Appeals Nos
1399 1402 of 1968
Appeals from the judgment and decree dated April 26 1968 of the Bombay High Court in Appeals Nos 96 97 98 and 86 of 1967
870 AK Sen Krishna Sen Rameshwar Nath and Mahinder Narain for the appellant in all the appeals
SJ Sorabjee 1
M Chagla KD Mehta Ravinder Narain JB Dadachanji and OC Mathur for respondent No 1 in the appeals
FS Nariman and 1
N Shroff for respondents Nos 2 and 3 in CA No 1399 of 1968
B Divan Rameshwar Nath and Mahinder Narain for Creditors Nos
1 to 8 in CA No 1399 of 1968
CK Daphtary Attorney General Rameshwar Nath and Mahinder Narain for Creditors Nos 9 and 10 in CA No 1399 of 1968
The Judgment of the Court was delivered by ShelatJ
These appeals rounded on a certificate are directed against the order of the High Court of Bombay ordering the winding up of Respondent No 1 Company
Prior to August 1965 the company was managed by Singhanias referred to hereinafter as the JK group who held 25625 out of 45000 equity shares of the company
By 1965 the company was in a bad way its liabilities having exceeded its assets and was not in a position to pay its unsecured creditors
On June 21 1965 one of its creditors Ms Indulal  Co filed a petition for winding up
On August 2 1965 the Court appointed a provisional liquidator
On August 6 1965 the cotton textile mills of the company stopped working and the provisional liquidator took charge thereof
On August 16 1965 an agreement was made between the JK group and Nandial Jalan and two others hereinafter referred to as the Jalans under which the latter agreed to take over the company s management on terms and conditions therein set out
The agreement provided that the JK group should sell to the Jalans at Rs 10 per share the said block of shares held by the former that the JK group thereafter should resign as directors and accept as directors the nominees of the Jalans that the company should execute a second legal mortgage of its fixed and other assets in favour of the JK group and certain other unsecured creditors named in Sch B  to the agreement in consideration of which those creditors agreed not to claim interest at more than 14 and not to demand repayment of their debts except in the manner set out in the agreement and Sch C  thereto and that the transactions therein contained should be completed within one month from the date when the said petition would be withdrawn
The agreement recorded that the debts due to Sch B  creditors amounted to Rs 4828 lacs
Sch C  to the agreement contained the terms to be included in the second mortgage to be executed by the company
Term 3 provid 871 ed that the said Rs 4828 lacs were to be repaid two years after the date of the said mortgage by annual instalments of an amount equal to 50 per cent of the profit made by the company or Rs 650 lacs whichever was lower provided however that in any event the whole debt should be paid off by June 30 1980
Term 4a provided that in the event of the assets secured under the second mortgage being damaged or impaired or the first mortgagees enforcing their security or the company being wound up the entire debt due under the second mortgage would immediately become due
Term 4d contemplated the company obtaining loans from certain financial institutions including the Central and the State Governments and securing them by a prior charge over its fixed assets and therefore provided that in such an event security of the second mortgagees for the fixed assets shall be subject to such first or prior charge
Term 4e likewise permitted the company to Obtain loans from any person firm or company on a first or prior charge over its liquid assets so that the security of the second mortgagees over the liquid assets shall be subject to the first or prior charge in favour of such lender
There was already a first mortgage in favour of the Punjab National Bank Ltd hereinafter referred to as the Bank  for securing advances made by it to the company
The effect of the said agreement was two fold 1 that the Jalans by purchasing the said shares could take over the company s management and 2 on the second mortgage being executed Sch B  creditors who in respect of the debts due to them were unsecured creditors would take precedence over the other unsecured creditors by becoming secured creditors
No doubt they agreed to accept 14 interest and to postpone the date of payment of their debts nonetheless in the event of the company being wound u13 the entire debt due to them would become immediately payable and they would have priority over the rest of the unsecured creditors
On October 18 1965 an agreement was made between the company the Jalans and the workers  union which inter alia provided that the new management would employ 2700 out of the total 4200 workers and pay to the rest retrenchment compensation
Agreements with the largest group of unsecured creditors on the one hand and the workers on the other having been thus secured the company took out on October 19 1965 a summons submiting a scheme for the sanction of the High Court
It would seem that though the other creditors of the company were willing to accord their consent to the said scheme the Bank was not unless two cash credit accounts under which the company owed to it Rs 19 lacs were paid off and a term loan of Rs 2675 lacs 872 secured by a first mortgage of the company s fixed assets was reduced by Rs 5 lacs
To remove the Bank s objection the Jalans had therefore to make an immediate financial arrangement
On February 14 1966 an agreement between the company still under the old management the Jalans and Sushil Investment P Ltd a company under the control of the Jalans was made whereunder Sushil Company agreed to pay off the said cash credits accounts and also to pay Rs 5 lacs against the said term loan in all Rs 23 lacs
On so doing the Bank was to release the assets hypothecated with it and the company was to hypothecate such assets in favour of Sushil Company
Sushil Company also agreed to finance the company to the extent of Rs 40 lacs including the said Rs 23 lacs on the company hypothecating cotton cloth yarn and other movable assets in its favour and the Jalans giving their personal guarantee
This agreement under which the company agreed to hypothecate all its movable assets together with Term 4d and e of Sch C  to the agreement of August 16 1965 shows that it was understood between the parties that the Jalans were entitled to procure finance on the security of the company s assets both fixed and movable and that such security would take priority over the second mortgage to be executed in favour of the JK group and other Sh B  creditors
By his order dated February 17 1966 Mody J gave his sanction to the said scheme making therein two significant observations 1 that all the concerned parties realised that the company at that stage was commercially insolvent and 2 that though he appreciated the objection of some of the opposing creditors that the Jalans under the scheme gave no personal guarantee for payments provided thereunder to the unsecured creditors or for providing adequate finance for the working of the mills he was giving his sanction as the majority of the unsecured creditors were anxious that the company should be allowed to work under the scheme
The preamble of the scheme expressly recites that it was for the payment of the secured and unsecured creditors
Clause 1 sets out that the secured creditors were the Bank and Ms R Ratilal  Co whose advances to the company were secured by hypothecation and mortgage in favour of the Bank and by a pledge of cotton in favour of R Ratilal  Co Clause 2 states that the unsecured debts of the company amounting to Rs 10139 lacs were due to four categories of creditors Category kconsisted of a JK Bombay P Ltd for Rs 346 lacs being the amount advanced by it to the company for purchase of 2000 shares of Bengal and Assam Investors
The company agreed to get these 873 shares released from the Bank with which they were pledged and hand them over to this creditor within 90 days from the date of the order sanctioning the scheme
b JK concerns and others to whom Rs 4839 lacs were due and who were mentioned in Sch B  to
the agreement dated August 16 1965
2 provided that this amount was to be secured by a second mortgage of the company s assets in consideration whereof the creditors would accept payment in the manner provided by the agreement dated August 16 1965 annexed as exhibit A to the scheme
Sub clause 3 of cl
2 provided that if the Controller of Capital Issues gave his sanction the second mortgage should be in the form of a debenture trust deed and the company should issue debentures of the said amount of Rs 4813 lacs of Rs 100 each to these creditors ranking pari passu
Category 2 Creditors were the Bombay Municipal Corporation the Collector of Sales Tax the Commissioner of Income Tax the Bombay Port Trust the Collector of Bombay the Life Insurance Corporation the Employees State Insurance Corporation the workers their cooperative society and lastly the Tata Power Company Ltd These were to be paid off within the time specified against their names
Category 3 Creditors were 15 in number and were the suppliers of cotton and to whom Rs 684 lacs were due
These were to be paid off in certain instalments the first instalment being 37 of the debt payable within 90 days from the date of sanctioning of the scheme
Category 4 Creditors whose claims were Rs 1000 or less were to be paid off within 90 days after the sanction of the scheme
Creditors whose claims were above Rs 1000  the total of whose debts amounted to Rs 3370 lacs were to be paid off by 8 equal annual instalments the first instalment being 1212 payable within 90 days from the sanctioning of the scheme
3 of the scheme referred to the said agreement dated October 18 1965
Lastly clause 4 provided that the Jalans will provide the necessary finance required for running the mills
Except for cl
4 the scheme thus represented an arrangement between the company and the creditors for repayment of debts due to the creditors
The Jalans were not parties to the scheme for at the date when it was sanctioned they were not either the shareholders or the directors though they appeared before Mody J and gave their concurrence
The scheme having been sanctioned the winding up petition was withdrawn the provisional liquidator was discharged and all the assets taken charge of by him were handed over to the com 874 pany
On February 22 1966 the nominees of the Jalans were appointed directors and two days later the directors from the JK group except Gopal Krishna Singhania resigned
From and after that date the Jalans according to the said agreement of August 16 1965 took over the management of the company
The scheme envisaged the restarting of the mills which had been closed from August 6 1965 the repayment to categories H III and IV of the unsecured creditors in some cases in full and in the rest by instalments the execution of the second mortgage by the company in favour of category 1b creditors or issuing of debentures in their favour to secure repayment of Rs 4813 lacs from out of the profits which may be made by the company by working the said mills and the handing over of the said investment shares to JK Bombay P Ltd There can be no dispute that the scheme assumed that the mills would be worked and that from the profits which may accrue the JK concerns and other creditors of category b would be paid off by 1980 and in the meantime the debts due to them would be secured by a debenture trust deed or a second mortgage
This naturally meant that finance to work the mills had to be procured and that was why cl
4 provided that the Jalans would provide the requisite finance
There is reason to believe and it so appears from the record also that in the early stages at any rate there was a genuine desire on the part of the Jalans to implement the scheme
In March 1966 the company s solicitors were instructed to prepare a draft debenture trust deed which after it was ready was sent to the Singhanias for approval
Likewise the mills were restarted on April 1 1966 after spending it was said Rs 5 lacs for setting the machinery into working order
May 17 1966 was under the scheme the due date for payment in full to category II creditors and for payment of the first instalment to categories III and IVa and b creditors
It is undisputed that the company made these payments
What remained therefore to be implemented were the following i the execution of second mortgage or the debenture trust deed ii the transfer of the said investment shares and iii providing finance for working the mills
Regarding the second mortgage it appears that after the draft was sent for Singhanias  approval a dispute arose between the parties regarding interest payable on Rs 4813 lacs due to the Sch B  creditors the Singhanias claiming the original interest chargeable on advances made by them until the execution of the second mortgage and the Jalans replying that interest at 14 only was payable from August 16 1965 the date of the agree 875 ment between them and the JK group
Despite the controversy the company applied on September 27 1966 to the Controller of Capital Issues for sanctioning the debentures trust deed
It appears that along with the application the company had to send a treasury chalan for Rs 50  that though a chalan was despatched it was under a wrong head and therefore the Controller asked the company to replace it by a proper chalan
This the company did not do and the application remained unattended to
In the meantime the Singhanias wrote to the company inquiring about the outcome of the company s application and requiring the company to send a copy of the application and the order made thereon
On coming to know that the sanction of the Controller could not be issued because of the technical defect in the chalan they sent Rs 50 to the Controller s office asking him to issue the sanction
That of course could not be done as the Singhanias had no locus stand in the matter of the said application since the application had to be made by the person desiring to issue debentures and sanction could be given to such applicant only
While this correspondence was going on the Controller enquired of the company when the requisite chalan could be expected
The company thereupon requested him to keep the matter of sanction in abeyance
Mr Sen contended that the Controller had already given his consent and that the only thing which remained to be done was to issue it to the company which could not be done by reason of the said defect in the chalan and that that being so the company could have executed the debenture trust deed and issued the debentures
The correspondence on this subject however does not factually support the contention
The Controller did not proceed with the application as the company itself had written to keep the matter in abeyance
There is however no doubt that the company if it had so desired could have obtained the sanction and proceeded with the execution of the debenture trust deed
But it asked the Controller to keep the matter in abeyance as the Jalans rightly or wrongly alleged that though Rs 4813 lacs were stated in the scheme to be due to the JK group they were not entitled to that amount by reason of their having committed several fraudulent acts during the period of their management
We may mention that in the order made by the Company Judge in the summons for directions taken out later on by the Appellants he held that the affidavit of Goenka in which these allegations were made was not in conformity with Order XIX rule 3 of the Code of Civil Procedure and that therefore they could not be taken notice of that assuming that these allegations were true the said alleged acts were of certain individuals that the company s obligation was not affected thereby and that the proper remedy was to take proceedings against those individuals
876 As regards the said investment shares the company got those shares released and handed them over to JK Bombay P Ltd but failed to hand over the transfer deeds therefore
There can therefore be no doubt that the company failed to implement this part of its obligation
As regards the implementation of cl
4 of the scheme the Jalans as aforesaid entered into an arrangement with Sushil Co to which the JK Group were parties under which Sushil Co gave loans totalling Rs 43 lacs including Rs 23 lacs paid to the Bank
This arrangement was evidently made as moneys were immediately required to pay to the Bank without which the Bank s objection to the scheme could not be removed and also because it would not presumably have been possible to have further dealings with the Bank
After the initial difficulties with the Bank were thus got over fresh negotiations were started with the Bank and an arrangement was made whereunder the Bank agreed to advance Rs 50 lacs provided the Central and the State Governments gave their guarantees therefore
Both the Governments were prepared to furnish their guarantees on a 50 50 basis for an advance of Rs 50 lacs by the Bank against a pledge of stocks stores etc
and a second charge on the company s fixed assets which charge under Term 4b of Sch
C  of the agreement of August 16 1965 would have priority over the second mortgage in favour of Sch B  creditors
The State Government even agreed to issue a provisional letter of intent pending completion of guarantee documents guaranteeing thereby 90 per cent of its share of Rs 25 lacs whereupon the Bank advanced Rs 25 lacs part of the intended loan of Rs 50 lacs
With regard to the remaining Rs 25 lacs the Central Government was not prepared as the State Government did to give its guarantee until the documents were completed
On November 17 1966 the Bank gave its consent to the company creating a second charge in favour of the two Governments on its fixed assets which were subject to a first mortgage in its favour
Though the Bank was agreeable to facilitate the said transaction the JK group were not
By his letter dated July 7 1966 Singhania contended that such a charge in favour of the two Governments which would have priority over the proposed second mortgage could only be in favour of financial institutions mentioned in the said Term 4d advancing the said loan and not the two Governments who were giving only their guarantee and therefore the company could grant to the said Governments only a third and not a second charge
Strictly speaking the company could give such a prior charge to the Bank and not to the two Governments
But the objection was technical and was raised for creating an obstacle in the way of the company getting the said advance from the Bank
It really made no difference to the creditors whether the 877 prior charge was given in favour of the Bank or the two Governments
The result was that the Central Government declined to give its guarantee and the further advance of Rs 25 lacs became unavailable
Even the provisional guarantee given by the State Government for a year in the first instance expired in July 1967
The position which ultimately emerged was that the company got advances of Rs 43 lacs from Sushil Co of which Rs 23 lacs were paid to the Bank
Rs 20 lacs however remained with
the company presumably for meeting immediate payments under the scheme the expenses needed to restart the mills and for other urgent purposes
The company obtained from the Bank an advance of Rs 25 lacs on the provisional guarantee of the State Government and subsequently a further advance of Rs 20 lacs on a further charge over its fixed assets
It was contended that though the company obtained Rs 45 lacs from the Bank none of it except Rs 2 lacs remained with it for working the Mills as out of Rs 45 lacs Rs 43 lacs were paid to Sushil Co against the loans given by that company
That no doubt is true but as a result of these transactions Rs 20 lacs out of Rs 43 lacs advanced by Sushil Co still remained with the company Rs 23 lacs only having been used to pay off the said cash credit accounts and in reducing the said term loan by Rs 5 lacs
It appears from the record that at this stage the new directors had before them two alternatives 1 to continue its liability to Sushil Co in respect of Rs 43 lacs or 2 to procure from the Bank a loan of Rs 50 lacs on the guarantee of the two Governments
They obviously could not do both continue the loan from Sushil Co and to obtain the advances from the Bank as well because the two Governments were prepared to furnish their guarantee only on the company hypothecating all its movable assets in their favour and giving a second charge on its fixed assets
Since the movable assets were already pledged with Sushil Co unless they were released from that company and pledged with the two Governments no guarantee would be forthcoming from them
Sushil Co therefore had to be paid off and the assets pledged with it released unless of course that company was prepared to let go its right under the said agreement to have movable assets of the company hypothecated in its favour
In these circumstances it is difficult to say that the new management did anything palpably wrong in paying off Sushil Company particularly as there was every likelihood of the company obtaining Rs 50 lacs from the Bank on the guarantee of the said two Governments
There is at the same time no doubt that no further finance was provided by the Jalans over and above these transactions
The learned Company Judge took the view that under el
4 of the scheme the jalans were bound not only to procure but to 878 personally bring in the finance sufficient to work the mills that by  paying off Sushil Co and not bringing in further finance they starved the mills of finance and therefore could not be heard to say that the scheme had become unworkable
Holding that the scheme was workable he directed the Jalans to provide the necessary finance which meant that they must bring in their own finance in addition to any finance which they may or may not procure from elsewhere
He also directed the company to obtain sanction from the Controller of Capital Issues and to execute debenture trust deed within three weeks
In accordance with this view he dismissed the winding up petitions filed by the company and others
In the appeals against these orders the Appeal Court held that as Singhania himself had admitted in his affidavit that the company was commercially insolvent at the date when the scheme was approved and that the scheme could not be worked unless the Jalans provided the necessary finance there was nothing more to decide except as to whether the Jalans had undertaken an obligation to provide finance
The Appeal Court answered that question holding that there was no binding obligation or duty undertaken by the Jalans to pay anything to the company or to compulsorily provide finance that the company had become commercially insolvent that no reasonable or prudent person would invest any of his moneys in the company that its capital and reserves had been wiped out that its substratum had disappeared inasmuch as its business of manufacturing cotton cloth could no longer be carried on with profit and lastly that therefore the scheme which was on the assumption that the mills could work and the company s debts would be paid from out of the profits could not be implemented
The Appeal Court was also of the view that the Company Judge was in error in giving the said directions and in dismissing the petitions for winding up
Accordingly it allowed the appeals and ordered winding up
In doing so it rejected the contention that Sch B  creditors had under the scheme already become secured creditors and had priority over the other unsecured creditors or that in the alternative the court should order winding up only after directing the company to execute a second mortgage in their favour and thus implement the scheme which the company and the Jalans were bound to do
It also held that even assuming that the Jalans had brought about an impasse due to which the mills could not be run with any prospect of profits their mala fides were not relevant once the court came to the conclusion that the company had become commercially insolvent
Mr Sen as also the learned Attorney General principally relied on two facts in support of their stand that the Appeal Court was in error in setting aside the directions given by the Company 879 Judge and in ordering instead winding up of the company
These were 1 the failure of the Jalans to provide finance which would include their bringing in their own monies and 2 giving away the processing unit of the mills which was the most profit yielding part of the mills for a nominal value to Jhunjhunwalas the nominees of the Jalans
Mr Sen commended the following propositions for our acceptance 1 that the scheme when sanctioned by the court became a statutory bargain and part of the company s constitution and therefore all further arrangements of the pany s affairs had to be on the basis of the rights and obligations thereunder 2 that if the company were to be wound up such winding up can only be ordered after compelling it to carry out those obligations and it would be opposed to equity and public policy to allow the company to escape its obligations by ordering it to be wound up 3  that even if the scheme could be ignored by directing winding up it could only be done by putting the parties in the position they were prior to the scheme and 4 that the winding up of the company being at the instance of the Jalans who had failed to carry out their obligation to find the finance acceding to their prayer for winding up was tantamount to acceding to their default
He firstly argued that no winding up order should at all have been passed and the scheme ought to have been ordered to be implemented as the Company Judge did and secondly in the alternative that even if the company were to be wound up it should be so done subject to the implementation of the rights and obligations of the parties
The learned Attorney General adopted these contentions and in addition urged that Sch B  creditors were entitled to a charge on the company s as
sets not merely on the said second mortgage being executed but irrespective of it and in presenti under the scheme and the said agreement of August 16 1965
As regards financing the company the contention was that under cl
4 of the scheme the Jalans were bound to bring in their own monies required for working the mills and that they could not contend that because they could not procure
finance on the credit of or on the security of the assets of the company
their obligation was over  The Company Judge agreed with this view but the Appeal Court as aforesaid took a different views held that under cl
4 it was not as if the Jalans were bound  to provide finance in all circumstances or were bound to bring in their own monies
In our view both the Company Judge and the Appeal Court took extreme views of cl
It is clear from the sanctioning order of Mody J that the company at that stage was and that fact was well known to all concerned commercially insolvent
A winding up petition was at that stage pending before the High Court
There were therefore two alternatives before creditors either to take the company in liquidation Sup CI69 5 880 in which event the creditors knew as Mody J has observed that they could not be paid their dues or to restart the company under an arrangement whereunder it would work the mills and pay the debts gradually from out of the profits such debts in the meantime being secured by a second mortgage
The basis of the scheme therefore was that a new management would replace the old the mills would be restarted and the unsecured creditors would be paid gradually from the profits
Every one including the Jalans must have realised that the mills could not be restarted and profits made unless necessary finance for working them was furnished
The scheme which was framed and sanctioned with their concurrence threw the responsibility of bringing finance on the Jalans
It is true as argued by Mr Nariman that the scheme was essentially an arrangement between the company
and its creditors and that the Jalans did not give any personal undertaking to the Court
Nevertheless it was sanctioned by the court after the Jalans had concurred and given their assent through cl
4 that they would provide the necessary finance
The word provide  in cl
4 is of wide import which would mean that they would arrange for the finance either on the credit of and security of the assets of the company or if necessary by bringing in the monies themselves
In view of the language of cl
4 we cannot agree with Mr Nariman that the clause meant only finance secured on the assets of the company
At the same time even though the scheme is not a mere agreement but has statutory force it has to be construed as a commercial document that is in the manner in which businessmen would read it
There can be no doubt that the Jalans took the responsibility to provide finance required for running the mills so that from out of their profits the obligation to pay the creditors under cl
2ii of the scheme could be met in the manner therein laid down
Therefore the Jalans were to provide finance either on the credit of the company or on the security its assets or if necessary their own monies for running the mills in the commercial sense ie with a reasonable prospect of making profits and not in all events and in all circumstances as the Company Judge appears to have thought even if there was no prospect of running them at reasonable profit
Such a construction would be contrary to the fact that the creditors
including the workers and those who had supplied stores and other materials knew that there was hardly any chance of their being paid and therefore with few exceptions were anxious that instead of taking the company into liquidation the mills should be restarted and their dues paid bit by bit
Thus the assumption on which the scheme was made was that there was a possibility of running the mills successfully and that the creditors would be paid gradually out of the profits which the mills would make 881 In the events that have happened it is impossible to say that the Jalans had no genuine desire to work the mills or that they did not in the initial stages at any rate make arrangements for financing the mills
This can be seen from the arrangement made with Sushil Co their bringing the mills machinery in working order after the mills had remained closed for nearly 8 months and their arrangement with the Bank and the two Governments for a loan of Rs 50 lacs
It is true as pointed out by Mr Sen that out of Rs 45 lacs received from the Bank Rs 43 lacs were utilised for paying off Sushil Co leaving only Rs 2 lacs therefrom as working capital
But as already stated they had to have the assets pledged with Sushil  Co released in order to procure the guarantee of the two Governments on which alone the Bank was prepared to advance the new loan of Rs 50 lacs
The two Governments on their part were prepared to stand a guarantee only if the company gave them a second charge on its fixed assets pledged and a hypothecation of all its movable assets
That could only be done by paying off Sushil  Co and having the assets with it released
Whether what they did in these circumstances was right or wrong the fact remains that had the deal with the Bank and the two Governments gone through there would have been a further sum of Rs 25 lacs over and above Rs 20 lacs left from the loan by Sushil  Co available as working capital
Besides restarting the mills it is undisputed that the company as provided by the scheme paid off the small creditors and also paid the first instalment due to creditors of categories Iii and IVa and b
It is therefore impossible to say that the Jalans did not make efforts to work the mills or to implement the scheme
There is evidence on record though the figures given by the Jalans are not admitted by the appellants that though the working of the mills was at a loss it was continued upto June 1967
But the contention was that the mills did not yield profits because of the Jalans having parted with the processing unit to Jhunjhunwalas
The allegation was that the company should have worked this unit as it was the most profit yielding department that Jhunjhunwalas were the nominees of Jalans and that the rent or compensation as the case may be was a nominal one
The Company Judge directed termination of the agreement as he thought that if that unit had not been parted with at a nominal consideration it was possible to run the mills at profit and to implement the scheme
The Appeal Court rightly disagreed with the premises on which the said conclusion was arrived at
There could be no valid objection to the company entering into a lease or a licence agreement for Singhania himself had in September 1965 asked permission from the Textile Commissioner to separate this unit and either to sell or lease it and the Textile Commissioner had 882 assured him to consider the proposal favourably
The argument nonetheless was that in 1964 65 the company had earned Rs 1712 lacs from processing work of outsiders after processing its own goods that after entering into the said agreement the company had in 1966 67 paid Rs 2177 lacs for processing its own goods and in the bargain got only Rs 50000 a month
On these figures it was urged that whereas the company earned a profit of Rs 17 lacs in 1964 65 it incurred a loss of a like amount in 196667 as a result of the aforesaid bargain
On these figures only the Company Judge directed the company to terminate the said agreement
The figures were however misleading because Rs 1712 lacs were the gross receipts and not net profit
Before arriving at net profits cost of raw materials labour depreciation etc
had to be worked out and then only a true picture of the working of the unit would emerge
Besides thefigure of Rs 17 lacs does not take into account the cost of processing the company s goods and whether that had resulted in profit
This is important when it is remembered that the company paid Rs 21 lacs in 1966 67 for processing its goods though Jhunjhunwalas were to charge only cost price for processing the company s goods
It was therefore unsafe from a few figures to jump to the conclusion that had the unit not been parted with the mills would have made profit
It was said that the Jalans should have produced the company s accounts if they wanted to show that the terms on which they had parted with the said unit were profitable to the company
The Jalans gave several reasons why the account could not be produced
Whether they were true or not even if the accounts had been produced they could not have thrown any light as no separate accounts were kept of the income and expenditure of the unit in 1964 65
But then if the unit was the most profit yielding unit and had made large profit in 1964 65 one wonders why Singhanla should have applied for permission to sell or lease it
It is also difficult to believe that the Jalians would let out the unit at a nominal consideration only a month after they had restarted the mills as in the beginning at any rate they were genuinely interested in working the mills and implementing the scheme unless of course the allegation that Jhunjhunwalas were their nominees was true
But as the Appeal Court has rightly said no proof was offered in support of that allegation
The next question is whether the closure of the mills was due to the Jalans having starved them of finance
Having perused the record and after hearing counsel we do not think such a conclusion possible
The correspondence between the Textile Commissioner the Mills Federation and the company shows that from the middle of 1966 and onwards there was great difficulty in obtaining adequate quantity of cotton and particularly of the type required by 883 the mills that the supply position was worsening day by day and though the Government had fixed ceiling prices and a little later on enhanced them dealers in cotton charged prices in excess of the ceiling prices
Even the Textile Commissioner had to acquiesce in the mills purchasing cotton at prices nearly 20 more than even the enhanced ceiling prices
Realising the difficulties in which its membermills were placed the Federation at first evolved a policy of voluntary restraint and advised its members not to purchase cotton in excess of their requirements for three months to purchase only at ceiling prices and to close down the mills or reduce their spindleage if it was not possible for them to get cotton at ceiling prices
The Federation even agreed to reimburse the mills of lay off compensation if they were forced to close down for a while
Not only the prices of cotton but all other stores had spiraled up partly due to devaluation of the rupee on June 6 1966 and partly due to the stock of cotton being less than the demand and Government s insistence to avoid unemployment that the mills should work at their full quota
As the position worsened after September 1966 the Federation revoked its earlier policy and permitted its members to buy cotton at prices above the ceiling prices as it was realised that on the one hand the mills were not getting cotton at prices fixed by the Government and on the other they were not permitted to restrict their spindleage
Prices of cotton of almost all varieties had by this time gone up by 50 above the ceiling prices
Realising the difficulty supply position Government on December 3 1966 directed the mills to observe one extra holiday per week and to pay lay off compensation for such extra holiday
On December 7 1966 the company wrote to the Textile Commissioner that as it was not getting the requisite type of cotton it had reduced its count from 30 to 20 that till that day it had not received a single requisitioned bale that though the dealers were directed to sell cotton at Rs 1430 a bale they were charging Rs 1600 a bale and that lay off compensation for the extra holiday imposed by Government meant an additional burden of Rs 80000 a month
On December 12 1966 the company demanded of the Textile Commissioner to requisition cotton required by it
No cotton was delivered to the company although the Textile Commissioner promised to requisition it
On December 23 1966 the Essential Commodities Ordinance 13 of 1966 was promulgated empowering the Government to direct an employer not to close his establishment without the authorised officer s permission not to work the establishment for more than the prescribed days and hours and to pay lay off compensation where the employer obtained permission for closure
The next day Government issued an order directing that no employer should close wholly or partially his undertaking without the permission of the Textile Commissioner and directed all establishments to observe an extra 884 holiday per week and to pay lay off compensation for it
On December 25 1966 Government informed the company that no permission would be given to any mill for not giving the extra holiday
In view of there being no possibility of getting proper cotton the company asked for a quota of terylene fibre as a substitute
That also could not be procured
Meanwhile the company had deposited with the Federation Rs 12500 as advance towards the price of cotton which may be requisitioned for it
In February 1967 some cotton was requisitioned for the company but the sellers could not deliver it as the authorities had sealed their godowns and prohibited removal of cotton therefrom
On February 15 1967 the company put up a notice of closure owing to want of cotton
A few days later it requested the Textile Commissioner for requisitioning 2000 bales stating that the company was not in a position to buy cotton at excess prices
The reply was that 150 bales were requisitioned for it that the question of requisitioning 350 bales more was under consideration but that the company should appreciate that it cannot go on requisitioned cotton only
The implication was that the company must manage to buy cotton even at exorbitant prices
So far out of 2000 bales demanded only 200 bales had been allotted to the company
Even in respect of these bales the sellers would not permit their sample survey to ascertain their quality
In March 1967 the spinning department was partially closed causing labour unrest
The cotton position in April 1967 as explained by the company in its letter of April 25 1967 was as follows 1282 bales were allotted to the company between February 15 1967 and April 20 1967 out of which the company took delivery of 200 bales
No survey by sample was allowed in respect of 732 bales
Survey made by the suppliers of 350 bales was challenged by the company
In respect of the balance of 250 bales the company disputed the right of the suppliers to demand clearance charges and that dispute was referred to the Textile Commissioner
From this letter alone and without reading it in the context of the previous correspondence the Company Judge concluded that though cotton was requisitioned for it the company had declined to lift it
The conclusion was neither fair nor just
It stands to reason that no purchaser would take delivery of goods unless he is satisfied from their survey that they were of the quality for which he had paid
If the suppliers declined to permit survey the company could not be accused of refusing delivery
Mr Sen argued that the company could not depend upon getting cotton at ceiling prices or on cotton requisitioned for it and that it should have purchased it even at excess prices just as other mills were doing
If that contention was right there was no point in Government fixing the ceiling prices
It may be that other mills might have purchased cotton at excess prices but if the finances of the company did not permit that luxury it is 885 difficult to hold that the company was guilty of any dereliction
Even apart from having to pay high prices for cotton the mills had to pay Rs 80000 a month because of the compulsory extra holiday
In the meantime several other difficulties were mounting up
The affidavit of Goenka shows that the mills were working at a loss of Rs 15 lacs a month and the total losses by June 1967 had risen to Rs 28 lacs
These figures were not admitted by the appellants as the company did not produce books of accounts
The  precision of the loss could be disputed but not the fact
On May 9 1967 the guarantee given by the State Government for one year expired and a fresh arrangement with the Bank became necessary
The Government would not renew its guarantee as Singhanias had objected to a second charge being made in its favour
On May 17 1967 the second instalment payable under the scheme to categories III and IVb creditors amounting to over Rs 5 lacs became due
The mills were for the reasons stated above closed on June 4 1967 with the consequence that the company became liable to pay to 2700 workers retrenchment compensation
By the time the winding up petitions were heard the company had already become liable to pay a large amount by way of retrenchment compensation
The closure of the mills was followed by workers  unrest culminating in hunger strikes and prevention of the directors from entering the mills and disposal by them of cotton cloth and other articles
If the scheme were to be worked as directed by the Company Judge it meant paying of the retrenchment compensation putting the machinery once again in working order etc
 requiting large amounts to meet these claims and expenses
The argument however was that the Jalans were to thank themselves for this calamity
But surely they could not be blamed however badly they might have behaved in other respects for the closure of the mills which was due to reasons beyond their control viz the price rise due to devaluation which overtook them only two months after they restarted the mills the impossibility of getting cotton at reasonable prices and the imposition of the extra holiday which meant both loss of production and the burden of lay off compensation
It is therefore not fair to say that the Jalans were responsible for the closure of the mills either on the ground of failure to lift the cotton or by their having given away the processing unit as alleged
As regards cl
4 of the scheme we do not agree with the learned Attorney General that the jalans had to finance the mills from their own monies only nor with Mr Nariman that their obligation was confined only to arranging finance on security of the company s assets
Both of them took up extreme positions with which it is not possible to agree
On the one hand sub cls
d and 886 e of Term 4 of the said Sch C  clearly contemplate the right of the Jalans to arrange finance on the security of the company s  assets
On the other hand it must have been clear to them that as the company s assets were already mortgaged and pledged further finance would have to be brought in either by them or on their own credit
In cases such as the one before us the scheme has to be read as a commercial document that is in the sense in which businessmen conducting such an establishment would understand
If so read cl 4 cannot mean that the Jalans had taken upon themselves the liability to put in monies even if the mills could not be run at reasonable profits
No industrial establishment is ordinarily run except in the hope of doing so at profit
Considering the circumstances which existed in 1966 67 we cannot say that the conclusion of the Appeal Court that there was no reasonable prospect to run the mills at profit was incorrect
The company was commercially insolvent when the scheme was sanctioned
It was concurred in by the Jalans in expectation that the company could be resuscitated and the mills worked at reasonable profit
By June 1967 when the mills were closed and the company filed the winding up petition it was commercially insolvent in the sense that its assets and its existing liabilities were such as to make it reasonably certain that the existing and probable assets of the company would be insufficient to meet its liabilities
Besides the very object for which the company was formed namely to run the mills commercially had failed
By November 6 1967 when the Company Judge delivered his judgment apart from the company s debts being in excess of its assets the company s total losses and its liability to pay retrenchment compensation to its workers had run into considerable figures
Although the figure of Rs 28 lacs for such losses and Rs 5 lacs a month for compensation were not admitted by the appellants there can be no doubt that the company had been running the mills at loss and its liability for retrenchment had swelled to a large figure
Under sec
392 of the Act the High Court which has sanctioned the scheme has the power to supervise the carrying out of it and to give directions in regard to any matter or to make modifications in it as it may consider necessary for its proper working
But if the Court is satisfied that the scheme cannot be worked satisfactorily with or without modifications it can either suo moto or on an application by any person interested in the company s affairs order its winding up
Both Mr Sen and the learned Attorney General contended that the Company Judge was right in holding that the scheme could have been worked but for the defaults of Jalans that the Company Judge was right in giving directions under sec
3921 compelling the Jalans and the company to implement their obligations and that no winding up 887 order in exercise of power under sec
3922 should have been passed
We have examined the circumstances in which and the reasons why the company closed the mills and held that theft closure was for reasons beyond the control of the company
As Mody J had while sanctioning the scheme observed he sanctioned it only because most of the creditors except a few were anxious that instead of the company being wound up it should be given an opportunity under a new management to work so that it may pay off gradually the debts due to them by working its millS The assumption therefore on which the scheme was framed was that the company could work the mills profitably and pay off its creditors from out of the profits
Therefore it was not as if the mills had to be worked even if their working resulted in loss
Assuming that the Jalans were under an obligation to bring in finance including their own monies they could not be said to be under an obligation to bring in finance even if the working of the mills showed no reasonable prospect of profit
If the mills could not be worked except at loss the company would be justified in ceasing to work them
The very object of the company being to manufacture cloth if the mills had to be closed that would mean that the very object for which the company existed and which also was the assumption on which the scheme was flamed ceased to exist
The direction of the Company Judge that the Jalans should bring in the necessary finance could only be on the basis that the mills could be successfully  worked
But before giving such a direction he did not and indeed could not on affidavits only ascertain whether in the circumstances then existing there was any reasonable prospect of profits
If there was not it stands to reason that the court could not compel the Jalans to work the mills at loss and equally could not compel them to pour in their monies in such an undertaking
Besides the direction did not and in the very nature of things could not specify how much finance the Jalans were to bring in
If the Jalans were to bring in the finance assuming there was a binding obligation on them to do so they would do so in the expectation that they would be repaid
The words necessary finance required for running the mills in cl 4 of the scheme must necessarily mean the amount which a reasonable and prudent financier would think necessary for working the mills at profit and not an unlimited amount in a concern which cannot be expected to work at reasonable profit
The direction did not also specify on what terms the Jalans should bring in their monies nor the terms upon which they would be repaid
It was therefore nebulous and vague and impossible of being enforced
In the absence of any enquiry as to whether the mills could be worked at profit no court would compel a party to furnish monies without even specifying how much and for how 888 long he should provide
If such a direction was not possible no direction could also be given under sec
3921 to work the scheme as its implementation depended on the mills working at profit
The only course left to the Court was as the Appeal Court did to pronounce that in the circumstances then prevailing the scheme could not be satisfactorily worked and therefore a winding up order under sec
3922 had become inevitable
By the time the Appeal Court passed its order the mills having been closed since June 1967 a huge amount had become payable as retrenchment compensation
But it was urged that assuming that a winding up order in these circumstances could be passed it had to be subject to the rights and obligations of the parties
The contention was that irrespective of the second mortgage which the company had to execute Sch B  creditors had already become entitled to a charge on the company s assets
It was argued that where an agreement specifies a property out of which a debt is to be payable and is coupled with an intention to subject such property to a charge the property becomes subject to a charge in presenti even though a regular mortgage is to be executed at some future date
Such an intention the learned Attorney General argued was demonstrated by the agreement that 1 the debts were to be paid out of profits and 2 the engagement by the company not to deal with its assets
The distinction between a charge and a mortgage is clear
While in the case of a charge there is no transfer of  property or any interest therein but only the creation of a right of payment out of the specified property a mortgage effectuates transfer of property or an interest therein
No particular form of words is necessary to create a charge and all that is necessary is that there must be a clear intention to make a property security for payment of money in presenti
In Jewan Lal Daga vs Nilmani Choudhuri1 a case relied on by him the question was one relating to an agreement to mortgage
Following on the agreement_ a draft mortgage was prepared which was
approved by the respondent s solicitors the mortgage deed was engrossed and even the stamp for it was paid by the respondent
The question was whether specific performance of the agreement completing the respondent to execute the mortgage could be granted before accounts between the parties were made up and the amount due thereunder was ascertained
The Privy Council disagreeing with the High Court held that that could be done and observed that there was a valid agreement charging the property with whatever sum was actually due  and that a proper mortgage ought be executed to carry out these terms In Khajeh Solehman 1 55 IA 107
889 Quadir vs Salimullah  1  certain deeds were executed purporting to make wakfs of certain properties in favour of the members of a Mahomedan family and then for charitable purposes
Later on agreements were executed under one of which the members
of the family agreed that allowances fixed under the wakfs should be paid out of the income to named persons of the family and upon their death to theft heirs and under the other agreement the mutawalli agreed that he and the future mutawallis would pay the said allowances
The wakfs were held invalid as creating a perpetual succession of estates
The question was whether the agreements to pay allowances also fell along with them
The  Privy Council held that they did not that they Were valid and enforceable and that the direction in the agreements to pay the allowances out of the income of the settled properties showed an intention to create a charge
In both these decisions the Board came to the conclusion that there was a clear intention on the part of the parties to create a charge in presenti
The argument of the learned Attorney General was that if an agreement indicated a property out of which a debt is to be paid and an intention to subject it to a charge in presenti the court must find the charge
Certain other decisions were also brought to our notice but it is not necessary to burden this judgment with them because in each case the question which the court would have to decide would be whether  the agreement in question creates a charge in presenti
2ii of the scheme first sets out Rs 4813 lacs as being due to Sch B  creditors and then provides that the said amount would be repaid by annual instalments of an amount equal to 50 of the profits which the company would make such instalments commencing after two years from the date of the execution of the second mortgage
3 of the agreement of August 16 1965 provides for the execution of the second mortgage in consideration of the said creditors agreeing to accept repayment in accordance with the terms in Sch C  thereto
Term 3 in Sch C  provides the said mode of repayment and term 4 provides that in the events there set out the debt or the balance thereof remaining unpaid would become immediately payable
In our view neither the scheme nor the said agreement shows any intention to subject to the company s assets to a charge in presenti
All that they provide is a promise to create a second mortgage which was
to contain the terms set out in the said Sch C  in consideration for which the creditors agreed to postpone repayment in the manner therein provided
Thus the scheme merely contains an agreement to mortgage and the mode of repayment and the said agreement provides for a the sale of shares and b a promise to postpone repayment in consideration of a second mortgage to 1 49 IA 153 890 be executed by the company
Even if term 4 in the said agreement can be construed to mean an engagement not to deal with the assets of the company that by itself in the absence of an intention to create a charge under the agreement would not be enough to hold that it creates a charge
Mulla s Transfer of Property Act 5th Ed 616 In our view the said provisions of the scheme and the agreement amount only to an agreement to mortgage which can give rise to an obligation to specifically perform it a personal obligation but do not constitute either a mortgage under sec
58 or a charge under section 100 of the Transfer Property Act
Hukumchand vs Radha Kishan1
The claim urged on behalf of Sch B  creditors that they had a charge irrespective of the proposed mortgage and were entitled to be treated as secured creditors cannot therefore be upheld
The contention next was that a scheme sanctioned by the court being binding on the company its shareholders and the creditors anything done contrary to its provisions is ultra vires the company
Therefore if the company is wound up it could be so done subject to the rights and obligations under such a scheme
The order of the Appeal Court was therefore wrong inasmuch as it could pass a winding up order only after the company had been made to perform its obligations under the scheme that is after it had been made to execute the debenture trust deed or the second mortgage
Reliance in this connection was placed upon the decision in Premila Devi vs Peoples Bank of Northern India Ltd2 where the respondent bank had issued A  B shares of which Rs 50 on each such share out of the face value of Rs 100 were called up
The bank being in difficulty a scheme was prepared which was sanctioned by the court
Later on the scheme was mended and that also was sanctioned by the court The scheme so amended provided that further calls on A  B shares should not exceed 25 which included 20 already called by the directors between the passing of the original and the amended scheme and provided further that the balance of 5 call should be payable in 5 instalments payable each half year
The directors however resolved that the said 5 should be paid on February 26 1933 ignoring the amended scheme and later passed another resolution forfeiting the shares of those who failed to pay by the aforesaid date
The bank thereafter went into liquidation and the liquidator contended that the forfeitures were ultra vires the bank being contrary to the scheme and that the names of those shareholders should be included in the fist of contributories
The Privy Council held 1 that the amended scheme once sanctioned by the court became binding on the company the creditors and the shareholders and its terms could be 1 AIR 1930 PC 76
2 1938 4 All ER 337
891 varied only by an order of the court after such variation was approved at meetings of the creditors and the shareholders 2 that therefore it was not possible for the bank or the directors or the shareholders whether by resolution or ratification or otherwise to alter the dates of payments of the call monies fixed by the scheme 3 that the resolution calling the call money on a date different from those dates was ultra vires the company and the forfeitures in pursuance of the said resolution even if ratified by the shareholders were equally ultra vires and that the liquidator therefore was entitled to include the names of those shareholders in the list of contributories
It is difficult to say how this decision can assist the appellants for neither the company nor the directors have passed any resolution over riding the provisions of the scheme while it was in operation
The problem is whether in relation to the incomplete rights of the appellants the Appeal Court was bound first to call upon the company to complete those rights and then pass a winding up order
The decision in Premila Devi s case1 had nothing to do with the winding up of the company or the correctness of an order of windingup and is therefore not relevant to the question before us
The case of Re Garner
Motors Ltd
a relied on by Mr Sen lays down that though a joint debtor would ordinarily under the principle of accord and satisfaction be released from his liability if the debt is paid up by the other joint debtor a release of one of them under a scheme of arrangement is a release by operation of law and not under accord and satisfaction and therefore would not relieve the other joint debtor
The principle is that a scheme sanctioned by the court does not operate as a mere agreement between the parties it becomes binding on the company the creditors and the shareholders and has statutory force and therefore the joint debtor could not invoke the principle of accord and satisfaction
By virtue of the provisions of sec
391 of the Act a scheme is statutorily binding even on creditors and shareholders who dissented from or opposed to its being sanctioned
It has statutory force in that sense and therefore cannot be altered except with the sanction of the Court even if the shareholders and the creditors acquiesce in such alteration of Premila Devi vs Peoples Bank1
The effect of the scheme is to supply by recourse to the procedure thereby prescribed the absence of that individual agreement by every member of the class to be bound by the scheme which would otherwise be necessary to give it validity
Palmer s Company Law 20th Ed 664 Sub sec
2 of sec
391 of the Act allows the decision of the majority prescribed therein to bind the minority of creditors and shareholders and it is for that reason that a scheme is said to have statutory operation and cannot be varied by the share 1 2 1937 1 A11 ER 671 892 holders or the creditors unless such variation is sanctioned by the court
The effect therefore of a scheme between a company and its creditors is that so long as it is carried out by the company by regular payment in terms of the scheme a creditor who is bound by it cannot maintain a winding up
petition
But if the company Commits a default there is a debt presently due by the company and a petition for winding up can be sustained at the instance of a creditor
The scheme however does not have the effect of creating a new debt it simply makes the original debt payable in the manner and to the extent provided in the scheme
The proposition that a winding up order can only be passed after compelling the company to complete the rights which are still incomplete is not borne out by the decisions relied on by Mr Sen Reliance was also placed on the principle that no act of a court in the present case  the sanctioning of the scheme should be permitted to harm a litigant who has acted on the faith of such an act and that such a person should be restored to the position he would have occupied but for that act
Jang Singh vs Brijlal1 and Jai Behram vs Kedar Nath Marwari2
We do not see how this principle can be invoked for the purpose of completion of rights where such rights are incomplete at the date when a winding up order is made
There is no question of the appellants having done something on the faith of an act of the court the appellants and the other Sch B  creditors having agreed to a postponement of repayment to them in consideration of an agreement between them and the company providing for asecond mortgage in their favour
Next it was said
that by reason of sub section 3 and 4 of sec
391 a scheme once sanctioned becomes part of the company s constitution
Therefore the company cannot be ordered to be wound up except in conformity with the rights and obligations of the parties under such a scheme
But sub sec
3 only provides that an order sanctioning a scheme begins to operate only when a certified copy of such order is filed with the Registrar
Thus the sub section merely lays down a condition precedent to the coming in force of a scheme and does not deal with rights and obligations of parties under such a scheme
Sub sec
4 requires a copy of such order to be annexed to every copy of the memorandum of the company issued after the certified copy of the order has been filed with the Registrar and sub sec
5 provides penalty for default of this requirement
These sub sections were presumably introduced to ensure notice of the order sanctioning the scheme to persons dealing with the company so that they may deal with the company henceforth with the knowledge of the 1  2 49 IA 351 at 356
893 scheme
But the sub sections do not mean that the scheme becomes part of the constitution of the company
Sub sec
4 clearly lays down that a copy of the order is to be annexed to a copy of the memorandum issued after its certified copy has been filed with the Registrar that is after the operation of the scheme commences
A scheme therefore is not to be considered for instance as modifying existing special rights attached to shares unless such modification is provided for in the scheme
Re Downing TH  Co1
The contention therefore that the scheme becomes part of the company s constitution or of its memorandum and therefore a winding up order cannot be passed except in conformity with the altered constitution of the company is not tenable
So long as the scheme is in operation and is binding on the company and its creditors the rights and obligations of those on whom it is binding are undoubtedly governed by its provisions
But once the scheme is cancelled under sec
3922 on the ground that it cannot be satisfactorily worked and a winding up order passed such an order is deemed to be for all purposes to be one made under sec
It is not as if because the scheme has been sanctioned under sec
391 that a windingup order under sec
3922 cannot be made
If the appellants  contention that a winding up order can only be made subject to the rights and obligations of the parties under the scheme were to be right it would mean that where a company makes default in paying an instalment on the date prescribed by the scheme and a creditor files a winding up petition even though a windingup order is made on the basis that the debt has become presently payable still the creditor is bound by the scheme and his debt is to be payable by instalments as provided by the scheme
The effect of a winding up order is that except for certain preferential payments provided in the Act the property of the company is to be applied in satisfaction of its liabilities pari passu
Pari passu distribution is to be made in satisfaction of the liabilities as they exist at the commencement of the winding up
528  529 of the Act Ghosh on Indian Companies Law 11th Ed
Vol 2 p 1073 The effect of a winding up order on rights already completed as against rights yet to be completed is succinctly stated by Lord Halsbury in the Bank of Scotland vs Macleod2 as follows Rights in security which have been effectually completed before the liquidation must still receive the effect
which the law gives to them
But the company and its liquidators are just as completely disabled by the winding up from granting new or completing imperfect 1  also Buckley on the Companies Acts 13th Ed 411
2  at 317 318
894 rights in security as the individual bankrupt is by his bankruptcy
This indeed is the necessary effect of the express provisions of the Companies Act that the estate is to be distributed among the creditors pari passu
Every creditor is to have an equal share unless  any one has already a part of the estate in his hands by virtue of an effectual legal right cf
Tulsidas Jasraj Parekh vs The Industrial Bank of Western India1
Similarly in Re Anglo Oriental Carpet Manufacturing Company2 it was held that even where a company had executed a trust deed and issued debentures creating a charge on its assets but the charge had not been registered as required by the Companies Act by the time the company had passed an extraordinary resolution for voluntary winding up the debenture holders were not as against the joint body of creditors secured creditors
It is thus well established that once a winding up order is passed the undertaking and the assets of the company pass under the control of the liquidator whose statutory duty is to realise them and to pay from out of the sale proceeds its creditors
Such creditors acquire on such order being passed the right to have the assets realised and distributed among them pari passu
No new rights can thereafter be created and no uncompleted rights can be completed for doing so would be contrary to the creditors  right to have the proceeds of the assets distributed among them pari passu
But Mr Sen s argument was that the appellants had acquired under the scheme a vested right to have a second mortgage which could not be nullified by the court passing the windingup order
We cannot accede to this contention for the scheme vested no such right
What it did provide was that in consideration of the company agreeing to execute a second mortgage the appellants and the other Sch B  creditors agreed to receive repayment of debts due to them in the manner provided in the scheme and the agreement of August 16 1965
On failure of the company to execute the mortgage the consideration for postponement of repayment failed and the monies due to those creditors became immediately payable
It is also not correct to say that the scheme gave any priority to those creditors
Such a priority could result only on the execution of the mortgage which would make them secured creditors
On the findings by the Appeal Court that the company was commercially insolvent and that the scheme could not satisfactorily be worked with or without modifications the only alter 1 32 Bombay Law Reporter 953 at 967
2 895 native for that Court was to pass the winding up order under sec
3922
The Court could not have completed as contended by the appellants their rights which were still incomplete or order the company to execute a debenture trust deed or the second mortgage and thus set up the appellants and the other Sch B  creditors as secured creditors against the rest of the unsecured creditors
Such an order could not be passed as it would be contrary to and in breach of the right of distribution pari passu of the joint body of unsecured creditors
The Appeal Court therefore correctly followed the principle that the status of creditors which could be recognised was that which existed at the date of the winding up order that the second mortgage or the debenture trust deed not having so far been executed the appellants and the other Sch B  creditors were still unsecured creditors and therefore could not claim any priority over the rest of the unsecured creditors
In the result we are of the view that the Appeal Court was right in ordering winding up of the company and we uphold that order
Appeals are dismissed with costs
As there has been one common argument we think it proper that there should be one set of costs for all the respondents in these appeals
The creditors for whom the learned Attorney General and Mr AB Divan appeared will bear their own costs
RKPS Appeals dismissed


Summary:
On a winding up petition being filed in respect of the respondent company in June 1965 a provisional liquidator was appointed who took charge of the Cotton Textile Mills of the Company after they had stopped working
Thereafter an agreement was entered into in August 1965 between the S group who owned the majority of equity shares in the company and the J group which agreed to buy the shares and to take over the management
The agreement provided inter alia that after the J group took over the Company would execute a second legal mortgage of its fixed and other assets in favour of the S group and certain other unsecured creditors mentioned in Schedule B to the agreement m consideration of which those creditors agreed to receive interest at a nominal rate and receive repayment of their debts over a long period
The agreement also contained provision which contemplated the Company obtaining loans from certain financial institutions the Central and State Governments and other persons and securing them by a prior charge over its fixed assets as well as liquid assets After this agreement with the unsecured creditors and another with the workers union the COmpany submitted a scheme for the sanction of the High Court
By an order in February 1966 a single Judge of the High Court approved the scheme which provided inter alia for payments to various categories of creditors within specified periods and for the execution of a second mortgage in favour of the Schedule B creditors or alternatively for the execution of a debenture trust deed and the issue of debentures in their favour if sanction of the Controller of Capital Issues could be obtained
It was also provided in clause 4 of the scheme that the J group will provide the necessary finance required for running the mills
The winding up petition was then withdrawn the provisional liquidator discharged and the J group Wok over the Company s management
The mills were restarted in April 1966 and payments to various categories of creditors other than the Schedule B creditors were duly made
However in view of certain disputes between the two groups the company did not execute the mortgage or the proposed debenture trust deed in favour of the Schedule B creditors
The mills continued to work until June 1967 but the management experienced various difficulties in raising adequate working finances
in securing sufficient supplies of cotton due to price rise following devaluation of the Rupee in 1966 and for various other reasons
In view of 867 these the mills were eventually closed down in June 1967 and thereafter the Company and others filed a petition for its winding up
However the Company Judge in the High Court took the view that under clause 4 of the scheme the J group were bound not only to procure but to personally bring in the finance sufficient to work the mills
Holding that the scheme was workable he directed the J group to provide the necessary finance
He also directed the company to execute the debenture trust deed in favour of the unsecured creditors in Schedule B He therefore dismissed the winding up petitions
In appeal a Division Bench of the High Court held that the Company Judge was in error in giving the said directions and in dismissing the petitions for winding up
Accordingly it allowed the appeals and ordered winding up of the company
In appeal to this Court it was contended inter alia that the Appeal Court was in error in setting aside the directions given by the Company Judge and in ordering winding up instead the Company had reached its unsatisfactory position in view of i the failure of the J group to provide finance in accordance
with clause 4 of the scheme and ii giving away the processing unit of the mills which was the most profit yielding part of the mills for a nominal value to a nominee of the J group
It was also contended that once the scheme was sanctioned by the court it became a statutory bargain and pan of the company s constitution and therefore all further arrangements of the company s affairs had to be on the basis of the rights and obligations thereunder if the company were to be wound up such winding up could only be Ordered after compelling it to carry out those obligations and it would be opposed to equity and public policy to allow the company to escape its obligations by ordering it to be wound up even if the scheme could be ignored by directing winding up it could only be done by putting the parties in the position they were prior to the scheme and that the winding up of the company being at the instance of the J group who had failed to carry out their obligation to find the finance acceding to their prayer for winding up was tantamount to acceding to their default
It was further contended on behalf of the Schedule B creditors that the J group had deliberately failed to secure permission of the Controller of Capital Issues for execution of the debenture trust deed and that they were entitled to a charge on the company s assets not merely on the second mortgage being executed
but irrespective of it and in presenti as the agreement of August 1965 specified the property out of which a debt was to be payable and this was coupled with an intention to subject such property to a charge the property became subject to a charge in presenti even though a regular mortgage was to be executed at some future date
HELD Dismissing the appeal 1 The direction of the Company Judge that the J group must provide the required finance was nebulous and vague and impossible of being enforced
In theabsence of any enquiry as to whether the mills could be worked at a profit no court would compel a party to furnish monies without even specifying how much and for how long he should provide
If such a direction was not possible no direction could be given under section 3921 to work the scheme as its implementation depended on the mills working at profit
The only course left to the Court was to pronounce that in the circumstances then prevailing the scheme could not be satisfactorily worked and therefore a winding up order under section 3922 had become inevitable
887 H 888 B 868 Although the scheme had statutory force it had to be construed as a commercial document that is in the manner in which businessmen would read it
There can be no doubt that the J group took the responsibility to provide finance required for running the mills so that from out of their profits the obligation to pay the creditors could be met in the manner laid down in the scheme
Therefore the J group were to provide finance either on the credit of the company or on the security of its assets or if necessary their own monies for running the mills in the commercial sense ie with a reasonable prospect of making profits and not in all events and in all circumstances
even if there was no prospect of running them in reasonable profit
Such a constitution would be contrary to the fact that the creditors knew there was hardly any chance of their being paid and wore anxious that instead of taking the company into liquidation the mills should be restarted and their dues paid bit by bit
By virtue of the provisions of section 391 of the Act a scheme is statutorily binding even on creditors and share holders who dissented from or were opposed to its being sanctioned
It has statutory force in that sense and therefore cannot be altered except with the sanction of the Court even if the share holders and the creditors acquiesce in such alteration
The effect of the scheme is to supply by recourse to the procedure thereby prescribed the absence of that individual agreement by every member of the clause
to be bound by the scheme which would otherwise be necessary to give it validity
Sub sec
2 of section 391 of the Act allows the decision of the majority prescribed therein to bind the minority of creditors and shareholders and it is for that reason that a scheme is said to have statutory operation and cannot be varied by the shareholders or the creditors unless such variation is sanctioned by the court
The effect therefore of a scheme between a company and its creditors is that so long as it is carried out by the company by regular payment in terms of the scheme a creditor who is bound by it cannot maintain a winding up petition
But if the company commits a default there is a debt presently due by the company and a petition for winding up can be sustained at the instance of a creditor
The scheme however does not have the effect of creating a new debt it simply makes the original debt payable and in the manner and to the extent provided in the scheme
It cannot be said that a winding up order can Only be passed after compelling the company to complete the rights which are still incomplete under the scheme
891 F Once a scheme is cancelled under section 39 22 on the ground that it cannot be satisfactorily worked and a winding up order passed such order is deemed to be for all purposes one made under section 433
It is not as if because the scheme has been sanctioned under section 391 that a winding up order under section 39 22 cannot be made
If the contention that a winding up order can only be made subject to the rights and obligations of the parties under the scheme were to be right it would mean that where a company makes default in paying an instalment on the date prescribed by the scheme and a creditor files a winding up petition even though a winding up order is made on the basis that the debt has become presently payable still the creditor is bound by the scheme and his debt is to be
payable by instalments as provided by the scheme
893 C E 2 The Appeal Court was right in holding that no proof had been offered in support of the allegation that the I group had let out the processing unit of the mills which was the most profit yielding part to one of their nominees to the prejudice of the company
869 3 An examination of the scheme and the agreement of August 1965 did not show that there was any intention to subject the company assets a charge in presenti in favour of the Schedule B creditors
The provisions of these two documents amounted only to an agreement to mortgage which could give rise to an obligation to specifically perform it but did not constitute either a mortgage under section 58 or a charge under section 100 of the Transfer of Property Act
There was therefore no force in the contention that the Schedule B creditors irrespective of the proposed mortgage were entitled to be treated as secured creditors
889 G Jewan Lal Daga vs Nilmani Choudhuri 55 IA 107 Khajeh Solehman Quadir vs Salimullah 49 IA 153 Hukamchand vs Radha Kishan AIR 130 PC 76 referred to
4 On the findings by the Appeal Court that the company was commercially insolvent and the scheme could not be satisfactorily worked with or without modifications the only alternative for that Court was to pass the winding up order under section 3922
Court could not have completed as contended by the appellants their rights which were still incomplete or order the company to execute a debenture trust deed or the second mortgage and thus set up the appellants and the other Schedule B creditors as secured creditors against the rest of the unsecured creditors
Such an order could not be passed as it would be contrary to and in breach of the right of distribution pari passu of the joint body of unsecured creditors
The Appeal Court had therefore correctly followed the principle that the status of creditors which could be recognised was that which existed at the date of the  windingup order that the second mortgage or the debenture trust deed not having so far been executed the appellants and the other Schedule B creditors were still unsecured creditors and therefore could not claim any priority over the rest of the unsecured creditors
894 H 895 C Bank of Scotland vs Macleod  at 317 318 Tulsidas Jasrai Parekh vs The Industrial Bank of Western India 32 Bombay Law Reporter 953 at 967 Re Anglo Oriental Carpet Manufacturing Company  referred to
The principle that no act of a court should be permitted to harm a litigant who has acted on the faith of such an act cannot be invoked for the purpose of completion of rights where such  rights are incomplete at the date when a winding up order is made
There was no question of the appellants having done something on the faith of an act of the court the appellants and the other Schedule B creditors having agreed to a postponement of repayment to them in consideration of an agreement between them and the company providing for a second mortgage in their favour
892 D Premila Devi vs Peaples Bank of Northern India Ltd  Re Garner Motors Ltd  Jang Singh vs Brijlal   Jai Behram vs Kedar Nath Marwari 49 IA 351 at 356 Re Downing TH  Co  also Buckley on the Companies Acts 13th Ed 411 referred to