An Analysis of Section 297 of The Companies Act, 1956

Most of the company professionals, executives and directors feel Section 297 of the Companies Act 1956 a deep breath, because of the intricacies in interpreting and practical application of that section.  It also makes corporate law professionals especially, company secretaries and corporate lawyers in double-mind. 

This article attempts to make a detailed interpretation of Section 297, which deals with ‘Board’s sanction to be required for certain contracts in which particular directors are interested’.

Sub-Section wise Analysis:

Sub-Section	Deals with
297 (1)	Charging / Fixing responsibility to obtain consent of board for entering into contract
297 (2)	Exemptions / Gateways
297 (3) & (4)	Modus operandi for obtaining consent
297 (5)	Consequences of not obtaining consent

It is now clear that Section 297 states about obtaining consent of the board of directors, for entering into certain contracts in which particular directors are interested. Thus, not every contract requires consent of the board, only those contracts in which directors are interested require the consent of board. It is to be noted that usually a contract is entered into with the approval of the board, or even with the authority of the Managing Director/CEO/VP, or with the sanction of the Management Committee. But, here the only way of getting sanction for the contracts (in which directors are interested) is board’s sanction.

Section 297 (1) :

Board’s sanction is required if:

i)                   a director;

ii)                 or his relative;

iii)              a firm in which such a director or relative is a partner;

iv)               any other partner in such a firm ( ie; a firm as stated in (iii) above);

v)                 a private company of which the director is a member or director;

enters into a contract with the company (a) for the sale, purchase or supply of any goods, materials or services; or (b) for underwriting the subscription of any shares in, or debentures of the company.

Further, the board’s sanction to be supported by the PREVIOUS approval of the Central Government, if the company’s paid-up capital is not less than Rs.1 Crore.

Section 297 (2):

Exemption to board’s sanction - to the  contract for the sale, purchase or supply of goods, materials or services, ie: Section 297 (1) (a) doest not apply, to the following:

1. purchase / sale for cash at prevailing market prices; or
2. regular trade / business between the company and party (director etc.), up to Rs.5,000/- per annum for the contract period;
3. any transaction in the ordinary course of business (exemption only for banking / insurance company)

Section 297 (3) & (4):

The board should accord its sanction only through a resolution passed at a board meeting (ie; it should not be a circular resolution) before the contract is entered into or within three months of the date on which the contract was entered into (three months allowed only in the case of urgent necessity – sub-section (3)).

If the board’s sanction is not obtained, either before the contract date or within three months (in urgent cases), it will be deemed that the board’s sanction is not obtained, under Section 297.

Section 297 (5):

This sub-section states the consequence of not obtaining board’ sanction, as stipulated under section 297. As per 297 (5), if the consent is not accorded to any contract, anything done in pursuance of the contract shall be VOIDABLE AT THE OPTION OF THE BOARD.

CRITICAL INTERPRETATION:

Now, we will go into few critical interpretation of Section 297.

Aspect	Interpretation
Consent of Board	Consent of board means ‘a consent through resolution at a duly convened board meeting, and not by mere circular resolution.
Contract between a company and director / interested director / relative / firm / private company.	The, the section does not apply to a contract between two public limited companies, because the word used is ‘private company’. If the word used is ‘company’, then it may be interpreted as any type of company (public / private). Thus, the two parties of the contract must be 1st party -  any type of company, and 2nd party -  director / relatives / firm / private company.
Any other partner in such a firm.	Section is attracted to the contract entered into by the company and any other partners, of the firm of in that the director / his relative are a partner.
Sale or purchase of any goods, materials or services.	Section does not apply to a contract of immovable property (eg: purchase of land, building etc.), because the terms used is goods, materials or services – all are movables.  Thus contract for movables only get attracted by the section, immovable properties contracts are excluded.
Exemptions under sub-section (2)	Exemptions are independent provisions, because the words “or” is used to separate the provisions.
Exemption to transactions in the ordinary course of business.	Exemption applies only to banking and insurance companies, and not for all companies.
Rs.5000/- Exemption limit.	Calculated on Annual Basis, only for the period of contract.
Effect on not obtaining consent of board.	Contract voidable at the option of the board, and not void (invalid). The contract is voidable ie; can be ratified by the board.

CHECKLIST OF REQIREMENTS FOR OBTAINING THE APPROVAL OF CENTRAL GOVERNAMENT UNDER S.297.

1.       Period for approval to be taken

2.       Flow chart of transactions

3.       Copy of the first transactions

4.       List of Directors

5.       Projected value of transactions for the next three years

6.       Benefit to be derived by the  seller company

7.       Copy of agreement containing particulars of contract.

8.       Copy of board resolution and proceedings of meeting.

9.       Detailed relating to the following;

(1)    Whether the terms of the contract conform to the prevailing market rates.

(2)    Whether the company has entered into any contract with any other person in respect of sale, purchase or supply of the same kind of goods, materials or services and whether the terms of such contract are similar to the terms of the proposed contract(s). Reasons for variation in rates, if any should be indicated

10.   Certified copy of the latest amended Memorandum and Articles of Association of both the companies ;

11.   Certified copy of the audited Balance Sheet and Profit & Loss Account for a last three years;

12.   Certified copy of the Minutes of the General Meeting at which the proposal was approved.

13.   Circumstances/ evidence showing urgent necessity for entering into the contract before seeking approval (Section 297(3))