Company Law

The Precarious Nature of Earn-out Clauses in Share Purchase Agreements. [Prajoy Dutta] The author is a fourth-year student at Institute of Law, Nirma University. The merger and acquisitions market in India has seen some exceptional activity in the recent years,[1] especially in cases of start-ups. Concerns usually revolve around the valuation of the company, the purchase price that both parties can agree on, and the issue of control over the newly acquired company post the completion of the acquisition. A pertinent legal point that covers both the issue of purchase price and control is the earn-out clause in the share purchase agreement. Structure of Earn-out Clauses An earn-out clause allows the deal to move forward when the buyer and seller cannot mutually agree on the valuation of the target company. The clause stipulates that a portion of the mutually agreeable purchase price shall only be payable contingent on the achievement of certain milestones or the satisfaction of certain conditions[2] by the company, post the transfer of shares. These milestones or conditions may include provisions such as revenue from certain products, cash flow over a defined period of time, EBITDA, market share captured by the company over a defined period of time etc. Thus, in the case of an earn-out, a basic purchase price is paid upfront and a variable purchase price component(s) is paid at a later date, contingent on the fulfillment of certain predetermined performance indicators set out in the earn-out clause. The significance of this is that the seller continues to participate in the economic success of the target company, even after all the risks and rewards have been transferred.[3] The Role of Earn-out Clauses in M&A Deals Earn-out clauses are almost always insisted upon by the buyer. The most pertinent reason for this could be the inaccessibility to private information about the target company at the time of the acquisition[4] which may, as a consequence, result in an incorrect valuation of the target company. Other reasons that could result in incorrect valuations could be uncertainty in the market itself, or that the company’s product or service is too futuristic for the present market. All of these are factors that the buyer must reduce his risk in. An incorrect valuation or measurement of the target’s performance benchmark pre-acquisition could very well be the basis of undesired future litigation, post-acquisition. An earn-outs clause thus provides the best possible solution. Types of Earn-out Clauses The practice of mergers and acquisitions has led to the development of two principal types of earn-out clauses: Economic Earn-outs: Parameters set out in these types of earn-out clauses set down financial thresholds. These might include conditions such as the targets net revenue, net income, cash flow, EBIT, EBITDA, and net equity thresholds.[5] Performance Earn-outs: Parameters set out in these types of earn-out clauses set down non-financial thresholds. Apart from the reason that they may give operational focus to the target, performance earn-outs are usually used in cases of companies that may be difficult to value, mainly due to their high growth rates.[6] Performance earn-outs can include conditions such as the launch of a new product in the market by the target, the existing products capturing a significant portion of the existing market share or even in some cases, the target company receiving a coveted industry award.[7] Important Considerations while Structuring an Earn-out Clause Though an earn-out clause seems like the perfect solution to keep the deal moving forward despite a disagreement over price, it has some inherent disadvantages for the seller. If these disadvantages are not identified and remedied contractually, the seller could stand a chance of being paid a much lower amount than what was mutually agreed upon. This is principally because the variable component of the purchase price stands to be paid post the transfer of shares of the target company and its associated risks and rewards. Further, since the disadvantages and their remedies were not identified in the earn-outs clause itself, the share purchase agreement can very well be interpreted to mean that the seller understood the associated risks of an earn-out but chose to not protect himself against such risk. Therefore, there may be very limited legal remedies for the seller to recover the variable component of the price. Hence, the following major issues are considerations that the seller must keep in mind while structuring an earn-outs clause in the share purchase agreement. Following a Consistent Accounting Methodology – Pre Sale and Post Sale[8] A major concern that arises in most M&A deals is the accounting practice to be followed by the newly created merged entity or the acquired company. Common accounting standards become all the more important in the case of an earn-out due to financial conditions required to be fulfilled in order to receive the variable purchase price component. If the acquired company is required to follow the accounting standards of the buyer, there may arise a situation where the buyer may manipulate the results of the earn-out. Manipulations could potentially include inventory valuation methods, depreciation schedules and reserves for bad debts. Sometimes, the manipulations may occur simply because the target company’s industry is very different from that of the buyer. Should the seller set out a clear methodology of the accounting practices to be followed, the risk of above mentioned manipulations is significantly reduced. Tax Sharing Agreements With The New Parent Company[9] In a case where the earn-out is based upon a before tax indicator, such as EBIT or EBITDA, care should be taken to ensure that tax payable includes payments made under tax sharing agreements with the new parent company. In the event that the earn-out is based upon an after tax indicator, special attention must be paid to how the taxes of the parent holding company are allocated to all the member companies of the group. Special focus must also be given towards certain tax sharing agreements which mandate that the newly acquired company may have to make payments to the new parent company as a consideration of the overall reduction in taxes

Looking Through the Prism of the Bombay High Court Judgment in Chief Controlling Authority v. RIL: An Analysis of the Issue of Stamp Duty. [Gauri Nagar] The author is a third-year student at Ram Manohar Lohiya National Law University, Lucknow. A recent celebrated decision of the Bombay High Court in Chief Controlling Revenue Authority v. Reliance Industries Limited (“RIL“) (judgment dated 31st March, 2016) has essentially ignited a debate among corporate lawyers over whether stamp duty is payable on the order permitting a scheme of amalgamation where the transferor company and the transferee company have their respective registered offices in two distinct states in India. In the case of J.K. (Bombay) Pvt. Ltd v. M/s Kaiser-I-Hind Spinning & Weaving Co. Ltd., the Supreme Court’s view was that the particular scheme of amalgamation was obligatory in nature and had a force equivalent to that of a statute. The creditors and the shareholders could not, therefore, dissent to it. Moreover, the scheme could be altered only by the court’s sanction irrespective of the shareholders’ and the creditors’ acquiescence to the alteration. An important thing that should be known is that the Indian Stamp Act, 1899 was enacted as a central legislation in order to impose stamp duties across the nation, but states have the requisite power to incorporate amendments in the Act. Further, states have an exclusive right to design their stamp duty laws in accordance with List II and List III of Schedule VII of the Constitution. States like Maharashtra, Karnataka, and Kerala have their own legislations pertaining to the subject matter of stamp duty. When the Bombay Stamp Act, 1958 was enacted, it had similar provisions as those in the Indian Stamp Act, 1899. Section 2(g) of the Act was amended subsequently. Pertaining to ‘conveyance,’ the provision states, “every order made by the High Court under Section 394 of the Companies Act, in respect of amalgamation of companies; by which property, whether movable or immovable, or any estate or interest in any property is transferred to, or vested in, any person, inter vivos, and which is not otherwise specifically provided for by Schedule I.” The definition of ‘instrument’ as given under section 2(l) of the Act serves as a point of guidance. An instrument means “any document by which any right or liability is created and transferred.” In the case of Hindustan Lever v. State of Maharashtra (judgment dated 18th November, 2003), the Supreme Court held that an instrument would encapsulate within its fold every court’s order (also an order of an industrial tribunal), and that it would be subjected to a stamp duty. The order under section 394 would come within the periphery of section 2(l) of the Bombay Stamp Act that includes all documents through which any right or liability has been transferred. The transfer is sanctioned by the court’s order due to which the “sanctioning order” becomes an instrument to transfer properties. However, a completely different stance was adopted by a division bench of the Calcutta High Court in the case of Madhu Intra Limited & Anr. v. Registrar of Companies & Ors.(judgment dated 22nd January, 2004) wherein the Court did not take into consideration the viewpoint adopted by the Bombay High Court in the Li Taka Pharmaceuticals (judgment dated 19th February, 1996) and ruled that the process of transferring assets and liabilities by the transferor company to transferee company occurs only on an order made under sub-section (1) of section 394 due to applicability of sub-section (2) of section 394. This is the reason why a court’s order that sanctions a scheme cannot tantamount to be an instrument due to the reason that such transfer is only through the operation of law. The same issue cropped up in the case of Delhi Towers Ltd v. GNCT of Delhi (judgment given in December, 2009), wherein it was ruled by the Delhi High Court that the Supreme Court judgment on this issue stands to be consistent and that the scheme of amalgamation is well within the definition of instrument. On the other hand, the High Court of Delhi was on the same page with the Supreme Court (in Hindustan Lever case) and opposed the view of the Calcutta High Court. Also, at that time, Delhi did not have its own stamp law that had similar provisions as that in the Bombay Act. The intention of the legislature was to include a court’s order under section 394 within the term instrument and that extended to the Indian Stamp Act, 1899 as well. Registered Offices in Different States within India If an instrument is subjected to a stamp duty and that an order passed under section 394 is an instrument, it can be inferred that such order would attract a stamp duty. If the amalgamating parties are present in the same state, they would have to pay the stamp duty of that certain state only. The RIL case basically dealt with a circumstance wherein the two amalgamating companies were present in two different states. The Court suggested that sections 391 and 394 should be read collectively and that an order sanctioning the amalgamation scheme should be obtained by both the transferor as well as by the transferee company.  It is obligatory for both the companies to obtain such order from their respective high courts that have the required jurisdiction and should pay the stamp duty that is pertinent to their respective states. The amalgamation scheme is supposed to bind the dissenting members and creditors of both the companies and should not merely be used for transferring property, assets, etc. Two Schemes and Stamp Duty Being Paid Twice: Can a Claim for Rebate Exist? If an execution of a scheme occurs outside State A but is eventually given to the stamping authorities in State A, the party has to pay the stamp duty in the state in which it was executed. Not only this, it also has to pay the stamp duty in the state where the certified copy of the instrument had been received. Also, the party can ask for differential payment

Condonation of Delay Scheme: Testing the Utility. [Tushar Behl and Priyanka Sharma] The authors are third-year students of School of Law, University of Petroleum and Energy Studies, Dehradun. They may be reached at behl.tushar96@gmail.com. The Companies Act, 2013 (‘‘Act’’) has been in need of a substantial revamp for some time now, to make it more contemporary and relevant to the corporate world. The changes in the Act have long term implications which have been set to notably change the manner in which the corporates operate in India. While several successful as well as unsuccessful attempts have been made earlier to revise the existing Act, one of them leads us to the very recent, Condonation of Delay Scheme (“CODS”). Every company registered under the Act is inter alia required to file their annual financial statements[1] and annual returns[2] with the Registrar of Companies (‘‘ROC’’), and non-filing of such reports is an offence under the Act. Under the present Act, on account of default by a company in filing annual return or financial statement for a continuous period of 3 years, company directors are, by virtue of section 164(2)[3] read with section 167[4] of the Act, disqualified. Additionally, the Companies (Appointment and Qualification of Directors) Rules, 2014[5] confer a responsibility upon the director to inform the company concerned about his disqualification in respect of form DIR-8.[6] In line with the Act, the Ministry of Corporate Affairs (‘‘MCA’’) recently went into the process of marking out defaulting companies and recognized 3,09,614 directors associated with companies that had substantially failed to file their annual financial statements and annual returns in MCA online registry for a 3-year financial period starting from 2013-14 to 2015-2016. Following the MCA identification process, most of the disqualified directors have filed writ petitions and representations before various high courts and the National Company Law Tribunal (“NCLT”), hoping to obtain relief therefrom. Keeping this consideration in view, the Central Government, and the MCA in exercise of its powers conferred under the Act,[7] have collectively decided to roll out the CODS in order to provide a final opportunity in the form of a ‘three-month window’ for the non-compliant and defaulting companies to rectify the default, and normalize and regularize the compliance issues. The CODS came into force from January 01, 2018 and shall continue till March 31, 2018- a clear prescribed period of three months. This scheme will be applicable to all defaulting companies, leaving aside those whose names have been struck off from the ROC by virtue of Section 248(5)[8] of the Act. During this period, the Director Identification Number (“DIN”) of all the disqualified directors will be re-activated temporarily to smoothen the process of filing all overdue documents in respective E-forms.[9] In addition to the overdue documents, the defaulting company has to file form e-CODS 2018 along with a Rs. 30,000 charge. If a director of the defaulting company fails to utilise the CODS and regularise compliance after the end of the three-month window period, his DIN will be deactivated and he will be further disqualified for a total period of 5 years. Primarily, the CODS is meant only for companies whose process of filing is clear/active but whose directors are disqualified. However, as regards a company whose name has been removed[10] and which has filed an application under section 252[11] on or before January 1, 2018 for which the matter has been listed before the NCLT for restoration of the name, the DIN of its disqualified director(s) shall be reactivated temporarily after the NCLT authorizes reinstitution, and permanently only after the overdue documents have been duly filed within the three-month period. A question that still remains unanswered is whether the whole of the process-application for reinstitution, order of the NCLT, and filing of overdue documents- needs to be completed by March 31, 2018, and whether other non-defaulting companies can also apply for the same. Secondly, in the case of defaulting companies which have shut their business or in respect of whom the application for reinstitution has been rejected by NCLT, how exactly the disqualified directors could cure disqualification needs to be clarified. Finally, it remains uncertain whether disqualification will actually be removed upon filing of all pending documents or whether further action will be required, such as filing of form DIR-10.[12] The scheme appears to be a one-time opportunity given to active defaulting companies whose directors have been disqualified. The time period of the scheme is indeed short, especially when we take into account struck-off companies which are burdened with the entire procedure of restitution of name, pending filings and filing of e-CODS 2018 within a short span of three months. Even though the scheme has already become operational, the process for ‘reactivating’ the DINs in system in respect of disqualified directors is still in progress and will not be activated for e-filing until January 12, 2018. This, it is submitted, is likely to delay the process. Taking into consideration the Delhi High Court’s order giving wide publicity[13] to the CODS and its aim of benefitting a large number of disqualified directors, it seems that the scheme may provide for such efficiency as deemed just for placing the company and all other essential persons in the same position (as nearly as possible) as if the company had not been struck off from the register of companies. During the operation of the scheme, it is hoped that the defaulting companies complete their pending annual filings, enable restoration and make the best use of the opportunity. [1] The Act, section 137. [2] Ibid, section 92(4). [3] Ibid, section 164(2). [4] Ibid, section 167. [5] The Companies (Appointment and Qualification of Directors) Rules, 2014, rule 14. [6] Every director of the company in each financial year is required to make disclosure of non-disqualification to the company. [7] The Act, sections 403, 459 and 460. [8] Ibid, section 248(5). [9] Under the CODS, only the following E-forms can be filed: Form 20B/MGT-7, Form 21A/MGT-7, Form 23AC, 23ACA, 23AC-XBRL, 23ACA-XBRL, AOC-4, AOC-4(CFS), AOC (XBRL), AOC-4(non-XBRL), Form 66,

Subsequent Effect of Moratorium: Jeopardising the Rights of an Innocent Litigant. [Kunal Kumar] The author is a fourth-year student at National Law University, Jodhpur. Introduction The Reserve Bank of India (“RBI”) vide notification No. FEMA 20(R)/ 2017-RB dated November 7, 2017 issued the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2017 (“FEMA 20”), which supersedes previous regulations namely the Foreign Exchange Management (Transfer and Issue of Security by a Person Resident Outside India) Regulations, 2000 (“FEMA 20/2000”), and the Foreign Exchange Management (Investments in Firms or Proprietary concern in India) Regulations, 2000 (“FEMA 24”). An attempt to analyse the key changes under the newly notified Regulations has been made through this article. The Department of Industrial Policy and Promotion announced the Consolidated FDI Policy 2017 (“FDI Policy”) on August 28, 2017. Of course, the changes under the FDI Policy have to be reflected under the FEMA 20, this essay will also discuss such changes when required. Key Changes Introduced Meaning of Foreign Investment The FEMA 20 provides that foreign investment means any investment made by a person resident outside India on a repatriable basis, thus making it clear that investment on non-repatriable basis is at par with domestic investment. Startups The FDI Policy 2017 allows startup[1] companies to: -issue convertible notes to residents outside India,[2] Convertible notes have been defined as instruments evidencing receipt of money as debt, which is repayable at the option of the holder, or which is convertible into equity shares;[3] and -issue equity or equity linked instruments or debt instruments to Foreign Venture Capital Investor (“FVCI”) against receipts of foreign remittance.[4] Note: An entity shall be considered as a ‘startup’ if[5] (a) it has not crossed five years from the date of its incorporation/registration; (b) its turnover for any of the financial years has not exceeded Rs. 25 crore, and (c) it is working towards innovation, development, deployment or commercialization of new products, processes or services driven by technology or intellectual property. Remittance against Pre-incorporation Expenses As per the 2016 FDI Policy, equity shares could be issued against pre-incorporation expenses, under the government route, subject to compliance with the conditions thereunder.[6] The 2017 FDI Policy has changed this requirement which is reflected under the FEMA 20. Therefore, subsidiaries in India wholly owned by non-resident entities, operating in a sector where 100% foreign investment is allowed in the automatic route and there are no FDI linked conditionalities, may issue equity shares, preference shares, convertible debentures or warrants against pre‑incorporation/ pre-operative expenses up to a limit of five percent of its authorized capital or USD 500,000 whichever is less, subject to conditions prescribed.[7] Note: However, this cannot be said to be a completely new provision under the FEMA 20 as this was introduced in the existing FEMA 20 through the eleventh amendment dated 24th October, 2017. ESOP to Directors FEMA 20 expressly allows an Indian company to issue employees’ stock option to its directors or directors of its holding company/ joint venture/ wholly owned overseas subsidiary/ subsidiaries who are resident outside India. Such company shall have to submit Form-ESOP to the Regional Office concerned of the Reserve Bank under whose jurisdiction the registered office of the company operates, within 30 days from the date of issue of employees’ stock option.[8] Reclassification of FPI Holding The total investment made by a SEBI registered foreign portfolio investor (FPI) in a listed company will be re-classified as FDI where it’s holding exceeds 10% of the paid-up capital or 10% of the paid-up value in respect of each series of instruments. Such a reclassification is required to be reported by way of Form FC-GPR.[9] Transfers by NRIs Transfer of capital instruments by a Non-Resident Indian (NRI) to a non-resident no longer requires RBI approval.[10] Earlier, as per regulation 9, FEMA 20/2000, a NRI was eligible to transfer the capital instruments only to a NRI or overseas corporate body, and if such capital instruments were to be transferred to a non resident, prior permission of RBI was mandatory as per regulation 10(B) of the FEMA 20/2000. Onus of Reporting FEMA 20/2000 laid the onus of submission of the form FC-TRS within the specified time on the transferor / transferee, resident in India.[11] The 2017 Regulations lays onus on the resident transferor/ transferee or the person resident outside India holding capital instruments on a non-repatriable basis, as the case may be.[12] In case of transfer under Regulation 10 (9), the onus of reporting shall be on the resident transferor/ transferee. Also, unlike the previous position, the new FEMA 20 allows for delayed reporting subject to the payment of fees to be decided by the RBI in consultation with the central government.[13] This is a significant change as FEMA 20/2000 did not provide anything on delayed filing, because of which the same would be deemed as contravention and required compounding by the RBI. Time Limit for Issue of Capital Instruments The FEMA 20/2000 mandated issuance within 180 days from receipt of inward remittance.[14] However, the Companies Act, 2013 provides for allotment of securities within 60 days of receipt of application money or advance for such securities.[15] FEMA 20 now provides that capital instruments shall be issued to the person resident outside India making such investment within sixty days from the date of receipt of the consideration,[16] aligning the requirement to issue capital instruments with Act, 2013. Further, proviso to para 2 (3) of Schedule 1 to FEMA 20 provides that prior approval of RBI will be required for payment of interest in case of any delay in refund of the amount. Conclusion The new Regulations have been enacted to maintain consistency with the related legislations. With the new Regulations coming, it is hoped that the governance of transfer of securities by non-residents will be eased. [1] Paragraph (“para”) 3.2.6 of the Consolidated FDI Policy 2017. [2] As per the conditions under para 3.2.6 of the FDI Policy and Regulation 8, FEMA 20. [3] Regulation 2(vi), FEMA 20. [4] Regulation 5(7) and Para 1(1)(b) of

The Companies (Amendment) Bill, 2017: Understanding the Significant Changes Proposed in the Corporate Law Regime. [Muskan Agrawal] The author is a third-year student of National Law Institute University, Bhopal. On July 27, 2017, the Lok Sabha passed the Companies (Amendment) Bill, 2017 (hereinafter referred to as “the Amendment Bill”).  If passed by the Rajya Sabha, it would add a string of changes in the Companies Act, 2013 (hereinafter referred to as “the Act”), thereby introducing many crucial nuances in the Act having significant impact on the manner in which Indian companies function. The Amendment Bill aims at improving overall corporate governance standards and investor protection.[1] The major amendments pertain to relaxation of pecuniary relationship of directors,  rationalization of related party provisions, omission of provisions relating to forward dealing and insider trading, doing away with the requirement of approval of the Central Government for managerial remuneration above prescribed limits, making the offence for contravention of provisions relating to deposits as non-compoundable,  and requiring holding of at least 20% voting rights instead of share capital by investors to constitute significant influence. The following part discusses few of the changes proposed. Independent Directors An independent director in relation to a company means a director who has or had no pecuniary relationship with the company, its holding, subsidiary or associate company, or their promoters, or directors, during the two immediately preceding financial years or during the current financial year.[2] The Amendment Bill seeks to relax this pecuniary interest provision. In the definition of independent director, the term ‘pecuniary relationship’ is proposed to be replaced by ‘pecuniary relationship, other than remuneration as such director or having transaction not exceeding ten percent of his total income or such amount as may be prescribed.’[3] In other words, the limit of ten percent is provided under the Amendment Bill for benchmarking the independence of a director. This expands the scope of independent directors and gives firms more flexibility to pursue their professional relationship with independent directors who are practicing other professions as well. The 2005 JJ Irani Report on Company Law also recommended that the concept of ‘materiality’ be defined and 10% or more of recipient’s consolidated gross revenue or receipts for the preceding year form a material condition affecting independence.[4] However, this was not incorporated in the Act. Significant Influence in Associate Company The Act provides that to constitute significant influence, a holding of at least 20% total share capital is mandatory.[5] The amendment ties the concept of significant influence to total voting power instead of total share capital.[6] Further, the definition includes control or participation in business decisions. Control under Section 2(e) of the Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 (hereinafter referred to as “Takeover Regulations”) is defined as the right to appoint majority of the directors or to control the management or policy decisions exercisable by a person or persons acting individually or in concert, directly or indirectly, including by virtue of their shareholding or management rights or shareholders agreements or voting agreements or in any other manner. The term is similarly defined under Section 2(27) of the Act. On March 14, 2016, SEBI sought comments from public on the bright line test for determining control by way of its discussion paper in which it enumerated certain rights which should not be considered as control.[7] For instance, veto rights not amounting to acquisition of control may be protective in nature rather than participative in nature i.e. such rights may be aimed with the purpose of allowing the investor to protect his investment or prevent dilution of his shareholding and not otherwise. In other words, the investor does not have power to exercise control over management of the business and policy making in relation thereto. On the other hand, the Amendment Bill provides that an investor will have significant influence in the company if he has control of at least 20% of total voting power, thus not completely incorporating the said bright line test. However, it must be noted that on September 8, 2017, SEBI scrapped the discussion paper and decided to continue with the current position of ascertaining acquisition of control as per the existing definition in the Takeovers Regulations which is in consonance with the Amendment Bill and the Act.[8] Related Party The Amendment Bill expands the scope of related party by including, among the other things, an investing company or venturer of the company under a related party.[9] An investing company or venturer will mean a body corporate whose investment in the company would result in the company becoming an associate company of the body corporate.[10] In the Act, the word ‘company’ is used instead of ‘body corporate’ which results in the exclusion of foreign MNCs. For instance, any transaction between the parent MNC International Business Machines (IBM) with its Indian subsidiary IBM India Private Limited is not regarded as a related party transaction and therefore completely left out under the Act. This, it is submitted, was not the intent of the legislature. The legislative intent is proposed to be met through the Amendment Bill by explicitly including investing companies within related party. The Amendment Bill also makes the definition of related party in concurrence with SEBI regulations. In the SEBI (Listing Obligations and Disclosure Requirements)  Regulations, 2015, both investing and investee companies are covered under related parties,[11] whereas in the Act, only the investee company as a related party of the investing company is included and not vice versa. While the Amendment Bill meets its objective of improving overall corporate governance standards and investor protection by providing more clarity, the burden of heavy compliance still continues. The penalty rigour in realistic terms will ensure that the compliances are appropriate and not just apparent. Nonetheless, many aspects of the bill are in line with global best practices. [1] Lok Sabha passes bill to amend companies law, THE ECONOMIC TIMES, (July 28, 2017), http://economictimes.indiatimes.com/news/economy/policy/lok-sabha-clears-bill-to-amend-companies-law/articleshow/59794867.cms. [2] Section 149(6)(c), the Act. [3] Section 149, the Amendment Bill. [4] Report on Company Law, Expert Committee on Company

Restricting the Scope of “Suit or Other Proceedings” under Section 446 of the Companies Act, 1956 vis-`a-vis Section 138 of the Negotiable Instruments Act, 1881. [Jasvinder Singh] Jasvinder Singh is a third-year student of National Law Institute University, Bhopal. Introduction It is manifest from a bare reading of section 446(1) of the Companies Act, 1956 [“Companies Act”], that when a winding-up order has been passed against a company or where a provisional liquidator has been appointed, then, except by the leave of the tribunal, neither a suit can be initiated against such company nor any other legal proceedings be commenced or proceeded therewith.[1] The purpose behind this provision is to safeguard the company, which is wound-up, against wasteful and expensive litigation by bringing all the matters against that company before a single adjudicating authority. Moreover, in cases of winding-up, as the assets of the company get distributed to all of its creditors and contributories, the proceedings are stayed in order to avoid situations of chaos among the creditors regarding the distribution of the assets. Similar provisions exist under the Insolvency and Bankruptcy Code, 2016 [“IB Code”], which states that after the admission of the application of insolvency, the adjudicating authority can by order, declare moratorium, prohibiting the institution of suits or the continuation of pending suits or legal proceedings against the corporate debtor.[2] However, presently, we are only concerned with the application, the scope as well as the ambit of section 446 of the Companies Act. The aim of this post is to discuss the effect of section 446 of the Companies Act on the proceedings under Section 138 of the Negotiable Instruments Act, 1881 [“N.I Act”], which provision creates a statutory offence in case of dishonour of a cheque on account of insufficiency of funds, among other things. The Problem There have been certain disagreements with respect to the scope of the expression “suit or other legal proceedings” under section 446(1) of the Companies Act. Various high courts in several of their judgments have time and again delved into the provisions of the Companies Act so as clarify and demarcate the ambit of the said section. The High Court of Bombay took divergent views on the application of section 446(1) of the Companies Act to the proceedings under section 138 of the N.I Act. In the case of Firth (India) v. Steel Co. Ltd. (In Liqn.),[3] the issue before the court was whether the expression ‘suit or other legal proceedings’ in section 446(1) of the Companies Act includes criminal complaints filed under section 138 of the N.I Act?  It was held by the Single Judge Bench that section 446(1) has no application to the proceedings under section 138 and hence leave of the Court is not necessary for continuing proceedings under the N.I Act. Further in an unreported decision of Suresh K. Jasani v. Mrinal Dyeing and Manufacturing Company Limited & Ors.,[4] in order to decide on the relevance of section 446 of the Companies Act to the proceedings under section 138 of the N.I Act, the Single Judge Bench has taken diametrically opposite view altogether, and held that by virtue of the former provision, the matter under the latter could not be proceeded any further after the passing of the winding-up order as the proceeding under section 138 of the N.I Act arose out of civil liability of the company, which brings it under the purview of section 446(1). It was further held by the Court that the words “other legal proceedings” have a wider connotation and meaning and thus they include even the criminal proceedings which have some relevance with the functioning of the company. Because of such disagreements in relation to the issue, the Single Judge Bench of the Bombay High Court decided to refer the matter to a larger bench. Decision of the Division Bench of the Bombay High Court The Division Bench of the Bombay High Court on May 06, 2016, in the case of M/S Indorama Synthetics (India) Limited v. State of Maharashtra and Ors.,[5] tried to reconcile and resolve the conflicting views taken in the above-mentioned judgments. The Division Bench discussed the scheme and object of section 446 of the Companies Act. The court held that when the proceedings of winding-up against a company have been filed, the tribunal has to see that the assets of the company are not imprudently given away or frittered. It is the fundamental duty of the tribunal to oversee the affairs of the company and to meet the debts of its creditors as well as contributories. With regard to section 138 of the N.I Act, the court stated that the main object of the provision is to assure the credibility of commercial transactions by making the drawer of the cheque personally liable in case of dishonour of cheques. The Bench cited the case of S.V. Kondaskar, Official Liquidator and Liquidator of the Colaba Land and Mills Co. Ltd. (In Liquidation) v. V.M. Deshpande, Income Tax Officer, Companies Circle I (8), Bombay & Anr.,[6] wherein the Hon’ble Supreme Court considered the provisions of  section 446 of the Companies Act vis-à-vis those of section 147 of the Income Tax Act, 1961 dealing with the initiation of the reassessment proceedings against a company which is undergoing liquidation process, and held that “[t]he Liquidation Court cannot perform the functions of the Income Tax Officials while assessing the amount of tax payable, even if the assessee be the company which is undergoing a winding up process. The language of section 446 of the Companies Act must be so interpreted so as to eliminate any startling consequences.” The Court observed that the expression “other legal proceedings” under section 446 of the Companies Act, should be read ejusdem generis with the expression “suit” and could only mean civil proceedings. Further, the expression “legal proceedings” under section 446 does not mean each and every civil or criminal proceeding; rather, it signifies only “those proceedings which have a direct bearing on the assets of a company in winding-up or have some relation to

Derivative Action Suits in Corporate Litigation in India. [Virali Nagda] The author is a fourth-year student of NALSAR University of Law. A derivative action, also called the shareholder derivative suit, comes from two causes of action, actually: it is an action to compel the corporation to sue and it is also an action brought forth by the shareholder on behalf of the corporation for redressal against harm to the corporation.[1] Such an action allows the shareholders monitoring and redressal of any harm caused to the corporation by the management within, in a case where it is unlikely that the management itself would take measures to redress the harm caused. Thus, the action is ‘derivative’ in nature when it is brought by a shareholder on behalf of the corporation for harm suffered by all the shareholders in common. This happens when the defendant is someone close to the management, like a director or corporate officer or the controller. If the suit is successful, the proceeds are forwarded not to the shareholder who brought the suit but to the corporation on behalf of which the cause of action was established. If the American literature on this subject is to be believed, then the historical foundations of the derivative suit lay in the corporate purpose. This debate over the purpose raged in the first half of the 20th century with the proliferation of major conglomerates as public corporation where investors could buy stock in the corporation on the public stock exchange but had close to no control or active role in the management of the corporation.[2] Even before the early 20th century when most corporations were privately owned by the small groups of shareholders who managed the corporations,[3] there was a judicial struggle to understand the corporate purpose when shareholders sought to challenge the directors running the management of the corporations. This American literature roots different from the Indian base of derivative action, which comes not from a principled provision of the company law rules and legislation in the country but simply from the willingness of the courts here to rely on principles from the English common law. The provision that the law has provided with is redressal against oppression and mismanagement of the company where the Companies Act, 2013, has allowed for a provision of class action suits[4] to be filed by shareholders against directors or other officers of the company in cases of mismanagement. In the event of this section being now notified, this paper is an attempt to look at literature around derivative suits in India and the supplement of class action suits to understand where the interpretation and applicability of derivative suits in India stands at, presently. Historical and Normative Foundation of Derivative Suits Commentators have often claimed that the United States had imported the principle of shareholder derivative action from England.[5] The representative litigation in early cases of the English Court of Chancery showed semblance to the class action suits of today.[6] This was developed gradually from the communal harms within the thriving feudal societies of the 12th-15th century England. The American Revolution gave way from the precedent method of England for matters of corporate litigation to permitted exception to the necessary parties’ rule, a form of representative party law suits quite different from the contours of the actions in England.[7] The classification began when for the first fifty years post-independence the United States permitted shareholders to bring suits on behalf of themselves and all other shareholders,[8] but then near the later part of 1940, courts began to often describe such lawsuits as those being brought on behalf of the corporation itself. The seminal case on shareholder derivative action is the English case of Foss v. Harbottle,[9] where the court had to consider the question of whether it was acceptable to depart from the rule of corporation suing in its own name and character as against that in the name of someone whom law appointed as its representative. Relying on the words of its predecessor Wallworth v. Holt[10] which allowed the consensus of all shareholders of a joint stock company to be represented by its shareholder in a suit against mismanagement, the court in Foss recognized the involvement of a true corporation and consequently recognized the right of its shareholders to bring a lawsuit to court on behalf of all the shareholders in some situations. The US courts in bringing this interpretation, understood homogeneity of interests of persons involved in a corporation or an organisation as with the interest of the corporation or organisation itself and thus allowed the shareholder’s cause of action to be derivative to the corporation’s interest in the cause of action.[11] Clear recognition to the shareholders’ derivative suits came when American courts restricted shareholders to filing suits only in circumstances where corporation was incapable of seeking redressal.[12] Percy v. Millaudon[13] was the first case decided in the Louisiana Supreme Court which appears to have accepted derivative action suit. The English cases that percolated in the following of the class action of the Chancery court slowly allowed the exception rule to allow corporation representation for the interest of the shareholders. Derivative Suit as an Exception to the Principle of Corporate Law  The voting rules in company law ensure that the shareholders who won the largest stake in the corporation are allowed the greatest impact on the venture policy, simply because these shareholders will gain most from the good performance and lost most from the bad performance of the venture giving them the largest incentive to maximize welfare interests of the corporation.[14] The minority share-holders then have no power to act on behalf of the venture or limit the will of the majority. This relative lack of power for the latter does not otherwise disadvantage them since the benefit of this decision-making mechanism is accrued to the minority as well. In this fundamental principle of corporate law, the derivative suit is a striking exception as shareholders with the tiniest of investment in the corporation can also bring the derivative suit on behalf of the corporation.[15] The litigation costs of such suit are then accrued by the corporation itself. This then

Time To Revisit Legislations? An Analysis Of The Tata Docomo Case. [Priya Gupta] The author is a third year student of Gujarat National Law University. On the 28th of April, 2017, an important arbitration dispute was settled by the Delhi High Court in the case of NTT Docomo Inc. v. Tata Sons Limited,[1] wherein the court upheld the sanctity of a private contract in a foreign-seated arbitration by denying the Reserve Bank of India the right to intervene. A currently unsettled concern was raised by RBI in the enforcement of an arbitral award between NTT Docomo Inc. (‘Docomo’) and Tata Sons Ltd. (‘Tata’) whereby it contended that the award was against public policy of India as foreigners in matters of equity investments cannot add clauses that assure them a return below the sovereign yield. Facts of the Case Docomo and Tata entered into a Shareholder Agreement on the 25th of March, 2009, clause 5.7 of which stated that if Tata failed to satisfy certain ‘Second Key Performance Indicators’ stipulated in the agreement, it would be obligated to find a buyer or buyers for Docomo’s shares at the Sale Price i.e., the higher of (a) the fair value of those shares as of 31st March 2014, or (b) 50% of the price at which Docomo purchased its shares. Tata breached the agreement and so was called upon by Docomo to find a buyer or buyers for acquisition of sale shares. Another option later deemed unacceptable to Docomo was that Tata would acquire shares at the fair market price of INR 23.44 (USD 0.36). Finally, the dispute between the two parties was referred for arbitration when Tata failed to honor its obligations due to RBI’s objection before the London Court of International Arbitration. Arbitral Award and its Enforcement The tribunal rejected the contentions of Tata including which was the claim that an award of damages would result in contravention of the laws of India, especially the FEMA regulations. It stated that as Tata was under a strict obligation to perform, a special permission from RBI was not required. The methods of performance were deemed to be covered by other general permissions. It noted that- “Tata is liable for its failure to perform obligations which were the subject of general permissions under FEMA 20. The FEMA Regulations do not therefore excuse Tata from liability. The Tribunal expresses no view, however, on the question whether or not special permission of RBI is required before Tata can perform its obligation to pay Docomo damages in satisfaction of this Award.” On the other issue of non-acceptance of Tata’s offer to buy the shares at fair market price, the tribunal said that Docomo acted in good faith by insisting on performance as it had the reasonableness to not accept the amount on the offer. Therefore, the tribunal ruled out in favor of Docomo by making Tata liable for an amount of US$ 1,172,137,717 payable within 21 days. The real problem arose when Docomo sought to enforce the award in India. RBI filed an intervening petition where its counsel contended that the agreement was in violation of regulation 9 of the FEMA 20 which provided that the transfer should be at a price determined on internationally accepted pricing methodology. Further, the settlement was also in violation of section 6(3) of FEMA as valuation, transfer and issue of shares had to be conducted on the basis of the RBI guidelines which were not followed in the present case and hence the award was contrary to the public policy of India. Judgment of the Delhi High Court The Court first took up the question as to whether an intervention petition by the RBI could be entertained and, if yes, on what grounds. To answer this, it referred to section 2(h) of the Arbitration and Conciliation Act, 1996, which defines ‘party’ to mean a party to an arbitration agreement. Sections 48 and 34 work on the same lines by making sure that only a party to an arbitration agreement could file an application for setting aside the arbitral award. Since RBI was not a party to the agreement under section 48(1), its application was liable to be set aside. On the issue of violation of provisions of FEMA, it was stated that the agreement between Docomo and Tata was based on contractual promise which could always have been performed using general permissions of RBI under FEMA 20. It was held that the promise was valid and enforceable because sub-regulation 9(2) (i) of FEMA 20 permitted a transfer of shares from one non-resident to another non-resident at any price. Moreover, the issue at hand dealt with damages for breach and not for purchase or sale of shares overseas which is why a special permission would not be required. Therefore, the contentions of RBI were set aside and the court ordered for the enforcement of the arbitral award. Analysis It has generally been a recurring tendency of Indian courts to intervene in enforcement of awards by drawing approaches contradictory to the intent of the Act. This has been one of the major reasons for India for not being able to place itself on the global map of arbitration. The Delhi High Court has shown a pro arbitration approach in the current case by appreciating the negative impact on the goodwill of the country if a foreign award is not recognized. The award is said to be positive step as it reduces the ability of Indian companies to violate agreements with foreign entities and provides a wider interpretation to what can and can’t be opposite to public policy. However appreciable the approach of the court may be, the one issue that cannot be ignored here relates to the pending rules on capital account transactions with respect to debt instruments. Traditionally, the government does not have any prescribed limits as to equity investments from foreigners but have capped debt investments since over-indebted countries often see a run on their currency.[2] Since then, an investor putting a percentage on his investments when