1968 (11) TMI 63 - SC - Companies Law

Charge in Praesenti not created absent executed security; unsecured creditors remain pari passu on winding up.

Where a sanctioned creditors' scheme envisaged future mortgage or debenture security but the instrument was not executed, no charge in praesenti arose and ... Scheme sanctioned by the court has statutory force but remains a commercial document - obligation to provide finance under a court sanctioned scheme - agreement to mortgage is distinct from creation of a charge in praesenti - winding up under section 392(2) for inability to carry out a sanctioned scheme - no completion of imperfect security rights after commencement of winding up; pari passu distributionObligation to provide finance under a court sanctioned scheme - scheme sanctioned by the court has statutory force but remains a commercial document - Extent and nature of the Jalans' obligation under clause (4) of the sanctioned scheme to 'provide the necessary finance required for running the mills'. - HELD THAT: - The scheme was framed and sanctioned when the company was commercially insolvent and assumed the mills could be restarted and run profitably if finance was provided. The Jalans concurred in the scheme and, by clause (4), undertook to 'provide' necessary finance. Read commercially, 'provide' includes arranging finance on the company's credit or security or, if necessary, bringing in their own monies, but does not impose an obligation to fund the enterprise in all events or to continue funding where there is no reasonable prospect of running the mills at a profit. Sub clauses contemplating loans secured on company assets show that arranging secured finance was within the intended means of performance, and the Jalans' initial efforts (arrangements with Sushil Co., bank negotiations and partial advances) demonstrate they acted on that responsibility. The obligation therefore was to provide finance reasonably necessary to enable profitable operation, not an unlimited personal guarantee to underwrite losses.The Jalans were under a commercial obligation to provide or procure finance sufficient for running the mills with a reasonable prospect of profit, but not to supply unlimited funds if profitable operation was not reasonably attainable.Winding up under section 392(2) for inability to carry out a sanctioned scheme - no completion of imperfect security rights after commencement of winding up; pari passu distribution - Whether the company judge was correct in directing the Jalans to provide finance and in refusing winding up, or whether the appeal court rightly ordered winding up after finding the scheme could not be satisfactorily worked. - HELD THAT: - Section 392(1) empowers the High Court to supervise and give directions for carrying out a sanctioned scheme; section 392(2) permits winding up if the scheme cannot be worked satisfactorily. The company judge's direction to compel the Jalans to provide unspecified 'necessary finance' was impermissibly vague and unenforceable because it did not establish that the mills could be worked at a reasonable profit nor specify the amount or terms of finance. Given the subsequent factual developments (inability to procure adequate cotton at reasonable prices, extra holidays and lay off liabilities, mounting losses and retrenchment liabilities) the appeal court correctly found there was no reasonable prospect of profitable operation and that the scheme could not be satisfactorily worked. In those circumstances winding up under section 392(2) was appropriate.The company judge erred in directing enforcement of the scheme by compelling unspecified finance; the appeal court rightly ordered winding up upon finding the scheme could not be satisfactorily worked.Agreement to mortgage is distinct from creation of a charge in praesenti - no completion of imperfect security rights after commencement of winding up; pari passu distribution - Whether schedule 'B' creditors acquired a charge or priority over other unsecured creditors in praesenti by virtue of the sanctioned scheme and the August 16, 1965 agreement, even though the second mortgage/debenture trust deed had not been executed. - HELD THAT: - The scheme and the August 16 agreement provided for repayment from future profits in consideration of the company executing a second mortgage or issuing debentures containing specified terms. Those provisions constitute an agreement to mortgage (a promise to create security in future) rather than an intention that the company's assets were already subject to a charge in praesenti. Absent a clear, immediate intention to create a present charge, no charge arose before execution of the mortgage. Established principle prevents completion of imperfect security rights after commencement of winding up because assets pass to the liquidator for pari passu distribution. Consequently schedule 'B' creditors remained unsecured at the date of winding up and could not claim priority over other unsecured creditors.Schedule 'B' creditors did not acquire a charge in praesenti; in the absence of execution of the second mortgage or debenture trust deed they remained unsecured and could not claim priority on winding up.Scheme sanctioned by the court has statutory force but remains a commercial document - no completion of imperfect security rights after commencement of winding up; pari passu distribution - Whether a winding up order could be made only after compelling completion of the incomplete rights under the sanctioned scheme (for example by ordering execution of the second mortgage), or whether winding up could proceed notwithstanding incomplete implementation. - HELD THAT: - A sanctioned scheme has statutory operation binding creditors and shareholders, but it does not convert uncompleted contractual undertakings (such as an agreement to execute a mortgage) into perfected proprietary rights without the requisite steps being taken. Jurisprudence establishes that upon commencement of winding up the liquidator realises assets for pari passu distribution and courts will not complete imperfect security rights so as to alter creditors' pari passu rights. Therefore the appeal court was not required to compel execution of the second mortgage before ordering winding up; doing so would have unfairly prejudiced the joint body of unsecured creditors and contravened the principle that no new or uncompleted rights be set up after liquidation begins.Winding up may be ordered despite incomplete implementation of a sanctioned scheme; the court cannot complete imperfect security rights or grant schedule 'B' creditors priority in liquidation where the mortgage/debentures have not been executed.Final Conclusion: The Supreme Court upheld the appeal court's order for winding up. It held that the Jalans' obligation under the sanctioned scheme was to provide or procure finance sufficient to enable profitable operation (not an unlimited personal liability), that the company judge's direction compelling unspecified finance was untenable, that schedule 'B' creditors had no present charge absent execution of the second mortgage, and that winding up could proceed without completion of those imperfect rights so as to preserve pari passu distribution among unsecured creditors. Issues: (i) Whether, on the facts and law, the High Court's winding-up order under section 392(2) should be upheld or whether the company should have been directed to implement the sanctioned scheme; (ii) Whether schedule 'B' creditors acquired a charge in praesenti on the company's assets (and thereby priority over other unsecured creditors) prior to execution of the proposed second mortgage or debenture trust deed.Issue (i): Whether the appeal court was right in concluding that the sanctioned scheme could not be satisfactorily worked and in ordering winding up under section 392(2) instead of directing specific implementation under section 392(1).Analysis: The scheme had been sanctioned when the company was already commercially insolvent and its operation depended on restarting the mills with a reasonable prospect of profit and obtaining necessary finance. Clause (4) of the scheme placed on the new management the responsibility to provide necessary finance, which in commercial terms could mean arranging finance on the company's assets or bringing in monies where required, but not an obligation to fund losses where no reasonable prospect of profit existed. The factual matrix showed initial efforts to procure finance (arrangement with Sushil Co., negotiations with bank and governments), partial finance obtained, severe external disruptions (acute cotton shortage, price escalation after devaluation, statutory extra holiday and lay-off compensation) and substantial losses and retrenchment liabilities by the time of the appeal court's order. The company judge's direction compelling the Jalans to provide unspecified 'necessary finance' was vague, unenforceable and would have compelled funding even without any finding that the mills could be run at a reasonable profit. Section 392(1) empowers supervision and directions where a sanctioned scheme can be worked; section 392(2) permits winding up where it cannot be satisfactorily worked. Given the absence of a reasonable prospect of profitable working and the practical impossibility of compelling the Jalans to invest unspecified sums, the appeal court's finding that the scheme could not be satisfactorily worked was supported and winding up under section 392(2) was the appropriate remedy.Conclusion: In favour of Respondent. The appeal court rightly ordered winding up under section 392(2); the company judge's directions to compel unspecified financing were not sustainable.Issue (ii): Whether schedule 'B' creditors acquired a charge in praesenti on the company's assets (entitling them to secured status and priority) prior to execution of the second mortgage/debenture trust deed.Analysis: The sanctioned scheme and the August 16, 1965 agreement envisaged repayment to schedule 'B' creditors by instalments and contemplated execution of a second mortgage or issuance of debentures to secure repayment. The scheme and agreement constituted an agreement to mortgage and a promise to create security in future; they did not, on their terms, manifest an intention to create a present charge on the company's assets independent of the execution of the mortgage/debenture deed. Authorities and principles distinguishing an agreement to mortgage from a present charge require a clear intention to create a security in praesenti; here the right to secured status arose only upon execution and registration of the mortgage/debenture. Allowing completion of such imperfect or incomplete security at the winding-up stage would defeat pari passu distribution rights of the joint body of unsecured creditors.Conclusion: Against the appellants. Schedule 'B' creditors did not have a charge in praesenti; absent execution of the second mortgage or debenture trust deed they remained unsecured creditors and could not claim priority on winding up.Final Conclusion: The appeal court correctly concluded that the sanctioned scheme could not be satisfactorily worked in the prevailing circumstances and properly ordered winding up under section 392(2); incomplete or unexecuted security arrangements under the scheme did not vest present secured rights and could not be completed or given effect to upon winding up, preserving pari passu rights of unsecured creditors.Ratio Decidendi: Where a court sanctioned creditors' scheme contemplates the creation of a mortgage or debenture to secure postponed debts, no present charge arises in praesenti unless the instrument creating the security is executed; if the scheme cannot be satisfactorily worked (including lack of reasonable prospect of profitable operation and enforceable financing), the court may wind up under section 392(2), and uncompleted security cannot be perfected on winding up in a manner that defeats pari passu distribution among unsecured creditors.