Ignorance and Negligence costs Canara Bank lacs !

The Hon’ble Supreme Court, on 20th May 2020, delivered the verdict in the matter of Canara Bank v. M/s. Leatheroid Plastics Pvt. Ltd. where due to the ignorance and negligence, Canara Bank suffered a loss which could be easily avoided.

…….The factual matrix

Canara Bank (hereinafter referred to as “Bank”) had extended credit facilities to a company named M/s. Leatheroid Plastics Pvt. Ltd.( hereinafter referred to as “Company”) under different heads. The Company had been banking relationship with Canara Bank since 1980.

The credit facilities involved restructuring of past debt­-repayment. The arrangement of extending such credit was agreed upon on 4th January 2001. Two documents were executed on that date, for such purpose. One was a deed of hypothecation and the other an agreement of collateral security for machinery and vehicles.

The bank agreed to extend the following financial facilities to the company against mortgage of land, buildings stocks etc; towards security:­

1 Fund Interest Term Loan (FITL) 10,08,000/­ Amount of interest upto 31.12.2000
2 Fresh Term Loan (TL) 15,00,000/­ New facility to restart the said unit
3 Open Cash Credit (OCC) 40,00,000/­
4 Working Capital Term Loan (WCTL) 29,99,000/­
5 Supply Bills 10,00,000/­

The deed of hypothecation contemplated hypothecation of plant, machinery, tools and accessories already purchased as also the machinery to be purchased, which “are erected/to be erected/kept/to be kept or in transit for being erected at the premises in the occupation of the Company” in relation to term loan of Rs.15 lacs.

The agreement of collateral security for machinery and vehicles covered credit facilities under other heads and also contemplated hypothecation of additional security “plant, machinery, tools and accessories and motor vehicles” already purchased and to be purchased.

Particulars of the hypothecated assets were listed in the schedules to the two deeds. Under the respective deeds/agreements, it was the Company’s obligation to keep the hypothecated assets insured but the bank retained the liberty to obtain insurance coverage of such assets.

The bank exercised the option of effecting the policy, which was permissible under both the agreements and debited the premium from the Company’s account. The entire set of hypothecated assets, however, was not covered by the policy. The said policy covered stocks­in­process and building for Rs.50 lacs, Rs.2 lacs and Rs.28.88 lacs. No coverage was taken for plant, machinery and accessories etc.

There was a fire in the premises of the Company little beyond the midnight hours of 27th August 2001, which caused damage to their stocks and machineries. The Company lodged claim with New India Assurance Company, Kanta Nagar branch. The Company received insurance claim for Rs.34,92,970/­, however, as per the Company’s own assessment, replacement value of these uncovered assets was Rs.1.50 crores. The Company also claimed to have had spent Rs.6.50 lacs on the machinery on order and overhaul for restarting the unit. (The unit had to remain shut for some time on environmental issues. In the year 1998 their manufacturing unit had to discontinue operation, their premises having been sealed by the Delhi Pollution Control Committee on the order of the Supreme Court. They were permitted to restart their operations in the month of December 1989.)

The Company under those circumstances became liable, as part of their debt repayment obligation, for the price of such uncovered hypothecated assets damaged by fire.

The Company filed a consumer complaint founded on loss on account of portion of the assets left uncovered in the insurance policy. On the other hand, the Bank had initiated recovery process before the forum constituted for such recovery.

Subsequently, the Company approached the National Consumer Disputes Redressal Commission, New Delhi (the Commission) with an original petition for compensation of Rupees two crores along with certain other reliefs from the bank alleging deficiency in service in not obtaining insurance for machineries, accessories etc.

The Commission accepted the plea of the respondent that there was deficiency of service on the part of the bank but directed the appellant to pay the compensation of Rs.31.76 lac to the complainant along with interest at the rate of 9% per annum from the date of settlement of insurance claim within a period of 8 weeks from the date of the order. This order was challenged by the Bank in an appeal before the Hon’ble Supreme Court, whereas on the other hand, the Company also filed a cross­-objection in which they sought raising of the compensation sum to Rs. 2 Crore.

…….Bank’s stance

It was the responsibility of the Company to obtain the insurance policy under the respective contracts. As a consequence thereof, the bank could not be held responsible for any shortcoming in the policy.

The fixed assets and the prime securities were to be insured by the Company for adequate value in terms of the bank’s guidelines.

Copy of the policy, statement of other relevant papers regarding the policies and payments used to be supplied by the bank to the respondent company whenever their directors used to visit bank premises.

…….Company’s stance

The company’s stand was that they had been asking for copies of the policies but they were not given particulars thereof. Two letters were sent dated 11th June, 2001 and 2nd July, 2001 seeking copies and the status of the Insurance Policy but there was no reply to such letters.

The premium for the same was deducted by the bank from their account.

…….Questions before the Hon’ble Supreme Court

Whether there was any deficiency of service on the part of the bank in not covering the whole set hypothecated assets under the insurance policy.

If the bank themselves effected the insurance and left significant part of hypothecated assets out of it without any intimation to that effect to the Company, could such omission be held to be a lapse on the part of the bank?

…….views of the Hon’ble Supreme Court

Although, it was the duty of the Company to obtain the insurance policy, But liberty was with the bank also to effect such insurance at the risk, responsibility and expenses of the Company only to the extent of the value of the securities as estimated by the bank. In the event of rejection of the claim wholly or in part irrespective of the fact as to whether the claim was made by the bank or the Company, the bank’s responsibility ceased. The duty to effect insurance was with the Company, and the bank could not be held responsible if there was any loss or damage to the hypothecated assets which was not adequately covered by insurance taken by the Company. Bank also would not remain responsible if the claim was rejected, whether in whole or part thereof.

BUT once the bank exercised the liberty to effect the insurance, it was implicit that such insurance ought to have covered the entire set of hypothecated assets, against which the credit facilities were extended. The bank could absolve themselves from any obligation in the event the claim was rejected wholly or in part. If, however, the bank in exercise of their liberty effected the insurance, then it became their obligation to cover the entire set of hypothecated assets.

The clause under which liberty was given to the bank to effect insurance started with the phrase – “The bank is at liberty and is not bound to effect such insurance……” It was held that the employment of the adjective “such” in this clause demonstrates that if the bank effected insurance, that policy would have to carry the features which a Company’s policy would have covered as per the terms of the deeds or agreements. The company’s liability in such a situation to repay to the bank could arise in the event of rejection of the claim or part thereof, such claim arising on account of loss/damage to the hypothecated assets. But the grievance of the Company was that though the bank effected such insurance, part of the hypothecated securities was left out from the coverage. It was a case of underinsurance.

Thus, the Hon’ble Court construed the relevant clauses to mean that if the bank had exercised liberty to effect insurance, it was their duty to take out policies covering the entire set of hypothecated assets. Also, that it would constitute part of services the bank were rendering to the Company. Effecting insurance was not their absolute obligation. But such obligation they had taken it upon themselves.

The position could have been different in the event the Bank had alerted the Company at the time of effecting the policy that the entire set of assets was not being covered by the policies being effected by them but no such case had been made out. On the other hand, the Bank remained silent to the two letters of the Company seeking particulars of the policy.

…….final verdict

  • Decision of the National Commission directing the Bank to pay Rs.31.76 lac to the Company along with interest at the rate of 9% per annum from the date of settlement of insurance claim upheld.
  • No enhancement of the sum awarded as compensation.
  • No order as to costs.

Copy of judgement: Judgement_20-May-2020

-Adv. Tushar Kaushik

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