Introduction
The corporate field is no longer limited to accounting irregularities but has evolved into a complex, multi-layered economic offense threatening investor credibility and economic stability. The rise in corporate fraud is now much evolved, and now new ways have come into play to do the same. Organizations with rapid digital frameworks are much more vulnerable when implementing new systems without updates to their control frameworks. The sale function has become fertile ground for corporate fraud. Some executives manage to work for several companies simultaneously, but actually they are actively absent. E-commerce has also created new ways to do fraud by creating fake customer networks to stimulate transactions. In the long run technology is also a double-edged sword.
To curb the evolving nature of corporate fraud, there is the Serious Fraud Investigation Office (SFIO), which is a multi-tasking, investigating agency that works under the Ministry of Corporate Affairs (MCA). This statutory authority gets its power from section 211 of the Companies Act, 2013. This office detects and investigates complex corporate frauds and white-collar crimes and further detects the irregularities and unlawful practices of the companies.
Nonetheless, this agency doesn’t come into action in frivolous corporate frauds but only in extraordinary cases that are serious, complex, and large-scale. This agency investigates in 4 instances: (a) on report of the registrar of the company, (b) on special resolution passed by the company, (c) in public interest, and (d) on request of any department or state government. For this agency to investigate, there should be “intentional wrong” and not mere mismanagement. By limiting the jurisdiction of SFIO, it maintains its integrity, deterrence, and proportionality in criminal and corporate enforcement.
Meaning of operation in company law
In company law, operation refers to day-to-day activities of a company and business functions. The company is said to be in operation when the company undertakes its actions and does legal activities in order to achieve the desired object. This may include mere statutory or procedural acts which may include managing assets, maintaining assets or anything done for the welfare of the company. All these actions demonstrate that the company is alive and not just merely existing on paper.
Under the Company Act, 2013, this particular understanding in the act can be seen in the form of dormant companies, winding up, and striking off, where the absence of business or operation indicates inactivity.
The conceptual difference between fraud and mismanagement: Fraud vs Mismanagement
The conceptual difference between mismanagement and fraud is that of “mens rea” and “dishonesty.” Firstly, talking about fraud, which involves practices that are deceitful, unlawful, and illegal for personal gain and heavy financial loss to other entities. Corporate fraud done inside a company often breaks the integrity and the trust of stakeholders and the thinking of future investors. Corporate fraud is seen both as a civil wrong as well as criminal wrong. This seriously impacts the company business to a very large extent. The practices of corporate fraud may be done by the employees due to heavy competition in the market, economic pressure, or less protection for the whistleblowers.
On the other side, we have mismanagement, which means negligent, improper, inefficient, against public policy, or prejudicial conduct of a company’s affairs. It doesn’t involve intent. Also, in the case of Nittin Johari v. SFIO, the supreme court acknowledged that mere mismanagement cannot come in the contour of fraud unless fraudulent intent is established.
When Mismanagement and Operations Cross into Fraud
In the corporate world there exists a very thin line between mismanagement, dysfunction, and fraud, which more often overlaps. In ordinary parlance this can be understood in a way that when the negligent, unauthorized actions get converted to intentionally deceitful and illegal ways in order to make financial loss or gain. In other terms, operation is the day-to-day functioning of company affairs and business, which slowly gets converted to fraud by deceitful means in order to get unlawful financial loss or gain.
Mismanagement sometimes involves careless investments and improper functioning, which remain within the realm of company liability and attract civil liability. This ordinarily happens due to incompetence or mismanagement rather than intent. These actions do not fall within the boundary of fraud due to the absence of fraud and, most importantly, “ill-intention.”
The same instantly gets converted to fraud when there is abuse of corporate power or falsified decision-making to hide corporate reality. In the case of fraud, the business operation decisions no longer remain neutral but are affected by ill intention. Here only the stakeholders and the employees override statutory provisions and go beyond their power by exercising fraud to make personal benefits. For this only we have some specialized agencies like SFIO, which regulate and investigate these frauds and take statutory actions and criminalize the same.
By the above text it is pretty much clear that there stands a very thin line between fraud and mismanagement, which seem to represent two sides of the same coin.
Challenges in SFIO Functioning
Although SFIO is a statutory body, it has to depend on other bodies to investigate and not on their discretion; they can investigate. Like, in section 210(1) of companies act the central government indicates that when it is necessary to investigate. In this provision the usage of the word “may” indicates that the discretion for investigation lies in the hand of the central government, and it need not compulsorily order an investigation.
Also, in section 210(2) of the Companies Act, which is a mandatory provision, the central government “shall” order an investigation into the affairs of the company when the order is passed by some court/tribunal for the same.
The procedure laid out under Section 212, Section 212(1) provides that without prejudice to the provisions of Section 210, where the central government is “of the opinion” that the SFIO should investigate the affairs of the company on the grounds provided within Section 212(1).
Recently, in the case of Church of South India v. Union of India, the court observed that the phrase “of the opinion” of section 212 imposes a jurisdictional duty on the central government to give the proper reasoning why an investigation of the affairs of the company is needed by the SFIO because a reasonless investigation per se will lack merit.
Here it seems that much of the power and discretion is given to other bodies as compared to the SFIO. As they need prior investigation approval and coordination with other agencies. Although this maintains but more often slows down the decision-making power and reduces investigation flexibility.
One of the former corporate secretary highlighted that since the corporate frauds are very complex in nature, there should be employees who are capable enough to investigate. Further, the manpower and the infrastructure required is lagging behind.
The road ahead
While SFIO is too dependent on the approval of the central government as per the provisions 210 and 212 of the Companies Act, which can delay investigation. In order to curb this, some conditional suo motu power can be given to SFIO in clearly defined categories of fraud. This would increase efficiency and the outcome of the investigation. There should be proper clarification by the legislature between the word’s fraud, mismanagement and negligence which would decrease the ambiguity and prevent over-criminalisation. In order to control digital fraud, the investigating agency should be provided with a better infrastructure, the latest forensic technology, advanced AI data analysts, and timely upgradation. For better manpower there should be a proper and holistic recruitment process and continuous training programs for better investigation quality.
Conclusion
The term “corporate fraud” has now evolved, and now there exist multiple and advanced ways to commit corporate fraud. To curb this there is now a need for SFIO to get evolved and become more efficient. Also, the meaning of the words “fraud” and “mismanagement” is very much blurred, as both terms revolve around intent and dishonesty. So, sometimes there is a chance that mere negligent operation would get converted into a deliberate fraud.
Managing corporate affairs simply can be done in two ways: one is by doing and managing the company without any intention to do fraud, which is termed as operation, whereas on the other hand, doing the same chore with an ill intention or to make unlawful loss or gain would come under the realm of fraud. Furthermore, while doing the chore there can be situations where there may be unlawful or deceitful gain, but it would not be fraud because there is no intention. Instead, this is termed “mismanagement.”
We have a specific agency, SFIO, which investigates these types of frauds, which are complex and involve large-scale corporate frauds. By restricting itself to only large-scale frauds and complex cases, SFIO maintains its proportionality and deterrence.
However, SFIO still does not have autonomy and more often works on the guidance of the central government. Also, there exist procedural delays, lack of infrastructure, manpower, and accountability. Thereby addressing these issues would help to regain public trust and for effective prosecutions in case of corporate frauds and large-scale scams.
Author: Shreyankar Shahi & Akshat Bansal| Dharmashastra National Law University | shreyankar5002@gmail.com
