V.V.S. Rao, J.
1. The petition.
The petition is filed by M/s. Hyderabad Industries Limited purportedly under Section 100 read with Section 78 of the Companies Act, 1956 (for short, the Act), The petitioner Company prays for confirmation of adjustment of share premium against the permanent loss in value of investment made by the Company in Nepal Metal Company Limited ('NMCL' for brevity) as approved by special resolution by Annual General Meeting of the shareholders of the Company. The Company also seeks to dispense with the formality of adding the words 'and reduce' after the name of the Company and approval of the Minute/ Resolution of the General Meeting.
Background of petition
2. The events and circumstances leading to filing of the present Petition be noticed in brief. The petitioner Company was incorporated under the Act in the year 1956 as Hyderabad Asbestos Cement Products Limited under the provisions of the Hyderabad Companies Act, 1320 Fasli. In 1985 the name of the Company was changed to Hyderabad Industries Limited with effect from 11.11.1985. The authorised capital of the Company is Rs. 1,000 lakhs divided into Rs. 95,00,000/- equity shares of Rs. 10/- each and 50,000 preference shares of Rs. 100/- each. 71,47,631 equity shares are fully paid up, but no preference shares have been issued. The Company was incorporated with the object of carrying business of manufacturing and marketing of dyers, printers, finishers, and impregnators of asbestos, cement, cotton, jute etc., and the business of mining and working of asbestos and other minerals. According to Article 15 of Articles of Association of the Company, it may by special resolution and subject to confirmation by the Company Court reduce its share capital.
3. The petitioner Company made investment of Rs. l 15.30 lakhs; presumably from out of its reserve capital, in NMCL, a Company promoted by petitioner Company in Nepal jointly with His Majesty's, Government of Nepal and others. NMCL however, could not make much headway due to various reasons, as a result of which, allegedly the value of investment made by petitioner Company in NMCL is reduced to nil.
4. The petitioner Company issued and allotted 13,05,511 equity shares of Rs. l0/-each at premium of Rs. 50/- per share on rights basis in 1992-93. The petitioner Company also allotted 1,75,000/- equity shares of Rs. 10/- each at a premium of Rs. 50/- per share to Hindustan Motors Limited as a consideration for taking over of letter's Heavy Engineering Division situated at Uttarpara in State of West Bengal. At present the Company has a share premium amount of Rs. 740.25 lakhs lying with the Company which has not been utilized for any authorised purposes of the Company. The Company proposed to set off the loss incurred by investment made in NMCL against the share premium account. This would render the Company's accounting method in respect of investments to be in line with accounting standards of the Institute of Chartered Accountants of India and also would represent true share value. It is alleged that the set off will not cause prejudice creditors of the Company and the reduction of the capital does not involve in diminution of any liability in respect of unpaid capital or payment to any shareholder of any paid up capital. It is also alleged that the set off proposed would not result in reduction in value of the security which the creditors of the Company have. Therefore, it is averred that there is no necessity to issue notices to the creditors of the Company and to add words 'and reduce' after the name of the Company.
5. The Board of Director of the petitioner Company in their meeting on 23.5.2003 resolved to place the matter before 56th Annual General Meeting (AGM) of shareholders of the Company. Accordingly, a notice was issued to shareholders of the AGM on 26.9.2003. The AGM of the shareholders unanimously passed a Resolution to utilize share premium to an amount not exceeding Rs. 115.30 lakhs for the adjustment against permanent loss in value of investment in shares of NMCL Therefore, contending that reduction of capital does not involve either diminution of the liability in respect of unpaid capital or payment of any shareholder of paid up capital, and that the creditors of the Company are in no way effected by the proposed adjustment, present application is filed seeking approval of the Minute, which reads as under.
An aggregate sum not exceeding Rs. 115.30 lakhs be drawn out of the Company's Share Premium Account as permissible to be utilized for the purpose and be applied/adjusted against permanent loss in value of investment in shares of NMCL.
6. This Court admitted this matter on 4.11.2003. This Court also permitted the learned Counsel for the petitioner to carryout publication of petition/notice in English daily of 'Times of India' and Telugu daily of 'Eenadu' as contemplated under Rule 47 of the Companies (Court) Rules, 1959. On 9.12.2003 proof of publication of admission of the petition was filed before the Court.
Submission sustaining petition
7. The application per se is not one for reduction of share capital. It is not even an application filed for seeking permission of the Court for the other purposes than those contemplated under Sub-section (2) of Section 78 or Sub-section (1) of Section 100 of the Act. This is an application seeking permission of this Court to draw an amount not exceeding Rs. 115.30 lakhs out of 'share premium amount' to be utilized and to be applied/adjusted against permanent loss in value of investment in shares of NMCL. Prima facie, therefore, application under Section 78 read with Section 100 of the Act would not lie. When this question is raised, learned Counsel for the petitioner, Sri S. Ravi made elaborate submissions to sustain such a petition. There is no decided case directly on the point involved in this petition. Therefore, this Court heard the learned Counsel for a considerable length of time.
8. Learned Counsel for the petitioner sustains the petition on the strength of three propositions. These are: (i) 'Share Premium Account' is otherwise in the nature of 'Reserve Fund' of the Company; (ii) It is permissible for the Company to adjust loss against Reserve Fund; and (iii) Statute does not provide for specific items expenditure/ loss which can be adjusted against 'Reserve Fund' or 'Share Premium Account'. Learned Counsel would therefore submit that permanent loss sustained by a Company by reason of investment made by the Company or any other loss can be adjusted against either 'Share Premium Account' or 'ReserveFund'. Being a business decision depending on prudence, as long as the same does not result in reduction in the value of security which the creditors have in the Company or as long as such adjustment of loss against security premium account does not prejudice any of the shareholders, nothing prevents the Company from doing so. As Sub-section (1) of Section 78 contemplates the procedure for reduction of share capital to be followed in the event of reduction of share premium account, the Company has to approach this Court seeking approval of the Minute. Learned Counsel placed reliance on passages from Palmer's Company Law and Ford's Principles of Company Law. Reliance is also placed on the decisions in Bharat Fire and General Insurance Ltd. v. Commissioner of Income Tax, (1964) 34 Company Cases 683 and Commissioner of Income Tax v. Allahabad Bank Ltd., (1966) 36 Company Cases 365 and O.C.L India Limited, In Re, (1999) 95 Company Cases 429 (Orissa), in support of the three propositions made across the Bar.
Point for consideration in the petition
9. The point that arises for consideration is whether the application under Section 78 read with Section 100 would lie before the Company Court for approval of Minute of the Annual General Meeting of the shareholders of the Company to draw funds out of the Company's share premium account for the purpose of utilizing the amount for applying/adjusting against permanent loss in value of the investment made by the Company in the shares of other Company
Findings and conclusion on the petition
10. There cannot be any dispute that the provisions to reduction of share capital would apply when the share premium account is to be utilized. Section 78 introduces a fiction and the share premium account is deemed to be 'paid-up share capital of the Company'. Sections 100, 101, 102, 103, 104 and 105 deal with reduction of share capital and the procedure to be adopted, when an application is made to the Company Court, for confirming the resolution/minutes of the Members of the Company for reduction of share capital. Reading Section 78 (1) and (2) together with Sections 100, 101 and 102, it becomes clear that: even when the share premium account is to be applied either for the purpose of writing off the loss (in case such a course is permissible) or otherwise, the procedure under Sections 100(2) and 105 has to be followed. Indeed, any misrepresentation before the Court for the purpose of, obtaining imprimatur of the Court is made a penal offence (under Section 105) with imprisonment for a term, which may extend to one year, or with fine, or with both. Keeping this in mind. Section 100 be read which is as under: -
100. Special resolution for reduction of share capital :--(1) Subject to confirmation by the Court, a Company limited by shares or a Company limited by guarantee and having a share capital, may, if so authorized by its articles, by special resolution, reduce its share capital in any way; and in particular and without prejudice to the generality of the foregoing power, may--
(a) extinguish or reduce the liability on any of its shares in respect of share capital not paid-up;
(b) either with or without extinguishing or reducing liability on any of its shares, cancel any paid-up share capital which islost, or is unrepresented by available assets; or
(c) either with or without extinguishing or reducing liability on any of its shares, pay of any paid-up share capital which is in excess of the wants of the Company;
and may, if and so far as is necessary, alter its memorandum by reducing the amountof its share capital and of its sharesaccordingly.
(2) A special resolution under this section is in this Act referred to as 'a resolution for reducing share Capital.'
11. The heading of Section 100 reads 'Special resolution for reduction of share capital.' Nonetheless, it is not only reduction of share capital as such, but any decision taken for extinguishing or reducing the liability in respect of (i) unpaid share capital; (ii) paid-up share capital which is lost and unrepresented by assets or (iii) payment of paid up share capital in excess of requirement. As per Sub-section (2), when a Company resorts to a special resolution under Section 100 of the Act, any of the purposes (i), (ii) or (iii) as mentioned in Sub-section (1) of Section 100, such resolution is referred to as 'a resolution for reducing share capital.' The intention of Legislature in enacting such provision is obvious. Take a situation referable to 100(1)(a), i.e., extinguishing liability in respect of unpaid share capital. When the Company issues shares to its members, it may require the payment of face value of the shares or face value with premium as determined by the Company. The Company may require the member to pay face value or face value with premium at one time or on different calls depending on exigencies or requirements for the capital. Nonetheless, when once the authorized capital or part thereof is issued and subscribed, whether or not fully paid, the issued share capital forms part of subscribed capital and for all purposes it is the capital of the Company. When the Company decides to extinguish unpaid shares, assuming that such unpaid shares were initially issued for premium, in the event of the resolution of the Company to cancel unpaid shares to the extent of those shares cancelled, the share premium account also gets reduced. Similar is the case in the event of cancellation of paid up share capital when proportionate premium amount gets reduced or in the event of payment by the Company for the fully paid up share capital, again to that extent there is reduction in the share premium account.
12. It must be noticed that when Sections 78 and 100 of the Act speak of share capital whether unpaid, fully paid or excessively issued share capital, the provisions refer to share capital of the Company and not the investment made by the Company by subscribing to the share capital of another Company. Obviously, therefore, if the subscribed shares capital in another Company is lost or not properly represented by assets, the same cannot and should not fall under Section 78 read with Section 100 of the Act. When the Company writes off its loss, or resorts to adjusting loss from the reserve fund, there is no reduction of share capital as contemplated under Sub-section (2) of Section 100 of the Act. The share premium account can only be utilized for any of the purposes mentioned under Section 78 of the Act or at the time of winding of or for the purpose of issuing bonus shares or dividend, whereas the reserve of the Company or the reserve fund, represented by assets, cannot be used for the purpose of issuing dividend or bonus shares. However, I must hasten to add that in the event of capitalization of reserve, it can always be used for issue of bonus shares. Be that as it is, unless and until there is diminution of the share capital and corresponding reduction of the share premium account, no Company can be allowed to write off or adjust the loss against share premium account.
13. When can a Company by a special resolution resort to any of the purposes under Sub-section (1) of Section 100? Section 100 or any of the provisions in the Companies Act does not confer any right on the Company to reduce its share capital. Such a right has to be conferred by theArticles of Association. Sub-section (1) of Section 100 makes it very clear that a Company if so authorized by its articles, may by special resolution, reduce its share capital in any of the three ways and then approach the Company Court for confirmation of the resolution for reducing share capital under Section 102(1) of the Act. Whether the reduction of share capital-- (a) by way of extinguishing or reducing the liability in respect of unpaid share capital; or (b) by way of either with or without extinguishing or reducing liability, in respect of paid-up share capital which is lost and unrepresented by assets; or (c) by way of payment of any paid-up share capital which is in excess, either with or without extinguishing or reducing liability, such course should have to be specifically authorized by articles of the Company.
14. A copy of Memorandum and Articles of Association is placed before this Court along with the Company Petition. Article 15 deals with reduction of share capital and reads as under:
15. Reduction of share capital :--The Company may:
(1) By Special Resolution and subject to confirmation by the Court, reduce its Share Capital in any way; and, in particular and without prejudice to the generality of the foregoing power:--
(a) extinguish or reduce the liability on any of its shares in respect of Share Capital not paid up;
(b) either with or without extinguishing or reducing the liability on any of its shares, cancel any paid-up share capital which is lost or is unrepresented by available assets; or
(c) either with or without extinguishing or reducing liability on any of its shares, pay off any paid up share capital which is in excess of the wants of the Company; and may, if and so far as is necessary, alter its Memorandum by reducing the amount of its share capital and of its shares accordingly.
(2) By Special Resolution reduce in any manner and with, and subject to, any incident authorized and consent required by law.
(a) any Capital Redemption Reserve Fund; or
(b) any Share Premium Account.
15. Except Article 15, there is no article empowering the Company to appropriate funds from share premium account for the purpose of writing off its losses. Be it also noted that the Company reduce share premium account only when authorized by law. Does Section 78 permit the Company to write off the loss sustained by the Company by investing in another Company by utilizing the funds in 'the share premium account'? The submission of the learned Counsel for the petitioner is that the share premium account is in the nature of reserve funds of the Company and as per the accounting procedures when it is permissible to set off the loss of the Company from the reserve funds, as a necessary corollary, it is permissible to utilize the funds from share premium account. This Court, for reasons infra, cannot countenance the submission.
16. The learned Counsel for the petitioner placed reliance on Palmer's Company Law, Charles-worth' Company Law (Eighth edition) and Principles of Company Law by H.A.J. Ford (1974) to contend that the share premium account can be used for writing off the loss of the Company.
17. In paragraph 30.08 of Sir Francis Beaufort Palmer's Company Law, reserve capital and reserve liability are elucidated as under:
A Company may resolve by special resolution that part or the whole of the uncalled capital shall not be called up except in the event of a winding up (Section 120). This amount resolved by the Company to meet a contingency in the winding up is some times called the reserve capital, although the Act uses a more accurate term-reserve liability.
A Company which has created a reserve liability resembles, from the business point of view, a Company limited by guarantee and having a share capital. There is, however, this essential difference between a reserve liability and a guarantee: the former attaches according to the shareholding of every member, so that the bigger the shareholding, the greater the reserve liability, whereas the guarantee attaches per capita and is the same for each member, or, if the amount of the guarantee varies according to classes of members, for each member of the class in question. Thus the creation of a reserve liability is still allowed whereas companies limited by guarantee and having a share capital may no longer be formed'.
18. Though reserve capital is treated as a type of capital of the Company along with other types of Capital viz., authorized capital, issued capital, allotted share capital, paid-up capital, quasi-capital funds - the share premium account and capital redemption reserve are treated distinctly. When there is reduction of capital, the Company can use share premium account. Under Section 78 share premium account is treated 'as if it is paid up share capital of the Company'. But, a Company can also use share premium account for issue of dividend or issue of bonus shares [see for instance Section 78]. But, a Company, which transfers profits available for dividend to the reserve fund, cannot use reserve for distribution of dividend. The condition precedent for utilizing the share premium account is only when the Company reduces its capital under various situations as explained above. In the absence of any proposal for reduction of share capital, the share premium account cannot be utilized for the purpose of writing off the loss.
19. The share premium account can be applied (i) for paying of bonus shares issued to members as fully paid shares; or (ii) writing off preliminary expenses or expenses of or the commission paid or discount allowed on, any issue of shares or debentures of the Company; or (iii) providing for premium payable by the Company on reduction of redeemable preference shares or of debentures. According to Palmer, the object of the provisions relating to share premium account is to prevent dividends being paid out of premiums received on an issue of shares and it is quasi-capital of Company (See Palmer's Company Law 24th edn. pp.425 and 489). Therefore, when a share premium account is distributed among the shareholders, it is to be regarded as if the Company is reducing its share capital by paying off paid-up share capital. (See page 176 of Charlesworth and Cain's Company Law (Twelfth edition)). Therefore, though share premium account is considered as one of the types of capital or quasi-capital of the Company, the share premium account cannot be equated as a reserve fund. Be it noted that reserve fund or reserve surplus is generally utilized for writing off the loss incurred by the Company. In that view of the matter, the decisions cited by the learned Counsel for the petitioner referred to supra have no relevance.
20. Reverting back to Section 78 again, Sub-section (1) thereof is in two parts. First part imposed a legal obligation for transferring the share premium to the account called share premium account. The second part says that except as provided in Section 78, the provisions relating to reduction of share capital would apply. Sub-section (2) of Section 78 contains a non-obstante clause. It lays down that notwithstanding Sub-section (1), share premium account may be applied in paying up unissued shares of the Company to be issued to the members as fully paid bonus shares; or writing off preliminary expenses of the Company; or writing off the expenses of, or the commission paid or discount allowed on, any issue of shares or debentures of the Company; or providing for the premium payable on the redemption of any redeemable preference shares or of any debentures of the Company. The proviso to Sub-section (3) further clarifies that before commencement of the Act, if any share premium account is used as 'identifiable part of the Company's reserves', the same shall be disregarded because as per Sub-section (3), if any Company had issued shares at a premium, that money also must be transferred to share premium account. A conspectus of the three subsections of Section 78 would reveal that if the share premium account is to be applied to any of the purposes mentioned in subsection (2), the Company need not seek approval/confirmation of the Company Court. If the Company desires to apply share premium account for any other purposes, it has to approach the Company Court for confirmation.
21. There could be myriad situation, when Company may have to use share premium account or reserve or reserve fund, Schedule VI of the Act, especially Horizontal Form of Balance Sheet, contains instructions to the effect that the word 'Fund' (after Reserve) should be used only when such reserve is specially represented by earmarked investments. But such use must be authorised by Articles of Association and must be within four comers of law. As observed above, unless the reduction of the share capital is specifically authorized by the Articles of Association, a Company cannot do so, nor this Court can approve or sanction such resolution. Likewise, unless the Articles of Association of Company permit utilization of share premium account for purposes other than Section 78, the Court cannot approve or sanction such resolution. Indeed, any adjustment out of the share premium account must be authorized by law and subject to law. Article 15(2) of the Articles of Association of petitioner Company clearly shows that the Company by special resolution and subject to law may reduce the capital reduction, reserve fund or share premium account. This only means it is for the purposes authorized under Sections 78 and 100.
22. The Balance Sheet for the year 2002-2003 is annexed to the petition. Schedule-2 of the same would show that the Company has general reserve of 5,600 lakhs (Rupees five thousand six hundred lakhs only) apart from capital reserve, capital reduction reserve, revaluation reserve and debenture reduction reserve. The Company also has share premium amount of Rs. 740.25 lakhs (Rupees seven hundred and forty lakhs and twenty five thousand only). The Company is not in a position where it cannot write off its loss as against general reserve. The submission that a prudent business decision which do not effect or prejudice the interest of the creditors of shareholders must receive the approval/confirmation of the Court cannot be accepted in the facts of this case. The Company Court is essentially a Court exercising jurisdiction in equity and such exercise cannot ignore the law or give relief de hors the principles of law. I am therefore not inclined to accept the submission. Further, in the background of this case, it does not fall within the purview of Section 78 read with Section 100 and this petition is misconceived.
23. For the above reasons, the Company petition is devoid of merits and this Court holds that the petitioner Company is not entitled for order confirming the minute of the Company dated 25.9.2003. The Company Petition is accordingly rejected.