CORPORATE LAW CORNER

6. Mahesh Sureka vs. Marathe Hospitality [2020] 116 taxmann.com 552 (NCLT-Mum.) C.P.(IB) No. 3603/(MB)/2018 Date of order: 20^th March, 2020

Section 238 of the Insolvency and Bankruptcy Code, 2016 – Assets attached by EOW were to be released in favour of RP as non-obstante clause appearing in the later legislation would precede the former – Transfer of assets to a partnership firm (where one of the partners was a tax adviser of the corporate debtor) for an inadequate consideration without prior consent of the mortgagee was a fraudulent transaction and was set aside

FACTS

Insolvency proceedings were admitted against the corporate debtor P Co on 14^th March, 2018 on an application filed by U Bank (the ‘Financial Creditor’). One of the properties of the corporate debtor was financed by way of mortgage by U Bank. The corporate debtor had leased the said property to MH (a partnership firm) on a long-term basis for a sum of Rs. 25,000 per month vide lease deed dated 18^th May, 2016. Mr. AN, who was a partner in MH, was also a tax adviser to the corporate debtor. Further, the said property was leased to MH without obtaining the prior approval of U Bank.

The Resolution Professional (RP) learned that one of the directors of the corporate debtor was in jail (in judicial custody) and that the Economic Offences Wing (EOW) had attached several of the properties of the corporate debtor which included its registered office. The RP mentioned that due to the attachment of the registered office of the corporate debtor and unavailability of the Directors and other staff members, it was impossible to prepare essential details of the assets and liabilities of the corporate debtor. The property mentioned above was also attached by the EOW.

Mr. AN contended that although it was the duty of the corporate debtor before giving the said property on lease to seek prior permission of U Bank, MH could not be prejudiced for the wrong-doings of the corporate debtor. Further, as per section 46 of the Insolvency and Bankruptcy Code, 2016 (the Code) the relevant time for avoidance of undervalued transaction was one year prior to commencement of the Corporate Insolvency Resolution Process (CIRP) of the corporate debtor. It was pleaded that since the said lease agreement was entered into on 18^th May, 2016, and hence was beyond the one-year period from the CIRP commencement date, it could not be covered u/s 46 of the Code.

HELD

The Tribunal heard both the parties at length. It observed that the lease rental for a period of ten years was a paltry sum of Rs. 25,000 per month payable by the 10th of the subsequent month and that the lease could be renewed for a further period by the lessee as per the said agreement. The fact that Mr. AN was a partner in MH and a tax adviser to the corporate debtor indicated that it was a case of preferred transaction. The fact that there was no provision for an annual increment and the extension was only at the prerogative of the lessee, leads to the conclusion that the transaction was a fraudulent one.

The Tribunal relied on the provisions of section 65A(2)(c) of the Transfer of Property Act, 1882 which provided that no lease shall contain a covenant for ‘renewal’. It was observed that the lease agreement of the corporate debtor with a related party MH provided for a total rent of a sum of Rs. 25,000 per month in respect of huge commercial property measuring about 2,310 sq. metres along with a two-storey building structure with no increase in rental for a period of ten years. In addition, as per the lease agreement, there was a provision for further extension at the will of the lessee. In view of this, the lease agreement entered into between the corporate debtor and MH was held to be illegal as per the relevant provisions of the Transfer of Property Act, 1882.

Besides, the mortgage deed signed by the corporate debtor with U Bank provided that the corporate debtor could not let or license its interest in the said property, or part with its possession, unless it obtained the written consent of U Bank. Since the said consent was not obtained, the Tribunal held that the transaction of lease was invalid and mala fide.

The NCLT observed that the attachment of the assets of the corporate debtor by the EOW would hamper the claim of the creditors of the corporate debtor. Thus, to protect the interest of the bank and the present creditors, NCLT directed the EOW and other Government Departments to release the property and assets of the corporate debtor currently attached with them so that the CIRP of the corporate debtor could be conducted in the substantial public interest.

In the context of section 238 of the Code which has a non-obstante clause, the Tribunal relied on the decision of the Supreme Court in the case of Solidaire India Ltd. vs. Fairgrowth Financial Services Pvt. Ltd., wherein it was held that where two statutes contain the non-obstante clause, the latest statute would prevail.

Thus, the lease agreement was held as null and void and the attachment of assets by the EOW was directed to be released in favour of the RP for carrying out the CIRP in the best interest of the creditors of the corporate debtor.

7. American Road Technology & Solutions (P) Ltd. vs. Central Government, Hyderabad [2020] 115 taxmann.com 16 (NCL-Beng.) Date of order: 31^st December, 2019

Where company filed application for revision of financial statements in F.Y. 2017-18, three preceding years for purpose of revision of financial statements would be 2016-17, 2015-16 and 2014-15 (which was one of the years in which incorrect financial reporting had been detected and in respect of which approval for revision had been sought), since a true and fair picture of company’s finances would not emerge for F.Y. 2014-15 unless financial statements for 2012-13 and 2013-14 were also revised – Application for revision of financial statements for years 2012 to 2015 was to be allowed

FACTS

Company A Pvt. Ltd., the applicant, was incorporated in the year 2012 under the Companies Act, 1956 with the Registrar of Companies, Karnataka at Bangalore. Its business was mainly carried out in Bangalore.

During the year 2014-15, the majority shareholder was informed by one of the ex-senior employees that the affairs of A Pvt. Ltd. are not run as per the provisions of the Companies Act and the applicable rules and regulations, and further that there were several financial irregularities and even falsification of accounts has taken place.

The majority shareholder and A Pvt. Ltd. decided to appoint an independent auditor to conduct a forensic audit of the company. The independent auditor submitted his investigation report. This report was examined internally and expert views were also taken in consultation with the independent auditor and the statutory auditor.

The statutory auditors had opined that A Pvt. Ltd.’s records need improvement to ensure controls which are not commensurate with the size of the company and the nature of its business, with regard to execution of contracts and raising invoices.

The findings of the statutory auditor were incorporated in the annual returns filed for the financial year 2014-15 and it was noted that suspicious transactions have taken place and falsification of accounts has been done. It was noted that the annual returns and balance sheets for the years 2012-13, 2013-14 and 2014-15 were filed without even reconciling the bank statements with the actual activities of the company that have taken place during the relevant period.

After consideration of the independent auditor’s report, the management had lodged various criminal proceedings. The statutory auditor has advised A Pvt. Ltd. to move u/s 131 of the Companies Act, 2013 for the accounts to be redrafted for the period and recasting of the books for the periods 2015-16 and 2016-17 to incorporate the changes in the opening balances, subject to ratification by members in a general meeting. Accordingly, the present petition was filed before the Tribunal.

Based on above factual matrix, the Tribunal ordered notices to be issued to the respondents, namely, the Registrar of Companies, the Regional Director, the Income Tax Officer concerned and the auditor of the company.

The regional director (RD) submitted that the company has filed the application u/s 131 of the Companies Act, 2013 for revision of financial statement and board reports for the Financial Years 2012-13, 2013-14 and 2014-15. The RD raised an interesting issue that the application is not made for revision of any of the three immediately preceding financial years but for all the earlier years. Hence the same does not fall under the provisions of section 131 of the Act and that, too, for revision of financial statements to reflect suspicious transactions and falsification of accounts that had taken place in the company.

As per the Regional Director, u/s 131(2) of Companies Act, 2013 the revisions must be confined to – (a) The correction in respect of which the previous financial statement or report do not comply with the provisions of section 129 or section 134; and (b) The making of any necessary consequential alteration. He further stated that the petitioner company has sought blanket revision of financial statements for the years 2012-13, 2013-14 and 2014-15 without actually specifying or limiting itself to any particular entry or disclosure. Hence the petition is not maintainable. Further, the RD reiterated that it appears that the revision of financial statements based on alleged fraud will not fall within the ambit of section 134 of the Companies Act, 2013.

HELD

The Tribunal, after considering the objections raised by the RD, observed as under:

(i) The petition seeks approval for voluntary revision of financial statements and board reports for the financial years 2012-13, 2013-14 and 2014-15.

(ii) It is the contention of A Pvt. Ltd. that this provision permits it to voluntarily revise its accounts for any three preceding financial years, whereas the other respondents in these proceedings have opposed this view and stated that the same is permitted only for any of the three immediately preceding financial years and not beyond.

Section 131 of the Act reads as under:

Voluntary Revision of Financial Statements or Board’s Report:

(1) If it appears to the directors of a company that –

(a) the financial statement of the company; or

(b) the report of the Board

do not comply with the provisions of section 129 or section 134 they may prepare revised financial statement or a revised report in respect of any of the three preceding financial years after obtaining approval of the Tribunal on an application made by the company in such form and manner as may be prescribed and a copy of the order passed by the Tribunal shall be filed with the Registrar…:’ (emphasis added).

The Tribunal observed that the petition is filed on 22^nd January, 2018 and falls within the F.Y. 2017-18. Section 131, even going by the contention of the respondent that the words ‘in respect of any of the three preceding financial years’ should mean ‘immediately’ preceding three financial years, then such preceding three financial years would be 2016-17, 2015-16 and 2014-15. Thus, F.Y. 2014-15, which is one of the years in which the incorrect financial reporting has been detected and in respect of which approval for revision has been sought, is squarely covered by section 131.

The Tribunal further observed that when a balance sheet is drawn for a particular year, it brings forward balances of the preceding year/s, and as such will necessarily impact the balance sheet for the Y.E. 31^st March, 2015, i.e., for F.Y. 2014-15, and for this reason the years 2012-13 and 2013-14 will necessarily have to be considered for revision of the accounts that are not giving a true and fair picture of the accounts for these years, for the reasons mentioned herein above. This accounting compulsion cannot be ignored. Once this is made clear, the issue whether the accounts of the three F.Y.s referred to in the petition could be revised or not in view of an interpretation of section 131, becomes redundant and of mere academic interest.

In section 131 the term ‘immediately preceding’ is not used. Instead, the section speaks of ‘any of the three preceding financial years‘.

In order to determine the intent of the Legislature, it is necessary to look into the 57^th Report of the Standing Committee on Finance on the Companies Bill, 2011. The relevant portion of the said Report of the Standing Committee is extracted below:

‘The change proposes to provide procedural requirement in respect of revision in accounts in certain cases. The present law is silent in respect of re-opening or re-casting of accounts. In certain cases, particularly in cases relating to fraud, there may be need to re-open / re-cast accounts to reflect true and fair accounts. In case of Satyam, such re-casting was ordered by the Court. The provisions in the Bill mandate such re-opening on the order of the Court or Tribunal. In other cases the re-opening is being permitted, through order of Tribunal, with adequate safeguards.’ (Emphasis supplied.)

The Tribunal further observed that considering that the thrust of several provisions of the Act is either to prevent financial misdemeanour or oppression and mismanagement, all such provisions need to be understood and interpreted in this light.

Since the instant case is prima facie that of mismanagement, misreporting and alleged fraud, the Tribunal observed that the section has to be interpreted in the spirit of the Act and the exercise of correcting the same cannot become a victim of interpretation of allowable time. Such time limits can at best be considered to be advisory and not mandatory, since the same is only a procedural requirement, as mentioned in the Standing Committee Report.

Thus, the Tribunal observed that the words ‘in respect of any of the three preceding financial years’ have to be read as any three previous years. It further elaborated that even otherwise, the Tribunal is competent to initiate reopening / revision of accounts u/s 130 in cases of the kind in hand, for which no time limit is prescribed. It cannot be the case that if an application is made u/s 131 where the grounds are similar to section 130, the accounts prepared incorrectly, or when the affairs are mismanaged, the revision of accounts would be prevented by any one view on time limitation. Hence, in view of the totality of facts and circumstances, all three years, i.e. F.Y.s 2012-13, 2013-14 and 2014-15, would be covered for revision, not only because of the accounting compulsion, since F.Y. 2014-15 is in any case covered, and the earlier years’ accounts have a bearing on the same, but also as per the provision contained in section 131 of the Act.

The Tribunal accordingly held that in the facts and circumstances of the case, this is a fit case for granting approval u/s 131 to prepare revised financial statements and / or revised reports in respect of the F.Y.s 2012-13, 2013-14 and 2014-15 in the case of A Pvt. Ltd. and the same was accordingly granted.