Rahul Unnikrishnan.Recently, the Gauhati High Court, in Assam Co. India Ltd. v Union of India (2019) 213 Comp Cas 420 (Gauhati), held that the term “shell company” is not defined in any statute, and as such, an order branding any company as a shell company, without serving notice or hearing, violates principles of natural justice. .Facts of the case.In the instant case, the petitioner was in the business of cultivation and manufacture of tea, having several tea estates in the State of Assam. As per a statement submitted to the High Court, the petitioner has 14 tea estates producing approximately 11 million kilograms of tea per year, which are sold either through auction or through private sale. It also employs about 20,000 workers across these tea estates. .On August 7, 2017, the petitioner came to learn that the Securities and Exchange Board of India (SEBI) had initiated proceedings against it by instructing the Bombay Stock Exchange, National Stock Exchange and Metropolitan Stock Exchange to restrict and/or to suspend trading of shares of the company. The petitioner also came to learn that SEBI had initiated such proceedings on the basis of a letter dated June 9, 2017 received from the Government of India in the Ministry of Corporate Affairs forwarding the database of 331 listed shell companies for initiating necessary action. .Findings of the High Court.After hearing both the parties, the Court noted that the term “shell company” is not defined in any statutes in India. In fact, the Parliamentary Standing Committee on Finance had suggested that the term “shell company” be defined under the Companies Act, 2013. It was also noted that the committee was of the view that all shell companies may not have fraudulent intention. Therefore, the expression “shell company” was suggested to be defined as having fraudulent intent as one of the characteristic features of such a company. The popular understanding of a shell company was explained by the High Court in the following manner:.“16.1. In popular parlance, a shell company is understood as having only a nominal existence; it exists only on paper without having any office and employee. Just like a shell which has a thick outer covering but is hollow inside, a shell company is a corporate entity without having active business operations or significant assets. It may be used as a deliberate financial arrangement providing service as a tool or vehicle of others without itself having any significant assets or operations i. e., acting as a front. Popularly shell companies are identified as companies which are used for tax evasion or money laundering, i.e., channelizing crime tainted money or proceeds of crime into the formal economy.”.However, the Court was quick to note that being a paper company and not having any assets or business operations per se is no offence: a corporate entity may be set up in such a fashion with the objective of carrying out corporate activities in future. This, according to the High Court, was perfectly legal and would not make it an illegal entity. The Court also placed reliance on the definition of a shell company in the glossary of foreign direct investment terms prepared by the Organisation for Economic Co-operation and Development (OECD), and Justice Radhakrishnan’s observations in Vodafone International Holdings B.V. v. Union of India [2012] 170 Comp Cas 369 (SC). The Court then summarized the existing situation in the following manner:.“21. Thus, from the above, what can be deduced is that though a shell company is defined in other jurisdictions, in India there is no statutory definition of a shell company. However, in popular parlance as well as from the perspective of the Government and its agencies, a shell company is ordinarily identified with dubious activities concerning serious economic offences, such as tax evasion, money laundering, benami transaction, conversion of black money into white, round-tripping with host of other associated offences. The general perception is that presence of shell companies and its potential use for illegal activities threatens the very economic foundation of the country and severely compromises its economic foundation and ultimately sovereignty.“.In the end, the Court held that it is no offence to be a shell company per se. It was also held that the maximum a Registrar of Companies can do is to strike off the name of such company from the registrar of companies. But, the Court also qualified that if the shell company is involved in money-laundering or tax evasion, then relevant provisions under the Prohibition of Benami Transactions Act, 2016, Prevention of Money-Laundering Act, 2002, Income-tax Act, 1961, and the Companies Act, 2013 would be attracted. .Principles of natural justice. The Court held that considering the negative implications of being branded as a shell company, it was not justified either on the part of the SFIO or SEBI to treat the petitioner as a shell company straightaway and thereafter to initiate an investigation to justify such branding..Adding further, it was also held that the principles of natural justice would require that before such branding is done, the company should have been put on notice and afforded it a reasonable opportunity of hearing as to why and on what grounds it was being suspected to be a shell company, and only if the response was found to be not satisfactory, such a finding could have been recorded..In short, the Gauhati High Court held that a finding of shell company de hors any notice or hearing would not be justified having regard to its negative implications and serious consequences. .Rahul Unnikrishnan is an advocate practising in the Madras High Court..Bar & Bench is available on WhatsApp. For real-time updates on stories, Click here to subscribe to our WhatsApp.
Rahul Unnikrishnan.Recently, the Gauhati High Court, in Assam Co. India Ltd. v Union of India (2019) 213 Comp Cas 420 (Gauhati), held that the term “shell company” is not defined in any statute, and as such, an order branding any company as a shell company, without serving notice or hearing, violates principles of natural justice. .Facts of the case.In the instant case, the petitioner was in the business of cultivation and manufacture of tea, having several tea estates in the State of Assam. As per a statement submitted to the High Court, the petitioner has 14 tea estates producing approximately 11 million kilograms of tea per year, which are sold either through auction or through private sale. It also employs about 20,000 workers across these tea estates. .On August 7, 2017, the petitioner came to learn that the Securities and Exchange Board of India (SEBI) had initiated proceedings against it by instructing the Bombay Stock Exchange, National Stock Exchange and Metropolitan Stock Exchange to restrict and/or to suspend trading of shares of the company. The petitioner also came to learn that SEBI had initiated such proceedings on the basis of a letter dated June 9, 2017 received from the Government of India in the Ministry of Corporate Affairs forwarding the database of 331 listed shell companies for initiating necessary action. .Findings of the High Court.After hearing both the parties, the Court noted that the term “shell company” is not defined in any statutes in India. In fact, the Parliamentary Standing Committee on Finance had suggested that the term “shell company” be defined under the Companies Act, 2013. It was also noted that the committee was of the view that all shell companies may not have fraudulent intention. Therefore, the expression “shell company” was suggested to be defined as having fraudulent intent as one of the characteristic features of such a company. The popular understanding of a shell company was explained by the High Court in the following manner:.“16.1. In popular parlance, a shell company is understood as having only a nominal existence; it exists only on paper without having any office and employee. Just like a shell which has a thick outer covering but is hollow inside, a shell company is a corporate entity without having active business operations or significant assets. It may be used as a deliberate financial arrangement providing service as a tool or vehicle of others without itself having any significant assets or operations i. e., acting as a front. Popularly shell companies are identified as companies which are used for tax evasion or money laundering, i.e., channelizing crime tainted money or proceeds of crime into the formal economy.”.However, the Court was quick to note that being a paper company and not having any assets or business operations per se is no offence: a corporate entity may be set up in such a fashion with the objective of carrying out corporate activities in future. This, according to the High Court, was perfectly legal and would not make it an illegal entity. The Court also placed reliance on the definition of a shell company in the glossary of foreign direct investment terms prepared by the Organisation for Economic Co-operation and Development (OECD), and Justice Radhakrishnan’s observations in Vodafone International Holdings B.V. v. Union of India [2012] 170 Comp Cas 369 (SC). The Court then summarized the existing situation in the following manner:.“21. Thus, from the above, what can be deduced is that though a shell company is defined in other jurisdictions, in India there is no statutory definition of a shell company. However, in popular parlance as well as from the perspective of the Government and its agencies, a shell company is ordinarily identified with dubious activities concerning serious economic offences, such as tax evasion, money laundering, benami transaction, conversion of black money into white, round-tripping with host of other associated offences. The general perception is that presence of shell companies and its potential use for illegal activities threatens the very economic foundation of the country and severely compromises its economic foundation and ultimately sovereignty.“.In the end, the Court held that it is no offence to be a shell company per se. It was also held that the maximum a Registrar of Companies can do is to strike off the name of such company from the registrar of companies. But, the Court also qualified that if the shell company is involved in money-laundering or tax evasion, then relevant provisions under the Prohibition of Benami Transactions Act, 2016, Prevention of Money-Laundering Act, 2002, Income-tax Act, 1961, and the Companies Act, 2013 would be attracted. .Principles of natural justice. The Court held that considering the negative implications of being branded as a shell company, it was not justified either on the part of the SFIO or SEBI to treat the petitioner as a shell company straightaway and thereafter to initiate an investigation to justify such branding..Adding further, it was also held that the principles of natural justice would require that before such branding is done, the company should have been put on notice and afforded it a reasonable opportunity of hearing as to why and on what grounds it was being suspected to be a shell company, and only if the response was found to be not satisfactory, such a finding could have been recorded..In short, the Gauhati High Court held that a finding of shell company de hors any notice or hearing would not be justified having regard to its negative implications and serious consequences. .Rahul Unnikrishnan is an advocate practising in the Madras High Court..Bar & Bench is available on WhatsApp. For real-time updates on stories, Click here to subscribe to our WhatsApp.
