Case Study: Reebok India Company v. Union of India & Anr. (2024) | Delhi HC Upholds ROC's Rejection of Reebok India LLC Request

Delhi High Court has upheld the Registrar of Companies' decision to refuse Reebok India's request to change its status to a Limited Liability Company.

Case Title: Reebok India Company v. Union of India through Secretary, Ministry of Corporate Affairs & Anr.

Court: Delhi High Court

Citation: W.P.(C) 1546/2021

Judge: Hon'ble Justice Subramonium Prasad

Date of Decision: 16th February, 2024

Facts of the Case

• The Petitioner in the case being Reebok India Company primarily engaged in the wholesale business of trading footwear, sports apparel and sports equipment.
• The Company holds various franchise-based stores across India.
• In the instant case, the Petitioner through a meeting of the Board of Directors and Shareholders of the company, passed a resolution to convert the company to a private limited company from its original unlimited liability, through such an entitlement conferred upon it by way of Section 18 of the Companies Act, 2013.
• However, it is required that the company while doing so, observe all such measures and steps deemed essential by law. They include - considering the changing conditions of the external environment and the organisational structure and key management strategies of the company.
• W.r.t the same, the Petitioner applied for the said conversion, along with all necessary forms and documents on 21.10.2014. On 31.10.2014, it received a reply from Respondent No.1 stating that its ‘e-form INC-1’ was pending user clarification since it was not in compliance with Section 18 of the Act or Rule.
• In the year 2016, the Companies (Incorporation) Third Amendment Rules came into force, wherein, Rule 37 related to the conversion of an unlimited liability company into a limited liability company, by shares or guarantee and additionally, Clause (8) of Rule 37 of the rules as stated, listed out certain conditions where a company having unlimited liability would be ineligible to convert itself into a company limited by shares or guarantee, of which the company fell under.
• Thereby, through a letter/notice on 05.10.2016, the Registrar of Companies (RoC) communicated the rejection of the Petitioner companies' application without any reasons or justifications. And, though the Petitioner subsequently wrote a letter back to the concerned authority clarifying that their acts were following the requirements as per law, no follow-up was received from the RoC by the Petitioner Company.
• Aggrieved by the said communication as well as receiving no reply from the Registrar despite the attempt to follow up with the matter, the Petitioner approached this Court by filing a Writ Petition thereby challenging the communication from the RoC dated 05.10.2016.
• This Court then vide an Order dated 03.03.2020 directed that Respondent No.2 decide the application of the Petitioner afresh, by law, after giving the Petitioner an adequate opportunity to be heard.
• Under the Order passed by this Court, the Petitioner was called upon by Respondent No.2 for a hearing, in person, on 30.06.2020. The Court, after hearing the Petitioner, rejected the application of the Petitioner vide Order dated 07.08.2020.
• It is this order that is under challenge in the present Writ Petition.

Issues

• Whether Rule 37(8) of the Companies (Incorporation) Third Amendment Rules, 2016 was ultra vires the Act and the Constitution?
• Whether the previous/subordinate Court rightfully rejected the application of the Petitioner company?

Laws

• Section 18 of the Companies Act, 2013
• Companies (Incorporation) Rules, 2014
• Rule 37 and 37(8) of the Companies (Incorporation) Third Amendment Rules, 2016.

Arguments of the Parties

Petitioner

While making submissions before the Bench, the Petitioners took the stance that the conversion of their company from; one having unlimited liability to one being limited by shares, was not in contravention of the general public interest or that of the shareholders/stakeholders of the company. The submissions of the Petitioners read in the same context as elaborated, are as follows:

1. Firstly, the Counsel on behalf of the Petitioner, stated that Section 18(3) would not affect any of the debts, liabilities, obligations or contracts incurred or entered into, by the Company. And all of the aforesaid subjects would continue to be enforceable against the company like the way they would have been treated if it continued to be an unlimited liability company.
2. Additionally, Counsel of the Petitioner also went on to state that the pending prosecutions initiated by the SFIO (Serious Fraud Investigation Organisation) and believed that they could not, or should not, hinder the conversion of the company.

Respondents

The Respondents countered the submissions of the Petitioner by contending the following/bringing the following observations to light before the Court :

1. That prosecution against the Petitioner under the Companies Act and Indian Penal Code, initiated by the SFIO, are bound to bring the said conversion process of the Company to a standstill, if not anything until the matter is heard and decided by the Court.
2. That among the many documents/forms filed by the Petitioner Company, e-form 27 was not in compliance with Rule 37.
3. That in doing so (restricting the company from converting), the Respondent sought to secure the greater public interest, and interests of the stakeholders including all suppliers and creditors and to maintain the factual position of law and believes the intended result is being achieved.
4. The Petitioner/Company neither disclosed the list of Stakeholders to whom dues were payable on the date of conversion nor did it attach any NOC from them, stating that they do not object to the conversion of the said company, its nature or its consequences.
5. That the Auditors of the Company gave alarming negative remarks in the financial statements as of 31.03.2014, the date of which - precedes the application made by such Petitioner Company for conversion, and
6. Lastly, it was found that the company had a net deficit in current liabilities over assets and would not be able to pay its creditors in full.

In addition to this, the Respondents relied on several judgements to substantiate their preferred position of law about the matter at hand.

Analysis of the Case

After duly considering the relevant facts and law having any direct or even indirect semblance with the matter at hand, the Division Bench of the Delhi High Court directed the Registrar of Companies to decide the application of the Petitioner afresh.

Furthermore, the Court observed that the impugned rules’ constitutionality being challenged was undue as it only sought to protect the interests of the creditors/other stakeholders as well as the public interest. Thus, the rules are equated to be curative. However, on the same lines, the Court observed that the said rules must also apply to all of the pending applications before the Registrar and thus would apply to the application of the Petitioner company as well.

The Court also evaluated that the option of ‘conversion’ made statutorily available to the relevant organisation or class/classes of organisations was not a vested right conferred to any Company and the rules being made more stringent in terms of the RoC requiring to satisfy itself in context of aspects related to the net worth of the company and whether there is any ongoing investigation or inspection against the company, was made as such to better serve the interests of all related parties to such transactions/activities.

On similar grounds, the observations made by the RoC for rejecting the application in the first place were once again looked at through the lens of an unbiased and liberal approach but were, unironically, once again validated because deciding otherwise would have led to the sidelining of public interest and that of the stakeholders as well.

The ROC has also observed that the petitioner/company has suffered substantial financial losses and has a net deficit in current liabilities over assets of over Rs. 2100 Crore.

Further, as stated earlier, the ROC was not provided with any NOC or undertaking from all the shareholders clarifying their support in favour of the conversion application and the petitioner did not even issue a public advertisement inviting objections from various creditors/stakeholders on the issue of conversion.

The Court went on to state that the anxiety on the part of the Registrar of Companies that the creditors and stakeholders should not be left high and dry cannot be said to be completely unjustified.

Conclusion

Although it is unclear with what motives the Petitioner Company was attempting to convert itself from a company of unlimited liability to a company limited by shares or guarantee, the pertaining case highlights how statutory corporate governance plays an essential role in ensuring that no entity either attempts to or succeeds in its attempt to curb essential corporate practices/ethics while threatening the system of fair play and competition in the corporate realm.

The role of the various instrumentalities to Corporate/Company Law such as the ROC and the SFIO have also been very well highlighted in the case, where the two bodies as mentioned, provided adequate resistance against an act held to be wrongful by this Court. The exercise of independent judgment and knowledge by relevant authorities/officials is crucial in furthering the idea of healthy market practices and healthy competition in markets.

Important Links