M/S. Peirce Leslie and Co., Ltd. vs Their Workmen

Rewritten Version Notice: This is a rewritten version of the original judgment.

Court: Supreme Court of India

Case Number: Civil Appeal No. 209/58

Decision Date: 09/03/1960

Coram: K.C. Das Gupta, P.B. Gajendragadkar

The case was titled M/S. Peirce Leslie & Co., Ltd. versus Their Workmen and was decided by the Supreme Court of India on 9 March 1960. The judgment was authored by Justice K.C. Das Gupta, with Justices P.B. Gajendragadkar, Subbarao and K. also participating on the bench. The petitioner was M/S. Peirce Leslie & Co., Ltd., located at Kozhikode, and the respondents were their workmen. The decision was reported in the 1960 AIR 826 and the 1960 Supreme Court Reporter (3) 194, with subsequent citations in various law reports.

The dispute originated from the year 1954‑1955 when the appellant paid its clerical staff, who received monthly salaries, a bonus equivalent to three months’ basic wages. The clerical employees subsequently raised an industrial dispute, demanding an additional bonus equal to seven months’ basic wages. The Industrial Tribunal that examined the matter awarded an additional bonus of five months’ basic wages. The appellant advanced three principal arguments: first, that the nature of its business involved a high degree of risk and that it operated with a small amount of capital, thereby justifying a material alteration of the Full Bench formula and warranting rates higher than six percent on paid‑up capital and four percent on reserves used as working capital; second, that a larger allowance should be made for rehabilitation; and third, that because only a small proportion of the workmen had lodged the bonus claim, the entire surplus should not be considered available for distribution.

The Court held that because the claim for the additional bonus was made by only a small percentage of the workmen, the whole surplus could not be treated as freely available for distribution to those claimants. The Court observed that not only the 882 staff members who had raised the claim, but also an additional 247 workmen had contributed to the creation of the surplus. Consequently, the amount remaining in the company's hands could not be regarded as a matter solely between the company and the present claimants. The Court applied the precedent set in Indian Hume Pipe Co. v. Their Workmen, [1959] Supplement 2 Supreme Court Reporter 948, L.L.I. 357. It reiterated that the return on invested capital must always provide for a pure interest component together with compensation for the ordinary risks of doing business. In industries where the risk is considerably lower than the usual standard, there is good cause to provide a return of less than six percent, whereas in industries with extraordinary risk, a return of more than six percent may be reasonably justified.

The Court found that the appellant’s business did not involve any unusual risk and therefore no case existed for permitting a higher return on the paid‑up capital or the working capital. Moreover, the Court rejected any justification for compensating the entrepreneur merely because a small capital base had generated considerable profits. The Court noted that fixed capital inevitably undergoes gradual deterioration, and thus reserves had to

The court observed that reserves must be created out of profits in order to replace any portion of fixed capital once it becomes too deteriorated for efficient use, and that it was necessary for the company's capital fund to remain intact. In calculating surplus profits from which a bonus could be paid, a reasonable amount for the notional requirement of rehabilitation during the relevant year was deducted as a prior charge. The basis of that prior charge was the assumption that rehabilitation was a continuing process and therefore required an allocation each year. However, the appellant failed to demonstrate any entitlement to a rehabilitation allowance beyond the ordinary depreciation, and consequently the court relied on the principles set out in Associated Cement Company's case, [1959] S.C.R. 925. The judgment concerned a civil appellate jurisdiction matter, identified as Civil Appeal No. 209/58, which was filed by special leave against an award dated 16 September 1957 issued by Industrial Tribunal No. 11, Ernakulam, in Industrial Dispute No. 34 of 1957. Counsel for the appellants appeared on behalf of M/s. Peirce Leslie & Co., Ltd., while counsel for the respondents represented the workmen. The judgment was delivered on 9 March 1960 by Justice Das Gupta. The appellant, M/s. Peirce Leslie & Co., Ltd., is a private limited company engaged in a variety of enterprises chiefly in South India. Although the company is registered in England, almost all of its operations are carried out in India. Its principal activities include a cashew‑nut business in which it purchases raw cashew nuts in India and Africa, roasts them, and sells the finished product, as well as a coir‑products business and the handling of several other country produce such as ginger and lemongrass oil. A substantial portion of its trade is export‑oriented. In addition to these trading operations, the company conducts agency work, acting as managing agent for numerous firms. Over many years the company as a whole has earned good profits, although certain lines have incurred losses. It employs a large workforce comprising both covenanted and uncovenanted senior staff of Indian and European origin, together with a considerable number of workmen, including clerical staff. The clerical staff alone consists of 882 monthly‑paid employees. For many years the company voluntarily paid bonuses to all its employees out of surplus profits. Specifically, for the monthly‑paid employees who are the subject of the present appeal, the company paid during the year 1954‑55 a sum equivalent to three months’ basic wages as a bonus. Dissatisfied with this amount, the employees, through their union, claimed an additional bonus. The industrial dispute that arose was referred by the Government to the Industrial Tribunal sitting at Coimbatore, where the workmen sought an extra bonus equal to seven months’ basic wages. The company argued that the special nature of its activities, particularly the fact that in

The company contended that because its agency operations required only a minimal amount of capital, and because its dealings in cashew nuts and other produce involved an unusually high element of risk, the Full Bench Formula used to determine the surplus should be materially altered in several respects. The principal modification it sought before the Tribunal was that the formula should permit rates exceeding six per cent on paid‑up capital and four per cent on reserves employed as working capital, on the ground that the special risks of its business and the low capital needs of its agency work justified such higher allowances. The Tribunal rejected these requests. While it accepted the company’s claims only partly concerning rehabilitation allowances for the year and only partially regarding the actual sums used as working capital, the Tribunal calculated that, after meeting all prior and necessary charges, the available surplus amounted to £55,137. On that basis it awarded a bonus equal to five months’ basic wages in addition to the three months’ basic wages that the company had voluntarily paid. In arriving at this distribution the Tribunal also rejected the company’s argument that, because the claim had been raised by only a small percentage of the workmen, the entire surplus should not be treated as available for the purpose of granting bonus to those few workmen.

The first ground of appeal raised before this Court was that the Tribunal was erroneous in dismissing the company’s claim for a higher return than the usual rate on paid‑up capital and on reserves used as working capital. Counsel for the appellants presented both oral and documentary evidence indicating what was described as heavy “fluctuations” in the price of raw cashew nuts that the company had to purchase and in the price of the finished product in foreign markets. While the existence of some risk was acknowledged, the Court was not persuaded that the company’s business, whether in cashew nuts or any other line, was exposed to such unusual risk as to justify a rate of return above the normal level. The Court explained that a return on invested capital must always cover pure interest together with compensation for the risks inherent in the business. The prevailing interest rate in the money market, as reflected by gilt‑edged securities, is ordinarily taken as a reliable measure of reasonable pure interest; for many years this rate has varied between three and four per cent. If no risks were present, that percentage would constitute a fair return on capital. Because almost all businesses bear some degree of risk—arising from fluctuations in raw‑material prices, variations in demand for finished goods, and the ordinary cycles of boom and depression—an additional return of two to three per cent is generally deemed necessary to compensate for those risks. Consequently, a total return of six per cent is ordinarily considered a fair return on paid‑up capital, with lower rates appropriate where risk is less and higher rates where risk is extraordinary.

In the Court’s view, a return of six per cent on the amount of paid‑up capital is ordinarily regarded as a fair rate of return on invested capital. The Court explained that where an industry involves a risk level considerably lower than the ordinary level, it would be appropriate to allow a rate below six per cent. Conversely, in an industry where the risk is markedly higher, a rate above six per cent would be reasonable. Accordingly, if the appellant company could demonstrate that its business was subject to unusually high risk, the Court would have a sound basis for granting a rate higher than six per cent on the paid‑up capital, and also a rate higher than four per cent on the reserves that function as working capital.

The Court, however, was not persuaded that the appellant’s business faced any such extraordinary risk. It observed that the speculation involved in purchasing raw nuts, roasting them, and selling the finished product is no greater than that inherent in buying raw cotton, spinning it into yarn, weaving cloth, and selling the cloth, or in buying raw jute, spinning yarn, weaving gunny cloth, and selling the finished material. The evidence, the Court held, failed to establish any case for a higher return on either the paid‑up capital or the working‑capital reserves. Moreover, the fact that the company’s agency operations required relatively little capital could not be used to justify a higher rate of return. The Court noted that when an agency business yields substantial profits with a modest capital base, the contribution of labour—both managerial and manual—is necessarily significant, and therefore no compensation to the entrepreneur for profit earned with limited capital is justified.

The discussion then turned to the appellant’s request for a rehabilitation allowance exceeding the amount awarded by the Tribunal. The company had claimed a rehabilitation allowance of £31,780, but the Tribunal had permitted only £9,112.50 as a reasonable sum covering both statutory depreciation and rehabilitation. To support its claim, the company submitted several statements prepared by persons presented as experts, which detailed the replacement value of the company’s buildings, machinery, furniture, and sundry plant—collectively constituting its fixed capital. These statements also provided estimates of the remaining useful life of each item. Additionally, the company engaged the services of a chartered accountant firm, and a statement prepared by that firm was placed on record, illustrating how the replacement figures for the various categories of assets had been calculated. According to Exhibit E‑50, the statement on which the company relied heavily, the total replacement value of its assets amounted to Rs 1,08,02,330, comprising Rs 77,86,350 for buildings, Rs 18,52,320 for plant and machinery, Rs 3,63,550 for furniture, and Rs 8,00,110 for sundry plant. The Court noted that the different items of buildings and machinery were categorized separately for the purposes of this calculation.

The expert divided the assets into separate groups according to when replacement would be required, based on the residual age of the assets. The periods considered were 1955‑60, 1960‑65, 1965‑70, 1970‑75, 1975‑80, 1980‑85, 1985‑90, 1990‑95, 1995‑2000, and 2000‑2005. The year 2005 was taken as the final year because the residual age was calculated from 1955 and the maximum residual age was fixed at fifty years. Exhibit E‑43 set out the detailed calculations showing how the sum of Rs. 77,86,335 was arrived at as the replacement cost of the buildings. Exhibit E‑46 contained a similar statement for the replacement costs of plant and machinery. Exhibit E‑29A demonstrated that, after taking reserves for rehabilitation for the different groups of buildings into account, the rehabilitation charge for the 1952‑53 season was worked out at Rs. 19,878 for buildings, while the rehabilitation charge for plant and machinery was worked out as Rs. 5,435. The same exhibit also gave the calculations for sundry plants and furniture, indicating rehabilitation costs of Rs. 4,744 for sundry plants and Rs. 1,723 for furniture in the year 1954‑55. The careful furnishing of these details inclined the Court, at first glance, to accept the correctness of the figures without extensive scrutiny. However, the Court emphasized that thorough scrutiny was still necessary before accepting the figures and calculations. It was noted that, although the witness responsible for preparing the replacement costs of the machinery claimed to have obtained quotations from different firms, no such quotations were placed on record, a shortfall that the Tribunal itself recognized as materially affecting the value of the figures. After acknowledging these infirmities, the Tribunal decided to accept, as a reasonably accurate statement, the figure of Rs. 1,08,02,330 as the total replacement value and therefore did not consider whether the Court itself would have accepted the evidence if it were the first instance. A more serious question arose as to whether the basis adopted by the appellant’s expert for calculating this sum as the replacement costs to be provided over the years, in applying the Full Bench Formula, could be accepted. The appellant’s expert had stated that the rehabilitation cost for any particular building was based on what would be required to construct a similar building if the existing building were demolished in 1955, and he applied the same methodology to machinery and other assets. The Tribunal, after accepting Rs. 1,08,02,330 as the correct replacement figure, deducted the amount it considered available in reserves for such rehabilitation and then divided the remaining balance by fifty, reasoning that the buildings and machinery would last fifty years if replaced in 1955 by new ones. It was urged before this Court that the Tribunal erred in dividing the sum in this manner.

In the Court’s view, the amount that was obtained after dividing the total sum required to be provided by fifty was not appropriate because the figure of Rs 1,08,02,330 itself had been derived on the basis of the amounts that would have been necessary for the different groups of buildings, and the sums to be provided in 1954‑55 for all those groups should have been accepted as shown in Exhibit E‑29A. The Court considered that this method of calculating the rehabilitation costs to be provided in a particular year was not useful and could not be reliably depended upon. To explain why the method was flawed, the Court briefly set out the logic behind the provisions for rehabilitation. Since the fixed capital of any industry gradually deteriorates, a prudent businessman creates reserves out of his profits so that, when any portion of the fixed capital becomes too deteriorated for efficient operation, it can be replaced. The economic welfare of the country as a whole, as well as the interests of the businessman, require that the company’s capital fund remain intact. For this reason, an amount that is reasonably sufficient for the notional rehabilitation requirement during the relevant year is deducted as a prior charge when ascertaining surplus profits from which a bonus may be paid. The basis of the prior charge assumes that rehabilitation is a continuing process and therefore needs an allotment each year. Consequently, it has been held that if the amount allotted for a specific year is not used, it should be taken into account in a later year. This principle has been recognized in the Full Bench Formula and has received authoritative endorsement from this Court in numerous decisions, including the Associated Cement Company’s case. That case highlighted that the replacement value should be calculated on the basis of what would be required to replace the fixed assets at the date when replacement becomes due. One way to determine that value is to multiply the original cost by a factor reflecting the expected rise or fall in prices at the replacement date. After ascertaining the replacement cost, the amount already lying in reserves for that purpose must be deducted, and then the period over which the balance must be found is considered. While there will undoubtedly be difficulties in estimating replacement costs in this manner, such difficulties do not justify an oversimplified approach that assumes the replacement cost at the future date will be the same as the present cost. If prices were to fall in the meantime, an excess amount would have been set aside for rehabilitation; if prices rise only modestly, the amount set aside would be insufficient. Buildings, which form a large portion of the appellant’s assets, illustrate this point because by the time some of these buildings need replacement, the cost of construction may have fallen due to more efficient production of cement and steel in the country. Similarly, the price of machinery in later years may be lower because such machinery could be manufactured domestically. The layman’s belief that prices only rise and never fall cannot be accepted as a correct basis for calculating future replacement costs. The entire calculation of replacement cost by the appellant’s experts was based on the assumption that the costs would be those required if the building were demolished or the machinery scrapped in 1955 and replaced at that time. Therefore, the expert’s estimate of replacement cost cannot be accepted as a reliable basis for calculating the rehabilitation costs to be provided, and the Court saw no need to pursue the matter further.

In the case of the appellant company, it was observed that by the time some of its buildings required replacement, the cost of construction might actually be lower than the present cost. This possible reduction could result from more efficient production of cement and steel within the country. Likewise, the price of machinery several years later might also be less than today’s price because such machinery could be manufactured domestically. The Court rejected the lay‑person’s belief that prices only ever rise and never fall as a proper basis for calculating future replacement cost. The appellant’s experts had based their calculation on the amount that would be needed if the building were demolished or the machinery scrapped in 1955 and replaced at that time. Consequently, their estimate of replacement cost could not be accepted as a definitive basis for determining the amount of rehabilitation costs that should be set aside.

The Court therefore deemed it unnecessary to examine further whether the Tribunal was correct in treating the sum of £20,000 together with the sum of £44,760 as amounts available for rehabilitation. Nonetheless, the Court indicated that, had the issue been pursued, it would probably have hesitated to hold that those sums were in fact unavailable for rehabilitation. A strict reading of the evidence led the Court to conclude that the appellant company failed to establish any claim for a rehabilitation allowance beyond the ordinary depreciation provision. Since the respondent’s counsel did not contest the correctness of the £11,250 allowance that the Tribunal had assessed as covering both statutory depreciation and rehabilitation, the Court found it appropriate to apply the prescribed formula using that combined amount.

The remaining dispute concerned the quantity of reserves that had actually been utilised as working capital. The Tribunal had disallowed two items that the company had claimed as reserves used for working capital. The first disallowed item was a sum of £209,339 that appeared in the balance‑sheet as a provision for tax liability. The second disallowed item was £8,250 recorded as a provision for a proposed dividend on deferred ordinary shares. The Tribunal held that the company had not demonstrated that these amounts had truly been employed in the business. The appellant argued before the Court that a simple inspection of the balance‑sheet should be sufficient to convince any observer that those amounts had indeed been used as working capital. It was emphasized that when the balance‑sheets were produced as evidence through the company’s officer, no challenge was raised to the accuracy of the statements made in them during cross‑examination. Although no direct objection was made to the correctness of the figures concerning the various assets shown in the balance‑sheets, it was important to notice that the

In the proceedings, the employer’s second witness, who had introduced the company’s balance‑sheets and profit and loss accounts, was cross‑examined about a material inconsistency between two financial statements. The balance‑sheet labelled Exhibit E‑8 recorded the bank overdraft as £1,95,990, whereas Exhibit E‑12 indicated that the overdraft in June 1955 amounted to 37‑5 lakhs, equivalent to £2,75,000. The difference between the two figures was roughly £80,000. The tribunal questioned the witness as to which of the two statements was correct, asking whether Exhibit E‑8 or Exhibit E‑12 represented the true overdraft figure. The witness replied that both figures were correct, and when further pressed to explain how this could be, he responded that he did not know. Although a satisfactory explanation for the disparity might have existed, the record contained no evidence to clarify the inconsistency. Because a prima facie discrepancy existed concerning such a vital financial number, the tribunal was justified in refusing to rely on the stated valuations of the various assets.

Another important observation was that the company itself had not asserted that the excess shown on the asset side, beyond the paid‑up capital, originated from its reserves. Exhibit E‑30, prepared by the company’s chartered accountant, displayed a reconciliation of working capital as of 30 June 1958. That reconciliation arrived at a working‑capital figure of £6,05,564 by deducting from the current assets shown in the balance‑sheet dated 30 June 1955 six of the nine items listed under “Current liabilities & provisions”. The three items that were not deducted comprised (1) a liability for taxation other than United Kingdom income tax, (2) a proposed dividend on deferred ordinary shares, and (3) capital profits on a proposed distribution. The logical reason for deducting the six items was that those liabilities and provisions would have to be satisfied during the year out of a portion of the current assets, thereby reducing the amount of assets available for working capital.

If the same reasoning applied to the six deducted items, the tribunal noted that there was no clear justification for treating the remaining three items differently. In the absence of any evidence that the liabilities for taxation other than UK income tax and the proposed dividend on deferred ordinary shares had been met from sources other than current assets, the tribunal found no basis to assume that those amounts were not also required to be settled from the current assets during the year. No evidence supporting the company’s claim was produced. Consequently, the tribunal correctly rejected the company’s contention that those three amounts should be treated as part of working capital.

Regarding other prior charges, there was no dispute. Applying the Full Bench Formula based on the various findings, and after subtracting the bonus that the company had voluntarily paid, the tribunal determined that the company still retained a sum of £55,137, which could be used for further payments.

When the Tribunal examined how much of the amount of pound 956,137 could be reasonably paid as an additional bonus to the workmen who had raised the dispute, it was required to address the submission made on behalf of the appellant‑company that it would be inequitable to disregard the contribution of a further eleven thousand two hundred forty‑seven workmen in generating the surplus. The appellant asserted that the workmen who had instituted the present claim should not be permitted to obtain a greater advantage than the many other employees of the enterprise, and that, just as the results of the various branches of the company had been aggregated to determine the total surplus, it would be just and proper to allocate to the disputing workmen only a proportionate share of that surplus that could fairly be regarded as payable to all the workmen of the company. In response to this issue the Tribunal observed that “but the fortune of the eleven thousand two hundred forty‑seven workers depends upon the trading results of the department in which they are working; the bonus of the workers is decided compartment‑wise and not on the basis of the overall profits of the company. Cashew workers are given bonus on the basis of the cashew department profits and not on the basis of the total profits of the company. The staff members are transferable from one department to another and from one branch to another branch.” The Court noted difficulty in reconciling the manner in which the company’s balance sheets and profit‑and‑loss accounts were prepared with the proposition that separate departmental treatment could be applied for bonus purposes. It observed that the mere fact that the company had adopted such a method of distribution did not, in itself, render the distribution lawful. The Court further pointed out that if cashew workers were, in fact, entitled to a larger bonus based on the overall performance of the company, they would have been unjustly deprived of such a bonus by being limited to a calculation based solely on the profits of the cashew department. The appellant argued that the reduced bonuses received by workmen other than those presently before the Tribunal could not be used to justify granting a larger share to the current workmen beyond what they would be entitled to if all workers had received a fair share. The Court referred to a comparable situation decided in Indian Hume Pipe Co. v. Their Workmen, where the respondents were workmen of a single factory, while the appellant had paid varying bonus percentages ranging from four to twenty‑nine per cent of basic wages to workmen in other factories. It was established that a sum of rupees one hundred twenty‑three thousand one hundred thirty‑eight had been paid in full and final settlement to workmen in certain factories, and that calculating bonuses on an all‑India basis would have produced a different outcome.

In the case before the Tribunal, the respondents argued that the calculation of bonus should be adjusted to reflect the savings achieved by the appellant. The savings, they said, arose because the amount that the workmen were entitled to under the all‑India figures adopted by the Tribunal was greater than the amount actually paid to them through agreements, conciliation or adjudication. Accordingly, the respondents submitted that the bonus computation ought to be reduced by the amount of those savings. The Court examined this contention and rejected it. The Court explained that accepting the respondents’ view would give those workmen an advantage over other employees with whom settlements had already been reached, allowing them to receive a larger bonus simply because the appellant had settled other claims at lower rates. The Court further observed that extending the respondents’ argument to its logical conclusion would mean that any savings resulting from the appellant’s failure to fulfil the conditions imposed by the Tribunal would automatically become available to the respondents, increasing their bonus entitlement. Such an outcome, the Court noted, would be unrelated to the respondents’ contribution to the gross profits of the appellant and would be based on extraneous factors. Consequently, the Court affirmed that the Tribunal was correct in applying an all‑India basis for calculating the bonus.

Although the present matter did not involve any settlement with workers in other branches, the Court held that the principles articulated in the earlier case were fully applicable. The Tribunal was therefore found to have erred by treating the sum that remained in the company's possession as a matter solely between the company and the present claimants. In determining the appropriate relief for the appellant company, the Court identified two additional errors made by the Tribunal in favour of the appellant. First, the Tribunal failed to consider that a sum of at least pound 1,10,000 had been capitalised out of the reserves at the beginning of the financial year when distributing the surplus. Second, the Tribunal overlooked the fact that, after paying eight months’ bonus, the employer retained a balance of pound 34,397, but also stood to receive a substantial income‑tax rebate on the bonus paid to its clerical staff. The Court indicated that these omissions were material and needed to be taken into account when assessing the distribution of the remaining amount.

Having taken all of the relevant facts into consideration, the Court expressed the opinion that a fair order required granting the employees a bonus equal to three months’ basic wages. The Court further noted that this bonus should be paid in addition to any amount that the company had already paid voluntarily to the staff. Accordingly, the Court allowed the appeal in part and modified the award originally made by the Industrial Tribunal. The modification directed that the staff of M/s. Peirce Leslie Co., Ltd. receive a bonus equivalent to three months’ basic wages, on top of the amount already voluntarily paid by the company. The Court ordered that no costs be awarded to either party. Thus, the appeal was partly allowed. In reaching this determination, the Court balanced the company's residual surplus against the legitimate entitlement of the workmen to a fair share of the bonus pool. The Court concluded that the earlier omission of the capitalised reserve and the tax rebate had resulted in an under‑payment to the staff. By ordering the additional three‑month bonus, the Court aimed to rectify the shortfall and ensure equitable treatment of the employees. No further monetary costs were awarded, indicating that each party would bear its own expenses.