Dividend in a Loss Year, Short-Notice Board Meeting and an Interested Related-Party Contract
Vasudha Foods Ltd is an unlisted public company with paid-up equity of ₹8 crore (80 lakh shares of ₹10). Its balance sheet shows general reserve ₹3.20 crore, surplus in the profit and loss account ₹2.40 crore and a revaluation reserve ₹1.50 crore. Turnover is ₹60 crore and borrowings ₹18 crore. For 2024-25 the company incurred a loss of ₹40 lakh. On 18 May 2025 the board met on three days' notice to consider a dividend of 12% and a packaging contract of ₹2.70 crore with Sunpack, a firm in which the managing director's wife holds 60%. Four of the six directors attended; one joined by video conference from Dubai and another left after 20 minutes. The board declared the dividend, to be paid out of the revaluation reserve and general reserve, and approved the packaging contract at the same meeting. Dividends declared in the three preceding years were 15%, 12% and 12%. Dividend for 2016-17 has remained unclaimed and is still lying in the unpaid dividend account.
1. Test the validity and quantum of the 12% dividend against s.123 of the Companies Act, 2013 and the Companies (Declaration of Dividend) Rules, 2014.
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Source of dividend. Section 123(1) permits dividend only out of profits of the year or accumulated profits, or out of money provided by the Central or State Government for payment of dividend in pursuance of a guarantee. A revaluation reserve is an unrealised capital appreciation; it is not profit and is excluded from free reserves. The ₹1.50 crore revaluation reserve therefore cannot be the source of the ₹96 lakh dividend.
Loss year. Because there is a loss of ₹40 lakh, the first proviso to s.123(1) and Rule 3 apply. Four conditions must all be met.
Rate test. 12% must not exceed the average of the rates declared in the three preceding years: (15 + 12 + 12) / 3 = 13%. 12% is within the limit.
Quantum ceiling. The amount drawn from accumulated profits cannot exceed one-tenth of paid-up capital plus free reserves. Free reserves are ₹3.20 crore + ₹2.40 crore = ₹5.60 crore (revaluation reserve excluded), so the ceiling is ₹1.36 crore.
Set off first. The amount drawn must first be applied to set off the loss of the year. ₹1.36 crore less ₹40 lakh leaves ₹96 lakh available for distribution, which is exactly 12% of ₹8 crore. The dividend is therefore at the outer limit, with no margin.
Reserve floor. After the drawal, free reserves fall to ₹4.24 crore, comfortably above 15% of paid-up capital (₹1.20 crore).
Procedural point. A board may declare only an interim dividend under s.123(3); a final dividend requires the members' declaration at the annual general meeting on the board's recommendation. Payment must be made within 30 days of declaration under s.127, failing which the company and every defaulting director are punishable.
Conclusion. The rate is permissible but the source is not. The dividend must be sourced entirely from accumulated profits represented by the general reserve and the P&L surplus, after absorbing the ₹40 lakh loss. Funding any part from the revaluation reserve would make the declaration invalid, and a 12% dividend leaves no cushion if the ₹40 lakh loss figure is revised on audit.
2. Was the board meeting validly held, given the three-day notice, the video-conference participation and a director leaving early? Consider the related-party item as well.
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Notice. Section 173(1) requires seven days' notice of a board meeting by hand, post or electronic means. Section 173(3) permits a meeting at shorter notice to transact urgent business, subject to the presence of at least one independent director, if any; if no independent director is present, decisions must be circulated to all directors and become final only after ratification by at least one independent director.
Independent director requirement. Vasudha has paid-up capital of ₹8 crore, turnover of ₹60 crore and borrowings of ₹18 crore; the thresholds in Rule 4 of the Companies (Appointment and Qualification of Directors) Rules, 2014 for mandatory independent directors in an unlisted public company (paid-up capital ₹10 crore, turnover ₹100 crore, or borrowings, deposits and debentures of ₹50 crore) are not crossed. The words 'if any' in s.173(3) mean the ratification condition is not attracted. The short notice is therefore valid for urgent business, though it is prudent to record in the minutes why the business was urgent.
Quorum. Section 174 requires one-third of the total number of directors or two directors, whichever is higher. With six directors the quorum is two; four attended, so the meeting was competent even after one director left.
Video conferencing. Rule 4 of the Companies (Meetings of Board and its Powers) Rules, 2014 permits video-conference participation except for specified items such as approval of financial statements and the board's report, approval of the prospectus, audit committee meetings and approval of related-party transactions by the audit committee. Declaration of dividend and board approval under s.188 are not in the restricted list, so the Dubai director validly participated and counted for quorum, provided the recording, minutes and attendance are properly documented.
Related-party item. The managing director is interested. Section 184 requires disclosure of his interest, and he must not participate in the discussion or vote on the packaging contract; Rule 15(3) requires an interested director not to be present when the item is taken up. If he remained present, that item can be challenged even though the other items survive.
Conclusion. The meeting and the dividend decision are procedurally valid subject to the minutes recording urgency and video-conference compliance; the related-party approval is vulnerable and should be re-passed at a properly convened meeting with the MD recusing himself.
3. Does the Sunpack contract require shareholders' approval, and what are the consequences of not transferring the 2016-17 unpaid dividend to the Investor Education and Protection Fund?
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Is Sunpack a related party? Yes. Section 2(76) includes a firm in which a director or his relative is a partner, and a private company in which a director or his relative is a member or director. The managing director's wife is a relative, and she holds 60% of Sunpack, so the contract falls within s.184 and s.188.
Approval route. Section 188 requires prior approval by resolution at a board meeting, not by circulation. Shareholders' prior approval by ordinary resolution is required only if the transaction crosses the thresholds in Rule 15(3) of the Companies (Meetings of Board and its Powers) Rules, 2014 - for sale or purchase of goods, 10% of turnover or ₹100 crore, whichever is lower. Ten per cent of ₹60 crore is ₹6 crore; the contract is ₹2.70 crore, so board approval suffices and no ordinary resolution is needed. The transaction must be disclosed to the members in the board's report in Form AOC-2, entered in the register of contracts in Form MBP-4 under s.189, and the interested director must not vote.
Consequences if the procedure is breached. Section 188(3) makes a contract voidable at the option of the board, and directors who authorised it may have to indemnify the company. Section 184(4) attracts penalty for failure to disclose interest.
IEPF. Section 124(5) requires that dividend remaining unpaid or unclaimed for seven years from the date of transfer to the unpaid dividend account be transferred to the Investor Education and Protection Fund, along with the underlying shares under s.124(6). The transfer must be supported by a statement in Form IEPF-1, and the company must display the details on its website. The 2016-17 dividend is well past seven years, so the transfer is overdue. Once transferred, no claim lies against the company; the shareholder must apply to the IEPF Authority in Form IEPF-5. Continued retention exposes the company and every officer in default to penalty under s.124(7), including a continuing daily fine, and the auditor is bound to report the default in the CARO statement.
Action plan. Ratify the Sunpack contract at a properly convened meeting with the MD recusing, obtain audit committee or board review as applicable, file the IEPF-1 statement immediately with the transfer, and record the entire sequence in the minutes to mitigate penalty.