Corporate Law Newsletter: The Hamlin Trust Vs. Lsfio Rose Investments S.A.R.I. – January 2023

Facts of the case:

• Hamlin Trust and members of Rattan Family Group (the “Appellants”) are shareholders of approximately 50% of the issued, subscribed and paid-up share capital of Rattan India Finance Private Limited (“Company”). LSFIO Rose Investment (“R-1”) has acquired 50% of the issued, subscribed and paid-up capital of the Company by making an investment in the Company.
• As per the articles of association (the “AoA”) of the Company, R-1 had the right to appoint a CFO; however, the Appellants had the right to reject two such candidates proposed by R-1, post which the third candidate will stand appointed. The third candidate proposed by R1 was a person who could not be associated with the company full-time.
• Several applications were filed by R-1 including that for the appointment of Chief Financial Officer (“CFO”) of the Company which were objected to by the Appellants questioning the eligibility of the candidate. NCLT passed an impugned order giving direction for the appointment of Mr Bipin Kabra as the CFO of the Company (“Impugned Order”), which according to the Appellants did not consider various objections raised by them, including those relating to the ineligibility of Mr Bipin Kabra for the appointment as the CFO of the Company. This was followed by an appeal from the Appellants against the said Impugned Order.
  

Question of law:

Issue I: 

Whether the provision of sections 203, 184 and 189 of the Companies Act, 2013 (“Act”) are applicable for the appointment of CFO, along with article 140 of the AoA. 

Issue II: 

If yes, whether eligibility under section 203 of the Act is necessary for considering a nomination and whether R-1’s first and second nominations comply with the requirement of article 140 of the AoA for the appointment of CFO?

Judgment of Court: 

Issue I: 

• The following AOA was provided for the matter :
  • CFO shall be a key managerial person. 
  • R-1 shall have the right to nominate a person for the position of CFO. 
  • If the first two nominations made by R-1 are rejected by the Appellants or at least 45 days have lapsed since the position of CFO is vacant (whichever is earlier), R-1 shall have the right to nominate any person and the Appellants shall support such appointment. 
• Impugned Order accepted the applicability of sections 184, 189 and 203 of the Act, which provides rational and reasonable norms and standards regarding the eligibility of a CFO, as it directed Mr Bipin Kabra to file an affidavit undertaking to abide by the requirements of the said provisions. 
• The relevant provision in the AoA did not imply that any person, even if ineligible by the normal standard of eligibility given in section 203 of the Companies Act and the requirement of a CFO to be a whole-time KMP, can be considered a valid candidate for such position. 
• In absence of any specific mention regarding eligibility and the method of selection of a CFO in the AoA, it would be logical to take recourse to section 203 of the Act and also consider sections 184 and 189 of the Act. 

Issue II:

• Names suggested by R-1 in the Company are in the nature of secondment and, thus, clearly ineligible for appointment as a CFO given that they contravene of section 203(3) of the Act. 
• AOA did not imply that the first two nominations could be of ineligible candidates so that the third nomination by the Appellants was bound to be accepted. All nominations must satisfy the basic conditions of eligibility under section 203 of the Act so that the Appellants could exercise their right of selecting the most appropriate and suitable candidate. 
• NCLT committed an error in inferring that in case the Appellants did not accept the first two nominations, they would have to accept the third nomination.
• The nominees must be eligible as per the provision of section 203 of the Act. The Impugned Order was, therefore, set aside and the parties were directed to take necessary actions for the appointment of a CFO after making valid nominations in accordance with section 203 of the Act and completing such appointment within a period of 60 days from the date of the order.

Conclusion

The articles of association of a private limited company shall contain the eligibility criteria for the appointment of any key managerial personnel. Such eligibility criteria shall be in consonance with sections 184, 189 and 203 of the Act in order to avoid any conflict between the articles of association and the Act. The courts, while considering a voluntary appointment of a chief financial officer by a private company, have taken a view that in case of the absence of any specific mention regarding eligibility and the method of selection of a chief financial officer in the articles of association, it would be logical, reasonable and rational to take recourse to section 203 of the Act, even though, prima facie, section 203 does not apply to private companies.

Earlier this year, the Registrar of Companies, Karnataka had levied a penalty of INR 1,00,000 on Landomus Reality Private Limited and the director in default for appointing the director as a CFO in violation of section 203 of the Act. Thus, we opine that a private company may voluntarily appoint a key managerial person on its board as a good governance practice but, however, shall comply with the provisions of the Act, as if applicable. The courts intend to ensure proper compliance with the Act for such important roles even in a closely held organization.