Reflection of Debt in a Balance Sheet: Acknowledgment or a Statutory Compliance?

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Disclaimer: Views of the author are completely personal and do not reflect the views of any organization, firm or institution that the author is affiliated with.

Introduction

The present article is premised on the critical analysis of a recent decision rendered by a five-member bench of the Hon’ble National Company Law Appellate Tribunal in the matter of V. Padmakumar v. Stressed Assets Stabilisation Fund & Anr.[1] Two issues were put to consideration before the five member bench of the Hon’ble National Company Law Appellate Tribunal [“Hon’ble NCLAT”]; firstly, with respect to the date of default for computation of period of limitation for filing an Application under Section 7 of the Insolvency & Bankruptcy Code, 2016 [“Code, 2016”] and secondly, whether reflection of debt in the balance sheet of a Corporate Debtor amounts to acknowledgment of debt in terms of the provisions of Section 18 of the Limitation Act, 1963 [“Act, 1963”].

The five-member bench of the Hon’ble NCLAT overruled its earlier judgment in the matter of M/s. Ugro Capital Limited v. M/s. Bangalore Dehydration and Drying Equipment Co. Pvt. Ltd. (BDDE),[2] and held that the date of Non-Performing Asset shall be the date of default for the purpose of computation of period of limitation and mere filing of a suit for recovery and a decree passed by a court cannot shift forward the date of default.

While dealing with the second issue, the decision rendered was not a unanimous and undisputed one. The majority (4:1) concluded that the reflection of debt in a balance sheet would not amount to acknowledgment of debt under Section 18 of the Act, 1963. On the contrary, the minority (1:4) concluded in the affirmative. The present article is confined to the critical analysis of the said issue.

The author is inclined towards the dissenting view and by way of this article shall attempt to, by way of placing reliance on case laws, demonstrate why the dissenting minority’s view is the correct view.

The Majority View

While dealing with the issue of whether reflection of debt in a balance sheet would tantamount to acknowledgment of debt under Section 18 of the Act,

1963, the majority confined themselves to the statutory provisions of Section 92 of the Companies Act, 2013 and concluded the following:

“(i) As the filing of Balance Sheet/ Annual Return being mandatory under Section 92(4) of the Companies Act, 2013, failing of which attracts penal action under Section 92(5) & (6), the Balance Sheet / Annual Return of the ‘Corporate Debtor’ cannot be treated to be an acknowledgement under Section 18 of the Limitation Act, 1963.

(ii) If the argument is accepted that the Balance Sheet / Annual Return of the ‘Corporate Debtor’ amounts to acknowledgement under Section 18 of the Limitation Act, 1963 then in such case, it is to be held that no limitation would be applicable because every year, it is mandatory for the ‘Corporate Debtor’ to file Balance Sheet/ Annual Return, which is not the law.”

It is trite to state herein that the majority only relied upon the provisions of Section 92 of the Companies Act, 2013 and concluded that filing of annual returns/ balance sheet is mandatory for a Company and hence, would not attract the provisions of Section 18 of the Act, 1963. However, the majority did not appreciate and examine other statutory provisions with respect to filing of Annual Returns/ Balance Sheet in the Companies Act, 2013. The author shall briefly deal with the same in the later part of the article, and shall first deal with the jurisprudence behind the acknowledgment of debt under Section 18 of the Act, 1963 with the help of case laws.

Case Laws: Section 18 of The Act, 1963

The Hon’ble Supreme Court in the matter of Lakshmirattan Cotton Mills Company Limited & Ors. v. The Aluminium Corporation of India Limited,[3] while dealing with the question of acknowledgment of debt in terms of Section 19 of the Limitation Act, 1908 [now Section 18 of the Act, 1963] observed that, “an acknowledgement is an admission by the writer that there is a debt owing by him either to the receiver of the letter or to some other person on whose behalf the letter is received but it is not enough that he refers to a debt as being due from somebody. In order to take the case out of the statute there must upon the fair construction of the letter, read in the light of the surrounding circumstances, be an admission that the writer owes the debt”.

Further, the Hon’ble Supreme Court of India in the matter of Sampuran Singh & Ors. v. Niranjan Kaur & Ors,[4] while dealing with the question of revival of limitation in the suit for redemption under Section 18 of the Act, 1963, observed that the acknowledgment, if any, has to be within the prescribed period of limitation for filing a suit, as otherwise, it would not revive the limitation. Thus, if the acknowledgment has been made within the prescribed period, the limitation to file a suit shall be further extended to a period of 3 years.

Therefore, the question which now comes for consideration is whether such extension would give rise to a fresh cause of action. The said question is relevant for examination in light of the argument that limitation would not apply as every year it is a mandate on a Company to file annual returns. In this regard, the judgment of the Hon’ble High Court of Kerala in the matter of P. Sreedevi v. P. Appu[5] is relevant, wherein the court observed that the acknowledgment would not create a new right of action but would merely extend the period of limitation. Considering the said position of law, the author is of the view that filing of annual returns by the Company would not amount to arising of a fresh cause of action every year and hence, limitation is applicable.

Having dealt with the aforesaid judicial interpretations of Section 18 of the Act, 1963, it is now imperative to examine the jurisprudence qua the acknowledgment of debt in a balance sheet in terms of the said provision. In the matter of In Re: Pandam Tea Company Limited,[6] the Hon’ble High Court of Calcutta, while dealing with the question of acknowledgment of debt in a balance sheet, had also considered the importance of the Directors’ report and observed that balance sheets read together with the Directors’ report brings out the true and fair meaning of the statements in the balance sheets.

Similar line of reasoning was extended by the single bench of the Hon’ble High Court of Delhi in the matter of Sheetal Fabrics v. Coir Cushions Limited,[7] wherein the court, referring to the judgments of Lakshmirattan Cotton Mills Company Limited[8] and In Re: Pandam Tea Company Limited,[9] observed that “in order to find out the intention of the document by which acknowledgment was to be construed, the document as a whole must be read and the intention of the parties must be found out from the total effect of the document read as a whole.”

From the perusal of the above judgments, it can be concluded that the reflection of debt in a balance sheet amounts to acknowledgment of debt.

Let us now examine the statutory provisions under the Companies Act, 2013 with respect to Books of Account and Directors’ Report and their evidentiary value under the Indian Evidence Act, 1872, in order to further strengthen the aforesaid view.

Annual Return, Books Of Account, Directors’ Reports And Their Evidentiary Value

Section 92 of the Companies Act, 2013 mandates every company to prepare a return and further lists down the categories/ information, which the return should contain.

Section 128 of the Companies Act, 2013 provides for the maintenance of books of accounts by the companies and contemplates that such books of accounts and financial statements shall give a true and fair view of the state of the affairs of the company.

Section 129 of the Companies Act, 2013 mandates a company to comply with the accounting standard notified under Section 133, the instructions under Schedule III of the Companies Act, 2013 and further contemplates to give a true and fair view of the state of affairs of the company while preparing the financial statement.

Further, sub-section (3) of Section 134 of the Companies Act, 2013 provides for preparation of a report by the Board of Directors of a company and also provides an inclusive list, which the report should consist of. Sub-section (6) of Section 134 mandates the report to be signed by the chairperson or managing director or a director of the company, as the case may be.

It may be further noted that under the provisions of sub-section (2) of the Section 143 of the Companies Act, 2013, the auditor is mandated to examine the financial statements and make a report to the members of the company to the best of his knowledge and information, giving a true and fair view of the state of the company’s affairs.

From a bare perusal of the above statutory provisions, it is imperative to point out that the Companies Act, 2013 only mandates the information to be disclosed in its Annual Return, Financial Statement and the Directors’ Report, and does not govern the contents of such disclosures. The only mandate is that the content of the disclosures should be based on a true and fair view of the state of affairs of the company and the purpose behind the inclusion of the phrase “true and fair view of the state of the company’s affairs” is a move towards corporate transparency. Thus, it is for this reason, the entries in the books of accounts are considered to be relevant under the Indian Evidence Act, 1872, however, subject to limitation.

Section 34 of the Indian Evidence Act, 1872 reads as follows:

Entries in books of account when relevant

Entries in the books of account, [including those maintained in an electronic form], regularly kept in the course of business, are relevant whenever they refer to a matter into which the court has to inquire but such statements shall not alone be sufficient evidence to charge any person with liability.”

From a perusal of the aforesaid provision, it appears that the entries in the books of account alone shall not be sufficient to fasten any person with a liability, but there should also be additional supporting independent evidence to fasten the person with such liability.[10] Simply put, it is a mandate under the law of evidence for an existence of corroborative evidence for the purpose of admissibility. In this context, statements in the Directors’ Report play an important role in corroborating the entries in the books of account, as the same having been signed by the directors of the company holds sanctity in law and when read together with the entries made in the books of account, are admissible in the eyes of law.

Concluding Remarks

The author is of the opinion that the majority missed the opportunity to settle the issue at hand in light of the position of law, discussed hereinabove.

It is trite to state herein that the majority, while dealing with the issue at hand, ought to have appreciated and examined the language of Section 18 of the Act, 1963. It is also to be noted that the acknowledgment in terms of Section 18 of the Act, 1963 shall only extend the period of limitation and does not create a new right. Hence, in the absence of a new right, the fresh period of limitation is not to be construed as a prescribed period of limitation and the question of non-applicability of limitation in view of the mandatory filing of annual return every year does not arise.

Further, on perusal of the majority decision, it is evident that the majority have only placed their reliance on the provisions of Section 92 of the Companies Act, 2013 and did not examine the other relevant provisions of the Act. In addition, the majority further did not examine the fact that financial statements as well as the Directors’ Report play an important role in determining the financial state of affairs of the company, as auditors and the directors (as the case may be) engage in application of their mind while preparing the same and thus, it holds sanctity in law. Moreover, the said sanctity attached in law has been duly accepted by the Indian courts in a plethora of judgments, discussed herein above.

It is to be noted that the present issue is still to be examined by the Hon’ble Supreme Court and until then, the Creditors run the risk of Corporate Debtors taking advantage of the decision rendered by the majority in order to escape from their liability to pay debts. Accordingly, it is hoped that the decision of the Hon’ble Supreme Court of India, as and when the occasion arises, shall, for once and all, settle the position of law in this regard.


(This post has been authored by Varun Tandon, Associate at L&L Partners, New Delhi)

References

  1. Company Appeal (AT) (Insolvency) No. 57 of 2020

  2. Company Appeal (AT) (Insolvency) No. 984 of 2019

  3. AIR 1971 SC 1482

  4. AIR 1999 SC 1047

  5. AIR 1991 Ker 76

  6. AIR 1974 Cal 170

  7. 120 (2005) DLT 693

  8. Supra note 2.

  9. Supra note 5.

  10. Central Bureau of Investigation v. V.C. Shukla & Ors., AIR 1998 SC 1406

Cite as: Varun Tandon, ‘Reflection of Debt in a Balance Sheet: Acknowledgment or a Statutory Compliance?’ (The Contemporary Law Forum, 02 August 2020) <https://tclf.in/2020/08/02/reflection-of-debt-in-a-balance-sheet:-acknowledgment-or-a-statutory-compliance?> date of access.

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