IN THE HIGH COURT OF JUDICATURE FOR RAJASTHAN AT JAIPUR BENCH JAIPUR. ORDER In S.B. Company Petition No. 22 of 2005 IN THE MATTER OF THE COMPANIES ACT 1956 AND IN THE MATTER OF SECTION 391 (2) OF THE COMPANIES ACT 1956 AND IN THE MATTER OF SANCTIONING OF SCHEME OF COMPROPMISE WITH THE SECURED CREDITORS OF THE PETITIONER COMPANY MODERN SYNTEX (INDIA) LTD. Date of Order : December ,2006 P R E S E N T HON'BLE MR. JUSTICE SHIV KUMAR SHARMA Mr.Paras Kuhad ] for the petitioner. Mr. Sandeep Taneja] Mr. A.K.Bhandari, Sr. Advocate with] for the non petitioners, objector secured Mr. Anant Bhandari ] creditors. Mr. P.K. Mullick ] Mr. Himansu Agnihotri ] Mr. Anant Kasliwal ] Mr. R.C.Meena, Official Liquidator. BY THE COURT: This petition under Section 391(2) of the Companies Act 1956 ( in short Act of 1956) has been filed seeking sanction of scheme of Compromise to be binding on all the secured creditors of the petitioner Company Modern Syntex (India) Ltd. 2. The petitioner company was incorporated on May 23, 1989 under the provisions of Companies Act, 1956 as a part of Modern Group of Companies The authorised share capital of the petitioner company is Rs. 12500 lacs ( Rupees twelve thousand five hundred lacs) divided into 12,50,00,000 Equity shares of Rs. 10/- each. The issued, subscribed and paid up share capital of the petitioner company is Rs.15821.66 lacs (Rupees fifteen thousand eight hundred and twenty lacs) divided into 11,34,98,333 equity shares of Rs. 10/- and 15,00,000 16% Cumulative redeemable Preference shares of Rs. 100/- each fully paid up). 3. The petitioner company is presently engaged in the manufacture and sale of polyester filament yarn, blended yarn and man made fabrics. The company operates its business through three separate divisions viz. Modern Syntex, Modern Suitings and Modern Petrofils. Presently, Syntex and Suitings division are lying closed due to labour problem, shortage of working capital and adverse market conditions etc. The petitioner company states that as a whole it had a good track record of generating profits, rewarding the shareholders and servicing the debts till 1997 since inception. Due to global recession coupled with stiff competition in Textile industry the petitioner company suffered significant losses since 1997-99. On account of Gujrat earthquake in January 2001 the Petrofils division of the petitioner company also adversely affected. On account of these problems the petitioner company submitted a reference before the Board for Industrial and Financial Reconstruction, which was registered by the Board. The petitioner company further given out that on account of various difficulties faced by it, a necessity was felt for rescheduling and restructuring of the existing debts of the company and an elaborate scheme of compromise was prepared in order to enter into a compromise with the secured creditors of the company. On July 18, 2005 the Board of Directors of the petitioner company approved the proposed scheme of compromise by a passing a resolution to this effect. The petitioner company stated in the petition that the yarn and suiting divisions of the petitioner company were declared as relief undertaking by the State Govt. Of Rajasthan by way of Notification dated March 1, 2004 under sections 3 and 43 of the Rajasthan Relief Undertaking Act, 1961 for the period commencing from 15.2.2004 to 14.2.2005. The petitioner applied for extension of the period of Relief Undertaking status for a further period of one year by the application dated January 31, 2005. The Govt. of Gujrat also declared the Petrofils division of the petitioner company as a Relief Undertaking by the Notification dated June 17, 2004 for a period of one year from 17.6.2004 to 16.6.2005. The petitioner company also applied for extension of the period of Relief Undertaking status and the same is under active consideration of the State of Gujarat. 4. Vide order dated August 12, 2005 passed in Company Application No. 47 of 2005 filed by the petitioner company meeting of secured creditors was convened on September 20, 2005. The notice of the meeting was published in two news papers Rajasthan Patrika and Times of India on August 26, 2005 and August 27, 2005. The meeting was attended by 25 secured creditors. One secured creditor Bank of Baroda abstained from voting. The compromise was read and explained to the meeting and the scheme was approved by majority of 18 votes representing 77.27% in value of the total value of debts as against 6 votes representing 22.73% in the value of the total value of debts. It appears that the scheme of compromise has been approved by the requisite majority of the secured creditors representing more than 3/4th in value of the total debts as required under the Companies Act. 5. The notice of this petition was sent to the Official Liquidator and the Regional Director Ministry of Company Affairs,New Delhi and simultaneously also published in daily news papers Rajasthan Patrika and Times of India. The notices were published in the News papers on December 2, 2005. 6. Upon receiving the notice of this petition the Regional Director Northern Region filed affidavit and submitted that out of 25 secured creditors who participated in voting, six secured creditors having their debts aggregating to Rs. 107.83 crores voted against the scheme and one secured creditor namely Bank of Baroda Branch abstained from voting. Prayer was made for deciding the case on its merits. 7. Two objectors namely M/s. Indusind Bank Ltd. and Mashreq Bank filed objections. M/s. Indusind Bank Ltd. advanced fund based facility of Rs. 550 lacs and non fund based facility of Rs. 554 lacs in Feb. 1997 to the Petrofils Division of the petitioner Company. The accrued outstanding principal and interest till date of filing of objection is Rs. 1508.14 lacs with future interest @ 20% p.a. The objections filed by the Indusind Bank Ltd. in relation to meeting of secured creditors are as under: (a) The notice dated 24.8.2005 convening the meeting of secured creditors stated that the said meeting was to be held for the purpose of considering and if thought fit, approving with or without modification , compromise proposed to be made between the said companies and to secured creditors of the Company. No opportunity whatsoever was given to any of the attending secured creditors to voice their objections to the scheme. (b) The ballot papers did not mention the value of the vote of individual secured creditors. Hence it is not possible to say that more than 75% of the value of secured creditors present and voting at the meeting approved the scheme. (c )The Ballot Box was not sealed after completion of voting. (d) The Ballots were not counted at the meeting. This coupled with the fact that the ballot box was not sealed,clearly shows that there has been gross manipulation at the meeting. (e) Many of the secured creditors who have approved the scheme were not present for voting. Hence, it cannot be said that the scheme was approved by more than 75% of the value of creditors present and voting. The objector suspects that the Ballots of some secured creditors may have been cast after completion of the meeting and the ballot box was not sealed to facilitate the manipulation. (f) Under section 391 (2) of the Companies Act the scheme must be approved by a three fourths majority in value of the creditors present and voting either in person or in proxy. (g) The objector company pointed out lacunae to the Chairman but the said objections were brushed aside and not considered. 8. The objector company averred that the secured creditors of Petrofils Division constituted a separate sub class and even amongst them, the secured creditors who were offered Options 2 or 4 constituted a separate sub class with separate interests. Hence separate meetings ought to have been held for the different sub classes. The proposed scheme involves excessive sacrifice and is oppressive to the minority secured creditors and thus not just fair and equitable to all the secured creditors. If the objector opts for option 3, it would receive Rs. 1104 lacs over a seven year period i.e. A present value of only Rs. 743.27 lacs. In this case the sacrifice involved on behalf of the objector would be Rs. 764.87 lacs i.e. 50.71 % of the present outstanding. If the objector opts for option 4, it would receive Rs. 276 lacs in 2006-07 i.e. a present value of Rs. 237.63 lacs. The sacrifice involved in this case would be Rs. 1270.51 lacs which comes to 84.24% of the present outstanding. The objector also submitted that the proposed scheme is vitiated by fraudulent preference to selected creditors and oppression of minority creditors by the majority. The copy of scheme given to objector stated that options 1 and 3 have already been filled up and only options 2 and 4 are available The majority of the secured creditors have by back door negotiations with the petitioner company secured an unfair advantage for themselves. The minority creditors are being forced to comply with the decision so taken. This constitutes a clear case of oppression of minority creditors by the majority. The objector is being forced to fore go a substantial sum towards outstanding principal, accrued interest and future interest. Para E(c) of the proposed scheme states that the availability of the option shall be determinable on first come first basis. The objector has had no access to options 1 and 3 which were privately negotiated and determined by the petitioner company to the full extent of capping, even before the scheme was circulated to the secured creditors.. No procedure has been laid down regarding distribution of options. The scheme fails to satisfy that the members or class of members of creditors or class of creditors as the case may be were acting on a side and in good faith and were not coercing the minority in order to promote any interest adverse to that of the latter comprising the same class to whom they purported to represent. The contention that Petrofils Division can be made viable is wholly without basis and made merely with a view to dupe the creditors. 9. The objector further submitted that the proposed scheme vitiated by inadequate disclosure by not submitting the requisite material contemplated under the proviso of sub section 2 of section 391 of the Act: (i) The notice of the scheme did not disclose the following documents : (a) Copy of the last audited balance sheet. (b) The latest audited report on the accounts of the company. (c) Details regarding pend ency of any investigation proceeding in relation to the company under sections 235 to 251. (d) Details of various winding up petitions pending against the Company and the various proceedings pending before BIFR/ AAIFR/ High Court etc. which are all material facts relating to the company. (e) The viability study/ report basis on which the Petrofils Division of the petitioner company is sought to be restructured and the manner in which the options l to 4 have been formulated. (ii) Several other material facts pertaining to the company have also been deliberately suppressed thereby rendering the proposed scheme a sham and nullity. The fact that in view of serious objections raised by all creditors regarding accounting practices adopted by the company for its audited balance sheet for the year 1999-2000 the BFR vide its order dated 17.7.2001 directed the independent special investigative audit of the accounts of the petitioner and further fact that such investigative audit was never carried out, has been conveniently suppressed. It has also been suppressed that in the year 2000 AF Ferguson & Co. had conducted a viability study and suggested that Petrofils Division could be retained only if the promoters brought in interest free funds of Rs. 90 crores, which the promoters expressed inability to bring. There is no explanation as to how the present viability study vis-a- vis the Petrofils Division is different from the said viability study conducted by AF Ferguson and Co. 10. The objector further stated that the contention that the Petrofils Division can be made viable is also wholly without basis and made merely with a view to dupe the creditors. The management has been guilty of fraudulent accounting and cannot be trusted to make a bona fide attempt to revive the petrofils division 11. The objector M/s. Mashreq Bank Psc. Mumbai pleaded that it has sanctioned working capital facilities funded Rs. 6.8 crores + LCS Rs. 3.5 crores + Forex contracts Rs. 6 crores to the Petrofils Division of the petitioner company The petitioner company defaulted in repayment of outstanding and accordingly the objector issued demand notice for repayment of dues. The objector also sent a winding up notice to the company. The total outstanding of the objector company against the petitioner company as on 31.3.2000 was Rs. 113936396. 62 with rerest of 22% from 31.3.2000. The principle amount due as on 31.3.200 is Rs. 9.5 crores along with interest. The objector company taken almost objections raised by M/s Indusind Bank and also submitted that all loans advanced to the petitioner company are secured by the personal guarantees of its Directors. Management personnel. The loan advanced by objector Bank is secured by personal guarantees of Mrs. H.S. Ranka and Mr. Kamal Ranka. The scheme specially envisages that all personal guarantees shall stand discharged on payment being made in accordance with the schemes. Since the Directors have given personal guarantees and the scheme envisages discharge of the personal guarantees therefore it is misstatement that no Director or any managerial personnel has any interest in the proposed scheme of the compromise. The objector submitted that the scheme has been made in order to oppress the minority secured creditors and the proposed scheme would harshly affect the interest of the objector bank and the same should not be approved. 12. The petitioner company filed rejoinder to the objections and reiterated the facts stated in the company petition. 13. Mr. Paras Kuhad, learned counsel for the petitioner company, submitted oral as well as written submissions thus:- (a) The petitioner company is operating its business through three separate divisions viz. Modern Syntex, Modern Suitings and Modern Petrofils. Till 1997, the petitioner company was running into profits and rewarding the shareholders by paying them dividends. Till that period, the petitioner company was also regularly servicing its debt due to various banks and financial institutions on time. However, since 1997-98 on account of the following factors, the petitioner company suffered significant losses leading to the non-fulfillment of its financial commitment towards the financial institutions. (i) Global recession coupled with stiff competition in the textile industry. (ii) Inadequate protection to the domestic industry as the incidence of excise duty was 34.5% on PF which was much higher than that on cotton yarn @ 8%. (iii) Increase in raw material prices. (iv) Overcapacity in the industry. (v) Higher domestic interest rates as compared to interest rates abroad. (vi) High Cost of Power (b) Due to the above-mentioned factors, not only the petitioner company but also other domestic producers in the textile industry incurred heavy losses and ran into difficulties. (c) Apart from the afore-mentioned difficulties, the normal working of the Petrofils Division was also adversely affected by the devastating earthquake that occurred in 2001 in Gujarat. Due to the said problems, the petitioner company went into losses and as of 31st March 2000, the accumulated loss exceeded its net worth making the petitioner company a sick industrial company. It is further submitted that the yarn division of the petitioner company has been lying closed since October 1996 because of the lock-out put up after prolonged labour problems due to inter union rivalry. Similarly, the operations of the Suiting Division have also been discontinued since October 2001 due to unfavorable market conditions and the erosion of the entire working capital. (d) As the net worth of the petitioner company had become negative, a reference of the petitioner company was registered with the Board for Industrial and Financial Reconstruction of India (BIFR) based on the audited accounts for the year ending on 31.3.2000. The petitioner company incurred further losses and the net worth was further eroded. Therefore, the petitioner company filed a fresh reference based on the audited accounts for the year ending on 31.3.2004 which came to be registered with BIFR on 12.01.2005. (e) In the light of the afore-stated background and with a view to carry on its business affectively, it was necessary to bring down the burden of debts of the petitioner company from an unserviceable level to a serviceable level. As at 31.03.2004, the company’s financial position was in doldrums as is reflected by the details set out hereunder: Accumulated losses Rs. 563.80 crore Amount payable towards outstanding loans Rs. 726 crores The losses for the current year Rs. 96.73 crores (f) As a result of the accumulated losses, the net worth of the company stood totally eroded. In fact, the networth was in negative by hundreds of crores. (g) The company was consistently in default with respect to financial institutions, Banks, debentures holders, respectively, from the year 1999-2000 onwards. (See note 11at page 5 of Annexure-A to the Petition for Sanction). The amount in default since 1999-2000 was Rs. 325 crores approx.. (h) With a view to address the existing financial crisis, the company had, in the year 2000, attempted a restructuring exercise. The said restructuring exercise however, failed, on account of several reasons. (i) During the year 2003-2004 and 2004-2005, the company was managed by the Board of Directors consisting of ten Directors. Out of these ten, five of the Directors were nominees of IDBI, IFCI, LIC, UTI, IIBI. (j) Since the company's net worth stood completely eroded and the accumulated losses of the company existed at Rs. 600 crores and in addition thereto, it was incurring annual losses excess of Rs.75 crores, the Board of Directors acting in consultation with the creditors, explored multiple alternatives towards resolving the financial crisis. (k) After protracted consultations and negotiations spread over a period of two years, the Financial Institutions concluded that the best chance of recovery was that of restructuring the debt rather than attempting closure of operations. Owing to accumulated losses of more than Rs. 600 crores and the complete erosion of its net worth, any attempt of winding up would have resulted in writing off of the total debt amount. Under this option, the institutions would have lost the total amount and would not have recovered any amount whatsoever. (l) Under the aforesaid circumstances, as is set out under the Scheme, the creditors, acting through their predominant voice on the Board (the afore-mentioned five Directors) as also acting independently as creditors to the company, worked out the present rehabilitation scheme, sanction whereof, is being sought by way of this petition. (m) Para 10 of the Scheme thus sets out that "the scheme has been worked out after protracted negotiations with the secured creditors" and that the majority of the secured creditors have already approved the restructuring /settlement of their debts. Para 13 states, “13. Creditors will benefit through the channel of recovery as the same shall stand to be on the higher end if the company remains a running concern and the same is not put under liquidation. On the other hand, if the liquidation proceedings are initiated, the returns would be at the lower end for the creditors. 14.… 15. The continued operation will ensure the employment to the direct work force of about 1000 workman and about 4000 indirect employment." (n) As a result of the acceptance of the rehabilitation scheme by the financial institutions, the company was able to commence repayment by 31.3.05, and this is reflected under the aforesaid Annexure A para 5 (page 2) of the balance sheet, which states as under: "The company is making continuous efforts for sanction of restructuring/settlement of its all secured lenders and glad to report that many of the secured lenders have approved settlement of their dues. This has resulted into write back of principal and interest during the year under review and have been included in the exceptional items shown under financial results. The company is making payment as per approval to these lenders and trying for settlement with the remaining.” (o) The balance sheet for the year ended 31.03.2005 recorded that if full effect was to be given to the notes set out under the Directors report, the correct financial position of the company would emerge as under: Accumulated losses Rs. 641.74 crores Loans, funds and liabilities Rs. 765.21 crores Net fixed assets Rs. 409.72 crores (p) It is submitted that the reasonableness of the scheme deserves to be examined in the context of the afore-stated factual position. (q) That the Scheme of Compromise with the secured creditors was passed by the Board of Directors of the petitioner company in its meeting dated 18.7.2005. It is pertinent to recall that the petitioner company has five nominee directors of various financial institutions namely- IDBI, IFCI, LIC, UTI and IIBI on its Board. It is, therefore, clear that the Scheme has been de facto worked out by the financial institutions themselves. (r) Pursuant to this Court’s direction dated 10.08.2005, the secured creditors’ meeting was held under the Chairmanship of Mr. Manoj Pareek, Advocate, appointed by this Hon'ble Court. During the meeting, the creditors were called upon to exercise their votes in relation to the debt held by them. The result of the voting was computed by the three Scrutinizers appointed by the Hon'ble Chairman, the said Scrutinizers being i) Shri A.K. Srivastava …IFCI ii) Shri B.S. Makeeja …Bank of Baroda iii) Shri H.L. Sharma …Petitioner Company. (s) A total of 24 secured creditors participated in the voting and 18 of them representing 77.22% of the total voting voted in favour of the Scheme. Six creditors representing 22.73% value of debt voted against the Scheme. 1.18.1The names of the secured creditors who voted in favour of the scheme are as under: 1. Industrial Finance Corporation of India Ltd., Mumbai 2. State Bank of Bikaner & Jaipur, Alwar 3. Union Bank of India, Alwar 4. Bank of India, Corporate Branch, Mumbai 5. Dena Bank, Mumbai 6. Life Insurance Corporation of India, Mumbai 7. Bank of India, Nariman Point, Mumbai 8. Trishul Traders Pvt. Ltd., Mumbai 9. UFJ Bank Ltd (Sanwa Bank), Delhi 10. State Bank of India, Delhi 11. Invitation Investment Pvt. Ltd. 12. UTI Bank Ltd., Mumbai 13. BOI, Mutual Fund, Mumbai 14. Mehrauli Traders Pvt. Ltd., Mumbai 15. Deutsche Bank, Mumbai 16. SBI Mutual Fund, Mumbai 17. Vulvan Traders Pvt. Ltd., Mumbai 18. Canbank Mutual Fund, Mumbai (t) Based on the result of said meeting this petition was submitted for sanction by the company before this Hon'ble Court. Pursuant to the notices issued by the Hon'ble Court, the Regional Director has filed his affidavit. In his affidavit the Regional Director has not raised any objection whatsoever against any feature of the scheme. (u) As is seen, all the 18 secured creditors who voted in favour of the scheme were either public financial institutions ("authority" within the meaning of Article 12 of the Constitution of India) nationalized Banks, foreign banks or private sector Bank. The institutions in question are some of the finest financial institutions of the country. (v) In case of the public financial institutions, nationalized Banks, Foreign Banks and private sector banks, the decision as to the manner in which the voting right is to be exercised in the creditors' meeting for approval of scheme, is decided by the Board of Directors of the said financial institutions. Obviously, such Boards, which are manned by some of the finest financial experts, arrive at their decisions based on a most critical and detailed evaluation, of the commercial terms and the commercial desirability of approving such scheme, both in the interest of the institutions involved, as also in the context of the larger public interest. (w) The affidavit filed by the Regional