NCLT Rejects Capital Reduction Scheme Failing Test on Surplus Funds and Compliance

 The National Company Law Tribunal (NCLT), Delhi Bench, dismissed the petition seeking confirmation of reduction of share capital, holding that the company failed to demonstrate the availability of excess capital or free reserves when the petition was approved by the company board and did not adequately safeguard the interests of its creditors.

The company proposed a reduction of its paid-up equity share capital pursuant to a special resolution passed in February 2021, involving payment of INR 90 per equity share (face value INR 100) to shareholders, thereby reducing the face value to INR 10 per share. The capital reduction was sought under Section 66(1)(b)(ii) of the Companies Act, 2013 on the ground that the paid-up capital was in excess of the company’s requirements. The Regional Director had raised multiple objections to the scheme.

The NCLT rejected the scheme basis the following reasons:

1.      Absence of excess capital / free reserves at the relevant time - The NCLT held that the financial statements did not establish the availability of surplus capital or free reserves to justify payment to shareholders under Section 66(1)(b)(ii) of the Companies Act, 2013. Importantly, the financial position had to be assessed at the time the scheme was approved by company board (February 2021) and not based on subsequent financial statements.

2.      Defective compliance with creditor notification requirements - The NCLT observed that conclusive proof of service (such as tracking reports) was not placed on record for all creditors. Since notice to creditors under Section 66(2) is mandatory, the Tribunal refused to presume deemed compliance.

3.      Material changes in capital structure during pendency of proceedings - The NCLT noted that multiple changes in the company’s capital structure during the pendency of the petition, including issuance of preference shares, ESOPs, and induction of new shareholders, materially altering the basis of original scheme and undermined the transparency required for approving a capital reduction.

This ruling underscores that capital reduction is subject to strict scrutiny. Companies must clearly demonstrate availability of excess capital or free reserves at the time the scheme is approved by company board, ensure strict compliance with creditor notification requirements, and maintain a consistent and stable capital structure during the pendency of NCLT proceedings.