Is It Fair?
S. 297, S. 299 and S. 300 of the Companies Act, 1956
(hereinafter referred to as ‘the Act’) embody and codify the principles
regarding fiduciary duties of directors of a company. S. 299 of the Act enjoins
upon the directors a statutory duty to make disclosure of interest in the
contract or arrangement in which they are interested. S. 300 of the Act debars
interested directors in certain cases from being counted for the purpose of
quorum and voting. S. 297 of the Act provides for the consent of Board of
Directors of a company and in certain cases approval of the Central Government,
to certain contracts in which directors are interested.
We are attempting to throw light on two aspects of S. 297 of
the Act in this article :
(a) Is it fair to exclude foreign companies/bodies
corporate from the provisions of S. 297 of the Act ?
(b) Is it fair to keep exemption amount provided under the
proviso to S. 297(2)(b) to Rs 5,000 only ?
Parties u/s.297 of the Act :
We will first look at the parties which are covered u/s.297
of the Act. Ss.(1) of S. 297 specifies parties and types of contracts to which
the Section applies. The provisions of S. 297 applies, when out of two parties
to the contract, one is a company (say ‘A’) and other is any one of the
following :
(a) Any director of the company A;
(b) Any relative of the director of the company A;
(c) Any partnership firm in which the director of the
company A is a partner;
(d) Any partnership firm in which any relative of the
director of the company A is a partner;
(e) Any partner of the partnership firm in which the
director of the company A is a partner;
(f) Any partner of the partnership firm in which any
relative of the director of the company A is a partner;
(g) Any private limited company in which the director of
the company is a member;
(h) Any private limited company in which the director of
the company is a director.
Types of contracts to which this Section applies are as
follows :
(a) for the sale, purchase or supply of any goods,
material or services; or
(b) for underwriting the subscription of any shares in,
or debentures of, the company.
If we look at the above, we will come to know that the term
‘bodies corporate’ is not used in the parties covered U/ss.(1) of S. 297 of the
Act.
Transactions between foreign subsidiaries/joint venture with
entities abroad :
In the current scenario of the industry and due to
liberalisation of the Foreign Direct Investment Policy, many foreign entities
prefer India to expand their businesses.
Such foreign entities form subsidiaries or enter into joint
venture with Indian partners. These companies’ import/export/provide
goods/materials/services to their parent companies or group companies outside
India or vice versa.
They require technical support/consultancy from their parent
company or a joint venture partner in the initial stages or sometimes on a
regular basis. Such contracts/transactions between Indian company and a foreign
company fall under the purview of contracts mentioned u/s.297(1) of the Act.
Applicability of S. 297 of the Act in above case :
As foreign companies are bodies corporate, they are excluded
from the applicability of S. 297 of the Act. Hence, S. 297 does not apply to
such contracts or transactions between an Indian company and a Foreign Company
though directors are interested as stated under the Section. Further, no
approval of the Central Government is needed in such cases as the Section itself
is not applicable.
It means, any director of an Indian company who is director
or member of a foreign company with which the Indian company is
transacting/entering into a contract, need not obtain approval of the Board of
Directors and the Central Government.
Position of an Indian company transacting with an Indian
company :
If the above transactions would have been entered between two
Indian private limited companies covered under the parties to the contract, the
situation would have been reversed. It means where directors are interested as
stated in S. 297(1) of the Act entering into transactions falling under that
Section, approval of the Board of Directors and the Central Government in
certain cases would be required.
It means in case of two Indian companies where paid-up
capital exceeds the criteria laid down under the proviso to S. 297(1) approval
of the Central Government is required if :
(a) the transaction or contract is between the parties
covered u/s.297(1), and
(b) the transaction or contract is covered u/s. 297(1).
Is it fair to exclude foreign companies from the ambit of S.
297 when the same is applicable in the case of Indian companies ?
Now we will examine the exemption provided u/s.297(2)(b) of
the Act :
S. 297(2)(b) reads as follows :
(2) Nothing contained in clause (a) of Ss.(1) shall affect :
“(b) any contract or contracts between the company on one side and any such director, relative, firm, partner or private company on the other for sale, purchase or — supply of any goods, materials and services in which either the company or the director, relative, firm, partner or private company, as the case may be, regularly trades or does business.
Provided that such contract or contracts do not relate to goods and materials the value of which, or services the cost of which, exceeds Rs 5,000 in the aggregate in any year comprised in the period of the contract or contracts;”
The provisions of S. 297 of the Act are not applicable if the above conditions are fulfilled i.e.,
(a) the parties to the contract regularly trade or do business
(b) the cost of such contract(s) does not exceed rupees five thousand in the aggregate in any year comprised in the period of contract(s).
The said Ss.(2) was substituted by the Amendment Act, 1960. This figure of Rs 5000 is unchanged since at least 1960 (50 years?!). In spite of so many amendments to the Act, surprisingly this proviso has not been amended. We know basic economics — value of a rupee is diminishing day by day. The inflation rate on many occasions is intwo digits. Is it not funny to keep such unrealistic figure in the exemption? Is there any possibility that a company in a year will trade or provide services restricting it to Rs 5000?
Conclusion:
S. 297 is not applicable to transactions or contracts entered by an Indian company with a foreign company. But it is applicable in case of two Indian companies. This is unfair towards Indian companies. To make the law fair:
(a) the Section may be amended for treating both Indian as well as foreign companies at par; or
(b) the term ‘body corporate’ can be inserted in the list of parties stated u/s.297(1) of the Act. The limit of Rs 5000 may be increased or eleminated alotgether.
