Supreme Court rationale for setting aside FTIL and NSEL merger

Bar & Bench May 14 2019
Shapoorji Pallonji

By Prachi Pandya

"What is the argument on the other side? Only this, that no case has been found in which it has been done before. That argument does not appeal to me in the least. If we never do anything, which has not been done before, we shall never get anywhere. The law will stand still while the rest of the world goes on, and that will be bad for both".

- Lord Denning

The Hon’ble Supreme Court, sets aside the Order of the Bombay High Court upholding the Central Government’s order of compulsory amalgamating NSEL and FTIL under Section 396 of the Companies Act, 1956. The judgement of both, Bombay High Court and Supreme Court, discusses in great detail, the not so often invoked Section 396 of the Companies Act, 1956. Interestingly, it is said that in the case of FTIL and NSEL it was the first time that Section 396 was invoked to amalgamate two non - government companies. So, what is this creature Section 396 in the Companies Act. 

Section 391 to 394 of the Companies Act deals with merger, making of scheme or arrangement, voluntarily by creditors and shareholders. Section 396 was introduced to empower the Central Government to order compulsory amalgamation of two or more companies where it is convinced that it is ‘essential’ in ‘public interest’ to do so. When NSEL scam broke out, the Central Government, under Section 396 ordered amalgamation of National Spot Exchange Limited (NSEL) and 63 Moons Technologies Limited (formerly known as Financial Technologies (India) Limited (FTIL)). Rewinding a little, before we get into Supreme Court’s findings in its judgement of April 30, 2019. 


FTIL is a 99.99% shareholder of the NSEL and is a listed company. On the other hand, NSEL was incorporated in 2005 by Multi Commodities Exchanges [“MCX”] and its nominees. NSEL provided an electronic platform for trading of commodities between willing buyers and sellers through brokers representing them.

On April 27, 2012, Department of Consumer Affairs issued a show cause notice to NSEL as to why action should not be initiated against it for permitting transactions in alleged violation of the exemption granted to it under the Foreign Contribution (Regulation) Act, 2010. Without adjudicating upon the show cause notice, on July 12, 2013, DCA directed NSEL to give an undertaking that no further contracts shall be launched until further instructions, and that all existing contracts will be settled on due dates. 

Sometime in July 2013, 13,000 persons who traded on the platform of NSEL claimed to have been duped by other trading members, who defaulted in payment of obligations amounting to approximately INR 5600 crore!

On July 31, 2013, however, NSEL, notified its members that trading in all contracts (except E-series) stood suspended until further notice. As a result, all the trading/activities at the NSEL exchange, came to a grinding halt on July 31, 2013.

Shockingly, the settlement guarantee fund, which, according to NSEL, was having Rs. 738.55 crores as on August 1, 2013, was found to have hardly Rs. 62 crores as on August 4, 2013. Above all, though, transactions on the exchange were to result in actual deliveries of commodities, it was found that there were no commodities or in any case, there were inadequate commodities, for effecting such deliveries. This was a glaring revelation. 

As a result, over 13,000 investors, with claims of over Rs. 5600 crores, neither received the amounts due to them from the defaulters nor from the settlement guarantee fund. There was not enough commodities in the warehouses for taking any deliveries. Thereby, leaving the investors in a complete lurch.

Reacting to the unprecedented crisis, Forward Market Commission (FMC) ordered forensic audit, which indicated serious breaches in operations. Thereafter several other actions were taken, such as inspection of books of accounts under Section 209A of the Companies Act and Economic Offences Wing registered cases against the directors, key personnel of NSEL and FTIL. 

On August 18, 2014, the FMC, vide a letter to the Union of India, suggested that FTIL and NSEL be merged.  Thereafter, the Central Government proposed action under Section 396 to amalgamate NSEL with FTIL and sent the proposed order dated 21st October 2014 (in draft) to the companies concerned as mandated Section 396 (4) (a). FTIL filed a Writ Petition questioning the compulsory merger under section 396.

Section 396 of the Companies Act

Section 396 empowers the Central Government to order compulsory amalgamation of two or more companies where it is satisfied that it is ‘essential’ in the ‘public interest’ to do so. The Bombay High Court and the Supreme Court in particular analysed in great detail as to whether it was ‘essential’ and in the ‘public interest’ to merge the two companies.

No order can be made under this section unless a copy of the proposed order has been sent in draft to each of the companies concerned, for their suggestions. The Central Government is then required to consider and make such modifications, if any, in the draft order in the light of suggestions or objections which may be received from such company, or any class of shareholders therein or any creditors or class of creditors. This is the extent to which the principles of natural justice have been incorporated in Section 396.

Further, under Section 396(3), the Central Government has to ensure that every member or creditor (including debenture holder) of the companies before amalgamation shall have, as nearly as may be, the same interest in or the rights against the company resulting from the amalgamation as he had in the company of which he was originally a member or a creditor. If this is not, such member or creditor shall be entitled to compensation which is to be assessed by the prescribed authority. 

Under sub-section (3A), an appeal is provided to any person aggrieved from the order of such assessment. What is important to note is the mandatory language contained in sub-section (4), which states that no final order shall be made under the Section unless the time for preferring an appeal under sub-section (3A) has expired, or where any such appeal has been preferred, the appeal has been finally disposed of. This makes it clear that unless an order of compensation is first made under sub section (3), and an appeal therefrom has either not been filed or has been disposed of, no order of amalgamation can be made.

Doyens from the legal fraternity appeared on both sides and put forth a catena of arguments and judgments in support of their contentions. Even the Bombay High Court and the Supreme Court, considered various and varied aspects of law and statutory principles whilst arriving at their respective conclusion. However, this article broadly deals with findings on Section 396. 

Findings of the Bombay High Court on 396 

  1. The Bombay High Court was not in agreement with the FTIL’s proposition that the Central Government has failed to make any order as contemplated by Section 396(3) (explained above).  
  1. The Petitioner contended that the shareholders or creditors of FTIL were deprived of opportunity of appeal under Section 396(3A) and therefore there is a breach of procedure prescribed in Section 396(4) in making the impugned order. Accordingly, the impugned order is ultra vires Section 396. The Bombay High Court held the same in the negative.
  1. Bombay High Court opined that though the Petitioners have raised some technical breach in compliance with principles of natural justice, but on such basis, the impugned order cannot be set aside, particularly when none of the Petitioners have pointed out that any particular or significant objection of theirs, escaped consideration by the Central Government. Bombay High Court further held that none of the Petitioners have pointed out any significant prejudice caused to them on account of no personal hearing being afforded to the 50389 objectors. The Bombay High Court did not agree that there has been violation of principles of natural justice.
  1. The Bombay High Court also did not agree that the merger between a loss making wholly owned subsidiary (NSEL) with its profit making holding company (FTIL), would lead to the diminution of economic value of shares. 
  1. Deciding upon the essential ingredient of Section 396, i.e. whether the order passed is in ‘public interest’, Bombay High Court, held that if the Central Government by consolidating the businesses of NSEL and FTIL aims to restore confidence in commodity exchanges, the High Court in exercise of its judicial review see no reason to upset such a decision or hold that such a decision is not in public interest. It further went on to hold that this matter is not merely an issue for recoveries but this is an issue of investor confidence in the very functioning of stock and commodity exchanges.
  1. Bombay High Court concluded by holding that the action by the Central Government was in furtherance of the legitimate aim, namely, ‘public interest’ and the means adopted by the Central Government are quite suited to achieve public interest. 

Findings of the Supreme Court on 396 

However, when the order of the Bombay High Court was considered by the Hon’ble Supreme Court, it viewed it differently. The Supreme Court findings qua 396 were as follows :

  1. Various pre-requisites contained in Section 396 must first be satisfied before the said section can operate. 
  1. First and foremost, the Central Government has to be “satisfied”, that it is “essential”, i.e., necessary to do so. Also, this can only be done in “public interest”. 
  1. Another condition precedent to passing of an order under this Section is that every member or creditor of each of the companies before amalgamation shall have, as nearly as may be, the same interest in or rights against the company resulting from the amalgamation as he had in the erstwhile company either as a member or a creditor, and if this is not so, such member or creditor shall be entitled to compensation which is to be assessed by such authority as may be prescribed. 
  1. Another point considered by the Supreme Court was Section 396(4) (b) which is a condition precedent and an inbuilt provision for natural justice, namely, that a proposed draft order has first been sent to each of the companies concerned. The companies may then send suggestions or objections to the Central Government, which the Central Government must first consider before passing the final order. Such objections and suggestions can also be sent from any class of shareholders of either of the companies, or from any creditors or class of creditors of either of the companies. Central Government is required to consider all the suggestions whilst passing the final orders of amalgamation. Supreme Court observed that Central Government has neither considered the suggestions from stake holders or had it modified its order in lights of the suggestions received. Thus the Central had failed to follow the requirements of 396(4)(b) in its true letter and spirit.
  1. The immediate reason for amalgamation, according to the FMC, is that NSEL seems financially and physically incapable of effecting any substantial recovery from defaulting members. The main concerned of FMC in August 2014 was that the investors duped should get their monies. Supreme Court held that this concern of FMC has been largely redressed, as on date of passing of the final order, without even amalgamation. The Supreme Court further observed that, as on the date of passing of the order, decrees/awards worth INR 3365 crore have been obtained against the defaulters, with INR 835.88 crore crystallised by the committee set up by the High Court, pending acceptance by the High Court, even without using the financial resources of FTIL as an amalgamated company. Thus, the raison d’être for applying Section 396 has, by the passage of time, itself disappeared, held Supreme Court. 
  1. Supreme Court did not see that the general interest of the public, which was sine qua non of Section 396, being achieved by merging NSEL and FTIL. It further observed that it is difficult to see how the object of achieving economy of scale and efficient administration is concerned would be achieved by amalgamation of the 2 companies, as NSEL is admittedly a company which has stopped functioning as a commodities exchange at least with effect from July, 2013 with no hope of any revival. The Supreme was of the view that the sole object of the amalgamation order is very far from achieving public interest and was really only to achieve speedy recovery of dues of INR 5600 crore. 
  1. Supreme Court was of the opinion that if a company with low net worth (NSEL) is amalgamated with a company with high net worth (FTIL), both the shareholders and the creditors of FTIL will be directly impacted as the economic value of the shares will plummet, and the creditors of FTIL, which is a positive net worth company, may have to wait for a long time before recovery of debts owed to them once the company is amalgamated with the negative net worth company. In short, the creditors of FTIL will be put on par with the creditors of NSEL, which will result in the creditors of FTIL either being paid back their debts much later in point of time, or not at all.  
  1. Given the fact that the assessment order dated 01.04.2015 did not provide any compensation to either the shareholders or creditors of FTIL for the economic loss caused by the amalgamation in breach of Section 396(3).Supreme Court concluded that it is clear that an important condition precedent to the passing of the final amalgamation order was not met. It thus held that on this ground also, the final amalgamation order has to be held to be ultra vires Section 396 and, being arbitrary and unreasonable. 


  1. Whilst there were several issues framed by the Bombay High Court and it upheld the merger order of the Central Government on various grounds; however, Supreme Court set aside the same merely on a strict reading of Section 396. The Supreme Court concluded that whilst Section 396 could apply in the facts of the case, however, the Central Government has failed to make out a case for compulsory demerger of NSEL and FTIL.  In fact, the Supreme Court set aside the order on the ground that Section 396 was not strictly followed.
  1. One of the primary reason which appears to have tilted the Supreme Court in favour of the Appellant was that on account of efflux of time, the ‘emergency situation’ that was there is 2013 has disappeared. Another fact which appears to have been heavily weighed in favour of the Appellant was that without using the financial resources of FTIL as an amalgamated company, decrees/awards worth INR 3365 crore have been obtained against the defaulters, with INR 835.88 crore crystallised by the committee set up by the High Court (pending acceptance by the High Court).
  1. One only hopes that irrespective of amalgamation or no amalgamation, the genuine investors who were surreptitiously duped; get their monies at the end of the day. 



The author is a High Court Advocate.


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