Author name: CBCL

[By Suvam Kumar & Harsha Menon ] The authors are Second and First-year students respectively, of NLU Jodhpur. Introduction: With the advent of globalization and boom in India’s economy, as ease of doing business has escalated to a great rank, it is very much imperative to have an efficient regime governing the corporate affairs. Keeping the abovementioned view in mind, the Companies Act, 2013 [“Act”] was enacted to ensure reliability and confidence in the corporate world. One such important concept which requires more importance is related party transactions. In the previous Act of 1956, this concept was not dealt specifically. However, with the increasing challenges in the field of corporate affairs, related party has been specifically dealt under Section 188 of the Act. However, the concept of related party transactions is still shrouded under ambiguity and nebulousness. The authors have tried to highlight the existing paradox and vagueness in the law related to related party transaction with the help of various judicial precedents. What is related party transactions: Before understanding related party transactions, we must know who is a related party. A related party means any person who is relative of the director or the key managerial personnel in a company.[i]Section 188 of the Act bars the related party transactions except when such transaction is made after taking consent from the Board of Directors or when the transaction is an arm’s length transaction.[ii]Section 188(1) of the Act specifies seven types of transactions which require prior approval of the Board of Directors.[iii]Among these, the transactions related to the appointment of related party to an office of profit has been always the most contentious and has raised several legal and practical issues with regard to the transparency in the company. Rationale: The director of a company has a fiduciary relationship with the company. Hence, it is important to examine whether there exists a conflict between the personal interests and the duty of a director. Hence, it is very much clear that the rationale behind having a provision like Section 188 is to prevent any conflict of interest in the functioning of the company. More often than not, the related party transactions are considered to be influenced by ulterior motives of profiting the persons who are involved in such transactions. Such transactions diminish the transparency and disclosures norms in the company and are against the spirit and objectives of the Companies Act. Exceptions to the related party transactions: It is pertinent to note that not all related party transactions are prohibited per se. There are two exceptions to it. Firstly, transactions where prior consent from the Board of Directors have been taken and the procedural requirement has been fulfilled.[iv]Secondly, transactions which are entered on an arm’s length basis.[v] Arm’s Length Transaction: An Unsolved Ambiguous Concept. Arm’s length transactions are those which are conducted between two related parties as if they were unrelated, so that there is no conflict of interest.[vi]A very little effort has been put to provide clarity as to what exactly arm’s length transactions mean. There is a serious dearth of the interpretation to the meaning of arm’s length transactions and there seems to be a contradiction in the provisions when they use related party and lack of conflict of interest at the same time. Such casus omissusopens the space for different interpretations.[vii]It can be interpreted as one forming strict procedural requirement given under Section 188. On the other hand, it can also be construed in a more liberal sense, by looking at the intent of the transaction and comparing it with the market conditions rather than stressing on the procedural requirement. However, there is no consistent application of any of abovementioned interpretation. Hence, there is a need of clarity regarding the criterion when a transaction despite being related does not cause conflict of interest. The Courts had met with several occasions to deal with the existing ambiguity but no satisfactory results have come out. Cases dealing with Arm’s Length Transactions: One of the very few cases which have tried to give some clarity regarding arm’s length transaction is Madhu Ashok Kapur v. Rana Kapoor.[viii]The Court was dealing with the issue of whether the reappointment of the Managing Director was a related party transaction or whether it was protected under arm’s length transaction. The Court was penchant for liberal interpretation of the arm’s length transaction and emphasized on the fairness of such transactions by comparing them with the market        value of such transaction. The Court held that the appointment was made at an arm’s length basis where it looked at the nature of prerequisites which the Managing Directors are ordinarily entitled to rather than emphasizing on the procedural requirements.[ix]Similar interpretation have been observed by the Apex Court in case of A.K. Roy v. Voltas Ltd.[x]However, there is still some unsettled dust surrounding the interpretations of arm’s length transactions which needs serious review and clarity. Conclusion: Considering the serious nature of the related party transactions and its exceptions, any kind of vagueness in its interpretation would lead to serious consequences in the regime of corporate affairs. It is the transparency which gives credibility to any company and boosts the client’s confidence in corporate world. Hence, an objective interpretation of the related party transactions is imperative. At the same time, the Courts have to be very cautious while interpreting the concept of related party transactions and abstain from the mechanical application of the same. As pointed out above, the Courts should be more inclined towards applying arm’s length transaction as a substantive rule rather than looking it as a procedural necessity. The Courts ought to look at the intent of the transactions rather than focusing on the procedural requirement of the transaction. A related party transaction can be related yet protected. For instance, appointment of a person on the basis of related party transaction can be termed as valid if such appointment is fair and objective as per the requirement of the market value of such transactions. Therefore, a transaction should not be declared

[Jayesh Karnawat] The author is a 3rd year student of NLU, Jodhpur. Introduction The doctrine of piercing of corporate veil, whether forward or reverse, is an exception brought about to achieve the ends of justice and fairness. Corporates were given their status of separate entities to serve the ends of justice and not subvert them. However, the courts have time and again adopted the alter ego doctrine to prevent corporations from misusing this protection for deceptive practices. The separate legal existence of a corporation has to be protected for economic growth and when that form is abused by individuals to escape the existing liabilities, the court may resort to traditional or reverse piercing of the veil. Overview of the doctrine In the traditional piercing of corporate veil, a creditor of the corporation tries to hold the shareholder personally liable for the debts of the corporation whereas, in reverse piercing of corporate veil, the creditor of the shareholder of a corporation attempts to hold the corporation liable for the debts of the shareholders.[i]The doctrine of reverse piercing the corporate veil is very less established. Also, it has been rejected by several states at several instances.Reverse piercing has been widely used by the governments, most commonly to obtain payment of taxes owed by individuals. A classic example is G. M. Leasing Corporation v. US.[ii] As discussed in the case of Shamrock Oil & Gas v. Ethridge,[iii]the doctrine of reverse piercing of the corporate veil is based on the principle, “the mereabstraction of the corporate entity should never be allowed to bar out and pervert the real and obvious truth.” One of the classic examples is the case of W.G Platts Inc. v Platts,[iv]wherein the court allowed the plaintiff to reverse pierce the corporate veil by imposing the liability on the corporation to satisfy her debts as per the divorce decree. Requirements for the application of the doctrine For applying reverse piercing of corporate veil, generally four elements are considered, called the hybrid test, firstly the degree of identity between the shareholders and the corporation by considering alter ego doctrine, secondly, public policy being whether piercing will harm any other parties or not by using cost-benefit analysis and thirdly whether there was any fraudulent intention or not and lastly whether any other remedy can be sought if not, then the equitable doctrine can be invoked to promote justice. However the application of the doctrine is very subjective and depends upon facts and evidence of the case, no strait jacket formula can be used. Satisfying the Alter Ego doctrine The distinct legal entity of the corporation is ignored when it so dominated by an individual that it mainly transacts the dominator’s business rather than its own. In such case, the corporation will be called alter-ego of the individual. For maintaining an alter ego claim, it is not necessary to establish complete ownership and the test of “control” can be applied. Reverse piercing is appropriate in those limited instances where there is the existence of an alter ego relationship so that justice may be promoted. Injury to other innocent shareholders Equitable results mean that neither the innocent shareholders nor the corporate creditors should be prejudiced by allowing reverse piercing. The court in the case of Trossman v. Philipsborn,[v]held that to permit reverse piercing an insider must own all, or substantially all, of the stock. In Floyd v. Internal Revenue Service,[vi] the court refused to accept the theory of reverse veil-piercing for the reasons that there is the possibility of unfair prejudice to third parties, such as third-party shareholders. The problems associated with a reverse pierce are less serious where there is only a single shareholder because no other shareholders would be unfairly prejudiced. Courts have at times rejected the theory of reverse piercing of veil taking into consideration the interests of non-culpable shareholders as done in the case of Kingston Dry Dock Co. v. Lake Champlain Transportation Co.[vii] This is because creditors who extended credit to the corporation in reliance on its assets would be left unprotected if those assets were sold off to satisfy a judgment un-related to the corporation. Fraudulent Purpose In the case of Select Creations, Inc. v. Paliafito America, Inc,[viii] the court declared that to apply the alter ego doctrine in ‘reverse’ it is necessary that the controlling party uses the controlled entity to hide assets or secretly runs a business in order to evade his/her pre-existing liability. Nevertheless, the application of this doctrine should not be the norm but only be used in certain specialized situations, wherein individuals take advantage of a corporation’s separate legal existence in order to carry out fraudulent activities. In the case of State v. Easton,[ix]the court opined that promotion of fraud is one of the major requirement of the doctrine of reverse piercing. It must be shown that the plaintiff used the corporation to evade a personal obligation, to perpetrate fraud or a crime. Non Applicability of the doctrine to voluntary creditors Several courts have criticized this doctrine as it allows or permits voluntary creditors of an individual, or corporation, to recover from another corporation. One classic example is the case of Cascade Energy & Metals Corp. v. Banks[x]. Courts have added disdain for reverse piercing when the plaintiff is a voluntary, contractual creditor as opposed to an involuntary, tort creditor. The underlying principle is that voluntary creditors choose the parties with whom they deal, they can take precautions necessary to protect their interests and to permit reverse piercing would un-necessarily favour the creditor’s failure to take such precautions, at the expense of other creditors.[xi] Indian Scenario The doctrine of ‘reverse’ piercing is less prevalent in India, unlike the UK. The Indian courts demonstrated inordinate reluctance in bluntly accepting this jurisprudence. Slowly, the courts started to recognize the principle of alter-ego for the purpose of this doctrine. In the case of Iridium India Telecom Ltd. v. Motorola Incorporation and Others[xii], while applying the doctrine of alter ego the court observed that the criminal intent/ mens rea of the individuals or group of persons who are the alter-ego of the