Company’s Liquidation Status won’t prevent Investigative Proceedings Under Section 213 of the Companies Act, 2013

Posted On - 8 July, 2024 • By - King Stubb & Kasiva

Trust and clear communication form the foundation of the corporate environment. Investors, creditors and other participants trust companies to work with ethics and responsibility. But, occurrences like fraud, bad handling, or lack of transparency can lead to serious erosion of this faith. In these situations, the Companies Act, 2013 of India is an important protector. It gives power to authorities for investigating possible wrongdoings even in companies that are going through liquidation process. This article discusses the details of Section 213 of this Act and how it can be applied to companies under liquidation as well as its importance for maintaining corporate responsibility.

Understanding Section 213: A Mechanism for Scrutiny

The National Company Law Tribunal (NCLT), as per Section 213, holds the authority to order investigations into a company’s affairs during certain situations. This investigative power is an important instrument for revealing possible wrongdoing that might have taken place throughout the operational life of a company.

Investigations Driven by Members: A substantial part of the company’s shareholders can initiate an investigation. This is a powerful right for members to question and check the company’s actions, especially when they suspect mismanagement or wrongdoings. The Act clearly states that least 100 members or those who possess at minimum one-tenth of total voting power (for companies with share capital) or less than one-fifth of all members (for companies without share capital) can submit an application to NCLT.

The Act has made provision for investigations into affairs that are not member-driven. This allows various authorities, such as the Central Government, Tribunal and Registrar, to request an investigation when they believe it is necessary.

Additional Reasons: Besides member-driven reasons or requests from authorities, there are other grounds which may trigger an investigation process. These include if the company has committed fraud upon its creditors; if public interest requires such action due to a special resolution passed against management; when court orders so because they have considered misconduct by past directors; finally, in case a liquidator files an application believing there was fraudulent activity before winding up process started this could also lead towards investigating into affairs.

Suspicion Requirement: While launching an investigation into company affairs, it isn’t enough just having reasons; key is having genuine suspicion too. The law mandates that those requesting for inquiries should show solid grounds along with their doubt about business dealings being carried out in proper manner – this requirement helps avoid unnecessary investigations. 

High Court Approval Not Needed: Before the Companies Act 2013 came into effect, High Court approval was mandatory for initiating any inquiry into business matters. However, the current rules have changed, and now only National Company Law Tribunals (NCLTs) can grant the necessary permission to start such inquiries. This alteration significantly simplifies the procedure.

Investigations by Other Interested Parties: This rule is for when people or groups not in the shareholder group have doubts. If there are claims about dishonest business methods, mishandling of company money, or problems with how the company was set up, an investigation can be started. The person asking must show strong proof to convince NCLT that it is needed.

Liquidation and the Scope of Investigations: A High Court Clarification

A crucial question arises about whether Section 213 can be applied to companies in liquidation. Does the commencement of the liquidation process act as a shield against investigating prior actions? A significant decision by the High Court addressed this issue, clarifying that a company’s state of liquidation does not prevent the initiation of investigative proceedings under Section 213. This interpretation is crucial for several reasons.

Revealing Past Wrongdoing: Liquidation often happens when a business has had financial troubles or stopped its work. The decision of High Court confirms that winding up process should not be used as a cover to hide possible misconduct. Investigations can still find out fraudulent acts, bad management, or lack of openness which might have led towards the downfall of the company.

Accountability for Directors and Officers: The power to investigate under Section 213, even when a company is being wound up, acts as a deterrent against misconduct from directors and officers. The awareness that their actions may still be examined after the company halts operations encourages good corporate governance.

Guarding the Benefits of Stakeholders: People involved in a company’s affairs, such as those owed money, workers and those who invest can gain significant advantage from inquiries done according to Section 213. If a fraud is found out, it may help in getting back wrongly used funds which could be good for people who lent money to the business. Also, investigations might reveal management choices that have negatively affected workers or investors leading them into possible legal actions.

The Application and Procedural Framework: A Step-by-Step Guide

The process for initiating an investigation under Section 213 involves a series of steps:

Application Filing: Members who are eligible or parties showing interest need to file an application with the NCLT. The application must clearly explain the reasons for investigation, it should have detailed allegations of fraud, mismanagement or irregularities. Proof that comes in the way of documents, financial statements or statements from witnesses makes the application stronger.

NCLT Scrutiny: The NCLT examines the application and its supporting evidence. It may allow involved parties, such as company directors and management, an opportunity to be heard and present their arguments.

Investigation Order: If the NCLT feels there is sufficient reason for more investigation, it will give an order to the Central Government for appointing inspectors. These inspectors are usually chartered accountants or legal professionals, and they have the power to look at company records, talk with directors and workers, as well as examine financial dealings (NCLT Process).

Inspector Report: After doing a thorough investigation, the selected inspectors give their final report to NCLT. This detailed document shows what they found, who might have done wrong and if necessary, suggest more actions like taking legal steps against people or groups involved in misconduct

Circumstances Warranting Investigation: When the Lens Focuses

Section 213 empowers the NCLT to order investigations under three primary conditions:

Fraudulent Intent: It includes situations where the company’s business is done with a purpose to deceive and injure creditors, members, or any other person. This might involve actions such as taking money away by making up transactions, changing financial records so they show false financial condition, or making agreements with associated parties on bad conditions for the firm. Research done according to Section 213 can bring to light these fraudulent practices and possibly result in criminal charges against those participating in them.

Improper Conduct: This is a wide range of actions that are inappropriate or against the law carried out by the company’s managing team. It includes situations like severe carelessness in handling company matters, using funds from the company for personal benefits without permission, and signing contracts which obviously do not favour the business. These kinds of improper conduct can be revealed through investigations, possibly resulting in civil or criminal claims against directors and officers who are found accountable for them.

Lack of transparency: These are situations when the management deliberately keeps important information away from its members or those who have an interest in it. This might involve not revealing financial inconsistencies, hiding details about transactions with related parties, or blocking entry to company records. Inquiries done because of this rule can expose these actions and make sure that all people involved get access to necessary info.

Impact on Employees: Safeguarding Rights During Investigations

Investigations under Section 213 are crucial for ensuring corporate accountability. However, it is equally important to protect employee rights during this process. Section 218 of the Companies Act safeguards these rights by:

Unfair Treatment: It is not allowed for the company’s management to aim at or limit any employee without fairness, just because an inquiry has started under Section 213. Decisions on employee position during this time should be made for proper reasons and with correct procedure.NCLT Supervision: When a Section 213 investigation is happening, all choices about worker’s discipline or end must be told to the NCLT. This makes sure everything is clear and lets the NCLT get involved if there are chances of breaking rules that protect employees.

Conclusion: Fostering a Culture of Accountability

The power to investigate, especially in situations where companies are being dissolved, is a very effective instrument for encouraging good corporate governance in India. This rule sends the strong message that firms and those managing them cannot avoid examination even when their activities have stopped. It does not only help create a culture of openness and responsibility within the company but also safeguards interests of stakeholders who could have been harmed due to earlier wrongdoings.

The High Court’s decision about applying Section 213 to companies in liquidation supports the legal structure for corporate government in India. It follows the main goals of Companies Act, 2013 which wants to form a just, clear and accountable business surroundings. The power given to interested parties and investigators by Section 213 is a major contribution towards this continuous effort.

King Stubb & Kasiva,
Advocates & Attorneys

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