YASHODHARA SHROFF Vs. UOI & ANR.

HIGH COURT OF KARNATAKA AT BENGALURU

Case No. W.P. 52911 of 2017
Judge THE HON'BLE MRS. JUSTICE B. V.
NAGARATHNA
Date of Decision 12.06.2019

Background:-

1. Companies Act, 2013 (hereinafter ‘2013 Act’) replaced the Companies Act, 1956
(hereinafter ‘1956 Act’) and made major changes by prescribing whole new
structure to the 2013 Act for corporate governance and management. This case
is concerned with “disqualification of directors” dealt in S.164 and its effect
under S.274 and S.283 of 1956 Act; S.167 of 2013 Act.
2. In a nutshell the S.164(2)(a) of 2013 Act provides for disqualification of director
who “is or has” failed to file financial statements and annual reports for a period
of three continuous years. Following the same S.167 of 2013 Act provides for
making seat vacant of director if he is disqualified on account of S.164.
3. On same lines, prior to 2013 Act; the S.274(1)(g) of 1956 Act provided for
disqualification of director from being eligible to be appointed as director of
public company who has not filed annual accounts or annual returns for a
continuous period of three years commencing on and after April, 1999.
4. Legislature through Companies Act (Amendment Act) 2017 made certain
changes in S.164 which did not allowed appointment or re-appointment of
defaulting director in any company (be it the same defaulting company or any
other non-defaulting company) for a period of five years. On the contrary, prior
to 2013 Act, the S.274 of 1956 Act use to provide for re-appointment of director
even after disqualification in the defaulting company.
5. Ministry of Corporate Affairs found directors defaulting S.164 for conduct prior
to 2014 (2013 Act enactment year) and disqualified them for five years.
S.167(1)(a) was inserted by S.54 of the Amendment Act, 2017 and applied
retrospectively during pendency of these cases. This even led to cancellation of
Director Identification Number of the directors. Directors then approached to
High Court of Karnataka.

Important Points for Reader

1. 2013 Act came into force in 2014, the Amendment Act, 2017 came into force in
2017.
2. S.274 pf 1956 Act and S.164 of 2013 both provides for disqualification on
account of failure to file financial documents and annual reports.
3. S.283 of 1956 Act and S.167 of 2013 Act both provides for vacation of office by
directors on being disqualified.
 4. S.274(1)(g) of 1956 Act didn’t result in vacating the office of director in the
defaulting company or in any other company. This was limited to public
company directors.
5. S.164(2) asks for disqualification of both public and private company directors.

Issues

i. Whether S.164(2) and s. 167(1)(a) are being violative of Article 14 and 19(1)(g) of
Constitution for they being manifestly arbitrary and the punishment being
disproportionate to wrong of non-filing.
ii. Whether there is unjust exercise of powers by MCA for retrospectively exercising
S.164(2)(a) and S.167 of 2013 Act.
iii. Whether there is violation of principles of natural justice as no pre and post
decisional hearings were given to these directors for explaining their non-
compliance of S.164.

Arguments by Petitioner

1. The disqualification for five years is not directly attributable to a director of

defaulting company but is vicarious consequence on account of default
committed by the company; i.e. the default is committed by company and not
per se by director.
2. The consequence of default is almost penal and disproportionate, which is
ultimate sense is violation of Article 14.
3. S.164(2) vacates the office of director even in those companies where there is no
default.
4. Disqualification is by operation of law without there being a prior notice, pre and
not even post decisional hearing, and also without taking into consideration the
valid and bonafide reason for non-filing of statements and annual reports.
5. The operation of amendment must operate after the commencement of 2014 and
not retrospectively as there was 1956 Act in operation prior to 2013 Act.
6. S.403 of 2013 Act gives extension of time by 270 days for filing annual returns;
this time also was not considered by the MCA before disqualifying the directors.
7. S.164(2) and 167(1)(a) are hit by doctrine of proportionality on account of their
grave consequences that these provisions have on career of a person. After
disqualification, the DIN gets cancelled. DIN cancellation must not be applicable
under S.164(2) as the same is meant for S.164(1) because the reasons in the latter
are disqualifications due to personal reasons.
8. Exclusion of principles of natural justice vitiates the constitutionality of S.164(2).
9. For a company, as well as for a LLP, the DIN is common and once it stands
cancelled in respect of a company, it also affects the position of indicividual as a
partner in LLP.
10.Proviso to S.167(1)(a) is arbitrary in as much as vacating the office of director in
other companies is concerned as that has no nexus to director continuing in
office of the defaulting company.
11.Principles of Article 20 of the Constitution would apply by way of analogy.
Arguments by Respondent

1. The amendment was introduced for the first time with the object of bringing
transparency and accountability in sync with international norms.
2. S.164(1) is in nature of permanent disqualification whereas the contended
S.164(2) is temporary in nature, that too only 5 years. Hence, it’s not harsh,
unviable and disproportionate.
3. It’s not retrospective but prospective as anyone who intends to become director
must possess eligibility on and from that date. The prescription of eligibility
criteria prior to antecedent period does not vitiate any provisions of law. No
director is disqualified prior to 2014.
4. No director is vested with right to continue as director forever. Such a right is
not fundamental and can always be taken away by statute.
5. Such provisions are necessary for the protection of public interest.
6. The Condonation of delay scheme as per s.403 is not applicable to those
companies whose name is struck off from the register of companies that ought
to have been availed at appropriate time.
7. The disqualification visits the director only after the default of 3 continuous
years of non-filing. It doesn’t prevent him from continuing as a shareholder of
the company.
8. There cannot be any objection to the statutory interference with their
composition or function merely on ground of contravention of individual’s rights
to freedom to form association.
9. The disqualification is by operation of law the principles of natural justice shall
not apply.

Reply arguments by petitioners

1. If a company is struck off under S.248 of 2013 Act, whether S.164(2) of the Act
would apply or not is a moot question. Though, it should not attract
disqualification of the directors of such company as the DIN gets struck off and
the Condonation Scheme would then not apply.
2. The vacating of office in companies other than the defaulting company by a
director of a defaulting company was originally not envisaged under S.167(1)(a)
but it has been included by way of a proviso inserted through 2017 amendment.
167(1)(a) was never meant to apply for S.164(2) disqualification for 5 years
thereby vacating seat in all companies except defaulting company. Rather it was
meant for only S.164(1).
3. Deactivation of DIN is contrary to proviso of S.167(1)(a) of the 2013 Act as the
disqualified director continues to be director of defaulting company, as if DIN
were to cancel then the compliance under the Act shall become impossible.
Besides there is no provision for deactivation of DIN and that leads to violation
of contractual rights of director on account of implementation of 164(2) and
proviso of S.167(1)(a) as the same has been deactivated by MCA.

Factors Considered by Court

 1. It is by operation of law that directors have to vacate their office for their default
under S.164(2).
2. S.164(2) says “no person who is or has been a director of a company”, the term
“is” referred to person who is currently continuing as director, whereas “has
been” cannot be extended to mean director at company prior to default of those
three continuing material years. The term “has been” is to cover those directors
who resign or leave their office immediately before or soon after the default for
3 continuing years to escape liability.
3. The amendment came with intent to protect the interest of investors as the same
lets know the desirable public to know the names of defaulting directors and the
same is justified in larger public interest.
4. S.164(2) of the Act is there in order to provide for stringent operations and
maintaining the transparency as the same also leads to assist in identifying
directors of shell companies which are indulged into dubious financial
transactions and money laundering like acts.

Ratio Decidendi

1. The disqualification cannot be held to be disproportionate even when the

director of a company which has defaulted under section 164(2) is due to
vicarious actions because Board of Director is a supreme administrative body of
a corporate entity and it ought to face an ineligibility to be re-appointed as
director of the defaulting company. The ineligibility is not a nature of
disqualification as it results only in temporary suspension for a period of 5 years
considering the default which is of three continuous years and not of immediate
cause. This is sufficient enough to prove that the 5 years disqualification is hit
by doctrine of proportionality considering the aspects of default.
2. The disqualification is not permanent in nature hence the provision is not
excessive or unreasonable in nature.
3. Statute can exclude the principles of natural justice, either expressly or by
necessary implications. When a dismissal of an office bearer is due to matter of
policy and not on the basis of misconduct, the principles of natural justice shall
not be applicable. Hearing is excluded when administrative action in question is
recorded as legislative character in contrast with administrative function. There
could be plethora of reasons for non-compliance by directors, the provision is
not concerned with those reasons. The presence of circumstances mentioned are
sufficient for directors of defaulting company to be visited with an ineligibility
for re-appointment albeit vicariously.
4. When there is ineligibility for a director of a defaulting company to be re-
appointed as a director of the defaulting company or appointed as a director of
any other company, then by the same logic he cannot be permitted to be
continued as a director in the defaulting company or in any other company in
the name of transparency, probity and protection of share-holders. Hence,
S.167(1)(a) is not unreasonable in the larger public interest and is not violative of
Article 19(6).
 5. Considering the analogy of Article 20(1) of the Constitution for private company
directors as, at no point of time prior to the enforcement of the Act, a
disqualification based on the circumstances under Section 164(2) of the Act was
ever envisaged under the 1956 Act vis-à-vis directors of private companies. Such
a disqualification could visit a director of only a public company under Section
274(1)(g) of 1956 Act and never a director of a private company.

Judgment

1. The said provisions are not ultra vires to Article 14 and/or Article 19(1)(g) of the
Constitution.
2. The disqualification is not due to administrative or quasi-judicial decision, it’s by
operation of law, hence principles of natural justice could be excluded.
3. No period prior to 01.04.2014 (implementation date of 2013 Act) could be taken
into consideration to be part of continuous period of 3 financial years. Hence, for
default prior to 01.04.2014 S.274(1)(g) of 1956 Act shall apply whereas after that,
the provision of 2013 Act shall apply.
4. No period prior to 01.04.2014 could be taken into consideration for private
company directors as they are being treated for such disqualification for the first
time with such severe consequences.
5. No period prior to 01.04.2014 could be reckoned for 3 years filing default for
public company directors as they have to vacate their office from other
companies’ directorship other than the defaulting company. The cumulative
effect is greater in 2013 Act in comparison to 1956 Act.
6. Application of S.167(1)(a) could only be prospective subsequent to
implementation of Amendment of 2017.
7. The directors of the struck off companies under Section 248 of the Act do not
per se get disqualified. But, if the said company has also not complied with
Section 164(2)(a) of the Act, then the said company being a defaulting company,
the directors of such a company get disqualified.
8. There was arbitrary exercise of power by the authority i.e. MCA for considering
the period prior to 01.04.2014 as reckoning the continuous three year default.
9. The respondents are directed to restore the DIN of those directors whose
disqualifications are quashed by the Court.
Relevant Provisions:-

Section 164(2), Company Act, 2013– Disqualifications for appointment of director

(2) No person who is or has been a director of a company which—

(a) has not filed financial statements or annual returns for any continuous period of
three financial years; or

Section 167, Company Act, 2013– Vacation of office of director

(1) The office of a director shall become vacant in case—

(a) he incurs any of the disqualifications specified in section 164;

Section 274, Company Act, 1956– Disqualifications of directors.

(1) A person shall not be capable of being appointed director of a company, if –

(A) has not filed the annual accounts and annual returns for any continuous three
financial years commencing on and after the first day of April, 1999; or

Section 283, Company Act, 1956– Vacation of office by directors.

(1) The office of a director shall become vacant if –

(a) he fails to obtain within the time specified in sub-section (1) of section 270, or at
any time thereafter ceases to hold, the share qualification, if any, required of him by
the articles of the company;

Article 20, The Constitution of India, 1949–Protection in respect of conviction for

offences

(1) No person shall be convicted of any offence except for violation of the law in force
at the time of the commission of the act charged as an offence, nor be subjected to a
penalty greater than that which might have been inflicted under the law in force at the
time of the commission of the offence.