RULES SIDDHARTH Vs. SPECTRAPACKS (P) LTD.

JUDGEMENT

(1.) THIS is a petition filed under Sections 397 and 398 of the Companies Act, 1956 (hereinafter to be referred as 'the Act') seeking to set aside the allotment of 21,000 equity shares of Rs. 100 each on April 28, 2005, to the fourth Respondent and consequential reliefs.

(2.) THE averments made in the petition can be briefly extracted as follows: The first Respondent is Spectrapacks (P) Ltd., which was incorporated in the year 1971 as a private limited company for the purpose of manufacturing and dealing in packing materials and packaging equipment. The original promoters were Seshasayee Brothers. During January, 1988, the company was taken over by the Petitioners and Mr. I.R. Coelho (eldest brother of Respondents Nos. 2 and 3, and since deceased), representing the Respondents. The first Petitioner was an employee of Respondent No. 1 company even when it was managed by the Seshasayee group. He was instrumental in the takeover of Respondent No. 1 company from the Seshasayee group. Taking into account this fact, the Petitioners were issued 1,457 shares out of a total 2,974 shares which comes to 49 per cent of the shareholdings. Respondents Nos. 2 to 4 held the remaining 51 per cent of the shareholding which was on account of the infusion of funds by them. The first Petitioner stayed on in the company at the instance of the Coelho family. The second Petitioner is the wife of the first Petitioner. The second Petitioner is related to Respondents Nos. 2 and 3. Respondents Nos. 2 and 3 are both directors of the company and they represent the majority shareholding. The first Petitioner had a significant role in the smooth control and management of the company. The Petitioners and Respondents Nos. 2 to 4 have maintained their shareholding pattern and there has been no reason to bring about a change in the said pattern. There was a clear understanding between the parties that the parity in the shareholding would not be disturbed without mutual agreement. Respondent No. 1 is a closely held family company ever since its take over in 1988. The authorised share capital of the company is Rs. 24 lakhs consisting of 24,000 equity shares of Rs. 100 each. As per the annual return filed with the Registrar of Companies, for the financial year ended 31 March, 2005, the issued, subscribed and paid -up share capital is Rs. 2,97,400 divided into 2,974 equity shares of Rs. 100 each. The Petitioners are aggrieved by preferential allotment of 21,000 equity shares of Rs. 100 each made on 28 April, 2005, to Silver Cloud Estates (P) Ltd., the fourth Respondent herein. This allotment was made without offering shares to other shareholders, and the parity is thus disturbed. It is an act that is completely lacking probity and an act of oppression of minority shareholders. This additional issue has the effect of reducing the Petitioners' shareholding from 49 per cent to 6 per cent, causing utter prejudice to the Petitioners. Their shareholding comes below the statutory subscription of 25 per cent, which is required to block a special resolution. The allotment was made without notice to the Petitioners, without any explanation for the violation of the parity maintained for the past 15 years. Respondents Nos. 2 and 3 have a shareholding interest and management control in the fourth Respondent -company. They are mismanaging the affairs of the company for their own benefit. Certain working capital advances made by the fourth Respondent had been unfairly used to get some unfair gains. While allotting 21,000 shares to the fourth Respondent, the Respondents have not left any scope for allotment to the Petitioners. Apart from violating the provision under Section 81 of the Companies Act, 1956, the Respondents are taking undue advantage of the medical condition of the first Petitioner. As per the resolution passed in April, 2005, 21,000 shares have been allotted, without notice to the Petitioners. There was no meeting of the shareholders before the above allotment. The allotment was made in such a way that it remained within the total authorised capital in order to avoid a special resolution being passed for amendment of the constitutional documents. The board of directors in a closely held company owes a very high duty to the shareholders and to the company. The impugned allotment without notice is an act of fraud on the Petitioners and the company. The above actions are highly oppressive and liable to be struck down. The company owns an immovable property (Site No. 36 in Rajaji Nagar Extension, Industrial Suburb, Bangalore -22) and machinery thereon. It has a high monetary value as per the real estate market in Bangalore. Since the Respondents have disturbed the parity of shareholding, it is clear that they are anxious to dispose of the property of the company. The first Petitioner was actively involved in the management of the company till 2003. In 1988, the Petitioner was diagnosed as suffering from Parkinson's disease, consequent to which he is not attending to the affairs of the company since 2003. Despite the efforts put in by the first Petitioner the company is in loss. Since 2007, the first Petitioner is confined to his house alone. Hence, he could not follow up the affairs of the company on a regular basis. The Respondents took advantage of the ailment of the first Petitioner and did not give notice of any annual general meeting. In view of his ailments, he even proposed the sale of the company and its assets, but the Respondents are postponing the settlement. The loans and advances made by the fourth Respondent have placed the shareholding of the Petitioners on a lower pedestal. The Petitioner was not informed about the allotment of shares to the fourth Respondent. This fact was revealed when the Petitioner's brother came over from the USA and attempted for a settlement with Respondents Nos. 2 and 3. During the settlement talk he was provided with an annual report of the company which indicated that the number of issued shares of Respondent No. 1 company remained at the original 2,974 shares. The allotment of shares to the fourth Respondent was revealed after conducting a search in the office of the Registrar of Companies, in February, 2008. The illegal allotment is not included in the annual return made up to 30 September, 2005. There was a formal agreement dated 18 February, 1987, between the first Respondent and the fourth Respondent in respect of borrowing funds. The Respondents have made gains out of the arrangement between the two companies. There are baseless claims for compounded interest and unreasonable rate of interest. The Petitioners are entitled to a fair and proper valuation of shares of Respondent No. 1 company and an honourable and legitimate exit. The company is not run in a viable and lucrative manner. The principal asset of the company is its immovable property and machinery. The Petitioners are entitled to a proper valuation of their shareholding based on a net asset value method: Hence the petition.

(3.) SPECTRAPACKS was originally owned by Seshasaiyee Brothers and the Petitioner was an employee as president from 1 November, 1985, onwards, on a monthly remuneration of Rs. 3,000 per month. In the context of Spectrapacks being faced with liabilities, the promoters were on the look out for buyers, and the Coelhos entered into an agreement dated 21 January, 1988, through the fourth Respondent (hereafter to be referred as Silver Cloud), as per which Silver Cloud agreed to purchase the entire share capital of Spectrapacks upon such terms and conditions as incorporated in the agreement. Since the company had huge liabilities, it was not a great value to buy. Silver Cloud took over Spectrapacks on 21 January, 1988, as a going concern for a consideration of Rs. 1,25,000. The Petitioners are neither parties to the agreement nor referred to in the agreement. The journal entries in the books of account of Silver Cloud evidence the payment of consideration: (i) in respect of the payments towards transfer of shares to Silver Cloud, and (ii) payment towards placing shares nominally in the name of the Petitioners. Out of 2,974 shares, Silver Cloud and Respondent No. 2 and Respondent No. 3 retained 1,517 equity shares (51per cent of the paid -up share capital) and 1,457 equity shares (49 per cent) in the name of the Petitioners. The Petitioners held the shares in trust for the benefit of the Respondents. The Petitioners never reimbursed the consideration to Silver Cloud. The intention was that the entire control of the company is to vest with the Coelhos. The Petitioners were not even given a board seat at any time, nor invited to any board meeting. The second Petitioner who is the wife of the first Petitioner is related to the Coelhos. At the request of the first Petitioner, he was allowed to continue as an employee of the company. The first Petitioner was appointed as the factory manager of the company. The company continued to suffer heavy losses every year after its take over. In the circumstances even the expenses incurred by the Coelhos as directors of Spectrapacks was not reimbursed. Before the take over of the company, a memorandum of understanding was entered into on 11 February, 1987, between the original promoters and Silver Cloud, as per which Silver Cloud agreed to provide advance moneys to Spectrapacks for its day -to -day operations, carrying interest at 15 per cent. per annum. There was another agreement on 18 February, 1987, between Spectrapacks and Silver Cloud that the advance money made by Silver Cloud would be repaid after three years, with 15 per cent interest per annum, payable in sixteen quarterly instalments. It was agreed that the interest would be paid promptly failing which interest will be compounded. The agreement further provided that second charge will be created on the block assets of Spectrapack in favour of Silver Cloud. Based on the above agreements Silver Cloud continued advancing money and the total amount advanced as on 31 March, 2004, comes to Rs. 52,47,420 (Rs. 64,00,360 as on 31 December, 2008). Spectrapack was also liable to pay interest at 15 per cent per annum, to be compounded annually and the interest payable as on 31 March, 2004, amounts to Rs. 4,18,17,667. The total liability of Spectrapack to Silver Cloud as on 31 March, 2008, is Rs. 7,43,43,172. At any point of time Spectrapack could repay any portion of principal or interest to Silver Cloud. Spectrapack also borrowed from the State Bank of India, Bangalore on the security of the block asset of the company and personal guarantee of Respondent No. 2 and Respondent No. 3. The accounts with the bank also became irregular and the bank had asked the company to regularise the account position. When Spectrapack was unable to operate in a viable manner under the management of the first Petitioner, he even resorted to sell the machines of the company without the authority of the board. At this stage, on the advice of the first Petitioner, it was decided to sell the land of the company as industrial land at a price of Rs. 520 per sqft. The buyers were identified by the first Petitioner, but the sale did not go through. If the sale had been effected it would have resulted only in a realisation of sale proceeds of Rs. 2 crores which would have been bearely sufficient to discharge the liabilities to the bank, statutory creditors, workers, sundry creditors and partial discharge of the liability to Silver Cloud, which would have compelled the Silver Cloud to forgo substantial portion of the interest, and also the shareholders could not realise any portion of their investments. The first Petitioner by their letter dated 22 August, 2003, intimated the bank that the only way to discharge the liabilities is by way of sale of land and machineries of the company and had sort the assistance of the bank for selling the land. While the company was facing such critical financial slow down, on 30 September, 2003, the first Petitioner abandoned the company without handing over the charge to the persons nominated by the promoters. The third Respondent had, by letter dated 1 October, 2003, called upon the first Petitioner to hand over proper charge of the affairs of the company, but without any response. At this juncture, the Respondents had to intervene, and by their letter dated 27 October, 2003, Respondent No. 3 informed the bank that the excess drawings made by the first Petitioner would be regularised and also invest fresh stock to regularise the accounts and find out a buyer for the company's property. But that effort did not materialise for want of buyers. Besides, such distress sale would not have saved the company. On 21 April, 2004, the bank classified the accounts of Spectrapack as non performing asset (NPA), with a heat of legal action if payments are not made within 15 days. In view of classifying the accounts as NPA the bankers would have taken possession of the properties of the company and brought it for distress sale. Besides, the personal guarantees of the Coelhos were also at stake. Classification as NPA would also put the name of the Coelhos in Credit Information Bureau (I) Ltd. default list due to which the Coelhos and their whole group companies would be prevented from availing any credit facility from any bank. Thus apparently Spectrapack and the Coelhos were in a very critical situation and needed a solution to find out means to refund the bank's liability and to salvage the company and its properties and also the personal credibility of the Coelhos. In addition, Silver Cloud was facing acute recession in plantation industry, and their account position with the bank was not regular, indicating a classification of its account as NPA. The bankers were asking Silver Cloud to recover the unsecured loans and advances made to Spectrapack. The Silver Cloud could not find any fund for meeting the emergent requirement of Spectrapack. Faced with no option the Coelhos approached the State Bank of India and sought a personal loan on the security of personal properties of the Coelhos (3 valuable apartments in Bangalore and a property in Gudalur), receivable of the Coelhos, personal guarantee of all family members of the Coelhos, etc., and availed a loan of Rs. 1.25 crores, out of which Rs. 25 lakhs was passed on to Spectrapack for discharging its liabilities to the State Bank of India. The Coelhos did not agree in putting further debt into Spectrapack because the existing debt or any portion of it had not been repaid over a long period. The Petitioners cannot compel Silver Cloud to lend further fund to Spectrapack. In the above circumstances, the Silver Cloud opting to invest the funds as shares cannot be categorised as unconscionable. In the above circumstances, the unissued share capital of the company (21,000 equity shares) was allotted to Silver Cloud at par. The net worth of the Spectrapack taking the guideline value of the immovable properties of Spectrapack on the one hand and also taking note of the liability of Spectrapack to Silver Cloud was in the negative. In the above background, the Silver Cloud being a holding company of Spectrapack and the entire capital being equitably owned by the Coelhos, it was decided to take the allotment at par and not at a discount. The allotment of shares was filed with the Registrar of Companies and the annual return for the year 2006 -07 also disclosed the changes in capital.