Non-Signatories can be referred to arbitration in exceptional cases under doctrine of 'Alter Ego'

Cause Title : Mrs. Vatsala Jagannathan vs K. Jagannathan, Arb. O. P. (Comm. Div.) No.163 of 2022, Madras High Court

Date of Judgment/Order : 

Corum : Mr. Justice Senthilkumar Ramamoorthy

Citied: 

1. Vidya Drolia v. Durga Trading Corporation (Vidya Drolia), 2021 2 SCC 1
2. Chloro Controls India Pvt Ltd v. Severn Trent Water Purification Inc.(Chloro Controls), (2013) 1 SCC 641.
3. Purple Medical Solutions Pvt. Ltd. v. Miv Therapeutics Inc. and Others (Purple Medical Solutions), Manu/SC/0139/2015
4. Andal Dorairaj v. Hanudev Infopark (Andal Dorairaj), 2016-2-L.W.9.
5. Cheran Properties Limited v. Kasturi And Sons Limited(Cheran Properties), (2018) 16 SCC 413.
6. Dr.Papiya Mukherjee v. Aruna Banerjea & another (Papiya Mukherjee), 2022 SCC Online Cal 595.

Background

The petitioners state that they entered into a memorandum of agreement (MoA) with the first respondent in relation to the development of land owned by the first petitioner into a multi-storied residential or commercial building. For that, two general powers of attorney were executed by the first respondent  in favour of Mr.Naren Rajan, the then Managing Director of the first respondent. The petitioners claimed that by relying on such powers of attorney, Mr. Rajan who was an “alter ego” of the first respondent, fraudulently mortgaged the Land in favour of the Indian Bank and received a loan from the lender but did not put up any construction. The said lender/Indian Bank, in turn, assigned the debt to an asset reconstruction company, namely, Reliance Asset Reconstruction Company Limited (the ARC). The ARC initiated action to enforce the security interest. At that juncture, the petitioners redeemed the mortgage by paying a sum of Rs. 9 crore in installments between December 2015 and April 2016.

Instead of acting in accordance with the MoA, in breach of trust, the first respondent and Mr.Naren Rajan dealt with the Land for their personal enrichment. The dispute raised by the petitioners for adjudication by an arbitral tribunal is a claim for restitution of the unlawful proceeds arising out of breach of trust committed in relation to the Land.

The Petitioners argued that the dispute is not barred by limitation and that the petitioners are entitled to the benefit of Section 10 of the Limitation Act. According to learned counsel, Section 10 applies both to express and implied trusts and the latter falls into two categories, namely, constructive trusts and resulting trusts. The MoA read with the general powers of attorney resulted in the creation of  an implied resulting trust and that the characteristic feature of a resulting trust is the intention of parties to vest the property in the trustee for a specific purpose, it was submitted that the Land was vested in the first respondent and its Managing Director with the intention that the same would be used exclusively for purposes of developing a multi-storied building in accordance with the MoA.

Mr.Naren Rajan, died on 21.05.2015. Upon his death, respondents 2 to 5 stepped into his shoes as his legal heirs.

The Respondents argued that :-

1) Section 10 of the Limitation Act is not applicable because it applies only to express and not implied trusts.

2) Respondents 2 to 5 are non-signatories to the arbitration agreement.

3) Respondent 5 holds only 100 shares in the first respondent company and Respondents 3 & 4 were not involved in the first respondent company and became shareholders after the death of Mr.Naren Rajan.

3) The Petitioners have by filing 2 suits and reserving the right to file separate suits had waived their right to refer the present dispute for arbitration.

Judgment

The judgment did not specifically define the "doctrine of Alter Ego" which can be explained as a legal doctrine whereby the court finds that a corporation lacks a separate identity from an individual or corporate shareholder. Further to demonstrate an “alter ego” relationship requires convincing evidence that one entity dominated the day-to-day actions of another and/or that it exercised this power to work fraud or other injustice or inequity on a third party or to evade statutory or other legal obligations.

It was the argument of the Appellant that the legal heirs qualify as 'alter egos' of the first respondent though they may be non-signatories to the arbitration agreement,.

On the issue of the presence of non-signatories, the High Court observed that in order to invoke and apply the doctrine of alter ego, the corporate veil of the first respondent should be pierced to see who lurked behind at the relevant point of time. Since company law is founded on the status of a company as a distinct juristic entity, the corporate veil is pierced in exceptional circumstances such as the use thereof to evade tax or commit fraud. 

In order to decide if non-signatories to an arbitration agreement may be compelled to arbitrate, the follow-on question would be: who would have been behind the veil if it were pierced on the date or dates when the execution of the MOA & POA took place and even proceeding on the assumption that the situation warrants the piercing of the veil, the next question would be on what date or dates should the veil should be pierced?

The Court examined who were the shareholders and directors of the first respondent at that time executing the documents and decided that the documents on record disclose that the second respondent was a director from the date of incorporation and held about 22.33% of the paid-up share capital of the first respondent even prior to the death of Naren Rajan. She continued as a director after his death and her shareholding increased from 22.33% to about 48%. Hence, she was a director of the company when the MoA was executed. She was also involved in the affairs of the company when the power of attorney was executed in favour of her son, Mr.Naren Rajan. Along with the late Naren Rajan, she also executed a guarantee on 01.06.2009 in relation to the borrowing by the first respondent from Indian Bank. In these circumstances, there is an arguable case to contend that the arbitration agreement in the MoA is binding on her but not on the respondents 3, 4 or 5.