punishable under Sections454(5), 538(1)(c) and 541(1) of the
Companies Act. Normally being Directors of the company in
liquidation appellants are liable to be proceeded against for the
offences referred above. However, the only question to be considered
is whether they are entitled to immunity from prosecution under
Section 27(3)(b) of the SFC Act. In order to consider the claim, we
have to necessarily consider the scope of Section 27 of the SFC Act
and for easy reference we extract the said Section hereunder:
“27. Power to impose conditions for accommodation:-
(1) In entering into any arrangement under Sec.25 with an
industrial concern, the Financial Corporation may impose
such conditions as it may think necessary or expedient for
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protecting the interests of the Financial Corporation and
securing that the accommodation granted by it is put to the
best use by the industrial concern.
(2) Where any arrangement entered into by the
Financial Corporation with an industrial concern provides
for the appointment by the Financial Corporation of one or
more directors of such industrial concern, such provision
and any appointment of directors made in pursuance thereof
shall be valid and effective notwithstanding anything to the
contrary contained in the Companies Act, 1956(1 of 1956),
or in any other law for the time being in force or in the
memorandum, articles of association or any other
instrument relating to the industrial concern, and any
provision regarding share, qualification, age-limit, number
of directorship, removal from office of directors and such
like conditions contained in any such law or instrument
aforesaid shall not apply to any director appointed by the
Financial Corporation in pursuance of the arrangement as
aforesaid.
(3) Any director appointed in pursuance of sub-
section(2) shall–
(a) hold office during the pleasure of the Financial
Corporation and may be removed or substituted by any
person by order in writing by the Financial Corporation;
(b) not incur any obligation or liability by reason only
of his being a director or for anything done or omitted to be
done in good faith in the discharge of his duties as a director
or anything in relation thereto;
(c) not be liable to retirement by rotation and shall not
be taken into account for computing the number of directors
liable to such retirement.”
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3. The scheme of the Companies Act provides for management of
the affairs of the company by the Board of Directors of the company
constituted in accordance with the provisions of the Companies Act,
Memorandum and Articles of Association of the company. However,
Section 27(1) of the SFC Act authorises a financial institution to enter
into arrangement with the company to which it extends financial
assistance, to appoint Directors to the Board of the company which is
to protect the interest of the financial institution. It is clear from sub-
section(1) of Section 27 itself that the purpose of appointment of
directors by a financial company is to protect it’s interest and not for
any other purpose. In fact, by virtue of sub-sections (2) and 3(c) of
Section 27, Section 27 of the SFC Act is given precedence over the
provisions of the Companies Act, the Memorandum and Articles of
Association of the company in regard to appointment, share-
qualification, age limit, provision for retirement etc. of the Directors.
In other words, the appointment of Directors representing the interest
of a financial institution in the Board of a company under Section 27 is
essentially contractual and the provisions of the Companies Act,
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Memorandum and Articles of Association on share qualification, age
limit, removal, retirement by rotation etc. applicable to other Directors
of the Company do not apply to any Director appointed by a financial
institution under sub-section (1) of Section 27 of the SFC Act. Further,
it is provided in clause 3(a) of Section 27 that the Director appointed
by a financial institution to the Board of Directors shall be removed or
substituted by order in writing by the Financial Institution. This
provision makes it clear that the Director representing financial
institution holds office at the pleasure of the financial institution and it
is for such institution to withdraw him or to substitute him by another
person, if they so desire, by order in writing. Sub-section 3(b) of
Section 27 provides immunity to a Director appointed by a financial
institution for anything done or omitted to be done in good faith in the
discharge of his duties as a Director or in relation thereto. The purpose
of this clause is to protect nominee Directors appointed by financial
institutions from being proceeded against for acts or omissions done in
good faith in the discharge of their duties as Directors of the company.
Even though sub-section 3(b) of Section 27 is by way of immunity for
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acts and omissions, counsel for the Official Liquidator rightly pointed
out that the immunity is not absolute. The acts and omissions
protected are only things done or omitted to be done in good faith in
the discharge of his duties as a Director. As already stated, a Director
appointed by a financial institution to the Board of a company has to
predominantly protect the interest of the financial institution. Financial
institutions advance funds to the company by way of loans or they even
participate in the equity of the company. As a director representing the
Financial Institution, he is concerned about the application of funds by
the company, financial management etc. and he should ensure that the
company acts not to the detriment of the interest of the financial
institution Therefore, nominee director of a financial institution is not
engaged in regular management of the company such as maintenance
of books of accounts, filing of returns etc. which are routine works of
regular employees including whole time or working director. In fact it
is for the financial institution to oversee whether their nominee
Director acts in such a way to protect it’s interest and for his acts and
omissions, it is for the Financial Institution to take action depending on
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his terms of appointment or to remove him, if he is found unfit. In
other words, we are of the view that a nominee Director is not involved
in the routine management of the company and he cannot be assigned
any such work by the company except to be called to attend meetings
and to participate in the proceedings of the Board of Directors required
under the Companies Act and the Memorandum and Articles of
Association. So much so, Directors appointed by financial institutions
cannot be held responsible for acts and omissions which the officers of
the company including other members of the Board of Directors are
required to comply with. However, for any act or omission as a
director not done in good faith, even a Director nominated by a
financial institution under Section 27(1) of the SFC Act can be
proceeded against.
4. The next question to be considered is whether the appellants
being Directors appointed by financial institutions to the Board of
Directors of the liquidated company, can be proceeded against for
various offences referred above for which they are punished. The
offences covered by Section 454(5) is failure on the part of the
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Directors to file statement of affairs before the Official Liquidator
without any proper excuse. Liquidation is only winding up of the
company and the interest of the financial institution is only to see
whether in the distribution of assets on liquidation, they can retrieve
any amount. The nominee Director appointed by financial institution
under Section 27(1) has to protect the interest of the financial
institution which has advanced funds to the company. The company
obviously failed, whatever be the reason for the same, and the
appointment of the Director by financial institution did not serve the
purpose of protecting the interest in as much as it has also lost the
funds. We have already expressed our view that in the winding up
proceeding, the financial institution gets arrayed as a creditor and all
what they have to see is whether the funds of the liquidated company
are appropriated in accordance with law. Therefore, we are of the view
that the nominee Director has no role in the filing of statement of
accounts by the liquidated company before the Official Liquidator. So
much so, appellants as nominee Directors appointed by financial
institutions under Section 27(1) have immunity from proceeding
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initiated under Section 454(5) of the Companies Act.
5. The next offence alleged is under Section 541(1) of the
Companies Act wherein the Directors of the company were found to
have failed to maintain statutory registers, books of accounts and
records as specified in the Companies Act. Here again, we feel that
these are duties of employees and Directors in regular management of
the affairs of the company and the nominee Directors of financial
institutions are not supposed to involve in regular management and so
much so, they are not liable for offences punishable under Section 541
(1) of the Companies Act.
6. The last offence leveled against the appellants is under Section
538(1)(c) of the Companies Act for failure of the Directors to hand
over all the books of accounts, registers and other papers of the
company to the Official Liquidator even after repeated demands. Here
again, since the nominee Directors appointed by financial institutions
are not in the control of books of accounts or registers of the company,
they cannot be held guilty for failure to hand over these registers to the
Official Liquidator. The appellants are not charged with any overt act
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amounting to an offence under any provisions of the Companies Act.
On the other hand, allegation is only on their failure or omission to do
certain things, which as members of the Board of Directors, the
appellants were not bound to do. As already found, the omissions
alleged were not acts required to be done by the appellants as nominee
Directors of financial institutions and so much so, the offences alleged
are not maintainable against them. We, therefore, hold that the
conviction and sentence of the appellants for offences punishable under
Sections 454(5), 538(1)(c) and 541(1) of the Companies Act are
unauthorised and we, therefore, allow the appeals by setting aside the
impugned orders of the Company Court.
C.N.RAMACHANDRAN NAIR
Judge
V.K.MOHANAN
Judge
pms