2015 (7) TMI 1442 - HC - Companies Law

State Financial Corporation cannot possess company assets after winding up order, must deposit auction proceeds with Official Liquidator

M/s. Shield Shoe Company Private Limited (In Liquidation) Versus The Rajasthan Financial Corporation

The HC held that a State Financial Corporation cannot take possession of company assets after winding up order is passed. Following SC precedents, the ... Direction to deposit the auction amount received by it from the sale, which was confirmed by the Company Court on 28.07.2011, of the immovable assets of the company in liquidation - Rule 9 of the Companies (Court) Rules, 1959. Whether the amount received by RFC from the auction sale of the immovable assets of the company in liquidation under the direction and supervision of this Court has to be remitted to the O.L. or whether RFC is entitled to hold the said amount and appropriate it as the secured creditor of the Company in liquidation subject only to the pari passu charge of the workers under the proviso to Section 529(1) of the Act of 1956? HELD THAT:- A State Financial Corporation cannot take possession of the assets of a debtor company after the said company is ordered to be wound up. This issue is not res integra and stands firmly settled by the judgment of the Hon'ble Supreme Court in the case of Rajasthan State Financial Corporation & Anr. Vs. Official Liquidator & Anr. [2005 (10) TMI 280 - SUPREME COURT] where a three judge Bench has endorsed the earlier two Judge judgments in the case of A.P. State Financial Corporation Vs. Official Liquidator [2000 (8) TMI 986 - SUPREME COURT] and International Coach Builders Ltd. Vs. Karnataka State Financial Corporation [2003 (3) TMI 529 - SUPREME COURT]. It has been held that in cases where a winding up order in respect of company in liquidation has been passed prior to the exercise of powers under Section 29 of the Act of 1951, by virtue of the workers' debts of the company in liquidation statutorily being deemed to be pari passu with the debt of the secured creditors and all assets, including fixed assets of the company in liquidation coming, in such a situation, in the custody of the O.L. on behalf of the Company Court, the O.L., aside of being mandatorily required to be associated with the sale of the assets in all aspects should hold the proceeds of the sale for distribution thereof amongst creditors in terms of the priorities detailed for the purpose under the provisions of Sections 528, 529, 529A & 530 of the Act of 1956. The application filed by the O.L. deserved to be allowed. The respondent-RFC is directed to deposit with the O.L. within seven working days following today, the entire amount received by it from the sale of the assets of the company in liquidation along with upto date accrued interest. RFC as the secured creditor however would be entitled to receive amounts due to it in that capacity in accordance with the provisions of the Companies Act, 1956 and the Rules of 1959. Pendency of cases is a serious issue in the administration of justice. Causes are multiple. Not the least however is reckless litigation by State instrumentalities despite being supported by legal departments and no lack of funds to obtain good legal advise before filing cases or setting up defences. Where the defences are baseless and in the face of admitted facts and/or settled legal position, this Court would be failing in its duty in not imposing exemplary costs. The Hon'ble Supreme Court in the case of Ramramesh Wari Devi Vs. Nirmala Devi & Ors. [2011 (7) TMI 1305 - SUPREME COURT] has held that frivolous and vexatious defence should be visited with exemplary costs. The present case is such a case. RFC is held liable to pay costs of Rupees One lac to the Rajasthan State Legal Services Authority within a period of ten weeks from today. The Deputy Registrar (Judicial) is directed to ensure that costs as directed are paid—no doubt subject to an order to the contrary in an appeal. If costs are not paid as directed, without just cause, the Dy. Registrar (Judicial) to bring the matter to the notice of this court after ten weeks. The Company Application stands allowed accordingly. 1. ISSUES PRESENTED AND CONSIDERED 1. Whether auction proceeds received by a secured creditor/State Financial Corporation from sale of immovable assets of a company in liquidation, sold under the supervision and confirmation of the Company Court and in the custody of the Official Liquidator, must be deposited with the Official Liquidator for distribution under the Companies Act, 1956. 2. Whether a State Financial Corporation can exercise powers under Section 29 of the State Financial Corporation Act, 1951 to take possession and appropriate sale proceeds after a winding up order has been passed and assets have come into the custody of the Official Liquidator pursuant to Sections 456-457 of the Companies Act, 1956. 3. Whether the secured creditor is entitled to retain and appropriate auction proceeds subject only to the proviso to Section 529(1) and whether the Official Liquidator's claim to the proceeds is limited to accounting for workers' dues under the proviso to Section 529 alone. 4. Whether the secured creditor's refusal to remit sale proceeds to the Official Liquidator, despite court-supervised sale and confirmation, justifies imposition of costs for frivolous/vexatious defence. 2. ISSUE-WISE DETAILED ANALYSIS Issue 1 - Entitlement of Official Liquidator to auction proceeds received by a secured creditor after court-supervised sale Legal framework: Sections 456(1)-(2), 457(2)(v), 528, 529, 529A and 530 of the Companies Act, 1956; Rule 9 of the Companies (Court) Rules, 1959. Under Section 456(1)-(2) all property of a company comes into the custody/control of the Official Liquidator/Company Court on winding up. Section 457 empowers the liquidator to act (including by agents). Distribution of assets is governed by Sections 528-530 and the priorities therein (including workers' debts). Precedent treatment: The Court applied and followed authoritative Supreme Court rulings holding that where winding up precedes exercise of a State Financial Corporation's powers, the liquidator must be associated with sale and hold the proceeds for distribution under the Companies Act; that Sections 446/529/529A (and related provisions) override Section 29 of the State Financial Corporation Act in such circumstances. Interpretation and reasoning: The Court found that the assets had come into Official Liquidator's custody on the winding up order and that subsequent orders and conduct (permission for auction subject to Court confirmation, Court-set auction terms, and final confirmation by the Company Court) demonstrate the sale was for and on behalf of the Official Liquidator, not a private exercise by the secured creditor. Correspondence and the secured creditor's requests for adjustment/permission further evidenced acceptance of the Court's control. Consequently, the proceeds received by the secured creditor are proceeds of a sale conducted under the Company Court's supervision on behalf of the Official Liquidator and must be remitted to him for distribution under the Companies Act. Ratio vs. Obiter: Ratio - where assets are in Official Liquidator's custody and sale is conducted under Company Court supervision/confirmation, proceeds are to be held by the Official Liquidator and distributed per Companies Act priorities; Sections 456-457 and 528-530 govern. Observational commentary - factual emphasis on correspondence and conduct of parties confirming sale on behalf of Official Liquidator. Conclusion: Auction proceeds received by the secured creditor under the facts (court-supervised sale, subject to confirmation, in Official Liquidator's custody) must be deposited with the Official Liquidator along with accrued interest for proper adjudication and distribution under the Companies Act. Issue 2 - Power of State Financial Corporation under Section 29 of the State Financial Corporation Act post-winding up Legal framework: Section 29 of the State Financial Corporation Act, 1951 (power of financial corporations to take possession/sell mortgaged assets) vis-à-vis Companies Act, 1956 provisions (notably Sections 446, 456-459, 528-530, 529A) and amendments that created workers' special rights. Precedent treatment: The Court relied on binding higher-court authority establishing that where winding up precedes exercise of Section 29 powers, the secured creditor's rights are subordinated to the Companies Act regime and the statutory pari passu status of workers' dues; the amendments creating Sections 529/529A were treated as operative to override Section 29 in that context. Interpretation and reasoning: A secured creditor cannot, as of right, take possession or dispose of mortgaged assets to its own account once a winding up order has been made and the Official Liquidator has custody; such possession requires leave of the Court. The proviso to Section 529(1) renders workers' claims pari passu with secured creditors' claims, making unilateral appropriation by a secured creditor inconsistent with statutory distribution priorities and potentially prejudicial to other creditors; hence Section 29 cannot be invoked to defeat those priorities. Ratio vs. Obiter: Ratio - Section 29 powers of a financial corporation are ineffective to permit possession/appropriation of assets or proceeds where winding up predates such exercise and assets are in liquidator's custody; Companies Act priorities prevail. Observations - emphasis on orderly liquidation and protection of workers' preferential position. Conclusion: The secured creditor could not validly exercise Section 29 after the winding up order and while assets were in the Official Liquidator's custody; rights under the State Financial Corporation Act are subordinated to Companies Act provisions in that scenario. Issue 3 - Extent of secured creditor's entitlement and Official Liquidator's duties regarding workers' dues and distribution Legal framework: Proviso to Section 529(1) (pari passu status of workers' dues), Sections 528-530 (distribution scheme), and related Rules of 1959 (accounting/filing). The liquidator is statutory trustee/agent/officer of the court responsible for custody and distribution. Precedent treatment: Court followed prior authority treating workers' dues as a statutory first charge pari passu with secured creditors and requiring the liquidator's involvement in sale and distribution. Interpretation and reasoning: The secured creditor's right to be paid from proceeds remains subject to statutory distribution priorities and accounting processes; the proviso to Section 529(1) does not limit the Official Liquidator's entitlement to control proceeds but rather creates a shared priority that must be adjudicated and satisfied through the liquidator's distribution mechanisms. The secured creditor's entitlement is to amounts found due after accounting and distribution under the Act, not to unilateral appropriation at the point of sale. Ratio vs. Obiter: Ratio - secured creditor may receive payment from sale proceeds only in accordance with the Companies Act distribution regime; Official Liquidator controls proceeds to ensure statutory priorities (including workers) are honored. Observation - secured creditor's contention that its obligation is limited to accounting for workers' dues under proviso alone is rejected. Conclusion: Official Liquidator is entitled to hold and administer proceeds; secured creditor's recovery is subject to adjudication under Companies Act priorities and accounting by the liquidator. Issue 4 - Imposition of costs for maintaining defence contrary to orders, correspondence and settled law Legal framework: Court's power to award costs for frivolous or vexatious litigation and to impose exemplary costs where state instrumentalities pursue baseless defences contrary to admitted facts or settled law. Precedent treatment: Court relied on higher-court authority endorsing imposition of exemplary costs for frivolous/vexatious defences. Interpretation and reasoning: The secured creditor continued to withhold proceeds despite prior Company Court order dismissing its application, correspondence indicating acceptance of court control, multiple subsequent orders showing sale on behalf of Official Liquidator, and controlling precedent. The conduct was held to amount to a frivolous and vexatious defence warranting costs to deter reckless litigation by well-resourced state instrumentalities. Ratio vs. Obiter: Ratio - when a party maintains a baseless defence in the face of clear orders, correspondence and settled legal position, court may impose exemplary costs. Observation - public interest in deterring reckless litigation by state entities. Conclusion: Costs were appropriately imposed on the secured creditor as a penalty for maintaining a frivolous and vexatious defence and for obstructing the statutory liquidation process.