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Directors™ vicarious liability for dishonor of company cheque Landmark judgment of Supreme Court

[2010] 98 CLA (Mag.)  1

By Dr. K R Chandratre

In this article Dr. K R Chandratre, Practising Company Secretary ; Past President, Institute of Company Secretaries of India, discusses standard penal provision which fastens vicarious liability on the directors of the company for offences committed by the company in the light of the landmark judgment of the Supreme Court in National Small Industries Corpn. Ltd. v. Harmeet Singh Paintal [2010] 28 CLA-BL Supp. 46 and is of the view that the decision of the Supreme Court should check the general tendency to arraign all directors, (including those who were not directors on the date of signing the cheque and non-executive directors who are not concerned with nor do they have powers of management of day-to-day affairs of the company.

Directors™ vicarious liability Standard Penal provision

1. In India, a number of statutes (including Negotiable Instruments Act, 1882) contain under the heading ˜Offences by companies™ an identical provision regarding vicarious liability of directors and other company officers for company™s offences.  It reads as follows :

˜Offences by companies (1) Where an offence under this Act has been committed by a company, every person who, at the time the offence was committed, was in charge of, and was responsible to, the company for the conduct of the business of the company, as well as the company, shall be deemed to be guilty of the offence and shall be liable to be proceeded against and punished accordingly :

Provided that nothing contained in this sub-section shall render any such person liable to any punishment provided in this Act if he proves that the offence was committed without his knowledge or that he exercised all due diligence to prevent the commission of such offence.

(2) Notwithstanding anything contained in sub-section (1), where an offence under this Act has been committed by a company and it is proved that the offence has been committed with the consent or connivance of, or is attributable to any neglect on the part of, any director, manager, secretary or other officer of the company, such director, manager, secretary or other officer shall be deemed to be guilty of that offence and shall be liable to be proceeded against and punished accordingly.

Explanation ­: For the purposes of this section

(a)   company means any body corporate, and includes a firm or other association of individuals ;  and

(b)   director in relation to a firm means a partner in the firm.™

1.1 In terms of sub-section (1) of the standard penal provision, where an offence is committed by a company, in addition to the company, every person, who, at the time the offence was committed, was in charge of, and was responsible to, the company for the conduct of its business, shall be deemed to be guilty, and, if proved so, shall be liable to the punishment prescribed in the respective statute. By the legal fiction embodied in sub-section (1), the liability for company offences is extended and partly shifted to the directors and other officers of the company vicariously. This provision is worded differently from that of section 5 of the Companies Act, 1956 (which defines ˜officer who is in default™ and seeks to make the specified officers of a company liable for company offences), although there is one common feature underlying these two provisions. Both seek to cast the burden of responsibility on those company directors who are concerned with management of the company, and exclude those who are, although being directors, do not have direct involvement in the management. The language used in the two provisions is different but the intention and object underlying both is the same. Thus, sub-section (1) creates a legal fiction whereby every person, who is in charge of and responsible to the company for the conduct of its business, becomes automatically guilty of the offence committed by such a company and is liable to be proceeded against and punished accordingly. No other overt act or direct commission of the offence by such a person is necessary barring the factum of being in-charge of the company or responsible thereto for the conduct of its business. But the person charged with the responsibility must be a person in charge of the company for the conduct of its business and responsible to the company for the conduct of its business.

The principle of identification

2. Significantly, this provision does not, unlike section 5 of Companies Act, specify or identify any particular officer of a company, not even director, managing director or whole-time director, manager or secretary. It leaves identification of the person or persons  in charge of, and was responsible to, the company for the conduct of its business, by the law-enforcing authorities and courts. For bringing a case within the mischief of sub-section (1), following two conditions must be satisfied :

¢   The offence in the first instance must have been committed by the company, which includes a partnership firm and for that the company must be first charged as such.

¢   Besides the company, the person who is sought to be made liable must be in charge of, and responsible to, the company for the conduct of its business.

2.1 Vicarious liability of directors As noted earlier, sub-section (1) makes liable the person who was in charge of and responsible to the company for the conduct of the business of the company or the firm.  Such persons are by legal fiction held guilty of any offence committed by the company.  This is an instance of vicarious liability.  The liability, however, can be fastened under the section only if the court is satisfied that the person sought to be fastened with the liability is the person who (at the time the contravention was committed) was in charge of and responsible to the company for the conduct of its business.

2.2 Implication of expression ˜a person in-charge and responsible to the company for the conduct of the business of the company™ An question which is often agitated before courts about this penal provision is : Can any or all the directors of a company be fastened with the liability on the ground that they, acting as the members of the Board of directors, are the persons in charge of and responsible to the company for the conduct of its business? The consensual judicial view appears to focus on the working of executive directors and relieve the non-executive directors. For instance, in Girdhari Lal Gupta v. D N  Mehta AIR 1971 SC 2162, the Supreme Court has construed the expression ˜a person in charge and responsible for the conduct of the business of the company™ as meaning the person in overall control of the day-to-day business of the company. One of the ingredients of the above penal provision is that the person alleged to be guilty of an offence and hence proceeded against must be a person in charge of and responsible to the company for the conduct of its business. It has been repeatedly held there must be clear and specific allegation in the complaint to this effect ; otherwise the complaint would be liable to be quashed Municipal Corporation of Delhi v. Ram Kishan Rohatgi [1983] 1 SCC 1.

2.3 Liability depends on the role one plays in the affairs of a company and not on designation or status In SMS Pharmaceuticals Ltd. v. Neeta Bhalla [2005] 68 CLA 192 / [2005] 127 Comp Cas 563, the Supreme Court has held that the liability under section 141 of the Negotiable Instruments Act (˜NI Act™) arises from being in charge of and responsible for conduct of business of the company at the relevant time when the offence was committed and not on the basis of merely holding a designation or office in a company. Conversely, a person not holding any office or designation in a company may be liable if he satisfies the main requirement of being in charge of and responsible for the conduct of business of a company at the relevant time. Liability depends on the role one plays in the affairs of a company and not on designation or status.

The latest landmark case of the Supreme Court

3. In its landmark judgment in National Small Industries Corp. Ltd v. Harmeet Singh Paintal [2010] 28 CLA-BL Supp 46/[2010] 154 Comp Cas 313 (SC), the Supreme Court has held that the persons, who are sought to be made vicariously liable for a criminal offence under section 141 should be, at the time the offence was committed, in charge of, and responsible to, the company for the conduct of the business of the company. Every person connected with the company shall not fall within the ambit of the provision. Only those persons, who were in charge of and responsible for the conduct of the business of the company at the time of commission of an offence, will be liable for criminal action. A director of a company, who was not in charge of and was not responsible for the conduct of the business of the company at the relevant time, will not be liable for a criminal offence under the provisions. The liability arises from being in charge of and responsible for the conduct of the business of the company at the relevant time when the offence was committed and not on the basis of merely holding a designation or office in a company. The Supreme Court pointed out as follows :

A company may have a number of directors and to implead any or all the directors as accused in a complaint merely on the basis of a statement that they are in charge of and responsible for the conduct of the business of the company without anything more is not a sufficient or ade­quate fulfilment of the requirements under section 141. For making directors liable for the offences committed by the company under section 141 of the Act, there must be specific averments against the directors, showing as to how and in what manner the directors were responsible for the conduct of the business of the company.

3.1 Significant aspect of the ruling of the Supreme Court The most significant aspect of the ruling is that emphasis laid on sections 5 and 291 of the Companies Act. Section 5 identifies the persons who are to be treated as officers who in default for the purpose of offences under the Act and they are the persons who are closely connected with the management of affairs of a company (especially the managing director and whole-time director). The settled position is that a managing director is prima facie in-charge of and responsible for the company™s business and affairs and can be prosecuted for offences by the company. But so far as other directors are concerned, they can be prosecuted only if they were in-charge of and responsible for the conduct of the business of the company.

3.2 For making a person liable the mechanical repetition of the requirement of sub-section (2) of section 141 will be of assistance Finally, the Supreme Court has cautioned that if the accused is not one of the persons who falls under the category of ˜persons who are responsible to the company for the conduct of the business of the company™, then merely by stating that he was in-charge of the business of the company or by stating that he was in-charge of the day-to-day management of the company or by stating that he was in-charge of, and was responsible to, the company for the conduct of the business of the company, he cannot be made vicariously liable under sub-section (1) of section 141. To put it clear that for making a person liable under sub-section (2) of section 141, the mechanical repetition of the requirements under sub-section (1) of section 141 will be of no assistance, but there should be necessary averments in the complaint as to how and in what manner the accused was guilty of consent and connivance or negligence and, therefore, responsible under sub-section (2) of section 141. This decision should check the general tendency to arraign all directors (including those who were not directors on the date of signing the cheque and non-executive directors who are not concerned with nor do they have powers of management of day-to-day affairs of the company.

 

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