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Judgment
R.S. Dalvi, J.—An interesting point of law arises out of an innocuous application essentially for directions. This application is styled a review application to review the order of this Court dated 27th January, 2012 passed in the above being application No. 37 of 2010. It requires deletion of condition No.(ii) in paragraph 4 of the said order. The applicant is the petitioner in Company Petition No. 23 of 2009. That application was for sanctioning a scheme of compromise and arrangement between the applicant, its secured lenders, shareholders and another company as the confirming party. The scheme of compromise was sanctioned and allowed under the order dated 15th January, 2010. Under the scheme the applicant made payment of a certain sum in full and final settlement of the dues of the applicant to the respondent. The respondent accepted that amount. It is of importance to note that the scheme was in respect of precisely the liability of the applicant towards the respondent itself.
The applicant was the principal debtor. The respondent was the creditor. The applicant''s debt was guaranteed by the confirming party.
The initial application u/s 391-394 of the Companies Act, 1956 (the Act) was for sanctioning a scheme for repayment of the debt of the applicant by way of a scheme of compromise and arrangement.
Section 391 grants powers to the Company Court/Tribunal to order a meeting of creditors or members for sanctioning any scheme of compromise or arrangement as per the procedure laid down therein. Under the scheme the respondent agreed to settle the dues of the applicant for a lesser amount. The applicant paid what was agreed to be the amount in full and final settlement of its dues. These dues were payable to the respondent as its creditor. It would have to be seen whether the guarantor/surety of the applicant would stand discharged of the remainder of the liability to the creditor upon the satisfaction of the debt agreed to be in full and final settlement.
u/s 128 of the Indian Contract Act, 1872 the liability of the guarantor/surety is co-extensive with that of the principal debtor. The guarantor/surety would be liable to the creditor for the unpaid and undischarged debt. The creditor may call upon the guarantor/surety only to make the payment. The liability would continue so long as the debt continues.
The liability of the guarantor would be discharged only under three circumstances statutorily specified under Sections 133, 134 and 135 of the Contract Act which run thus:
Discharge of surety by variance in terms of contract.-Any variance, made without the surety''s consent, in the terms of the contract between the principal (debtor) and the creditor, discharges the surety as to transactions subsequent to the variance.
Discharge of surety by release or discharge of principal debtor.-The surety is discharged by any contract between the creditor and the principal debtor, by which the principal debtor is released, or by any act or omission of the creditor, the legal consequence of which is the discharge of the principal debtor.
Discharge of surety when creditor compounds with, gives time to, or agrees not to sue, principal debtor.-A contract between the creditor and the principal debtor, by which the creditor makes a composition with, or promises to give time to, or not to sue, the principal debtor, discharges the surety, unless the surety assents to such contract.
The contract under which the creditor agrees to settle for a lesser amount and accepts such amount from the principal debtor in full and final settlement would release/discharge the principal debtor of any liability once the agreed amount is paid. The scheme was not only to that end. The totality of what was provided in the scheme shall be considered presently. It represents such a contract. Under such contract the applicant was to make payment of a specified amount. That was the contractual obligation of the applicant The scheme is stated to have been confirmed by the guarantor. Hence all the contracting parties, the principal debtor, the creditor and the guarantor/surety, agreed that the total liability of the principal debtor would be reduced and the debt would be discharged upon payment of a lessor amount. All the parties to the contract accepted such a scheme which represents a contract between them. The debtor and the creditor acted upon such a contract. The debtor made payment of the agreed amount. The creditor accepted the payment. The debtor would ipso facto stand discharged and released of any further liability. Hence the principal debtor demanded a No Dues Certificate and to record the satisfaction of the charge created under the Companies Act, as also a Release Deed as agreed between the parties in the said scheme. The debt was owed to bank/financial institution. Proceedings under the Debt Relief Act before the DRT were earlier initiated by the creditor. These would require to be withdrawn. Hence the principal debtor required directions for withdrawal of the claims before the Releasing Officer, DRT filed by the respondent/secured creditor.
Since the agreed dues were paid in full and final settlement, the secured creditor agreed to issue No Dues Certificate, executed a Release Deed and withdrew the proceedings before the DRAT where they were then pending and the parties agreed that the respondent/secured creditor may proceed against the guarantor/surety subject to the contract of the suretyship entered into by the respondent with the guarantors/sureties.
The Court passed an order in that behalf on 27th January, 2012 in Company Application No. 37 of 2010.
Hence though the principal debtor stood discharged the guarantor/surety was not discharged.
It may be mentioned that since the guarantor/surety is not discharged the secured creditor could certainly proceed against the guarantor after part liability is discharged and satisfied. This would give the guarantor/surety the rights u/s 140 of the Act to be invested with all the rights of the creditor against the principal debtor. The guarantor would be required to make payment of the remainder of the liability. Section 140 runs thus:
Rights of surety on payment or performance.--Where a guaranteed debt has become due, or default of the principal debtor to perform a guaranteed duty has taken place, the surety, upon payment or performance of all that he is liable for, is invested with all the rights which the creditor had against the principal debtor.
It is contended on behalf of the applicant that the anomalous position of fact would be that though under the scheme which constituted a contract-between the principal debtor and the creditor the principal debtor would stand discharged upon making payment of the specified sum which would be treated as the liability in full and final settlement, the principal debtor would have to pay the remainder of the liability to the guarantor/surety once the guarantor makes payment of the remainder amount to the creditor and is invested with all the rights of the creditor. The guarantor/surety would then sue the principal debtor/applicant. The scheme would be of no use or effect. The applicant would be in the same position.
It would have to be seen whether such an anomalous situation would prevail in law and equity.
The initial petition No. 23 of 2009 was filed by the applicant for sanctioning the scheme of compromise and arrangement between the applicants, its secured creditors, its share-holders and the guarantor/surety company as the confirming party thereto. The composite scheme of compromise and arrangement shows the applicant having taken financial assistances/facilities by way of secured and unsecured loans, etc., from various lenders. The applicant was a non performing asset in the books of a majority of those lenders. It had poor financial performance. It had more than 1000 employees and 1 lac share-holders. The guarantor company was in the business of ship building and ship repairing having the largest private ship building in the country and specialized in the construction of defence vessels. It had evinced interest to rehabilitate the applicant. It had to make certain cash infusion into the applicant and acquire the shares of the applicant pursuant to the scheme. It would provide a loan of Rs. 25 crores to the applicant for its urgent business requirement and to provide technical and marketing expertise as provided in an agreement between the two companies contemporaneously followed. The scheme provided inter alia for compromise with the secured lenders/secured creditors in respect of the secured liabilities of the applicant. It provided for two options either of which could be exercised by the secured lenders/secured creditors. One was for exercising their option to convert the secured liabilities into equity shares, another specified portion into convertible zero coupon loan and the remainder into term loan at a specified rate of interest. The other option was for a one time settlement by the applicant paying off 42% of the secured liabilities within 10 days of the settlement date.
The secured creditors exercised the second option. That is how the applicant made the payment. That payment was in full and final settlement of his liabilities. The guarantor confirmed the payment. The guarantor, therefore, had knowledge that the terms of the contract under which the applicant had to make payment to the various secured creditors was varied in terms of the scheme. The variance of such contract was with its consent and confirmation. Consequently u/s 133 of the Act the guarantor would not stand discharged. The initial contract remained so far as the guarantor was concerned. It can be enforced by the secured creditors against the guarantor to the extent of the amount remaining due and payable, but not paid by the applicant company, which would be for the remainder of 5896 of the total amount due and payable under the various financial assistances/facilities given by the creditors to the applicant.
The subtle distinction between the aforesaid three situations in which surety would stand discharged must, therefore, be appreciated.
(a) When the terms of the contract are varied only between the principal debtor and the creditor without the guarantor''s consent, he would be discharged.
(b) When the terms of contract are varied with the guarantor''s consent the contract would be a novatio. It would be binding upon all the three parties to the guarantee
(In this case the scheme would constitute such variance. It is with the consent of the guarantor).
(c) If there is a contract between the creditor and the principal debtor under which the principal debtor is released the guarantor would stand discharged.
(A contract by which, without the guarantor being a party or making any cash infusion and acquiring the shares of the applicant company, the applicant company would stand discharged by the one time settlement, the guarantor would also have stood discharged. Making of the cash infusion and acquiring shares of the applicant company by the guarantor would be the consideration for the guarantor being a confirming party to the scheme under which the applicant''s case of its precarious financial position would be rehabilitated; its shares would then be more valuable. Hence it is not the case of release or discharge of the principal debtor simplicitor).
(d) If a creditor makes a composition with the principal debtor without the consent of the guarantor the guarantor would stand discharged. With the consent of the guarantor, therefore, he would not stand discharged.
(e) (A variance of the contract, or the composition with the principal debtor would, therefore, be on a similar footing. If the variance or the composition is made with the consent of the guarantor the guarantor is not discharged. A release of the principal debtor simpliciter would discharge the guarantor).
In this case there has been a variance of the contract of the loans/assistances/facilities granted by the secured creditors/secured lenders. It is with the guarantor''s consent. The guarantor was a confirming party to the scheme. The guarantor is, therefore, not released of its obligations as a guarantor under the initial contract, the execution of the scheme notwithstanding. By the execution of the scheme the principal creditors would not proceed in execution of the recovery proceedings already initiated by them by following due legal process, if principal debtors paid off the amount agreed under the one time settlement. However for the remainder they would be entitled to look up to the guarantor for discharge and satisfaction of the liability of the principal debtor, the applicant company. The guarantor would be bound to make the payment u/s 128 of the Contract Act, its liability being co-extensive with that of the principal debtor and it not being discharged therefrom.
In any event the discharge u/s 133 would be as to transactions only subsequent to the variance. The guarantor''s liability would continue for the earlier transactions, in this case under the loans, assistances and facilities granted to the applicant company.
It is argued on behalf of the applicant company that the provisions of Section 134 (supra) would alone apply. The applicant company is released of its liability upon payment of the one time settlement of the amount. This must discharge the surety/guarantor. It is argued, and it appeared to be initially attractive, that this would be in view of Section 140 (supra). If the surety were to be liable and would pay off the remainder 58% of the debt of the applicant company to the secured creditors it would then look upon and even sue the applicant company to recover those dues, since it would be invested with all the rights of the creditors. It is argued that it is an anomalous position. It would in fact not release the applicant company from its liabilities. Instead of being liable to the secured creditors it would then be liable to the guarantors. Hence his position would not be bettered.
True it is, that upon a simplicitor release of the applicant company by the secured creditors the guarantor would stand discharged or the aforesaid ironical position would ensue. However, this is not one such case. There has not been a simplicitor release or discharge of a principal debtor under the scheme. No scheme was required, if the applicant company was to be simplicitor discharged. All that the applicant company required to do was to make an offer of a one time settlement or accept the secured creditors'' offer of a one time settlement and honour the settlement. In all such cases, and there are numerous of them, such is the position in law.
This case is different. It is not of release simplicitor; it is of an entire scheme of compromise and arrangement with creditors. It is for rehabilitating the applicant company. The scheme constitutes a tripartite agreement with the applicant company, the secured creditors and the confirming party. The consideration under the scheme which is a contract between these parties flows to the guarantor. The contract is not without consideration. The consideration is as per Section 2(d) of the Act, which runs thus:
Interpretation-clause.--In this Act the following words and expressions are used in the following senses, unless a contrary intention appears from the context:
(a) to (c)
(d) When, at the desire of the promisor, the promisee or any other person has done or abstained from doing, or does or abstains from doing, or promises to do or to abstain from doing, something, such act or abstinence or promise is called a consideration for the promise;
In this case at the desire of the applicant as the promisor, the secured creditor/respondent as the promisee has abstained from enforcing its liability to the extent of 58% of the dues and in return for which no consideration has flowed. The guarantor as "any other person" instead upon evincing interest for a proposal to rehabilitate the applicant company by cash infusion and acquiring shares, has provided a loan of Rs. 25 crores to the applicant, agreed to provide technical and marketing expertise and in turn acquired the shares of the applicant company.
When the guarantor would acquire shares in the applicant company which would be reconstructed and rehabilitated, it must bear the statutory burden under the contract of guarantee. It cannot be taken to be discharged upon the variance of the contract to guarantee with its consent. The fact that the guarantor would look upon and sue the principal debtor is, therefore, no reason to hold otherwise than as provided by law.
If it were to be otherwise, in the given case, it would be that the guarantor would acquire the shares of the principal debtor, but not discharge its obligation. That would be unjust enrichment. The guarantor itself must, therefore, be liable for the part of the liability of the applicant company that would remain after the one time settlement.
It is because of such subtlety of law that it has been held that the guarantor is not discharged by operation of law. It is argued on behalf of the respondent/secured creditor that the scheme of compromise or arrangement with creditors or members is upon a statutory operation contained in Section 391-394 of the Companies Act, 1956.
It is held in the case of Jagannath Ganeshram Agarwala Vs. Shivnarayan Bhagirath, that the discharge of the principal debtor by operation of law would not discharge a surety.
In this case one company borrowed monies from the depositors. The managing agent guaranteed the payment. The company came into financial difficulties. The plaintiff was one of the creditors. A petition was presented to wind up the company. A scheme of reconstruction was suggested. It was approved in the meetings of the company. The plaintiff, who was one of the creditors, did not agree to the proposal under the scheme and informed the company of his non-acceptance. The scheme was sanctioned by the Court, The creditor held his position. He claimed that his rights remained unaffected. He received a part of the amount due to him and sued the guarantor for the remainder. The question before the Court was whether the guarantor was discharged from his obligation under the initial contract of guarantee. Referring to the case of Jacobs, In re [1875] L.R. 10 Ch. App. 211 where the acceptor of a bill of exchange who was the principal debtor applied under the Bankruptcy Act and was held discharged by operation of law, the drawer who was the guarantor under the contract upon the bill of exchange was held not discharged from his liability whether or not he voted for or against the resolution relating to Bankruptcy Act. It is observed in paragraph 3 of the judgment thus:
The drawer in the particular case stood in the position of a surety under the Negotiable Instruments Act. This decision shows that as a result of bankruptcy the debt due by the principal debtor may become unenforceable against the debtor, but the liability of the surety is not thereby discharged. In the case of a limited company in London Chartered Bank of Australia, In re [1893] 3 Ch. 540 it was held to the same effect. It was there pointed out that it was unnecessary to insert the scheme of reconstruction a reservation of the rights of sureties for the company''s debts, when an order for winding-up had been made, because the scheme did not affect the liability of the sureties.
In the case of London Chartered Bank of Australia, In re [1893] 3 Ch. 540 the liability upon the scheme of arrangement sanctioned by the Court came to be considered. A scheme of arrangement was held to be by operation of law, thus:
A scheme of arrangement sanctioned by the Court under the Joint Stock Companies Arrangement Act, 1870, is an alternative mode of liquidation which the law allows the statutory majority of creditors to substitute for the winding-up, whether voluntary or under the Court, and it is by operation of law that the scheme becomes effective to relieve the company and its contributories from further liability than that which is contemplated or imposed by the scheme.
The case of Gamer Motors Ltd., In re 1937 All ER 1 Ch. D. 671 was a case of joint liability of two companies under a contract. One of them entered into a scheme of arrangement with its creditors. The unsecured creditors were to accept certain amount in full satisfaction and discharge all the claims which were received by them. The joint liability of the other debtor was held not extinguished by the scheme which was by operation of law.
In the case of Punjab National Bank Ltd. Vs. Shri Vikram Cotton Mills and Another, the Supreme Court considered the contract of guarantee, indemnity and the liability of a guarantor u/s 128 of the Contract Act. This was also a case of composition under a contract of compromise and arrangement. It was held that binding obligation created in a composition u/s 391 of the Companies Act between the company and its creditors does not effect the liability of a surety/guarantor unless the contract of suretyship otherwise provides. In that case a Director/Managing Agent stood guarantee to a bank from whom the company took some loans and executed certain documents. The company closed its business and was sought to be wound-up. A scheme of composition was settled amongst the creditors. A bank sued the guarantor who had given a continuing guarantee to the bank and had guaranteed the security of the ultimate balance on the cash credit account to a specified extent. The Court referred to Halsbury''s Laws of England, (3rd Ed.), Vol. 6 in Art 1555 at page 771 which runs thus:
A scheme need not expressly reserve the rights of any creditors against sureties for debts of the company, as such rights are unaffected by a scheme.
Following the case of Garner Motors Ltd. (supra) it was observed that a scheme of arrangement which has statutory operation does not release other persons as the parties to the scheme from their obligations.
In the case of Maharashtra State Electricity Board, Bombay Vs. Official Liquidator, High Court, Ernakulam and Another, which is also shown to Court, an unconditional bank guarantee was given by a company in liquidation to the electricity board. The bank had to make payment of the specified amount remaining due under the bank guarantee on demand from the electricity board. The guarantee was extended. The company was called upon to pay. The company was ordered to be wound up. The bank, instead of making payment, called upon the Official Liquidator to do so. The Official Liquidator filed an application u/s 456(2) of the Companies Act, 1956 r.w. Rule 9 of the Companies (Court) Rules 1959 restraining the electricity board from recovering the amount under the guarantee.
A scheme of reconstruction of the company was proposed. It was held that liquidation proceedings did not effect the electricity board from claiming under the bank guarantee because the bank as a guarantor under the contract of guarantee was bound by the promise of contract and the winding up proceedings. Even a scheme of reconstruction of the company by operation of law would not effect the liability of the guarantor. It was observed in para 7 thus:
A surety is no doubt discharged under S. 134 of the Indian Contract Act by any contract between the creditor and the principal debtor by which the principal debtor is released or by any act or omission of the creditor, the legal consequence of which is the discharge of the principal debtor, but a discharge which the principal debtor may secure by operation of law in bankruptcy (or in liquidation proceedings in the case of a company) does not absolve the surety of his liability.
The aforesaid judgments read alongside the aforesaid provisions of law of a contract of guarantee makes the position clear. It also gives a clue as to the reasoning for such a neat position of law.
Consequently after the discharge of the liability by the applicant company by payment of the one time settlement amount its release was in order. The No Dues Certificate was called for. The claim against the applicant company before the Releasing Officer may not survive and may be withdrawn. However the right of the respondent/secured creditor to proceed against the guarantor/surety was open and available in law subject of course, to the contract of guarantee. That right having been kept open is in accordance with the law. It would have been a legal not to keep it so. Consequently review of that order or directions in that behalf for alteration of clause (ii) of para 4 of the order dated 27th January, 2012 cannot be granted.
Hence the review application is rejected. The applicant shall register the application.