Restrictions on powers of Board

– as contained under section 180 of the Companies Act, 2013 is reproduced below:

180. (1) The Board of Directors of a company shall exercise the following powers only with the consent of the company by a special resolution, namely:—
(a) to sell, lease or otherwise dispose of the whole or substantially the whole of the undertaking of the company or where the company owns more than one undertaking, of the whole or substantially the whole of any of such undertakings. Explanation.—For the purposes of this clause,—

(i) “undertaking” shall mean an undertaking in which the investment of the company exceeds twenty per cent. of its net worth as per the audited balance sheet of the preceding financial year or an undertaking which generates twenty per cent. of the total income of the company during the previous financial year;
(ii) the expression “substantially the whole of the undertaking” in any financial year shall mean twenty per cent. or more of the value of the undertaking as per the audited balance sheet of the preceding financial year;

(b) to invest otherwise in trust securities the amount of compensation received by it as a result of any merger or amalgamation;
(c) to borrow money, where the money to be borrowed, together with the money already borrowed by the company will exceed aggregate of its paid-up share capital and free reserves, apart from temporary loans obtained from the company’s bankers in the ordinary course of business:
Provided that the acceptance by a banking company, in the ordinary course of its business, of deposits of money from the public, repayable on demand or otherwise, and withdrawable by cheque, draft, order or otherwise, shall not be deemed to be a borrowing of monies by the banking company within the meaning of this clause. Explanation.—For the purposes of this clause, the expression “temporary loans” means loans repayable on demand or within six months from the date of the loan such as short-term, cash credit arrangements, the discounting of bills and the issue of other short-term loans of a seasonal character, but does not include loans raised for the purpose of financial expenditure of a capital nature;
(d) to remit, or give time for the repayment of, any debt due from a director.

(2) Every special resolution passed by the company in general meeting in relation to the exercise of the powers referred to in clause (c) of sub-section (1) shall specify the total amount up to which monies may be borrowed by the Board of Directors.

(3) Nothing contained in clause (a) of sub-section (1) shall affect—
(a) the title of a buyer or other person who buys or takes on lease any property, investment or undertaking as is referred to in that clause, in good faith; or
(b) the sale or lease of any property of the company where the ordinary business of the company consists of, or comprises, such selling or leasing.

(4) Any special resolution passed by the company consenting to the transaction as is referred to in clause(a) of sub-section (1) may stipulate such conditions as may be specified in such resolution, including conditions regarding the use, disposal or investment of the sale proceeds which may result from the transactions:
Provided that this sub-section shall not be deemed to authorise the company to effect any reduction in its capital except in accordance with the provisions contained in this Act.

(5) No debt incurred by the company in excess of the limit imposed by clause (c) of sub-section (1) shall be valid or effectual, unless the lender proves that he advanced the loan in good faith and without knowledge that the limit imposed by that clause had been exceeded.

This provision is covered by CHAPTER XII on MEETINGS OF BOARD AND ITS POWERS [Sections 173 to 195].

Section 180 is brought to force with effect from September 12, 2013.

Corresponding provisions of the Companies Act, 1956:
Section 293

Corresponding provisions of the English Companies Act, 2006:
Sections 761 and 762

Applicability:
This section is applicable to all companies.

What is the difference from the Companies Act, 1956:

Comments:

This section shall be read with section 221 of the Companies Act, 2013.

Copy of Board resolutions for sell, lease or disposal of undertaking or substantial undertaking as well as Board resolution to borrow; copy of special resolution together with explanatory statement annexed to notice calling the meeting is required to be filed with the Registrar of Companies within 30 days. ((Section 117(1) and Section 117(3)(a) and (e) ))

Undertaking:

An explanation is inserted to explain the term ‘undertaking’. It comprises two test. Any one test if complied with, then it is an ‘undertaking’.

Test 1: An undertaking in which the investment of the company exceeds 20% of its net worth as per audited balance sheet of the preceding financial year.

Test 2: An undertaking which generates 20% of the total income of the company during the previous financial year.

As can be observed from the explanation, the term ‘undertaking’ is not defined as explanation itself uses the term ‘undertaking’. Hence recourse needs to be given to its dictionary meaning.

Judicially it is not accepted that an ‘undertaking’ means an asset or property of the company.  The expression “undertaking” used in section 293(1)(a) is not necessarily limited to some property or asset but would extend to a distinct business activity. ((Yallamma Cotton, Wollen & Silk Mills Co. Ltd., In re (1970) 40 Comp Cas 466 (Mys.) ))

In Yallamma Cotton’s case ((ibid)), a learned single judge of the Mysore High Court was concerned with a situation where the official liquidator of the company in liquidation had impugned the action of the creditor bank in taking possession of certain assets of the company in apparent exercise of its power as a mortgagee and charge-holder of the immovable and movable properties of the company. The mortgage had been created by the ex-director of the company. It was argued for the liquidator that the mortgage was beyond the powers of the board of directors under section 293(1)(b), and further that taking into possession the mortgaged property amounted to an act which was specifically prohibited by section 293(1)(a) as beyond the scope of the power of the board of directors, without ratification by the company in general meeting. In this context, the learned section (1) of section 293, and, as the said word was not defined in the Act, placing reliance upon the dictionary definition, the learned single judge observed (at page 485) : “It is not in its real meaning anything which may be described as a tangible piece of property like land, machinery or the equivalent; it is in actual effect an activity of man which in commercial or business parlance means an activity engaged in with a view to earn profit. Property, movable or immovable, used in the course of or for the purpose of such business can more accurately be described as the tools of business or undertaking, i.e. things or articles which are necessarily to be used to keep the undertaking going or to assist the carrying on the activities leading to the earning of profits.”

The matter was carried in appeal and, in the decision reported at page 1154 of the same volume ((International Cotton Corporation P. Ltd. v. Bank of Maharashtra (1970) 40 Comp Cas 1154 (Mys.) )), the appeal Bench upheld the findings of the learned judge and, while doing so, it also took note of the fact that the expression “undertaking” as used in section 293(1)(a) of the Companies Act has not been defined. The appeal court, therefore, fell back upon the meaning of the said word contained in dictionaries, and observed (at page 1157) : “The business or undertaking of the company must be distinguished from the properties belonging to the company. In this case it is only the properties belonging to the company that have been deal with by the board of directors under the deeds of hypothecation and mortgage in favour of the bank. Hence, the learned company judge was right in holding that no part of the undertaking of the company was disposed on in favour of the bank.”

Borrowings:
Where borrowing proposed by a company, when aggregated with the borrowings already made by that company, will exceed aggregate of its paid-up share capital and free reserves of the company, then prior consent of members by special resolution is required.

The term ‘paid-up share capital’ means such aggregate amount of money credited as paid-up as is equivalent to the amount received as paid-up in respect of shares issued and also includes any amount credited as paid-up in respect of shares of the company, but does not include any other amount received in respect of such shares, by whatever name called.((Section 2(64) ))

The term ‘free reserve’ means such reserves which, as per the latest audited balance sheet of a company, are available for distribution as dividend:
Provided that—
(i) any amount representing unrealised gains, notional gains or revaluation of assets, whether shown as a reserve or otherwise, or
(ii) any change in carrying amount of an asset or of a liability recognized in equity, including surplus in profit and loss account on measurement of the asset or the liability at fair value,
shall not be treated as free reserves.((section 2(43) ))

What if consent of members is not obtained?
Exercise of power without consent of members is exercise of powers beyond the authority of the Board and is ultra vires. The company can avoid it. And if the Board of Directors borrows in excess of the limits and without consent of members by special resolution, then the debt incurred by the company shall not be valid or effectual ((Section 180(5) )). However, in such cases debt of the company could become valid and effective if the lender proves that he advanced loan in good faith and without knowledge that the limit imposed by section 180(1)(c) had been exceeded. Hence lenders needs to be extra cautious while lending to companies.

Validity of resolution passed under section 293 of the Companies Act, 1956:
Ministry of Corporate Affairs, clarified ((general circular no.04/2014 dated March 25, 2014)) that the resolution passed under section 293 of the Companies Act, 1956 prior to September 12, 2013 (date on which Section 180 of the Companies Act 2013 brought to force) with reference to borrowings (subject to the limits prescribed) and / or creation of security on assets of the company will be regarded as sufficient compliance of section 180 of the Companies Act, 2013 for a period of one year from September 12, 2013.

Penalty:
Since no specific penalty or punishment is prescribed for contravention of the section, general penalty prescribed under section 450 of the Act is applicable. Accordingly, the company as well as its officer who is in default or such other person shall be punishable with fine upto Rs.10,000/-. For continuing offence, they are punishable with further fine upto Rs.1,000/- for every day after the first during which contravention continues.

It may be noted that for second or subsequent contravention of the provision of this section, if made within a period of three years, then the company as well as its officer who is in default shall be punishable under section 451 with twice the amount of fine in addition to any imprisonment provided for the offence.

Adjudication:
Under Section 454, the officer appointed by the Central Government, not below the rank of Registrar of Companies, may adjudicate and impose monetary penalty for violation of this section, where it decides that no prosecution be launched. However, before imposing penalty, an opportunity of hearing shall be given to the Company and its officers.

Compounding:
It may be noted that under section 441, where offence is punishable with fine only, the same may be compounded by the National Company Law Tribunal or where the fine does not exceed Rs.5,00,000/- by the Regional Director or any other officer authorised by the Central Government.