Delhi High Court Directs RBI to Take Control Over Mismanaged NBFC; Board Suspended and Interim Administrator Appointed

RBI's Role from NBFC's Inception to Liquidation Makes It Obligated to Act in Cases of Regulatory Breach., On October 23, 2024, the Delhi High Court issued a significant ruling in Evaan Holdings Private Limited v. Reserve Bank of India & Ors. (W.P. (C) 9877/2024), addressing the supervisory obligations of the Reserve Bank of India (RBI) over Non-Banking Financial Companies (NBFCs) in cases of financial misconduct and regulatory violations. Justice Dharmesh Sharma ruled in favor of the petitioner, Evaan Holdings, and held that RBI's inaction in overseeing the affairs of Exclusive Capital Limited (an NBFC) warranted judicial intervention. The court directed the suspension of Exclusive Capital’s Board and appointed an Interim Committee of Administrators to oversee the company’s operations.

The case originated from a writ petition filed by Evaan Holdings Private Limited, a shareholder in Exclusive Capital Limited. The petitioner alleged severe financial mismanagement and fund siphoning by the NBFC's current management, citing breaches in leverage ratio, unauthorized issuance of optionally convertible debentures (OCDs), and non-compliance with regulatory requirements, including audited account submissions. Despite complaints filed by Evaan with the RBI in May and June 2024, no action was taken by the regulator, leading to the filing of the writ petition.

The primary legal issues addressed by the court were:

Maintainability of the Writ Petition: The court examined whether a writ petition could be entertained against the RBI’s alleged inaction in overseeing an NBFC's compliance with statutory provisions under Chapter IIIB of the RBI Act.

RBI’s Supervisory Duties: The court assessed RBI's obligations under Sections 45ID, 45MA, and 45Q of the RBI Act, and the RBI Master Directions, 2016, to oversee the proper functioning of NBFCs.

Judicial Intervention in Regulatory Inaction: The court explored the circumstances under which a writ of mandamus could be issued to compel a regulatory authority like RBI to exercise its supervisory powers.

Justice Sharma emphasized that RBI’s supervisory role extends from the registration of an NBFC until its liquidation. Citing the Supreme Court’s decision in Nedum Pillai Finance Company Limited v. State of Kerala, he highlighted that “RBI’s powers over NBFCs span from inception to commercial death,” indicating that RBI has an ongoing obligation to intervene in cases of mismanagement to protect public and investor interests.

The court’s findings underscored several critical lapses by Exclusive Capital Limited’s management:

Leverage Ratio Violation: Exclusive Capital exceeded the prescribed leverage ratio of 7, reaching 117.77 as of March 2022, in direct violation of RBI Master Directions, 2016.

Unapproved OCDs and Conversion to CCPS: The NBFC issued OCDs amounting to ₹315 crores without RBI’s permission and subsequently converted these debentures to Compulsorily Convertible Preference Shares (CCPS) without obtaining the necessary approval.

Non-submission of Financial Statements: Exclusive Capital failed to submit essential financial documents, including balance sheets and statutory auditor certificates, for fiscal years 2022-23 and 2023-24.

Given these findings, the court ruled that RBI had failed in its duty to supervise the NBFC adequately and that judicial intervention was necessary to protect stakeholder interests. Citing Destruction of Public and Private Properties v. State of A.P. and Hari Krishna Mandir Trust v. State of Maharashtra, Justice Sharma reiterated that a writ of mandamus could be issued to compel a public authority to perform its statutory duties.

The court issued the following directives:

Suspension of the Board of Directors: The Board of Exclusive Capital was suspended with immediate effect.

Appointment of Interim Administrators: An Interim Committee of Administrators was appointed to oversee the NBFC, led by retired Justice R.K. Gauba, with Chartered Accountant Mr. Mahesh Aggarwal and retired banker Mr. R. Maheswaran as committee members.

Special Audit Ordered: Sabadra & Associates, a chartered accountancy firm, was appointed to conduct a special audit under Section 45MA of the RBI Act. The audit is to cover the financial years 2022-23 and 2023-24.

Reporting and Honorarium: The Interim Committee of Administrators was directed to submit a detailed report within five weeks. The court specified honorarium and fees for each committee member to be paid from the company’s funds.

Justice Sharma noted, “The RBI’s supervisory powers are coupled with a duty to act in public and investor interest. Failure to exercise these powers in cases of blatant regulatory violations can lead to irreparable investor harm.” He further warned that “any further delay in exercising RBI’s supervisory powers may allow misappropriation of funds and harm the interests of stakeholders.”

The Delhi High Court’s ruling reaffirms the RBI’s responsibility to maintain strict oversight over NBFCs, emphasizing that its supervisory role is a continuous obligation. The court’s decision to suspend Exclusive Capital’s Board and appoint an interim administrator underscores the judiciary’s willingness to intervene when regulatory bodies fail to perform their duties. This judgment serves as a reminder to regulatory authorities of their obligation to act decisively to prevent financial mismanagement and protect public and investor interests.

Date of Decision: October 23, 2024

Evaan Holdings Private Limited v. Reserve Bank of India & Ors.