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Judgment
Krishnaswami Nayudu, J.—The company which is under liquidation is an unregistered company not having been registered under the Indian
Companies Act & in respect of which a winding up order has been made. The company had its head office in Colombo & a branch of which was
in Mathurai has now been wound up. Respondents 3 to 11 who are the directors of this company are all permanent residents of Ceylon & the
applicants ask for an order that these respondents who were directors of the company may be directed to submit themselves for public
examination u/s 195, Companies Act, & that they may be proceeded against for misfeasance u/s 235 of the Act. There is also a further prayer that
the applicants'' claim for payment of the deposit amount may be treated as preferential claim.
The applicants entered into an agreement on 7-9-1946 with the company & they were appointed distributors for the company''s production for
certain territory & a sum of Rs. 50,000 was paid as deposit as follows: Rs. 15000 on 7-9-1946, Rs. 10000 against delivery of copies of
Kumaraguru"" & the balance of Rs. 25000 was to be paid on or before 27-10-1946. The grievance of the applicants is that in spite of demand the
company has not refunded the deposit of Rs. 50,000 or such other amount as would be found actually due out of the deposit, that in contravention
of the terms of the agreement these monies were utilised by the company & that the directors should be made liable to pay for breach of trust or
misfeasance caused by them & that they should also submit for public examination regarding their dealings & other matters concerning the
company.
Apart from the merits, a preliminary objection was taken as to the jurisdiction of this Court to consider an application of this nature under
Sections 195 & 235, Companies Act. It is contended that the directors who are permanent residents of Ceylon which is a foreign territory cannot
be proceeded against & that no summons could be issued u/s 195 compelling them to appear & that no order can be made directing them to
reimburse any loss or to make any payment for any misfeasance on their part u/s 235, Companies Act. The decision in ''Bishadandu Gupta v. H.
Langham Read'', AIR (24) 1937 Pat 196 ,is cited in support of this contention. In that case in respect of a company which was registered within
the Province but some of whose directors were residing in England & against whom an application u/s 235 was made in order to enquire into their
conduct, it was held that the High Court had. no jurisdiction over persons residing in England but had jurisdiction only on persons, residing in
British India, though in a different Province, & that therefore an enquiry should be made only with respect to the directors residing in British India
& not with respect to those residing outside British India. It was observed by Wort Ag. C. J. at p. 197 as follows:
It is the principle of international law. that a Court shall not serve its processes on persons outside its own jurisdiction & upon persons against
whom, if an order was made, the order cannot be enforced. It is expressed in these words: ''extra territorium jus decenti non paretur legis extra
terrorum non obligant''."" A passage from the judgment of their Lordships of the Privy Council in ''Gurdayal Singh v. .Raja of Faridkot'' 22 Cal 222,
is quoted. It is as follows:
All jurisdiction is properly territorial, & ''extra territorium jus dicenti, impune non paretur''. Territorial jurisdiction attaches (with special exceptions)
upon all persons either permanently or temporarily resident within the territory while they are within it; but it does not follow them after they have
withdrawn from it, & when they are living in another independent country. It exists always as to land within the territory, & it may be exercised
over moveables within the territory &, in questions of status or succession governed by domicil, it may exist as to persons domiciled, or who when
living were domiciled, within the territory.
Reliance has also been placed on a passage in Cheshire''s Private International Law at p. 100 which is as follows:
The general doctrine of English law is that the exercise of civil jurisdiction, in the absence of an Act of Parliament, must in all cases be founded
upon one or other of two principles, namely, the principle of effectiveness or the principle of submission.
The principle of effectiveness means that a judge has no right to pronounce a judgment if he cannot enforce it within his own territory. The
elementary fact several times stated by Holmes J. that ''the foundation of jurisdiction is physical power'', is worthy of attention, although, as we shall
see, there are certain exceptional cases in which jurisdiction may be assumed by virtue of statute over persons who are abroad & thus not within
the power of the Court. Power in this connection means that physical power which becomes exercisable because the property which is the subject
matter of the suit is in England or because the , defendant is present at the, time of service of the writ in England, &, broadly speaking it is true to
say that an English Court does not consider itself competent to adjudicate upon a claim if neither of ""these ''elements is present. In such a case the
maxim is ''actor acquitur forum rei'' & the pltf. has no alternative but to sue the deft, in the country where he happens to be.
It is argued relying on this passage that the purpose of an application u/s 195 is to summon any officer of the company & examine him on oath
concerning any dealing or affair or property of the, company or direct him or require him to produce any document & if he refused to come to
Court at the time appointed, the Court may cause him to be apprehended & cause him to be brought before it for examination & that directors of
the company, not being subject to the jurisdiction of the High Court, cannot be summoned & compelled to appear & no process for the purpose
could be executed in a foreign territory, & that there is no purpose in issuing a summons u/s 195 as it cannot be enforced by this Court by any
process which is available & that therefore this Court cannot exercise jurisdiction knowing that the exercise of it would not be effective. It is also
argued that this Court has no jurisdiction to issue a summons u/s 195 since proceedings under Sections 195 & 235 do not relate to any properties
which the non-resident foreigner is possessed of & no proceeding against him can be initiated in the High Court & that therefore this Court has no
jurisdiction.
This company being an unregistered company & carrying on its business within the jurisdiction of the High Court can be wound up under the
provisions of Part IX of the Indian Companies Act & for the purposes of winding up, an unregistered company is deemed to be a company
registered in the Province, and the provisions of the Act with respect to winding up are held to apply to unregistered companies which have been
wound up with certain exceptions u/s 201. Therefore the applicant maintains that since all the provisions relating to winding up are made applicable
to the winding up of unregistered company, Sections 195 & 235 which are ordinarily applicable in cases of winding up of companies registered in
the Indian Union can be made applicable & therefore the application is maintainable.
Further, it is pointed out that even in respect of companies which are registered outside British India, Part IX of the Companies Act is made
applicable to them & such companies which are incorporated outside the Indian Union shall comply with certain requisitions of the Registrar to file
certified copies of the Charter or Articles of the company, the full address of the registered or principal office of the company, a list of directors
and managers of the company^ the names & particulars of persons resident within India authorised to accept on behalf of the company process &
any notices required to be served on the company etc. This company has complied with the provisions of Section 277 & it is therefore argued that
there has been a submission to jurisdiction of the Courts of this State & that therefore even if initially this Court had no jurisdiction they have
acquired jurisdiction by virtue of the foreign company submitting itself to the jurisdiction of the Indian Courts.
Jurisdiction over persons & property apart from principles of international law where foreign subjects are involved, is governed by legislation
passed In the country where It is sought to be exercised. In so far as suits are concerned the C. P. C. & the Letters Patent apply. Section 20, C.
P. C. provides the forum in which suits can be instituted. Section 19, C. P. C. provides that where a suit is for compensation for wrong done to a
person or to movable property, if the wrong was done within the local limits of the jurisdiction of one Court and the deft, resides, or carries on
business, or personally works for gain, within the local limits of the jurisdiction of another Court, the suit may be instituted at the option of the pltf.
in either of the said Courts. There are rules for service of summons on persons who are residing outside the jurisdiction of such Courts & even in
foreign territories. It is therefore open to the pltf. to Institute a suit in the Court within the limits of which the cause of action arises even though the
deft, resides outside the limits of the jurisdiction of the Court in which the suit is instituted & where the cause of action arose. Service is made
usually by registered post & if the deft, who is in a foreign territory accepts summons but does not appear, the suit could be proceeded with & a
decree passed if the pltf. establishes his claim. This position was considered in ''Rajabai Narain v. Haji Karim'', 35 M L J 189, where on an
objection taken that a local Court is not entitled to exercise jurisdiction over a non-resident foreigner where the cause of action arises within the
jurisdiction of the Court, it was observed by Krishnan J. as follows at p. 193:
This objection is not valid, as a municipal Court is entitled to exercise jurisdiction over a non-resident foreigner where the cause of action arises
within Its jurisdiction. The question whether its decree could be enforced against him In the foreign state is a question for disposal of that state.
In ""Neelakanda Pillai v. Kunju Pillai'', 68 M L J 506, Venkatasubba Rao J. considered the question whether the application of Section 20 was
excluded by reason of the fact that deft, is a nonresident foreigner. After referring to the following passage In the ''Faridkot case (Gurdayal Singh v.
Raja of Faridkot'', 22 Cal 222, namely, ""It (the foreign decree) must be regarded as a mere nullity by the Court of other nations except (when
authorised by special local legislation) in the country of the forum by which it was pronounced."" it was observed
That shows that though by International law such a decree is a nullity, in other words, will not be recognised by Courts of other nations, it is
nevertheless, valid, when authorised by special local legislation, in the country of the forum by which that decree was pronounced.
The learned Judge later on observes as follows:
This distinction is very clearly brought out in the judgment of Starling J. in ''Girdhar Damodar v. Kassigar Hiragar'', 17 Bom 662. The learned
Judge observes that it would be the duty of the Courts acting in the execution of a statutory enactment, to give effect to it, It being immaterial
whether the judgment rendered would, in the circumstances, be recognised by foreign tribunals as being consistent with International law & the
general principles of justice, & in support of this view he cites the observations of James L. J. & Cotton L. J. in ''Ex parte Blain in re Sawers'',
(1880) 12 ChD 522.''''
It is, therefore, unnecessary to consider what would be the effect of an order or decree which is passed by this Court provided it is authorised by
local legislation empowering the Court to entertain a proceeding for the purpose & pass an order or decree as is provided, & whether that order
or decree would be treated as a nullity, whether the person against whom the order or decree is passed would comply with it or whether it could
be exercised. These are all matters which do not arise in order to enable a Court to exercise jurisdiction, to receive and adjudicate upon matters
which it is competent to do by virtue of the legislation authorising the Court to act.
It is argued that these are matters in personam & directions against an individual sompelling him to do certain things should not be given if the
court could not enforce the same & it would be futile to pass such orders directing the non-resident foreigner to submit himself for examination &
such ineffective orders should not be passed. There is force in this contention, but that does not mean that the court has no power to pass an order
u/s 195 directing the non-resident foreigner to appear before the court & submit himself for examination though more often it is likely to be ignored
& in such circumstances the court will be helpless. The question is whether in such circumstances it is advisable, knowing that such an order would
be ineffective, to use its discretion & not pass the order which it cannot possibly enforce. This principle is enunciated in ''Vocalion (Foreign) Ltd.,
in re'', (1932) 2 Ch D 196 , by Maugham J. where he observes as follows:
The Court in general is very reluctant to exercise a jurisdiction in personam against a foreigner in relation to a matter in which there cannot be an
effective order. It may be added that the Court ought to be satisfied before making the order that it will not hesitate, if the order is disobeyed, to
commit or sequestrate the property of the person or company in default.
I therefore consider that the objection to this Court issuing an order u/s 195 directing respondents 3 to 11 to submit themselves for public
examination has undoubtedly great force. Such an order will be ineffective & the Court should naturally be reluctant in passing such an order
though the Court may have power u/s 195 to make an order in terms of that section. I am therefore of opinion that the applicant will not be entitled
to an order against the respondents 3 to 11 u/s 195 directing them to submit themselves for public examination, on the ground that it is inadvisable
to pass such an order.
But the application u/s 235 stands on a different footing altogether. In respect of certain acts of the directors amounting to misfeasance & breach
of trust, the case is they are liable to account & bring back certain sums of money & for that purpose the Court is asked to examine into the
conduct of those directors & compel them to pay the amount in respect of which they have committed breach of trust. This proceeding, is in the
nature of a suit for recovery of monies wrongfully converted by a person who happens to be a non-resident foreigner. If this proceeding is
instituted by way of a suit, the provisions of Sections 19 & 20, C. P. C. would be applicable & since the cause of action arose within the local
limits of the jurisdiction of this Court, though the defts. --the persons who are liable to account -- reside in a foreign territory, a suit can very well
be laid and summons served in the manner provided by the rules & a decree could be passed. How and in what manner the decree would be
treated by the foreign Court is immaterial for the decree is nevertheless valid though it may be treated as a nullity by the foreign Court. It is also
equally unnecessary to consider whether such a decree could be enforced against him. The Court is competent to pass such a decree by virtue of
the local or municipal law governing the exercise of such jurisdiction. Section 235 provides only a summary remedy to the applicants who agitate
this question by way of Judge''s summons, which otherwise should be by way of a suit, by virtue of the rules framed under the Companies Act
enabling applications of this nature to be brought by way of Judge''s summons. In so far as service of notices of such summons is concerned, Rule
4 of the rules framed under the Companies Act makes the rules of the Original Side as amended from time to time applicable to all proceedings
under the Act. Order IV, Rule 6 (c) of the Original Side Rules contemplates service of summons on a deft, residing beyond the limits of India. So
there is no question of there being no provision of any kind to enable notice of summons being served on the defendant who is residing in a foreign
territory. Unlike an application u/s 195 a proceeding u/s 235 Is not for public examination of the non-resident director but it is for the Court to
enquire into his conduct & ascertain whether he is liable to repay or restore any monies or property or contribute any sum to the assets of the
company by way of compensation in respect of misfeasance or breach of trust on the evidence that may be placed before it. This does not
necessarily involve any process to compel his attendance in order to submit himself for examination. If on the receipt of notice served in the manner
provided under the rules, the concerned director does not choose to appear, the Court can come to a conclusion on the material placed before it
on behalf of the applicant as to the conduct of the director in the matter & decide about his liability to the applicant or to the company & an order
could be made directing the particular director to bring in any amount which he has misapplied, retained or in respect of which he has committed
breach of trust or misfeasance which order would be in the nature of a decree. If the concerned director has any properties within the jurisdiction
of the State such an order could very well be executed against those properties & if there are no such properties, the order will have the same
force & effect as a decree passed in a suit against a non-resident foreigner. I am therefore of opinion that whatever may be the position as regards
the application u/s 195 an application u/s 235 is maintainable & the Court has jurisdiction to entertain such application & consider the same on its
merits. In the view which 1 am taking it is not necessary to consider as to whether there is jurisdiction conferred on this Court by reason of the
foreign company having complied with the requisitions in the Companies Act under Prat X, Section 277.
The claim for preferential payment is made on the ground that the sum deposited was trust money since a trust was created in respect of this
amount in favour of the applicants. In order to arrive at a decision whether a particular deposit constituted a trust or not, it is necessary to consider
the particular terms under which the monies were deposited. Ex. P. 1 is the agreement which is in the form of a letter written by the company to the
applicants. It is as follows: ""Dear Sirs,
We have pleasure in confirming you as our distributors for all our productions, commencing from Sri Kumara Guru for a period of five years, for
the territory comprising Mysore State, Coorg, South. Canara & Bombay Presidency, excluding Bombay City proper, on the following terms:
You shall deposit with us a sum of Rs. 50,000 (Rs. fifty thousand) in the manner following: Rs. 15,000 to be paid today, balance Rs. 10,000 to
be paid against delivery of the copies of Sri Kumara Guru & the balance Rs. 25,000 to be paid on or before the 22nd October 1946. This sum of
Rs. 50,000 shall be a permanent deposit with us for a period of five years & shall be refunded at the end of the above period or on prior
determination of the distribution agency. This amount shall not carry any interest whatsoever.
There are other terms also whereby the applicants were to be entitled to a commission of 15 per cent, on the takings of the films & the company
was to supply two new pictures every year, the film called Sri Kumara Guru having been one of the pictures supplied in the first instance. There is
also a provision for terminating the distribution agency by giving three calender months'' notice In writing. Three receipts were granted by the
company for payment by the applicants of the sums of Rs. 15,000, Rs. 10,000 & Rs. 10,000 respectively on the 7th & 15th September & 17-10-
1946. The receipts are stated to be as ""being part deposits against distribution agency"". Another film known as ""Thai Nadu"" was sent by the
company but the same not haying been censored by the Mysore Cinematograph Board, the applicants wrote on 3-10-1947 to the company, Ex.
R. 1, that since the stipulation as to the supply of two new pictures'' every year not having been compiled with, the company has intimated that the
agreement stood cancelled and the applicants asked for the return of the deposit intimating that whatever prints and publicity materials lying with
them will be immediately returned on the return of the deposit. There js a further demand made by the applicants under Ex. R. 2 dated 5-2-1948
for the return of the deposit followed by a further demand dated 5-3-1948, Ex. P. 4, to which the company replied on 10-3-1948, Ex. R. 3 asking
the applicants to censor the picture ""Thai Nadu"" at an early date & ""adjust the collections against the deposit given to us with a view to reduce the
balance"" & mentioning that the agreement of 7-9-1946 still holds good & also expressing the company''s readiness to entrust all their productions
to the applicants for distribution. The applicants finally sent a notice of demand through their Advocate, Ex. R. 4, in which while demanding the
return of the deposit amount of Rs. 50,000 it was observed as follows:
You requested my clients to exploit ''Thai Nadu'' & adjust the collections against the deposit, which could not be done for the obvious reason that
the said picture was not passed by the censors here & you never moved in the matter to have it censored here.
The applicants filed a petition for winding up on 30-12-1948 & in the petition the applicants stated that they are entitled to the repayment of Rs.
50000 paid to the company as preferential payment & a further sum of Rs. 30000 as damages for non-fulfilment of the agreement dated 7-9-
1946, amounting in all to Rs. 80000 less Rs. 7698-5-3 by realisations leaving a balance of Rs. 72301-11-3 due by the company to the applicants,
It may be stated here that in the balance sheet of the company for the year ending 31-12-1946, Ex. P. 3, a sum of Rs. 68932/- 29 cents is shown
as ""Distributors'' deposits"" under the column Sundry creditors. There are also entries relating to deposits called ""representatives'' deposits"" &
producers"" deposits"".
Relying on the decisions in ''re Travancore National and Quilon Bank Ltd.'', AIR 1939 Mad 337 & ''Kshetra Mohandas v. D. Basu'', ILR
(1943) Cal 313, it is contended on behalf of the applicants that the sum of Rs. 50,000 paid as distribution deposit is a trust fund & therefore the
applicants are entitled to preferential payment.
In ''re Travancore National & Quilon Bank Ltd.'', AIR 1939 Mad 337 where an employee was required to deposit a certain amount as
security for the post he held, & the amount was returnable to him at the end of his service, it was held that the amounts were to be held by the
Bank in trust for the employee until termination of his services as a security for his good Behaviour so that in case he is found guilty of any act or
omission in discharge of his duties & loss should result therefrom the bank might recoup such loss & pay the balance. In that case a separate
account was kept for such deposit and receipts were granted to the employee in respect of it & the amounts so deposited were however to carry
interest. It was held in that case that as the amounts were received by the bank on a specific understanding to be applied by the bank for a specific
purpose, such amounts constituted trust money in the hands of the bank & did not form part of the assets of the bank divisible among its creditors
& the fact that these amounts were to carry interest did not alter its character.
Section 282-B (1), Companies Act makes the position as regards such moneys or securities deposited by employees in pursuance of their
contracts of service clear & it is provided that such moneys should be kept or deposited by the company in a special account in a scheduled bank
& that no portion thereof shall be utilised by the company except for the purposes agreed to in the contract of service & any director or other
officer of the company contravening the provisions of that section is liable on conviction to a fine not exceeding Rs. 500. Since the bank in which
the deposit was made in the decision cited was governed by the provisions of the Travancore regulations, where there was no corresponding
provision to Section 282 B (1), the learned Judge, Venkataramana Rao, J. had to consider the law bearing on the subject exhaustively & he came
to the conclusion that there is a relationship of trustee and ''cestui que trust'' between the company & the employee.
The decision in Kshetra Mohandas v. D. Basu'', ILR (1943 Cal 313 is a'' decision on the point raised in this application. The question that
arose for consideration there was about the nature of a deposit made by a selling agent of the company''s goods. The contract of agency provided
for a security deposit of Rs. 10500 carrying interest at the rate of 3 per cent, per annum. There was a provision in the agreement that the company
would be entitled to appropriate any damage or any amounts for which the selling agent did not account for from and out of the security deposit. It
was held that the security deposit of the agent in the hands of the company must be regarded as impressed with a trust or held in a fiduciary
capacity by such company & that the agent is entitled to get back the whole of the security deposit even after such company goes to liquidation.
Both ''In re Travancore National & Quilon Bank Ltd.'', AIR 1939 Mad 337 & ''Kshetra Mohandas v. Basu'', ILR (1943 Cal 313, there was in
particular a stipulation as to provision of payment of interest by the company which implied that the company could utilise the monies. It was
argued that it could not therefore have been intended that the deposit should be kept separate or must be deemed to be paid into the hands of the
company to be held by them in a fiduciary capacity. In the present case, there is no provision as to payment of interest. The language of the
document here is simple. It is provided that the sum of Rs. 50,000 shall be a permanent deposit with the company for a period of five years & shall
be refunded at the end of the above period or on prior determination of the distribution agency & that the amount shall not carry any interest
whatsoever. There is therefore nothing to distinguish this case from the decision in ''Kshetra Mohandas v. D. Basu'', ILR (1943) Cal 313, that
there was a provision for payment of interest which could be argued as a circumstance to be taken into consideration in favour of the company that
the depositor never intended the amount to be kept as a separate fund, but permitted it to be used just as any kind of deposit & that therefore it
would only be a creditor & not a ''cestui que trust''. I agree with the reasoning of the learned Judges In ''Kshetra Mohandas v. D. Basu'', ILR
(1943 Cal 313, & hold that the amount of Rs. 50,000 In the hands of the company is impressed with a trust.
It is contended on behalf of the directors by Mr. Lakshmayya that the elements of a trust as are required for the creation of a trust laid down
by Section 6 of the Trusts Act are absent in this case. Section 3 defines as follows:
A ''trust'' is an obligation annexed to the ownership of property, & arising out of a confidence reposed in & accepted by the owner, or declared &
accepted by him, for the benefit of another, or of another & the owner.
Under Section 6 a trust is created when the author of the trust indicates with reasonable certainty the intention to create a trust, the purpose of the
trust, the beneficiary & the trust property & transfers the trust property to the trustee. I fail to see how any of these elements are absent with
reference to the deposit made by the applicants. The purpose of the trust is for the fulfilment of the obligations under the agreement. The
beneficiaries are the applicants & the company under certain circumstances. So long as the applicants fulfil their obligations under the agreement
they are the sole beneficiaries; but failure to fulfil to any extent would deprive them of the full benefits of the trust, the company being entitled to
withhold such monies. It is pointed out that in so far as the intention of the depositee, that is, the company is concerned, it can be seen from the
way In which the amount was utilised for the purpose of the company, that the company never intended that the amount should be a fund entrusted
to them for a specific purpose & should not be utilised by them & will be returnable to the applicants ''in specie'' subject to such deductions as may
arise in case the applicants did not fulfil their obligations & that therefore the applicants would not be entitled to rank as any other creditor. Further,
that the intention to treat this amount as not a trust is also shown by the circumstance that this deposit was not kept as a separate fund but was
mixed with the funds of the company & subsequently utilised by the company for its own purposes & the fact that such utilisation was made by the
company shows that the intention must have been otherwise. In support of his contentions the learned counsel relied on the Full Bench decision in
Messrs. Maheshwari Brothers Vs. The Official Liquidators of The Indra Sugar Works Ltd. . In that case the managing agents of the company
under liquidation entered into an agreement of agency whereby they deposited a sum of Rs. 50,000 with the company as security for the fulfilment
of their obligations. The company being ordered to be wound up, the agents claimed a preferential payment of the sum of Rs. 50000 with interest
& also claimed a charge on the machinery & other goods of the company, since under the agreement a charge was created. It was contended by
the agents that the money deposited with the company was trust money & as such was not part of the assets of the company & should be returned
to them. On the facts & circumstances of the case, having regard to the creation of a charge on the company''s assets & to the provision for
payment of interest by the company & to the fact that the money was deposited by the agents of the company into the general assets of the
company & was subsequently utilised by the company for their general purposes, the learned Judges held that no trust was created, & they
observed that every case of this kind will fall to be considered on its own facts & circumstances. The circumstances referred to above weighed
with the learned Judges & they observed as follows:
We think that a fair test of whether a sum of money of this kind is to be held as a trust fund or not is to ask whether, in the circumstances, it was
intended that it should remain segregated fund, or whether it should, on payment, become the property of the company & be compensated for by
the company''s express or implied covenant to repay it in exactly the same way as the customer''s deposit in a bank creates the relationship of
debtor & creditor; We think that the circumstance that it passed into the general assets of the company & was utilised by them for their general
purposes is a strong indication that the latter view is the correct one, as the first duty of a ""trustee"" is to avoid mixing the trust funds with his own or
to use them for other than trust purposes."" This decision, as observed by the learned Judges, is a decision on the facts & circumstances of that
case. But in so far as the provision for interest is concerned, I prefer to agree with the views of the learned Judges expressed ''In re Travancore
National & Quilon Bank Ltd.'', AIR 1939 Mad 337, and ''Kshetra Mohandas v. D. Basu'', ILR (1943) Cal 313, that the provision for payment of
interest need not necessarily militate against the case that a trust was created. But with respect to the learned Judges in Messrs. Maheshwari
Brothers Vs. The Official Liquidators of The Indra Sugar Works Ltd. I do not think that the test as laid by them, namely, the circumstance that the
money passed into the general assets of the company & was utilised by them for their general purposes is a strong indication that the amount was
not deposited as a trust is a correct one. The intention to create the trust should primarily be that of the author of the trust first which must be
accepted by the person in whose favour the confidence is reposed as a trustee. If the company, who should be in the position of a trustee, without
reference to the consent of the person who deposited, utilised the funds for general purposes and failed to carry out the intention of the trust by
mixing the fund with the funds of the company or using the same for purposes other than for which it was deposited that could not be taken as a
test to find out whether a trust has been created. It may be that the intention on the part of the author of the trust is not expressed. The subsequent
conduct of the company in utilising the fund might throw a light on whether the intention of the parties was to create a trust. But that cannot be a
conclusive or a safe test in such cases, since even in a case where a deposit has been made for a specific purpose, as in the present case, if the
person who has received the deposit applies it for purposes other than for which it is deposited, that would amount to a breach of the conditions of
the deposit & would not be taken as a consideration in arriving at the intention as to the nature of the deposit. I am therefore unable to agree with
the decision in '' Messrs. Maheshwari Brothers Vs. The Official Liquidators of The Indra Sugar Works Ltd. .
An argument is advanced on behalf of the directors that the statement made by the applicants in the petition for winding up, namely that they
deduct a sum of Rs. 7698-5-3, being the realisations & claim only the balance due by the company, must be taken as proof positive that the
applicants never intended to create a trust in respect of the sum of Rs. 50,000 since they agreed to the deduction out of it, of the sums accountable
by the applicants to the company & that the intention was not that this sum of Rs. 50000 should be kept separate and returned. But this argument
loses sight of the terms under which & the specific purposes for which the deposit has been made. This deposit has been made or demanded by
the company & agreed to by the applicants as security for the fulfilment of the obligations under the agreement by the applicants & one of the
obligations is to render an account of the collections & realisations from the films encrusted to them & therefore such a deductio is only in
pursuance of the terms of the trust & not in derogation of it. There is nothing incompatible or foreign to the terms under which the deposit was
made that this deduction has been agreed to be made by the applicants. I have therefore no hesitation in holding that a trust has been created in
respect of this deposit under the agreement dated 7-9-1946 & that the applicants are entitled to a preferential payment from the company.
The next question that arises for decision in this case is as to the rights ''inter se'' between the Madura Bank Ltd., & the applicants with
reference to the assets of the company. The Madura Bank Ltd., hold a mortgage decree against the properties of the company in O. S. No. 49 of
1949 on the file of the Subordinate Judge''s Court, Madura. They advanced a sum of Rs. 3 lakhs on the pronote executed by the directors & on
the security of the movable & Immovable properties of the company particulars of which are given in the schedule to the decree. The machinery &
other movable & immovable properties have been mortgaged. The applicants claim priority over that of the decree in favour of the Madura Bank
on the ground that the amount deposited by them is a trust amount which could not be subjected by the company to any charge, or in any event be
held liable to any charge or mortgage created by the company & that the bank had notice that this amount of Rs. 50000 was- a deposit amount &
not the assets of the company, as could be seen from the balance sheet Ex. P.3.
An ex-director of productions of the company was examined on behalf of the applicants to establish that the agent of the Madura Bank & an
accountant came to the company''s premises, looked into the statement of affairs of the company & the balance sheet & they questioned the
management as to where this deposit was kept, checked the securities & it was only thereafter that the loan was granted. But, a witness, on behalf
of the Madura Bank denies that either the Bank''s agent or anyone went & inspected the accounts and other papers of the company. He states that
they did not look into the balance sheet & they were not aware that there was such a balance sheet & that they came to know of it only after the
mortgage was executed. Whatever may be the real truth as regards whether the bank had knowledge of this deposit of Rs. 50000 by the
applicants with, the company & whether it was with the knowledge that the'' deposit amount has to be repaid, the bank advanced this amount on
the hypothecation of the properties of the company, it is not likely that the Madura Bank would have failed to look into the balance sheet as no
businessman of ordinary prudence would have agreed to give an advance of 3 lakhs without knowing the affairs of the company. It they had
looked into the balance sheet, they could have found that a sum of Rs. 68932 & 29 cents was kept by the company as ""distributors'' deposits"".
But, it was however unnecessary for them to make further investigation as regards the deposit since what they were taking as security was not the
entire assets of the company, but only the movable & immovable properties specified in the schedule to the document creating the mortgage.
Unless it could be the case of the applicants that by reason of the deposit being in the nature of a trust, a charge was created on all the properties
of the company on the date of such deposit, it does not matter whether the deposit which was with the company, as other deposits, is in the nature
of trust or otherwise. Since the bank was concerned only with the securities that were offered to them, which were specific moveable &
Immovable properties, & in so far as these properties were concerned, the Bank were given a charge, it cannot be stated that the applicants would
be entitled to a charge over these specific properties, which are the subject'' matter of hypothecation & the subsequent mortgage decree in favour
of the bank. I do not think that the bank''s rights are in any way affected & they are entitled to enforce the charge against the company by reason
of the fact that they are secured creditors, being mortgage decree-holders. The remedy of the applicants in respect of this deposit of Rs. 50000
would be to proceed against the other assets of the company & not against these specific movable & immovable properties so as to deprive the
Madura Bank of their right of proceeding against the case & recovering the amount due to them.
The question that remains for determination is whether respondents 3 to 11, the directors of the company, or any of them, are liable for
misfeasance in respect of the deposit amount & whether they should be personally directed to pay the amount to the applicants. The allegations in
the affidavit regarding this prayer is very vague & excepting stating that the directors of the respondent company should also be made to pay for
breach of trust or misfeasance, there is nothing alleged as to what the misfeasance or breach of trust that the directors had committed and in what
manner they had become responsible & what is the failure of their duty which would make them liable to the applicants. The joint Official
Liquidator has filed an affidavit wherein he states that from the records available there are not sufficient materials to come to the conclusion that
there has been any act of fraud or misfeasance by the directors. The directors while denying their liability state through their Chairman that the
deposit money of the petitioners has been made use of in the running of the company & the money has been properly accounted for.
The contention on behalf of the applicants is that the directors misapplied the amount & committed a wrong in utilising the amount, which was a
trust fund, for purposed other than for which it was intended & there-fore committed a breach of trust.
The section in the Indian Companies Act as regards the liability of the directors for misfeasance is Section 235 (1), which is in the following
terms:
Where in the course of winding up of a company it appears that any person who has taken part in the formation or promotion of the company, or
any past or present director, manager or liquidator, or any officer of the company has misapplied, or retained or become liable or accountable for
any money or property of the company, or been guilty of any misfeasance or breach of trust in relation to the company, the Court may, on the
application of the liquidator, or of any creditor or contributory made within three years from the date of the first appointment of a liquidator in the
winding up or of the misapplication, retainer, misfeasance or breach of trust, as the case may be, whichever is longer, examine into the conduct of
the promoter, director, manager, liquidator, or officer, & compel him to repay or restore the money or property or any part thereof respectively
with interest at such rate as the Court thinks just, or to contribute such sum to the assets of the company by way of compensation in respect of the
misapplication, retainer, misfeasance or breach of trust as the Court thinks just.
Certain English & Indian decisions bearing on the subject have been referred to & it will be useful to refer to some of them to understand as to
what is the precise nature of liability which the statute imposes upon the director in respect of wrongs committed by them.
In ''in re Canadian Land Reclaiming & Colonishing Co.'', (1880) 14 Ch D 660, known as Coventry & Dixon''s case, where two gentlemen
were appointed, & for sometime acted, as directors of the company without the necessary qualification of holding a certain number of shares, a
charge was made against them by the liquidator u/s 165 of the Companies Act of 1862 for misfeasance in acting as directors without qualification.
It was held in that case that Section 165 (corresponding to Section 235, Indian Companies Act), creates no new right, but merely provides a
summary mode of calling directors to account for acts of impropriety for which they are liable to an action; that to make a person liable under it, he
must be shown to have been guilty of some misconduct by which the company has suffered loss; and the application must therefore be dismissed.
In that case the Master of the Rolls was of opinion that the directors by acting as such without the necessary qualification had been guilty of
misfeasance; but on appeal the judgment was Bet aside. James L. J. states as follows at p. 670,
In order to enable the Court to apply that section, the liquidator as it seems to me, must show something which would have been the ground of an
action by the company if it had not been wound up. I am of opinion also that the word ''misfeasance'' in that section means misfeasance in the
nature of a breach of trust, that is to say, it refers to something which the officer of such company has done wrongly by misapplying or retaining in
his own hands any monies of the company, or by which the company''s property has been wasted or the company''s credit improperly pledged. It
must be some act resulting in actual loss'' to the company.
Bramwell L. J. at p. 673 observes:
It seems to me that the sole object of the clause is to give a summary remedy for that for which there would be a remedy without that section in
the Courts of law. Then again it seems to me that the amount with which these gentlemen have been charged cannot be justified. The section
authorises the Court to direct persons chargeable under it to pay a sum of money by way of compensation. Therefore the Official Liquidator has to
show, first of all, the misfeasance, & then the damage in respect of which the company is to be compensated. To my mind the liquidator has failed
to show any damage at all. This is not a section for punishing a man who has been guilty of misfeasance, but for compensating the company in
respect of the loss occasioned by his misfeasance. It is not shown that there was any loss, & indeed, if the burden of proof were upon the
appellants to show there was not any loss, I should say they had succeeded in doing it.
In the same report there is another decision of ''Hall V. C. ''In re British Guardian Life Assurance Co.'', (1880) 14 ChD 335. In that case, the
company which was an insurance company, was formed in 1869 and was registered under the Companies Act in 1871 & on 3-6-1876 it was
ordered to be wound up. In 1872 a resolution was passed by the company as follows:
that for the better security of the policy holders 50 per cent, of the premium paid on whole life policies on & after 29-9-1872, shall be invested in
British Govt. securities in the names of the trustees of the company."" Prospectuses were issued thereafter stating that 50 per cent of the premiums
paid upon whole life policies is invested in the names of the trustees in British Govt. securities. It was discovered that after 6-8-1875 no investment
was made by the trustees & that the sums which had before that time been invested were gradually sold out, & the proceeds applied to the general
purposes of the company before the company went into liquidation. On summons by the liquidator & a whole life policy holder jointly for a
declaration that the directors were liable to account to the company for a moiety of the premiums received, it was held that the summons was
maintainable as against the surviving directors, that the directors were liable, as for a breach of trust, for a moiety of the premiums which ought to
have been invested. Hall V. C. observes as follows at p. 346:
I cannot say that there might not be questions raised as to the application of the funds which were to be invested in the manner specified, but as
regards the investment a clearer clause than this I never saw, & I see no difficulty in construing the words, viz., that 50 per cent, of the premiums
on the whole life policies shall be invested in Govt. securities. The addition of the words ''for the better security of the policy holders'', does not
create an ambiguity which reduces the clause to a nullity. As to any question that may have to be decided between the policy holders and the
whole life policy holders, because the amount to be invested is 50 per cent, of the premiums paid on the latter, I abstain from expressing, any
opinion. Should there be any question as to the application of the funds, there can be none either as to the amount to be set apart & invested, or
that the clause created an obligation on the part of those who had the management of the company to see that effect was given to it. It was
submitted that the funds had been properly applied for purposes of the company. As to that, there is no ambiguity or vagueness in the clause, & I
have not the least doubt that it was meant as a protection to those entitled under the trust as policy holders, & that there would have been no
difficulty whatever, if the persons entitled to the benefit of the funds had taken proceedings for the purpose of preventing them being applied
towards the general purposes of the company. I now come to the question of Mr. Williamson''s liability -- whether or not he is under any, & I hold
that he having been a director during the whole of the time in which investments ought to have been made -- having been a most active member of
the board, constantly attending, & rarely absent from the meetings of the directors, is, in common with his co-directors, liable. It was his duty to
see that the investments were made in accordance with the resolution & clauses of the partnership contract, & his not attending to it was a breach
of trust to the company for which he was acting as a director; and a breach of trust in respect of which, after the order made for winding up the
company, he can be charged & made liable.
In ''In re Exchange Banking Co.'', (1883) 21 ChD 519, the directors of a limited company for several years presented to the general meetings
of shareholders reports and balance sheets in which various debts known by the directors to be bad were entered as assets, so that an apparent
profit was shown though in fact there was none. The shareholders, relying on these documents, passed resolutions declaring dividends which the
directors accordingly paid. An order having been made to wind up the company the liquidator applied, under S- 165 of the Companies Act, 1862,
for an order on the directors to replace the amount of dividends thus paid out of capital. It was held in that case that the directors were liable &
that the fact that the capital thus improperly applied was distributed ''pro rata'' among the whole body of shareholders did not protect the directors,
for that the shareholders were not the corporation, & that payment to them would not prevent the corporation before winding up, or the liquidator
after winding up, from compelling the directors to replace the money that it might be applied to proper purposes.
Jessel M. R. observes as follows at page 533,
A limited company by its memorandum of association declares that its capital is to be applied for the purposes of the business. It cannot reduce its
capital except in the manner & with the safeguards provided by statute, & looking at the Act 40 & 41 Vict. C. 26, it clearly is against the intention
of the Legislature that any portion of the capital should be returned to the shareholders without the statutory conditions being complied with. A
limited company cannot in any other way make a return of capital, the sanction of a general meeting can give no validity to such a proceeding, &
even the sanction of every shareholder cannot bring within, the powers of the company an act which is not within its powers. If, therefore, the
shareholders had all been present at the meetings, & had all known the facts, & had all concurred in declaring the dividends, the payment of the
dividends would not be effectually sanctioned.
The reasoning of the decision is that the capital of the company was utilised for purposes not authorised by the memorandum & articles of
association, that the directors were quasi trustees for the company & not for the individual shareholders in respect of this capital & therefore the
acts of the directors amounted to a breach of trust, & accordingly they would be liable.
Lord Macnaghten in '' Cavendish Eentinck v. Fenn'', (1887) 12 AC 652, summarises the scope of Section 165 of the Companies Act of
1862. At p. 669 he observes as follows:
The 165th section of the Act of 1862 has often come under discussion & it has been settled, & I think rightly settled, that that section creates no
new offence, & that it gives no new rights, but only provides a summary & efficient remedy in respect of rights which apart from that section might
have been vindicated either at law or in equity. It has also been settled that the misfeasance spoken of in that section is not misfeasance in the
abstract, but misfeasance in the nature of a breach of trust resulting in a loss to the company.
In that case, a director purchased for the company a property in which, before he became director, he had acquired an interest. The director
having been proceeded against after liquidation on the ground of misfeasance or breach of trust for having allowed the company to make the
purchases without disclosing his own interest & at a price far exceeding the value it was held that the evidence adduced by the applicant failed to
show either that the director had not disclosed his interest or that the purchase price was above the value. Lord Herschell in that case was of
opinion that assuming that a breach of duty such as is suggested would be of a misfeasance giving rise to an application under the 165th section
such an application could only succeed where it could be shown that the breach of duty had resulted in loss to the funds and assets of the
company.
All these cases, are referred to by Kekewich J. in ''In re the Liverpool Household Stores Association Ltd.,'' (1890) 59 L J C H 616. The
directors in this case were charged with misfeasance on several grounds. This decision lays down:
Section 165 of the Companies Act, 1862, enables a creditor of a company to obtain by summary process any relief to which he is entitled in
respect of damages incurred through the misfeasance of an officer of the company, but the remedy afforded by the section is only for the recovery
of damages for losses incurred. The misfeasance to which the section is directed is not restricted to acts of commission, but extends to all breaches
of trust in relation to a company through which loss is incurred. Misfeasance is not to be imputed'' to a director unless he has dishonestly acted, or
abstained from acting, in conflict with his plain duty & the burden of proof lies on the party making the charge; but in considering the question of the
director''s liability, there must be imputed. to him a special knowledge of the business which he has undertaken. Directors are liable for losses
occasioned through acts done by them as directors in matters which are ''ultra vires'' the company, & this liability is not dependent upon any
question of honesty of intention.
The Indian decisions that are cited are: ''Gopalaswami. v. Krishnaswami, I. L. R. (1941) Mad 120, National Bank of Upper India, Lucknow.
v. Dinanath Sapru 1 Luck 334, Connell. v. The Himalaya Bank Ltd., 18 All 12 and Bhim Singh. v. Union Bank of India, 8 Lah 16 . The Indian
Courts uniformly hold that misfeasance must be such as would amount to breach of trust in relation to the company & must result in loss to the
company. It is necessary that in all cases, loss to the company must be established & as observed by Edge C. J. & Banerji J. being in the nature of
damages, it is necessary that the loss to the company in respect of which compensation is asked for should be the direct, & not a remote & more
or less speculative, consequence or the misfeasance or neglect of duty on the part of the director or other officer of the company from whom such
compensation is sought.
In the present case, the amount which was paid by the applicants was received as a deposit under the agreement & referred to as
distributors'' deposit"". There was no direction by the applicants that this amount should not be utilised for any other purpose & must be kept in a
separate account to be returned to the applicants or adjusted to the collections in terms of the agreement between the applicants & the company.
There was likewise no resolution of the company as to the manner in which this amount was to be dealt with & whether it should be invested
separately. There was neither by agreement nor by way of resolution of the company anything to indicate that the amount should not be utilised for
the purposes of the ordinary business of the company. There is no provision even in the memorandum & articles of association governing such
amounts received as deposits either from employees or from agents. In the absence of any such direction, if the directors had utilised the amount
for the legitimate purposes of the company in the course of their management & not appropriated any portion of the same for their personal use &
not utilised it for any purpose not authorised by the memorandum & articles of association, could it be said that they had misapplied the funds of
the company or committed a breach of trust in relation to the company? The word ''misapplication'' in Section 235 has been argued to be an
application for purposes other than for which the funds were intended. ''Prima facie'', this argument sounds plausible. But, as pointed out already,
there is no allegation that the applicants desired that the amount should be invested & kept separately. Misapplication by a director of the funds of
the company was intended to mean application of the funds belonging to the company for his own purposes, or application for purposes other than
that of the company, or for purposes not sanctioned by the memorandum and articles of association or applying the funds in contravention of any
specific provision of law, or direction, or resolution of the company. If the director bona fide believes that the fund, which has come into the
company, such as the applicants'' deposit, being the funds of the company, could be legitimately applied for the bona fide needs of the company, it
cannot be said that the director was doing something wrong by so applying. It is not a case of retention of the amount in his hands and not
accounting for it. The use of the monies for the business of the company by the directors would not also amount to an act said to be ''ultra vires''. In
''In re British Guardian Life Assurance Co. (1880) 14 Ch. D 335'' and ''In re Exchange Banking Co, (1883) 21 Ch. 519'' the acts of the directors
were held to be ''ultra vires'' & acts done in contravention of the memorandum & articles of association. I am therefore unable to hold that the
directors in this case have misapplied the applicants'' amounts & that therefore they are liable to account. There is no case as to any breach of
trust. The breach of trust that is contemplated u/s 235 is a breach of trust in relation to the company and it is not suggested that any monies of the
company have been misappropriated by the directors or that any duty was imposed on the directors by the company in respect of which the
directors have committed a breach. In order to make the directors personally liable u/s 235 for misfeasance, it is necessary to show that the
directors have dishonestly acted, or abstained from acting, in conflict with their plain duty & that by reason of the act of the directors, the company
has incurred a loss. But this dishonest intention need not be shown in cases where the directors have been responsible for acts which were ''ultra
vires'' of the company & losses have therefore been occasioned to the company by such ''ultra vires'' acts.
Counsel for the applicants endeavoured to show that in this case loss has occurred to the company, since the disappearance of the money,
which should have been there, has created a liability on the company which can be said to be a loss which the company has incurred. The
argument is that if the fund had been there, the same could have been paid over to the applicants & the company would not be made liable to the
applicants now. I am unable to follow this argument as no new liability has been created by reason of the disappearance of the money. The liability,
if any, had always been there & that liability should, in any event, have been discharged, the difference being that if the sum was there as a deposit
it could have been paid now. But since the company is always liable, I consider that no new liability has arisen & therefore it could not be said that
the company has sustained a loss by reason of the utilisation of these monies.
It is also argued that by reason of the directors not having kept this amount separately & made it available to the applicants, it would become
necessary for the liquidators to make a call on the con tributaries for the unpaid capita to that extent, which means that the shareholders have
suffered a loss, since they have to pay uncalled for share capital. The liability of the shareholders to pay unpaid calls is again a liability which existed
at the inception, when they became shareholders & has not been created by reason of any subsequent event including the disappearance of money
and its having been utilised for the purposes of the company. In any event the loss alleged to have been sustained by the company appears to be
rather speculative than real & too remote that it cannot be said that the company has sustained a loss as a direct consequence of the acts of the
directors in spending the amount admittedly for the legitimate business of the company. The directors have acted ''bona fide'' & have not
contravened any provision of law, or any direction or injunction of the company in utilising the amount for the company''s business. I therefore hold
that they are not liable for any misfeasance, or misapplication or breach of trust u/s 235 of the Indian Companies Act.
The result is: Prayers (a) & (b) are rejected. Prayer (c): The applicants will be entitled to rank as preferential creditors, but not in preference to
the claim of the second respondent against the company out of the properties mortgaged and hypothecated to the Bank. No or3ers as to costs.