Illegal allotment of shares: Some questions on CLB’s order

Amit K Vyas

In a recent order by the Company Law Board (CLB), a company ‘A’ had lent an amount of money to company ‘B’ which company ‘B’ subsequently neglected to repay.

Consequently, as per an oral agreement between the companies, company ‘A’ allotted some shares against the outstanding amount to company ‘B’. Company ‘A’ denied before the CLB that there was any oral agreement but admitted that it had unilaterally allotted the shares.

Company ‘A’ filed a petition under Section 111A of the Companies Act, 1956, (the Act) for rectification of its register of members and for deletion of company ‘B’s name from the register on the ground that the allotment of the shares was illegal since there was no written agreement or even a written request from company ‘B’ to subscribe to the shares. The CLB upheld the contentions of company ‘A’ on the ground that under Section 41 of the Act, it is mandatory for a person to agree in writing to become a member and in absence of such a written agreement, the register of members need rectification by cancellation of the allotment of shares.

The CLB specifically directed the company ‘A’ to cancel the shares allotted to company ‘B’ and effect reduction of share capital to that extent. With great respect to the said CLB’s order, it is submitted that the said order suffers from some basic infirmities as under:

* The CLB has no powers under Section 111A to direct cancellation of shares and order reduction of share capital since these powers are vested in the Company Court by Section 100 of the Act. Section 100 regulates the reduction of share capital by stipulating that the same must be authorised by the Articles of Association of the company, approved by a Special Resolution and confirmed by the Court on a petition being made to it. Thus, the CLB’s power is only restricted to directing rectification of the register of members and cannot extend to cancellation of shares.

* The CLB also erred in holding that the rectification should be followed by cancellation of shares and reduction of share capital. The Patna High Court has held in the case of Rupak Ltd. vs. ROC (1984) 56 Comp Cases that even where money was shown as a part of subscribed share capital but no allotment was made, then return of the money could not be construed as reduction of share capital.

The Himachal Pradesh High Court has in the case of Ram Kishan vs Kanwar Papers P. Ltd. (1990) 69 Comp Cases held that where a person’s name was entered in the register of members without any agreement in writing on his part, then the remedy in this case was rectification of the register of members by removal of his name therefrom.

Even in the case of Rahul Subodh Windoors Ltd. vs A K Menon (1999) 96 Comp Cases, the Supreme Court has held that allotment of shares to unknown persons who had not even applied for such shares was an improper allotment and the Special Court was justified in treating the allotment as improper and directing the return of money to the persons who were allotted the shares. Thus, in all the said cases of irregular allotment, reduction of share capital was not ordered.

Thus, it can be inferred that the procedure under Section 100 of the Act regarding reduction of share capital shall not be attracted in case of cancellation of an illegal allotment of shares since such an allotment is void ab initio whereas Section 100 deals with cancellation of shares which are legally allotted.

(The writer is a company secretary)