In the matter of Mr. Dhruv Harjai – Appellant vs M/s PPG Asian Paints Private Limited- Respondent at National Company Law Appellate Tribunal (NCLAT) order dated 15 July 2025

Facts of the Case:

• M/s Sidhi Vinayak Vehicles Private Limited – Corporate Debtor (CD) – represented by ex-director – Mr. Dhruv Harjai, entered into a Bodyshop Agreement on                                           21 March, 2018 with M/s. PPG Asian Paints Private Limited – the Financial Creditor (FC).  
• Under this agreement, the FC provided an upfront payment of Rs. 35 lakhs to the CD. The stated purpose was to enable the CD to purchase specialized paint equipment and conduct promotional activities, thereby upgrading its facilities. This payment was intended to facilitate the CD’s ability to fulfil its future obligations under the agreement.
• In direct consideration of Rs. 35 lakh payment, the CD committed to a reciprocal obligation: it had to procure refinish products worth Rs. 1 crore from the FC over the subsequent four years.
• The CD executed a promissory note for the exact amount of the upfront payment as a collateral security. This note was not merely a promise to pay but included a specific clause – in the event of a default, the CD would be liable to repay the principal amount along with an interest rate of 12% per annum.
• Following the CD’s default, the FC issued a legal notice demanding the repayment of the Rs. 35 lakhs plus the accrued interest. When the CD failed to comply, the FC filed an application u/s 7 of the Insolvency and Bankruptcy Code, 2016 (IBC). On                            8 December, 2022, the NCLT passed an order admitting the Section 7 application, initiating the CIRP against the CD.
• Aggrieved by the NCLT’s order, Mr. Dhruv Harjai, the ex-director of the CD, filed an appeal with the National Company Law Appellate Tribunal.

Arguments of the Appellant:

• The core of the appellant’s argument was that the transaction was fundamentally an operational debt.  Payment of Rs. 35 lakh was part of a commercial agreement related to the procurement and supply of goods (paint products). Therefore, the debt arose from a business transaction involving goods and services, which is the definition of an operational debt under Section 5(21) of the IBC.
• The appellant contended that the payment was an advance to facilitate a commercial relationship, not a loan. It did not have the commercial effect of a borrowing as required to be classified as a financial debt under Section 5(8)(f) of the IBC. The money was a means to an end—to help the CD meet its contractual obligations—and was not intended as a pure financial transaction.
• The promissory note, according to the appellant, was merely a secondary or collateral document. Its existence did not change the primary nature of the underlying transaction, which was commercial. The note was a security measure, not the primary instrument creating a financial debt.

Arguments the Respondent:

• The respondent argued that its application under Section 7 of the IBC was valid because the debt was a financial debt. It was further argued that the transaction, particularly the upfront payment of Rs. 35 lakhs had the commercial effect of a borrowing. FC had provided a lump sum of money to the CD, and in return, the CD undertook an obligation to either perform its part of the contract or repay the money with interest.
• The promissory note was a critical piece of evidence. The respondent emphasized that the note explicitly stipulated the repayment of the principal amount along with 12% interest per annum in case of default. This clause demonstrated the time value of money, defining characteristic of a financial debt. The money was not just an advance but a financial accommodation for which a return (interest) was promised in case of non-performance.
• The respondent differentiated the transaction from an operational debt by stating that the payment was not for goods or services supplied by the CD to the FC. Instead, the payment was made to the CD to enable it to expand its business and procure products from the FC. This flow of money—from the FC to the CD, with a repayment obligation and interest—is a classic characteristic of a financial debt.

Held:

• The interest clause in the promissory note was irrefutable evidence of the time value of money. This is a hallmark of a financial debt, where a sum is advanced to a party with the expectation of a return or compensation for its use over a period. In this case, the Rs. 35 lakhs was not just a payment for goods but was an upfront financial accommodation. The interest clause demonstrated that the transaction was designed to compensate the creditor for the time their money was unavailable
• The transaction falls u/s 5(8)(f) of the IBC, which defines a financial debt as any transaction having the commercial effect of a borrowing. The NCLAT reasoned that even though the transaction was part of a broader commercial agreement, its underlying financial structure—an upfront payment secured by a repayment obligation with interest—had the clear commercial effect of a borrowing.
• The appellant’s argument that the debt was an operational debt was rejected.                                 It was highlighted that an operational debt arises from the supply of goods or services. In this case, the Rs. 35 lakhs were not payment for goods or services supplied by the CD to the FC. Instead, it was a financial advance given to the CD to enable it to expand its business and meet its future commitments to the FC. The flow of money was the opposite of what would define an operational debt, where the creditor would have supplied goods or services and the debtor would owe them money for that
• NCLT had correctly identified the debt as a financial debt. The presence of the promissory note with the interest clause was the most compelling evidence. The NCLT’s decision underscored the principle that the substance of a transaction, not just its form, dictates its classification under the IBC. As a result – the appeal was dismissed and the NCLT’s order admitting the CIRP was upheld.

Ms Arti Ahuja Jewani – Partner – artiahuja@mmjc.in

Ms Esha Tandon- Deputy Manager –eshatandon@mmjc.in

The post Payment made by a creditor as an upfront contribution for purchase of paint equipment and for promotional activities, provided as collateral security, constitutes a Financial Debt u/s 5(8)(f) of IBC and not an Operational Debt first appeared on MMJC.

The provisions of section 186 of the Companies Act, 2013 (Act) states that a Company can not give loan to any person or body corporate exceeding 60% of its paid-up share capital, free reserves, and securities premium account, or 100% of its free reserves and securities premium account, whichever is more unless a special resolution has been passed at a general meeting. The challenge arises when a company, being a Financial Creditor (FC) or a Corporate Debtor (CD) under the Insolvency and Bankruptcy Code, 2016 (IBC), breaches this limit without the mandated special resolution.

Questions for Consideration

1. Whether the violation of section 186 of the Act prohibits a FC from invoking IBC against a CD (u/7 of IBC) despite having an established debt and default.
2. Alternatively, can the CD rely on non-compliance with section 186 of the Act as a shield against insolvency.

This article refers orders where the Tribunals have adopted two approaches while determining the admissibility of section 7 of IBC application despite existence of debt and establishment of default.

Analysis of the Law

1. Debt not in accordance with provisions of applicable law is not legally enforceable debt: In the matter of UKG Steels Private Limited v. Exotic Buildcon Private Limited, UKG Steels Private Limited (FC) extended an inter-corporate loan to the Exotic Buildcon Private Limited the CD that exceeded 60% of the aggregate of its paid-up share capital and free reserves, as per its balance sheet. The FC neither made the disclosure of such inter corporate loan in its balance sheet nor it was able to submit a special resolution passed at the Extra- Ordinary General Meeting (EOGM) u/s 186 (3) of the Act. The loan agreement was also silent about the resolution passed by shareholders. FC filed a section 7 application under IBC against the CD .

HON’ABLE NCLT dismissed the application u/s 7 of IBC and stated that loan given by FC were ultra vires and loan advanced was not a legally enforceable debt. HON’ABLE NCLT further held that loan given contrary to the limit prescribed under Section 186 of Companies Act, 2013 is an ultra vires act and is not a legally enforceable debt. CD enjoying the benefits of a FC’s transgression, lacks standing to contest the breach and its ramifications.

Similarly in the matter of Jambudwip Exports and Imports Limited v. UP Bone Mills Private Limited. Jambudwip Exports and Imports Limited (FC/lender) initially provided funds as an advance for goods, subsequently the said advance was converted into an intercorporate loan by executing a Memorandum of Understanding (MOU). This amount exceeded the limit prescribed under section 186(2) of the Act, and  the FC failed to obtain prior approval through a special resolution at a general meeting. Consequently, the HON’ABLE NCLT New Delhi dismissed the FC’s petition, deeming the debt as unenforceable.    

In a more recent matter ofProplarity Infratech Private Limited v. Sky High Technobuid Private Limited. The principal bench of HON’ABLE NCLT, Delhi (now pending appeal) adopted the similar view. It was alleged by Sky High Technobuild Private Limited the CD (borrower) that Proplarity Infratech Private Limited the FC (lender company) had extended the purported loan in excess of the limits set by section 186 without obtaining the necessary shareholder approval. HON’ABLE NCLT ruled that in view of non-compliance with section 186 of the Act, granting of such a loan was an ultra vires act, and therefore not a legally enforceable debt.

• Debt not in accordance with provisions of applicable law is not legally enforceable debt:

HON’ABLE NCLT Mumbai took a contrary view in the matter of Pegasus Assets Reconstruction Private Limited v. Whiz Enterprises Private Limited. The Whiz Enterprises Private Limited [‘CD’] argued that its corporate guarantee should be deemed void in view of the provisions of section 186 of the Act as it exceeded the limits set out in the section 186 of the Act. The HON’ABLE NCLT emphasised that the CD was well aware of the fact that it was entering into a deed of corporate guarantee for the loan disbursed to the principal borrower (proprietary firm of the director of the CD). Further any belated attempt to interpose such objections to evade payment obligations or insolvency was unacceptable.

Similarly in the matter of India Bulls Commercial Credit Limited Vs Koshika Bioscience Private Limited at HON’ABLE NCLT Mumbai wherein the India Bulls Commercial Credit Limited [‘FC’], gave loan to Pro Fin Capital Financial Services (Principal Borrower). The CD/respondent/guarantor-Koshika Bioscience Private Limited, gave a corporate guarantee to the FC in favour of Principal Borrower against the loan amount. As per the deed of guarantee submitted by the FC before HON’ABLE NCLT, the CD irrevocably and unconditionally agreed that the CD would pay the guaranteed amount stipulated in the guarantee deed without any delay to the FC as if the CD was a borrower. On failure of the principal borrower to repay the loan facility on time, an event of default occurred under the loan agreement. The CD argued that the guarantee issued was in violation of section 186 of the Act. The FC relied on the board resolution wherein it was stated that approval of members would be accorded in the general meeting. According to the Doctrine of Indoor Management it was presumed that the company must have complied with the relevant provisional requirements of the law. The HON’ABLE NCLT held that the FC relied on the board resolution and argued that there is no violation of section 186 of the Companies Act, 2013. Even if it was so, it may, at best be the procedural violation by the Company which does not invalidate the guarantee issued by the CD.

Hence to conclude it can be stated that when a CD admitted the acquisition of a loan or issuance of a corporate guarantee, subsequently leading to a default, it is estopped from evading its responsibility or resisting insolvency proceedings under the IBC merely on the technical grounds of non-compliance with Section 186 of the Act. Further HON’ABLE NCLT held that non-compliance to provisions of section 186 of the Act is merely a procedural violation and does not prejudice the claim of applicant FC. It is well settled legal principle based on Latin maxim commodum ex injuria sua nemo habere debet, which means that ‘no party can take undue advantage of his own wrong’. After signing and issuing of the guarantee on behalf of the CD and after handing over a duly signed board resolution, the same director cannot wiggle out of it on any ground of anomaly or violation of provisions of the Companies Act, 2013 by the CD. Hence the corporate guarantee was valid and enforceable.

HON’ABLE NCLT Kolkata, in the matter EDCL Infrastructure Ltd. Vs. Urban Infraprojects Private Limited. –has adopted a similar view that Section 186(2) of the Companies Act, 2013 is a protection mechanism to the shareholders/ stakeholders of the Company so that the persons who are managing the company cannot and should not give loan in excess of limits prescribed which would be in excess of their capacity and could land the company in deep trouble in case of a default of the loan lent. It is not open for the CD to take shelter under such violations and refuse to repay money borrowed.

• Whether the violation of section 186 of the Act prohibits a FC from invoking IBC against a CD (u/7 of IBC) despite having an established debt and default –

Loan given contrary to the limit prescribed u/s 186 of the Act is an ultra vires act and is not a legally enforceable debt. CD enjoying the benefits of a FC’s transgression, lacks standing to contest the breach and its ramifications.

• Alternatively, can the CD rely on non-compliance with section 186 of the Act as a shield against insolvency –

Section 186 of the Act cannot serve as a tool for Corporate Debtors to evade responsibility or resist insolvency when faced with a Financial Debt. According to Section 5(8) of the IBC, for a debt to qualify as Financial Debt, two crucial conditions must be met: (i) there must be a debt, including any interest, disbursed for the time value of money; and (ii) money must be disbursed from creditor to debtor. The essence of Financial Debt remains unaffected by any (in)fraction of Section 186.

The principles while determining the admissibility of a section 7 (IBC) application.

The Doctrine of Election and Estoppel –Those who consciously enjoy the advantages arising from a contract are barred from subsequently contesting its validity or enforceability. This is to ensure fairness and equity. Consequently, when a CD admits the acquisition of a loan or issuance of a corporate guarantee, subsequently leading to a default, it is estopped from evading its responsibility or resisting insolvency proceedings under the IBC merely on the technical grounds of non-compliance with section 186 of the Companies Act, 2013.

Doctrine of Indoor Management

The doctrine of indoor management implies that an outsider whose actions are in good faith and has entered into a transaction with a company can have a presumption that there are no irregularities internally and all the procedural formalities have been complied with. In cases where a CD defaults on a financial debt arising out of a loan exceeding the limits of section 186, Tribunal may attempt to invoke the doctrine of indoor management, claiming entitlement to presume that the FC adhered to internal procedures while extending the loan. (India Bulls Commercial Credit Limited Vs Koshika Bioscience Private Limited, EDCL Infrastructure Ltd. Vs. Urban Infraprojects Private Limited)

Further in cases like Proplarity Infratech Private Limited v. Sky High Technobuid Private Limited, UKG Steels Private Limited v. Exotic Buildcon Private Limited and Jambudwip Exports and Imports Limited v. UP Bone Mills Private Limited it can be concluded that when the requirements of section 186 are not met the transaction itself is void ab initio and therefore , granting of such a loan becomes an ultra vires act, and not a legally enforceable debt.

CONCLUSION

After taking note of all the above orders and principles we observe that the HON’ABLE HON’ABLE NCLT have adopted different views on account of non-compliance of section 186 –

One view is of treating the financial transaction as ultra vires and not enforceable, and the other view of treating a violation or breach on the part of the company extending the loan, security or guarantee should not allow the borrower to prevent itself free from its repayment obligations.

Setting aside financial transactions on this ground will lead to a situation where a borrower, can avoid its repayment liability, after obtaining financial assistance, by taking a plea of an internal non-compliance of section186 of the Act on the part of the lender goes against the very objective of the section, to protect the interest of the shareholders of a company.

Further, where a bank or financial institution obtains a third-party security or guarantee from a group company of the borrower and where such security provider or guarantor has not complied with section 186 of the Act, then in such a situation, if the guarantee or security transaction itself would be treated as void or ultra vires and unenforceable, it would lead to a situation of a party taking advantage of its own wrong. A corporate guarantor or security provider cannot be rewarded for its own breach of section 186 of the Act, by terming such a transaction as void or ultra vires on account of its own internal non-compliance.

The post Admissibility of a Loan in IBC in Case of Violation of 186 of Companies Act 2013 first appeared on MMJC.

The President of India has promulgated Insolvency and Bankruptcy Code (Amendment) Ordinance, 2021 on 4 April 2021 to allow pre-packaged insolvency resolution process (PPIRP) for Corporate Debtors classified as a Micro, Small or Medium Enterprise (MSMEs) under section 7 of the Micro, Small and Medium Enterprises Development Act, 2006.

The Ordinance is promulgated to address the specific requirements of MSME relating to the resolution of their insolvency. Due to the unique nature of their businesses and simpler corporate structures, a need was felt for an efficient alternative insolvency resolution process for MSMEs under the Insolvency and Bankruptcy Code, 2016, (IBC) ensuring quicker, cost-effective and value maximising outcomes for all the stakeholders, in a manner which is least disruptive to the continuity of their businesses and which would also preserve jobs and ensuring economic recovery which is affected due to pandemic.

The MSMEs may proceed for PPIRP in case if the default amount is 10 Lakh or more.  The Central Government may specify the higher amount of default not exceeding more than Rs. 1 crore for PPIRP.  

Key features of PPIRP:

• Eligibility:

An application for initiating PPIRP can be made in respect by a Corporate Debtor (CD) subject to the following conditions, that-

• The CD has not undergone PPIRP or completed Corporate Insolvency Resolution Process (CIRP) as the case may be during the period of 3 years preceding the initiation date
• No Order of Liquidation is passed against the CD
• CD is not undergoing CIRP
• CD is eligible to submit a resolution plan under section 29A of IBC
• An approval from its Financial Creditors (FCs), not being its related parties, representing not less than 66% in value of the financial debt due to such creditors, for the filing of an application for initiating PPIRP and proposal to appoint insolvency professional to be appointed as resolution professional (RP) for conducting the PPIRP. 

• Constitution of Committee of Creditors (CoC)

The Resolution Professional (RP) within 7 days from the commencement is required to constitute a CoC, based on the list of confirmed claims. The first meeting of the CoC is required to be held within 7 days of the constitution CoC.

• Key Nuggets:

• While making an application the majority of the Directors/ Partners of the CD are required to make a declaration that the PPIRP is not being initiated to defraud any person
• The moratorium u/s 14 of the IBC, mutatis mutandis apply, to the proceedings under PPIRP till the date on which the PPIRP comes to an end
• During the PPIRP period, the management of the affairs of the CD would continue to vest in the Board of Directors or the partners, as the case may be, of the CD, subject to conditions specified.
• However, CoC at any time during the PPIRP period may resolve to vest the management of the CD with the RP with a voting of not less than 66% of the voting and with the approval of National Company Law Tribunal (NCLT)  
• Base Resolution Plan is required to be submitted by CD either individually or jointly to the RP within 2 days from the date of commencement and the RP is required to submit the plan to CoC. The plan submitted is required to meet the requirements of section 30(1) & 30 (2) of the IBC
• The CoC may approve the base resolution plan for submission to the NCLT if it does not impair any claims owed by the CD to the operational creditors (OC)
• If the base resolution plan is not approved by CoC or it impair the claims of the OCs, the RP may invite prospective resolution applicants to compete with the base resolution plan.

• Approval of PPIRP:

• The resolution plan is required to be approved by 66% of the FC value after considering its feasibility and viability.
• The CoC is also required to consider the manner of distribution proposed taking into the order of priority among creditors including the priority and value of the security interest of a secured creditor etc.
• The CoC may require promoters of the CD to dilute their shareholding or voting or control rights         
• NCLT is required to approve the resolution plan within 30 days from the receipt after confirming that the resolution plan has provisions for its effective implementation.

• Fraudulent Management of CD during PPIRP:

• Where an officer of the CD manages its affairs with an intent to defraud creditors of the CD or for any fraudulent purpose, NCLT may, on an application by RP, pass an order imposing upon any such officer, a penalty which shall not be less than Rs. 1 Lakh  but which may extend to Rs. 1 Crore

• Punishment for offences related to PPIRP:

• If CD/director/partner of the CD provides any information which is false in material particulars, knowing it to be false or omits any material fact, knowing it to be a material fact such corporate debtor or person as the case may be shall be punishable with imprisonment for a term which shall not be less than 3 years, but which may extend to 5 years or with fine which shall not be less than Rs. 1 Lakh but which may extend to Rs. 1 Crore or with both.

The key attraction of PPIRP is its short duration of process covering 120 days and it’s for MSMEs. However, the success of this would depend on its effective implementation!!  

The post Pre-packed Insolvency Resolution process for MSME – A boon in disguise during Pandemic? first appeared on MMJC.

An application under section 9 of the Insolvency and Bankruptcy Code, 2016 (IBC) was filed by Worldwide Metals Pvt. Ltd – the Operational Creditor (OC) against the J.P. Engineers Pvt Ltd -corporate debtor for initiating Corporate Insolvency Resolution Process (CIRP) which was admitted by  National Company Law Tribunal (NCLT) on 26 Feb, 2021.  

The appellant entered into an agreement with the corporate debtor for the sale and purchase of Aluminium and the corporate debtor had issued a bank guarantee executed by Andhra Bank (Andhra Bank is now merged with Union Bank of India) on 22 April, 2019 for ensuring the payment.

The corporate debtor defaulted in making payments as a result of which the appellant invoked the bank guarantee and submitted a letter to the bank along with the original bank guarantee to the concerned banks branch. The Bank in return stated that the encashment of the bank guarantee required IRP`s approval and denied its encashment

IRP refused to allow encashment of Bank Guarantee citing Moratorium u/s 14 of the IBC. The Appellant then filed an application in NCLT for enforcing bank guarantee which was refused by the NCLT. The present appeal arises out of that Order passed by the NCLT.

Question for Consideration:

Whether the financial bank guarantee can be invoked after issuance of moratorium under Section 14 of the IBC?

Arguments of the Appellant:

• It was submitted that conjoined reading of the proviso to Section 3(31) and Section 14 of the IBC does not include performance bank guarantees from the ambit of Moratorium under Section 14 of the IBC and that the same reasoning would apply to the bank guarantee. 
• It further submitted that Section 14(3)(b) of the IBC provides that Moratorium will not be applicable ‘to a surety in a contract of guarantee to a corporate Debtor’. Therefore, bank cannot take advantage of the moratorium. For this purpose, reliance was placed on the judgement passed by the Hon’ble Supreme Court in the case of SBI vs. V. Rama Krishnan & Ors.
• Legislative intend behind Section 14 of the IBC is only to secure the Assets of the Corporate Debtor and the benefit of moratorium ought not to be extended to third parties i.e. surety, for this purpose.
• Reliance was also place on the judgement passed by Hon’ble Supreme Court in the case of UP State Sugar Corporations vs. Sumac International Ltd., wherein it was held that irrevocable & unconditional bank guarantee should be encashed irrespective of the dispute.
• Also submitted that Hon’ble Andhra Pradesh High Court in the case of Haryana Telecom Ltd. Vs. Aluminium industries Ltd., held that the bank guarantee cannot be said to be the property of the Corporate Debtor simply because it is indirectly going to be affected by enforcement of the said bank guarantee by the beneficiary.

Arguments of the Respondent:

• The Bank submitted that the guarantee in question is a bank guarantee and not a performance guarantee as held by NCLT. The bank guarantee is covered by the moratorium u/s 14 of the IBC thus, enforcing such security interest during the moratorium period would violate Section 14 of the IBC. The provisions of Section 3(31) of the IBC makes it clears that the guarantee in question falls under the ambit of “any other agreement or arrangement securing payment or performance of any obligation of any person”.
• Also submitted that IBC being a special law prevails on the Indian Contract Act, 1872 which happens to be general law. Thus, the guarantee in question being a bank guarantee will be hit by moratorium under Section 14 of the IBC.
• Further, pointed out the difference between the performance bank guarantee and financial bank guarantee. Thus, the intention of the legislature in carving out an exception for the Performance Bank Guarantee only is limited for excluding only the performance bank guarantee from the ambit of moratorium u/s 14 of the IBC.
• The bank guarantee in question is a security interest of the corporate debtor. Thus, encashing the same would violate the provisions of section 14 of the IBC and further would frustrate the process of CIRP.

Held

• Assets of the surety are separate from those of the corporate debtor, and proceedings against the corporate debtor may not be seriously impacted by the actions against assets of a third party like surety.
• Reliance was placed on the Para 5.11 of the Report of Insolvency Law Committee which provided that Section 14 of the IBC does not intend to bar actions against assets of guarantors to the debts of the corporate debtor and recommended that explanation to clarify this may be inserted in Section 14 of the IBC. The scope of moratorium may be restricted to the assets to the corporate debtor only.
• Pursuant to this, the section 14 of the IBC has been amended w.e.f 6 June, 2018.
• Further, also placed reliance on the Hon’ble Supreme Court Order, in the Case of SBI Vs. V. Ramakrishnan & Ors Section 14 of the IBC refers only to debts due by corporate debtors, who are limited liability companies, and it is clear that the vast majority of the cases, personal guarantees are given by directors who are not in management of the companies. The object of the IBC is not allowed such guarantors to escape from an independent and co-extensive liability to pay off the entire outstanding debt, which is why section 14 of the IBC is not applied to them.
• Also held that contract of guarantee is between the creditor and principal debtor and the surety whereunder the creditor has a remedy in relation to his debt against both the principal debtor and surety. As per Section 128 of the Contract Act, 1872 the liability of surety is coextensive with that of principal debtor and the creditor may go against either principal debtor or surety or both in no particular sequence.
• The bank guarantee in question can be invocated/encashed even during the moratorium period under section 14 of the IBC against the corporate debtor.

The post Bharat Aluminium Co Limited (Appellant) Vs. Mr. Sumit Bansal – Interim Resolution Professional (IRP) of J.P. Engineers Pvt Ltd (Respondent) – in the order dated 26 Feb, 2021 passed by the National Company Law Appellate Tribunal, (NCLAT) New Delhi first appeared on MMJC.

• Manu Maheshwari (Respondent) had given a loan of Rs. 52,00,000 @ 24% interest to M/s. Independent Disk Mastering, Private Limited (company) through account payee cheque in the name of the company on the request and persuasion by the directors of the company (petitioners) for smooth functioning of business.
• The company could not return it in time, as a result Shri Manu Maheshwari instituted a suit for recovery of Rs. 74,34,446/- against Company and its three Directors in trial court.
• Petitioners filed an application under Order I Rule 10 CPC in November 2014, inter alia, seeking deletion of their names from the array of parties on the ground that they were merely Directors in the Company and the Company had taken loan as a separate legal entity as also that there were no personal allegations of mala-fide or fraud against them and they were not personally liable.
• Subsequent to the filing of the said petition, respondent filed an application seeking amendment of the plaint to include allegations against petitioners for lifting of the corporate veil of the Company. However, this application was subsequently withdrawn by respondent.
• By the order dated 27.07.2018, Trial Court has dismissed the application filed by petitioners under Order I Rule 10 CPC, saying that “In view of the above facts and circumstances, it is directed that petitioner shall not be deleted as parties to the present suit at this stage.
• Further aggrieved by order of Trial Court petitioners filed a revision petition.
• The question of law for discussion here is whether the Trial Court was justified in dismissing the application seeking deletion of petitioner’s name from array of parties by applying the doctrine of lifting the corporate veil.

Arguments on behalf of Respondents:

• Petitioners were directors and principal officers of the Company and in-charge and responsible for its day-to-day affairs and thus jointly and severally liable and responsible for the acts done on behalf of the Company.
• It has been averred that petitioner had jointly and personally requested and persuaded the respondent for the financial assistance/ help for smooth functioning of the business of Company. Therefore, their presence is required for adjudication of the suit. So, they shall not be struck off as parties from the suit.
• Further quoted one judgement[1] of Delhi HC in which it has been held by the Hon’ble High Court of Delhi that there is no doubt about the fact that a company is a separate legal entity and has a distinct identity from Directors but this protection afforded to the Directors of the company is not ironclad or impenetrable. In reality, individuals/persons are the ones, who run the company in the hope of reaping benefits out of it. In a case where a court determines that a company’s business was not conducted in accordance with the provisions of corporate legislation, it can pull up the “corporate veil” and discover the true culprit. This lifting of corporate veil’ is essential for the purpose of determining the persons who are liable for any fraudulent or unlawful practices done in the garb of running a corporate body.
• It was argued that Petitioners were Directors of the Company as on 16.01.2012, when the suit was filed against the Company.
• Further argued that One of the petitioners resigned as Director on 28.12.2015 while other resigned on 20.11.2012. This was a deliberate act to avoid the liability of payment to the Plaintiff.
• New directors of the company stand disqualified by ROC under Section 164(2) of the Companies Act from 01.11.2017 to 31.10.2022. Information also reveals that the Company has been ‘struck off’ from the MCA. Summary of accumulated losses shows that the Company has been incurring losses from 2017, while the loss for the year 2013-2014 was Rs.25,39,771/-. In these circumstances, if petitioners are deleted from the array of parties and the decree is passed in favour of the Plaintiff, it will become in executable.
• it was also argued by learned counsel for the Respondent that the application filed by the petitioners under Order I Rule 10 CPC for their deletion was misconceived and has been rightly dismissed by the Trial Court.

Arguments on behalf of petitioners

• Petitioners had filed one written statement before trial court wherein it is pleaded that Company is a corporate body incorporated under Companies Act and has a separate and independent legal entity from the directors.
• Further Ld. Council of petitioner contended that the impugned order is unsustainable in law as the Trial Court failed to appreciate that there were no allegations against petitioners in the plaint and a bare reading of the plaint would show that Plaintiff was seeking to recover an amount, which was allegedly given to the Company at the highest, at the request of the said Defendants.
• There was no contract between the petitioner and respondent as the alleged loan was given by an Account Payee cheque in favour of the Company.
• It was contended that Directors of the Company cannot be made personally liable for the outstanding dues and liabilities of the Company, unless they have given a guarantee, indemnity etc. or there are allegations of fraud etc.
• Trial Court failed to appreciate that liability of a Director of a Company, under law, is confined in case of malfeasance and misfeasance and/or the actions of the Directors amount to an act under the law of tort towards those whom they owe a duty to care i.e. discharge fiduciary obligations.
• further contended that the presence of petitioners was not required for adjudicating the disputes between Plaintiff and the Company and therefore they are neither necessary nor proper parties and ought to have been deleted from the array of parties on an application filed by them on the principles underlying the provisions of Order I Rule 10 CPC.
• In any event, an apprehension of being unable to execute a decree in future is not a good enough reason, in law, to make the existing or erstwhile Directors party to the suit, by lifting the corporate veil.

Held:

• The doctrine of lifting of corporate veil (doctrine) is an exception to the principle that a Company is a legal entity, separate and distinct from its shareholders, with its own legal rights and obligations. It discards the separate entity of the Company and attributes the acts of the Company to those who are in direct control of its operations
• Further referred judgement[2] wherein six principles were crystallized for applying the said doctrine which are as follows:

(i) ownership and control of a company were not enough to justify piercing the corporate veil;

(ii) the Court cannot pierce the corporate veil, even in the absence of third-party interests in the company, merely because it is thought to be necessary in the interests of justice;

(iii) the corporate veil can be pierced only if there is some impropriety;

(iv) the impropriety in question must be linked to the use of the company structure to avoid or conceal liability;

(v) to justify piercing the corporate veil, there must be both control of the company by the wrongdoer(s) and impropriety, that is use or misuse of the company by them as a device or facade to conceal their wrongdoing; and

(vi) the company may be a ‘facade’ even though it was not originally incorporated with any deceptive intent, provided that it is being used for the purpose of deception at the time of the relevant transactions.

• Further stated that, it has to be borne in mind that the doctrine of Lifting of Corporate veil is not available in every case of alleged liability against a Company. It is only available in restricted cases and limited circumstances, where it is permissible to so do under a Statute or where the corporate structure has been instituted to perpetuate a fraud or is a camouflage, facade or sham to avoid liability or in a case where effect has to be given to a beneficial Legislation. These can be broadly outlined as instances where the corporate veil can be lifted, though it cannot be said that this is an exhaustive list.
• Allegations in plaint do not refer to any transaction with petitioners in their personal capacity apart from stating that they were known to the Plaintiff in a friendly capacity. Although it is claimed that the money was advanced as loan due to personal relation with petitioners, it is undisputed that the transaction was directly with the Company and loan was advanced in the name of the Company by a cheque.
• There is no allegation of fraud levelled against petitioners and nor is there any averment that the corporate structure was created as a mere facade or camouflage to avoid liabilities. It is also not the case of the Plaintiff that the Directors were personal guarantors to the loan transaction or had assured to indemnify the amount.
• Learned counsel for the Respondent had also sought to argue that since petitioners have resigned, the decree, if passed in favor of the respondent, would be in executable. Suffice would it be to state in this regard that it is always open to summon the Directors as witnesses. In any case, the respondent is not remediless in executing the decree against the Company and as pointed out by counsel for petitioners, Respondent had already filed an application under Order XXXVIII Rule 5 CPC, which is pending adjudication before the Trial Court.
• The averments made in the plaint, in my view, do not justify the lifting of the corporate veil to make the Directors personally liable. The cryptic observation of the Trial Court, that the facts and circumstances of the case attract the principle of lifting the corporate veil, is not supported by the pleadings and I may also note that the order does not even give any reasons for having so held.
• the impugned order is totally unsustainable. The Trial Court has without any reasoning, declined to delete petitioners name against the well settled law on lifting the corporate veil. This is a clear material irregularity
• In view of the above, present Revision Petition is allowed. The order of the Trial Court dated 27.07.2018 is hereby set aside and name of petitioners are deleted from the array of parties in the suit. The Trial will henceforth proceed accordingly.

[1] M/s. Red Zebra Gift Promotion P. Ltd & Anr Vs. Purnavi Events P. Ltd’.

[2] In Ben Hashem vs Ali Shayif (2008) EWHC 2380 (Fam)

The post Sanuj Bathla &; Anr.. (Petitioners) V. Manu Maheshwari &; Anr.. (Respondents) in the order dated 12 April 2021 passed by Delhi High Court first appeared on MMJC.