Mr. Yashdeep Sharma vs Reserve Bank Of India
2021 Latest Caselaw 4709 Tel

THE HON'BLE THE CHIEF JUSTICE SATISH CHANDRA SHARMA
                         AND
        THE HON'BLE SRI JUSTICE N. TUKARAMJI

                     WRIT PETITION No.23229 OF 2021

ORDER:    (Per the Hon'ble the Chief Justice Satish Chandra Sharma)


        The petitioner before this Court, who was a Director

and     Promoter        of    M/s.Golden           Jubilee        Hotels     Private

Limited, has filed the present writ petition challenging the

validity of Circular dated 01.07.2016 issued by the Reserve

Bank of India as arbitrary and unconstitutional, alleging

that it violates Articles 14 and 21 of the Constitution of

India     as    it     does      not      provide        for     opportunity       of

hearing/issuance of show cause notice. The petitioner has

prayed for the following relief.

        "It is therefore prayed that this Hon'ble Court may be
      pleased     to   issue    a    writ,    order    or    direction     more
      particularly one in the nature of Writ of Mandamus (a)
      declaring the circular bearing No.DBS.CO.CFMC.BC.No.1
      /23.04.001/2016-17,            titled   'Reserve      Bank      of   India
      (Frauds - Classification and Reporting by Commercial
      Banks and Select FIs) Directions, 2016 (the 'RBI Master
      Directions on Frauds') dated 01.07.2016 issued by the
      respondent No.1 as arbitrary, illegal, violative of Articles

14 and 21 of the Constitution of India and set aside the same (b) declare the action of the respondent Nos.2 to 8 in classifying the account of respondent No.12 as fraud under RBI Master Directions on Frauds as arbitrary, illegal, unconstitutional and violative of principles of natural justice and set aside the same and consequently declare all actions/ investigations/proceedings/enquiries by the respondents which are dependent on and is pursuant to fraud classification of the account of

respondent No.12 by the respondent Nos.2 to 8 under RBI Master Directions on Frauds as arbitrary, illegal, unconstitutional and violative of principles of natural justice and set aside the same and/or any such other order as the Hon'ble Court may deem fit and proper in the circumstances of the case."

This Court in identical matters i.e., W.P.Nos.22588 of

2019 and 3648 and 3667 of 2020, passed a common order

dated 22.12.2021 dismissing the writ petitions and

paragraphs 16 to 27 of the aforesaid order are reproduced

as under:-

"16. The facts of the case reveal that the petitioner company, incorporated in the year 1999, is engaged in the business of manufacture of edible oils and other products and availed credit facilities from a consortium of banks with Andhra Bank (Union Bank of India) as a Lead Bank for a sum of Rs.675 Crores. The account of the petitioner company was declared as NPA on 14.05.2018 and the consortium of banks has taken steps to realise the securities and also filed an Application before the Debt Recovery Tribunal for recovery of a sum of Rs.617,40,94,702.61/-. The petitioner company is aggrieved by the action of the respondent No.3/Andhra Bank (Union Bank of India) in declaring the petitioner's account as 'fraud'. The Reserve Bank of India is a Statutory Corporation constituted by the provisions of Section 3 of the Reserve Bank of India Act, 1934, for the purpose of regulating the issue of Bank Notes and keeping the reserves with a view to secure monetary stability in the country and generally to operate currency and credit system of the country. The Reserve Bank of India has been, inter alia, entrusted with the statutory obligation of administering the provisions of Banking Regulation Act, 1949. In the Banking Regulation Act, the

Reserve Bank of India has been vested with various powers with respect to banking companies, such as granting licences, conducting inspections, giving directions, advises etc. The Reserve Bank of India has been vested with the powers to determine the Banking policy in the interest of banking system, in the interest of monetary stability and sound economic growth, having due regard to the interests of the depositors. The Reserve Bank of India is also concerned with organization of a sound and healthy banking system, ensuring effective coordination and control over credit through a proper Monetary and Credit Policies. The Reserve Bank of India has the primary responsibility to ensure stability of the banking system in the country and Directions/Guidelines have been issued by the Reserve Bank of India from time to time. The Reserve Bank of India being an expert body, its decisions with regard to regulation of banks deserve to be given due weightage. Section 35A of the Banking Regulation Act empowers the Reserve Bank of India to issue directions to the banks. Section 35 A of the Banking Regulation Act is reproduced as under:-

"35A. Power of the Reserve Bank to give directions.- (1) Where the Reserve Bank is satisfied that-

(a)          in the public interest; or
      (aa)          in the interest of banking policy; or

(b)          to prevent the affairs of any banking company being

conducted in a manner detrimental to the interests of the depositors or in a manner prejudicial to the interests of the banking company;

or

(c) to secure the proper management of any banking company generally,

it is necessary to issue directions to banking companies generally or to any banking company in particular, it may, from time to time, issue such directions as it deems fit, and the banking companies or the banking company, as the case may be, shall be bound to comply with such directions.

(2) The Reserve Bank may, on representation made to it or on its own motion, modify or cancel any direction issued under sub-section (1), and in so modifying or cancelling any direction may impose such

conditions as it thinks fit, subject to which the modification or cancellation shall have effect."

17. The 'Master Directions on Frauds' has been issued by the Reserve Bank of India in public interest under Section 35A of the Banking Regulation Act. The Reserve Bank of India being the regulator and supervisor of the banks in the country has issued many instructions to the banks to sensitize them against banking frauds and to have deterrent systems against such frauds. The Reserve Bank of India has issued a 'Master Circular on Frauds' dated 01.07.2016 incorporating the earlier circulars issued on the subject and the Reserve Bank of India updates the Master Circular on Frauds annually, generally in July incorporating the instructions issued till then. In 2016, the Reserve Bank of India has started issuing Master Directions of each subject covering all the instructions on that subject and the Master Directions are also updated suitably whenever there is a change in the policy. All the changes so made are reflected in the Master Directions available on the Reserve Bank website and finally 'Master Directions on Frauds - Classification and Reporting of Commercial Banks and select FIs' was issued on 01.07.2016. It is, in fact, more or less an updation of the existing Master Circular on Frauds - Classification and Reporting, dated 01.07.2015. Subsequently, Master Directions on Frauds was updated on 03.07.2017.

18. Clause 1.3 of the 'Master Directions on Frauds' is reproduced as under:-

"1.3 Purpose

These directions are issued with a view to providing a framework to banks enabling them to detect and report frauds early and taking timely consequent actions like reporting to the investigative agencies so that fraudsters are brought to book early, examining staff accountability and do effective fraud risk management. These directions also aim to enable faster dissemination of information by the Reserve Bank of India (RBI) to banks on the details of frauds,

unscrupulous borrowers and related parties, based on banks' reporting so that necessary safeguards/ preventive measures by way of appropriate procedures and internal checks may be introduced and caution exercised while dealing with such parties by banks."

19. The purpose set out in the Master Circular clearly establishes that the classification of account as 'fraud' is purely an administrative exercise, which is necessary to take follow-up actions and is also a preventive exercise to ensure that other banks also share the information which is in the Central Fraud Registry for the purpose of exercising caution while dealing with such parties. Much has been argued before this Court on the ground of principles of natural justice and fair play and a prayer has been sought to quash the 'Master Directions on Frauds', dated 01.07.2016 to the extent they do not provide for opportunity of hearing.

20. Heavy reliance has been placed upon the Judgment delivered by this Court in the case of Rajesh Agarwal v. Reserve Bank of India (2021 (2) ALD 290 : 2021 (1) alt

454). It is true that a coordinate Bench of this Court has

certainly held that the principle of audi alteram partem, part of the principles of natural justice, is to be read in Clause 8.9.4 and 8.9.5 of the Master Circular. The aforesaid Judgment delivered by the Division Bench has not attained finality. In Special Leave Petition filed by the State Bank of India, i.e., S.L.P. (C) No.3931 of 2021, the Hon'ble Supreme Court, by order dated 15.04.2021, has granted interim order and the observation of the High Court to the extent of personal hearing be given, has been stayed. The Order passed by the Hon'ble Supreme Court is reproduced as under:-

"Applications seeking exemption from filing certified copy of the impugned order are allowed.

Issue notice.

Dasti service, in addition, is permitted. Learned counsel is permitted to file counter affidavit within a period of four weeks from today. Rejoinder affidavit within two weeks thereafter.

Set down for hearing on Tuesday, the 13th July, 2021 on top of the Board.

Meanwhile, the Minutes/Order dated 15.02.2019 passed by the Joint Lenders Meeting is not to be acted upon. The High Court insofar as it observed that a personal hearing be given is stayed."

21. In the considered opinion of this Court, as the issue of principle of natural justice and fair play is pending before the Hon'ble Supreme Court, the same has not been dealt with at present. However, the facts of the case reveal that the forensic audit, which was conducted, was not a unilateral exercise on the part of the auditor. The audit was conducted with full participation of the petitioner company and based upon the audit report, which was certainly prepared with the participation of the petitioner, the petitioner account has been classified as 'fraud'.

22. Learned counsel for the petitioner has much argued upon the 'Conclusion' part of the Audit Report and the same is reproduced as under:-

"Conclusion:

The Company SARL which is in edible oil and rice business has continuously progressed its turnover and reached to a peak turnover of Rs.2450 Cr in the last year ending 31.03.2018. To sustain high turnover at ultra low profitability, the request for enhancement of working capital was made but was rejected. The results of the business at every year end has been very bleak in terms of margins not even being 1% of the turnover as can be seen from the financial statements, led to vulnerability of business.

It is interesting to analyze what circumstances made company as defaulter and NPA account with bankers during laws few months post closure of FY 18 though indication could be seen in last 2 years itself when company registered high revenue growth with reduced profitability at cost of Supply chain risks and lack of control on debtors, which increased substantially.

The Company continued to do higher business volumes with insignificant enhancement in working capital limits

in the last 3 years. The company had to face many regulatory hurdles during the current year which were reported and are known in public domain and it being a business entirely based on imports, the business came to grinding halt with the change in government policies and tax structure, sources of funds dried, with loss of faith by financial institutions, leading the production to stop, supplies could not be made, customers started blocking old money, because no new supply being possible and as a result all letter of credits started devolving and account became irregular with banks, with no possibility for the company to react by shifting fully to indigenous sources or arrange for any funds.

The huge amount of debtors of about Rs.500 Cr and above leaves an important observation about the traditional practices of business control, extension of credit to customers without concrete agreements, grouping the credits at broker level leading to limited visibility of receivables party wise from a longer period. Further the lack of unit level financial control and inter dependence of all the businesses with a common supply chain and distribution proved fuel in fire when management was unable to serve the customers and de- risk any of its business with the change in tax regime and government policy in the lead business. Further the insistence of Statutory Auditor on creating provision and writing off these debtors as bad debts resulted these bad debts falling the prey of legal proceedings and forcing the company to commit itself towards a bleak recovery for the receivables.

A question arises as to whether the overall management accounting system was adequate enough to run such large operations, which resulted into a total collapse in event of business exigency which has hit the entire edible oil industry and was beyond the control of management, where over leveraging without adequate control and absence of strong risk mitigation measures led to the down fall.

The company has conveyed that it has taken legal action against debtors recovery but being civil suits, law will take its own time and on the other hand counter claim of the debtors indicate long drawn futile process of recovery. The above observation and also key finding and executive summary narrated in this report leaves a question on management system control and lack in

adopting adequate risk measures in areas such as recovery from debtors, legal documentations with the brokers and trails of transaction adequate which are essential for the recovery of receivables, results in bleak recovery of the same.

SARL was a profitable Company as there has been positive increase in its revenue, but with high leverage and thin margins, it would be difficult to run and operate the units in the current situation without incurring major repairs and renovation cost and further deterioration will make the plants unviable for operations.

The majority of investment made by the company with a prime objective was in distribution, brand building and increasing the reach other than creating hard assets of building plant and machinery.

The intangible asset of brand investment in distribution and non-running fixed assets does have a severe erosion calling for an impairment in very short period of time, given the plant and machinery hardly provides for any cover against the debt.

With the above observations read with key findings & executive summary and other points narrated in our report, we conclude that management and promoters should have been more careful in financial control and one wonders why aggressive steps for recovery of debtors (overdue for extra ordinary time with no confirmations) is not taken which was main reason of account becoming NPA. Basis the sample audit, review of legal cases, interviews of brokers, understanding of trade practices, clarification on reconciliation of debtors by statutory auditors in recent time, overall substance of the account and subject to reliance on the data for the recovery of debtors, we find no diversion of funds or fraud being intentionally carried out by the management."

23. Learned counsel for the petitioner contends that the Forensic Audit did not come to a conclusion that of declaring the account of the petitioner as 'fraud'.

24. Learned counsel for the Andhra Bank (Union Bank of India) has drawn the attention of this Court towards pages 213, 216 and 219 (of the petitioner's paper book) of the Forensic Audit Report. They read as under:-

Obs Observation Unusual Indicators & Level of No Conclusion based on Audit Unusual Findings Indications 4 Devolvement of Letter of Credit:

- The company has a history of devolvement of LCs with all the - Multiple devolvement of member banks of the consortium LCs simultaneously resulted since May 2017. However the in huge shortage of cash Company had made the payment flow in the Company and against the same in the extended increased the bankers stress period of time to the banks. to recover the loans disbursed. - As per the minutes of the - Also, due to such consortium meeting dated implications the Company 28.04.2017, the Company had has been liable to pay 2% informed the consortium banks that additional interest on the the reason for LCs devolvement amount due to the banks HIGH initially was due to strike at increasing their liabilities. Krishnapatnam area impacting the - This indicates that the production. This further affected the Company continued to make realisability of receivables impacting procurements and open LC's the cash flows. without having any financial arrangement for repaying - The Company has devolved ILCs of the same on timely basis. As amount aggregating to INR 45.86 a result, once the banks Crores that were issued in January stopped opening new LC 2018 to March 2018 and FLCs issued accounts, the Company since August 2017, aggregating to could not repay the BOUT USD 73 million (equivalent to commitments for the lack of INR 476.80 Crores approx), remain availability of funds. The outstanding as on date. Company had obtained finance from third party - Subsequent to account being financiers, however could declared as NPA, the Company ahs not sustain for long due to approached the third party financiers additional finance costs. who have opened fresh LCs on behalf - Approaching third party of the Company under the financiers for additional arrangement as explained in the Key LCs, when there has been findings section. devolvement of the existing ones increases the liability and risk potentials. - The Company has repaid the LCs of third party NBFCs, outside the Consortium, prior to the member banks.

Obs Observation Unusual Indicators & Level of No Conclusion based on Audit Unusual Findings Indications 4 Misutilisation of funds for purpose other than sanctioned for: - The Company has transactions - We are informed that the during December 2016 to September funds were utilised for 2018 with Ekaakshara Refineries Pvt purpose of purchase of land Ltd., its associate Company having unauthorisedly and hence common directors. The Company indicates misutilisation of during December 2016 to August loan funds. The Company, 2017 made adjustment of INR 0.70 however, realised the Crores through vendor account P principal amount from Ram Mohan Reddy (a water tank Ekaakshara Refineries supplier) and payment of INR 1.90 Private Limited. Crores was made without any business being carried on in the - Credit Limits were associate Company. No other sanctioned to the two

transactions were being carried until divisions in the Company on September 2018, resulting in the basis of its stock and cumulation of interest cost for more trade receivables valuations than a year on the funds transferred on individual basis. The by the Company. However, Company never maintained Ekaakshara repaid the funds in MEDIUM division wise accounts of the September 2018 for INR 2.60 Crores

for settlement of the account. customers separately, given the commonality of customer accounts led to

- The Company have been sanctioned loss of control on Risk credit facilities for Oil and Rice parameters. However, funds divisions separately with specified sanctioned for Rice division limits by the lead banker as per the carry less potential risk than sanction letters, however funds Oil division.

sanctioned for Rice division in its account were being transferred and utilised in the Oil division. The funds carried separate charges as securities on its stocks and receivable division wise, and were supposed to be utilised for the specific purpose they were sanctioned for, which was violated.

RESPONSE TO ABOVE OBSERVATION Management Response: Forensic Auditor's Comment:

The Company utilized funds of Rs.2.60 Funds were spent by SARL on behalf of Crores by making payment to Ekaakshara.

Ekaakshara during the period 07.10.2016 Subsequently, the Company has realised to 29.08.2017 amount to INR 2,60,01,508, the entire amount from Ekaakshara The entire amount was repaid by Refineries Pvt Ltd.

Ekakshara to SARL during 10.09.2018 to 14.09.2018.

Obs                Observation                         Unusual Indicators &          Level of
No                                                   Conclusion based on Audit      Unusual
                                                             Findings              Indications
8     Qualified opinion and Emphasis of
      matter in FY 2017-18 by new
      Auditors:

      - The Company has reported a loss of       - Substantial losses in the
      INR 223.33 Crores due to which net         current year have eroded the
      worth of the Company has been fully        net worth of the Company in
      eroded from INR 204.72 Crores to           single year completely.
      negative net worth of INR 25.61
      crores. Further devolvement of LC's
      on a large scale followed with lower
      scale of production/No production in       - These conditions and
      certain units gives doubts about the       events    indicate     material
      continuity of business. So the             uncertainty which may cast
      Company's ability to continue the          significant doubt on the
      business as going concern is               entity's ability to continue as
      significantly dependent upon the           going concern.

viability of the restructuring plan to be approved by Consortium Banks.

- The proposal for restructuring of the account

- The Company's rating by Brickwork was declined by the bank. MEDIUM Ratings India in its report "Rating Rationale" dated 23 February 2018,

- The downgrading of the wherein it downgraded the ratings of rating of Company indicates the Company to "BWR BBB" for the the inefficiency of the Fund Based Bank Loan Facilities of Company and the promoters INR 106.61 Crores of the Company to repay the loan.

and to "BWR A3+" for Non-Fund Based Bank Loan Facilities of INR 635.11 Crores.

- With respect to the liability on account of post-retirement medical benefits of employees including

retired employees, a defined benefit plan, is recognised on actual basis in respect of bills received by the Company instead of recognizing the liability for the same as the present value of the defined benefit obligation at the balance sheet date calculated on the basis of actuarial valuation in accordance with the notified AS - 15 on Employee Benefits. The consequential impact of adjustment, if any, owing to this non-compliance on the financial statements is presently not ascertainable.

- Sundry debtors worth INR 397.57 Crores are doubtful debts which have been classified as non-current assets against a total debts of INR 552.39 Crores as on 31 March 2018, of which balances under significant accounts are subject to reconciliations and confirmation. The Company has made a provision of INR 132.02 Crores which appears to be inadequate specially keeping its view the position of recovery in subsequent years and therefore reported loss of INR 223.33 Crores remains under reported.

25. The relevant extracts of the audit report reveals that it is not a case where no adverse findings have been arrived at by the Forensic Auditor in the entire Report and therefore, this Court is of the opinion that based upon the findings arrived at in the Forensic Audit Report, the petitioner company's account was rightly declared as 'fraud' and the scope of interference in the peculiar facts and circumstances does not arise. There is no illegality or infirmity in the decision making process warranting interference in the peculiar facts and circumstances of the case.

26. This Court has carefully gone through the Audit Report and it is not a case where there is no whisper against the petitioner company. This Court does not find any reason to interfere with the action of the respondent Bank in declaring the petitioner's account as 'fraud', which has been done by following due process of law as prescribed under the Master Circular issued by the Reserve Bank of India.

27. In the light of the aforesaid, the writ petitions are dismissed. Miscellaneous petitions, if any pending, shall stand dismissed. There shall be no order as to costs."

Learned counsel has placed reliance upon the

Judgment delivered in the case of UMC Technologies Private

Limited v. Food Corporation of India (Civil Appeal No.2687 of

2020, dated 16.11.2020).

This Court has carefully gone through the aforesaid

Judgment and it was a case of blacklisting in a contractual

matter. The present case is distinguishable on facts as it is

not a case of blacklisting arising out of contract. The

aforesaid Judgment is of no help to the petitioner.

The Master Directions on Fraud provide for a

comprehensive mechanism and a forensic audit is carried

out in the matter based upon the documents supplied by

the borrower. It is not a case where the forensic auditor on

his own prepares some documents and the borrower is well

aware of all such documents on the basis of which forensic

audit takes place. Otherwise also, there is no provision for

grant of opportunity of hearing as prayed for and the issue

is still pending before the Hon'ble Supreme Court and

therefore, the same is not being dealt with by this Court.

Reliance has also been placed upon the Judgments

delivered in the case of Government of Andhra Pradesh v.

P.Gautam Kumar1 and Palaniswamy v. State of Andhra Pradesh2

and the contention of the learned counsel for the petitioner

is that suspension of judgment in respect of opportunity of

hearing by the Hon'ble Supreme Court in Rajesh Agarwal

(supra) will not come in the way of the present petitioner.

This Court has carefully gone through the Judgments

relied upon by the learned counsel for the petitioner. In the

aforesaid cases, the order passed was suspended, whereas

in the present case, the Hon'ble Supreme Court in S.L.P.

(C) No.3931 of 2021, vide order dated 15.04.2021, has

categorically stayed the observation of this Court in respect

of personal hearing. Therefore, this Court is of the opinion

that no relief can be granted to the petitioner in so far as

the issue of personal hearing is concerned.

The formation of opinion is based upon the findings

arrived at in the forensic audit report and the account of

M/s.Golden Jubilee Hotels Private Limited was rightly

declared as fraud keeping in view the forensic audit report.

There is no illegality or infirmity in the decision making

process warranting interference in the peculiar facts and

2012 (6) ALD 458 : 2012 (6) ALT 138

2018 (3) ALD 181 : 2018 (2) ALT 365

circumstances of the case. The action has been taken

against M/s.Golden Jubilee Hotels Private Limited by

following due process of law, and therefore, this Court does

not find any reason to interfere with the order impugned.

Resultantly, the writ petition is dismissed.

Miscellaneous petitions, if any pending, shall stand

dismissed. There shall be no order as to costs.

_____________________________ SATISH CHANDRA SHARMA, CJ

________________ N.TUKARAMJI, J

31.12.2021 Pln