[Opinion] SAT interprets ‘ratification’ for variation in utilization of preferential issue proceeds

[2022] 140 taxmann.com 411 (Article)

Introduction

In corporate laws, the concept of ‘ratification’ is not new. Ratification is a subsequent activity by way of approval which is equivalent to a prior authority to perform such act. Ratification also means that decisions which required appropriate approval process or sanction was not obtained then, but later the respective stakeholder approved such decision. There are few provisions in the Companies Act, 2013 (‘the Act’) and the Rules that provide for ratification of a decision taken by a stakeholder in a company i.e. either board of directors or shareholders. In one of the recent cases, SAT has interpreted ‘ratification’ in Terrascope Ventures Limited v. SEBI. In this article, the author analyses the concept of ratification under the Companies Act, few landmark judgments interpreting ‘ratification’ and the SAT order.

Reference of ratification in Companies Act, 2013

There several provisions under the Act which provide for an explicit reference of ‘ratification’. Following is the summary of few such provisions:

(1) Section 173 of the Act – ‘Meetings of board’: The board meeting shall be called by giving not less than 7 days’ notice in writing to every director. However, a board meeting may be called at shorter notice to transact urgent business subject to the condition that at least one independent director, if any, shall be present at the meeting. In case of absence of independent directors from such board meeting, decisions taken at such a meeting shall be circulated to all the directors and shall be final only on ratification by at least one independent director, if any;

(2) Section 177 of the Act – Audit Committee: The Audit Committee may make omnibus approval for related party transactions (‘RPTs’) proposed to be entered into by the company subject to certain conditions. However, in case of transaction, other than RPTs, and where Audit Committee does not approve the transaction, it shall make its recommendations to the board of directors. In case any transaction involving any amount not exceeding Rs. 1 crore is entered into by a director or officer without obtaining Audit Committee’s approval and it is not ratified by Audit Committee within 3 months from the date of transaction, such transaction shall be voidable at the option of the Audit Committee;

(3) Section 188 of the Act – Related Party Transactions: Where any RPT (i.e. contract or arrangement) is entered into by director or any other employee, without obtaining consent of board of directors or approval by a resolution in the general meeting and if it is not ratified by the board or shareholders at a meeting within 3 months from the date on which such contract or arrangement was entered into, such RPT shall be voidable at the option of the board or shareholders (as the case may be);

(4) Rule 14 of the Companies (Audit and Auditors) Rules, 2014 – Remuneration of the Cost Auditor:

(a) In case of companies which are required to constitute an Audit Committee: The board of directors shall appoint an individual or firm as cost auditor on the recommendations of Audit committee, which shall also recommend remuneration for such cost auditor. The remuneration recommended by Audit Committee under shall be considered and approved by board of directors and ratified subsequently by the shareholders.

(b) In the case of other companies which are not required to constitute Audit Committee: The Board shall appoint an individual who is a cost accountant or a firm of cost accountants in practice as cost auditor and the remuneration of such cost auditor shall be ratified by shareholders subsequently.

Cases and concept of ‘ratification’

(1) Ratification assumes an invalid act which is retrospectively validated: In Maharashtra State Mining Corpn. v. Sunil [2006] 70 SCL 351 (SC), the appellant-corporation’s managing director terminated the services of respondent on January 25, 1991 for various misconducts. The respondent filed a writ petition challenging the said dismissal order on the ground that the Managing Director had no authority to do so since the same was vested in the appellant’s board of directors. While the said petition was pending, the board of directors passed a resolution ratifying Managing Director’s action. The High Court, however, while setting aside the termination order, allowed respondent’s writ petition. However, on appeal, the Supreme Court observed that

“High Court was right when it held that an act by a legally incompetent authority is invalid. But it was entirely wrong in holding that such an invalid act cannot be subsequently ‘rectified’ by ratification of the competent authority. Ratification, by definition, means making valid an act already done. The principle is derived from the Latin maxim ratihabitio mandato aequiparatur, namely, ‘a subsequent ratification of an act is equivalent to a prior authority to perform such act’. Therefore, ratification assumes an invalid act which is retrospectively validated.”

The Supreme Court observed that since the order of Managing Director had been ratified by board of directors, such ratification related back to the date of the order and validated it.

(2) Ratification would always relate back to the date of the act ratified: In Parmeshwari Prasad Gupta (Deed, Through Legal Representatives) v. Union of India [1974] 44 COMP CASE 1 (SC), the issue was as follows: On December 17, 1953 the chairman of the company terminated the services of the appellant in pursuance of a resolution of the board of directors, which not having been passed at a validly convened meeting of the board, was inoperative. In the subsequent board meeting, which was validly held on December 23, 1953, a resolution was, however, passed confirming the action of the chairman. The question was whether such ratification validated the action of the chairman. The Supreme Court observed that

“… even assuming that the chairman was not legally authorised to terminate the services of the appellant, he was acting on behalf of the company in doing so. Because he purported to act in pursuance of the invalid resolution, it was open to a regularly constituted meeting of the board of directors to ratify that action which, though unauthorised, was done on behalf of the company. Ratification would always relate back to the date of the act ratified and so the services of the appellant were validly terminated on 17-12-1953.”

(3) Intra Vires vs. Ultra vires – what can be ratified: In Rajendra Nath Dutta v. Shibendra Nath Mukherjee [1982] 52 COMP CASE 293 (Calcutta), the High Court observed that

“While an act, which is ultra vires the company, is incapable of ratification, an act which is intra vires the company but outside the authority of the directors may be ratified by the company in proper form. The execution of a document by the managing directors, without the common seal, is an ultra vires act and a subsequent resolution cannot ratify it.”

Based on above discussion, it can be said that the expression ‘ratification’ means an approval by act or conduct of an attempted act of compliance but which was improperly or unauthorisedly performed in the first instance. It is noteworthy that the Companies Act itself provides for ratification for the above instances. It is important to note that an act, which is ultra vires the company, is incapable of ratification. Also, an act which is intra vires the company but ultra vires the authority of directors may be ratified by the company (i.e. the shareholders)

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