1996 (3) TMI 413 - HC - Companies Law

Court Holds Ex-Directors Liable for Fraudulent Trading

The court found the ex-directors guilty of misfeasance and fraudulent trading under sections 542 and 543 of the Companies Act, 1956, holding them ... Winding up – Liability for fraudulent conduct of business, Power of court to assess damages against delinquent directors, etc. Issues Involved:1. Misfeasance and fraudulent trading under sections 542 and 543 of the Companies Act, 1956.2. Liability of ex-directors and their heirs for amounts withdrawn from the company.3. Jurisdiction of the court to hear the applications.4. Limitation for filing the application.5. Applicability of the partnership principle to a private limited company.6. Requirement of proving mens rea for misfeasance.7. Liability of legal heirs of deceased directors.Issue-wise Detailed Analysis:1. Misfeasance and Fraudulent Trading under Sections 542 and 543 of the Companies Act, 1956:The court examined whether the ex-directors and their heirs were guilty of misfeasance and fraudulent trading. The official liquidator argued that the ex-directors had borrowed substantial amounts from the company and failed to return them, causing financial ruin. The court found that the ex-directors had unjustifiably withdrawn large sums from the company and continued its operations despite knowing its dire financial state. This was considered fraudulent trading, as it deprived creditors of their dues. The court held that the provisions of sections 542 and 543 were applicable, making the ex-directors personally liable for the amounts withdrawn.2. Liability of Ex-Directors and Their Heirs for Amounts Withdrawn from the Company:The court addressed the liability of ex-directors and their heirs for the amounts withdrawn. It was established that the ex-directors had admitted to the withdrawals in their affidavits and statements of affairs. The court found that the withdrawals were made after the incorporation of the company, and the ex-directors had retained the amounts without interest, causing financial loss to the company. The court held that the ex-directors were liable for misfeasance and breach of trust, and their heirs were also liable to refund the amounts to the official liquidator to the extent of the value of the estate of the deceased.3. Jurisdiction of the Court to Hear the Applications:The court considered the jurisdictional challenge raised by the opposite parties, arguing that the registered office of the company was in Barabanki, and the Lucknow Bench should hear the matter. The court referred to the Division Bench's decision in Special Appeals Nos. 7 and 8 of 1979, which had upheld the jurisdiction of the High Court of Allahabad to entertain the applications. The court reiterated that it had jurisdiction to hear the applications filed by the official liquidator.4. Limitation for Filing the Application:The opposite parties contended that the applications were barred by limitation. The court referred to the Division Bench's decision, which had held that the applications were within the limitation period. The court noted that the limitation period under section 543 of the Act is five years, and the applications were filed within this period, excluding one year as provided under section 458A of the Act. Therefore, the applications were not barred by limitation.5. Applicability of the Partnership Principle to a Private Limited Company:The opposite parties argued that the company was initially a partnership firm, and the partnership principle should apply, allowing partners to withdraw money. The court rejected this argument, stating that a private limited company is a separate legal entity distinct from its members, and the rights and obligations of partners do not carry over after incorporation. The court emphasized that the company was not a partnership, and the ex-directors had no right to withdraw company funds for personal use.6. Requirement of Proving Mens Rea for Misfeasance:The opposite parties contended that the official liquidator failed to prove mens rea (criminal intent) for misfeasance. The court clarified that sections 542 and 543 of the Act do not require proof of criminal intent. The provisions are civil in nature, aimed at compensating the company for losses caused by misfeasance or breach of trust. The court held that the ex-directors' actions amounted to misfeasance and breach of trust, and the official liquidator had adequately discharged the burden of proof.7. Liability of Legal Heirs of Deceased Directors:The court addressed the liability of the legal heirs of deceased directors. The opposite parties cited the Supreme Court decision in Official Liquidator, Supreme Bank Ltd. v. P.A. Tendolkar, arguing that heirs cannot be held liable for misfeasance committed by deceased directors. The court referred to a subsequent Supreme Court decision in Official Liquidator v. Parthasarathi Sinha, which clarified that legal heirs could be held liable to the extent of the estate of the deceased in their hands. The court held that the heirs of the late Roshan Lal were liable to refund the amounts withdrawn by him to the official liquidator.Conclusion:Company Applications Nos. 15 and 16 of 1977 were allowed. The ex-director, Ram Swarup, was directed to pay Rs. 9,78,711.20 with interest at 12% per annum to the official liquidator. The heirs of Lala Roshan Lal were directed to pay Rs. 12,34,020.31 with interest at 12% per annum to the official liquidator. The opposite parties were entitled to adjust the amount deposited under the Supreme Court's directions. Costs were awarded to the official liquidator.