The Insolvency and Bankruptcy Code, 2016 (Code) was enacted with a view to consolidate and amend the laws relating to reorganization and insolvency resolution in a time-bound manner. The purpose of the Act was to maximize the value of assets, promote entrepreneurship, clear availability of credit and balance the interests of various stakeholders.
The Insolvency and Bankruptcy Code (“IBC”) has invited a lot of discussion during recent times, with numerous companies facing the wrath of the COVID-19 pandemic and the resulting financial challenges. Since the Code is still in its nascent stages of implementation, judicial pronouncements play a very important role in clarifying the legislative intent of the provisions of the Code, and the manner in which they are to be interpreted. We have summarized and captured herein, 5 significant insolvency judgments that we have come across in 2020.
The Supreme Court on 26th February 2020, decided on two main issues relating to third-party mortgage extended by the Corporate Debtor for a loan taken by its holding company, wherein the Corporate Debtor mortgaged its property for such borrowing. The two issues that came before the court were :
- Whether the Impugned Transactions were liable to be avoided, being preferential, undervalued, and fraudulent, under Section 43, 45, and 66 of the Code?
- Whether the creditors of the holding company will be treated as ‘financial creditors’ of the subsidiary on grounds of the securities provided for the facilities granted to the holding company?
The Supreme Court after carefully analyzing each provision of Section 43, stated that the intention of the parties is not important to determine whether the transaction is preferential and for clarity in the categorization of a transaction as preferential, the Apex Court identified five key requirements which need to be satisfied for a transaction to fall within its ambit.
Regarding the second question, the Supreme Court observed that there was no “direct nexus” between the Corporate Debtor and the lenders of the holding company.
The Supreme Court further held that, since the corporate debtor has given its property in mortgage to secure the debt of a third party (its holding company), it may fall within the definition of ‘debt’ as per section 3 (10) of the Code but it cannot partake the character of ‘financial debt’ within the meaning of section 5 (8) of the Code. Hence, the financial creditor of the holding will only be considered as a secured creditor of the corporate debtor (and not financial) as there was no direct financial assistance given to the CD on the time value of money. Though, it is clear from the basic understanding of the case, that the court has seemingly erred in its appreciation of the concepts of financial debt, financial creditor, and the secured creditor.
As per Section 8(1) IBC, an operational creditor may, on the occurrence of a default, deliver a demand notice of unpaid operational debtor, copy of an invoice demanding payment of the amount involved in the default to the corporate debtor in such form and manner as may be prescribed. After the expiry of the period of 10 days from the date of delivery of the notice or invoice demanding payment under sub-section (1) of section 8, if the operational creditor does not receive payment from the corporate debtor or notice of the dispute under subsection (2) of section 8, the operational creditor may file an application before the Adjudicating Authority for initiating a corporate insolvency resolution process [Section 9(1)]. After the application is accepted, the adjudicating authority shall initiate a corporate insolvency resolution process (CIRP), under Section 10 and shall thus proceed to appoint an Interim Resolution Professional under section 16 of the said Act.
In this case, the NCLAT allowed the Appeal filed against the impugned order passed by the Adjudicating Authority (NCLT) under section 9 and declared the appeal illegal, and set aside the order. The NCLAT observed that the object of the Code is maximizing the value of assets of the corporate debtor and to bring it out of insolvency, not the recovery of money. The Tribunal further observed that if there is a dispute as per relevant provisions of the Code, it is incumbent on the Adjudication Authority to reject the petition/application as per provisions under Section 9 of the Code. It has already been laid down by the Supreme Court of India in Mobilox Innovations Pvt. Ltd., vs. Kirusa Software Pvt. Ltd. that wherever there is the existence of a real dispute, the IBC provisions cannot be invoked. Since the Hon’ble Apex Court has clearly laid down the mechanism to be operated by Operational Creditor in terms of Section 8 & 9 of the Code, it is very clear that the undisputed debt is sine qua non of initiating CIRP as also the debt should be due and payable. The Tribunal held the appeal to be allowable, as the order of the adjudicating authority did not meet the criteria laid down by the Apex Court.
3. E. C. John vs. Jitender Kumar Jain :
Section 63 of the Insolvency and Bankruptcy Code, bars any suit or proceedings in a civil court or any other authority in any matter on which the National Company Law Tribunal or the National Company Law Appellate Tribunal has jurisdiction under this Code. As per section 60 of the Code, the Adjudicating Authority, in relation to any insolvency resolution and liquidation for corporate persons, including corporate debtors and personal guarantors thereof, shall be the National Company Law Tribunal having territorial jurisdiction over the place where the registered office of the corporate persons located.
Further, Section 238 of the Code grants IBC an overriding effect by insertion of a non-obstante clause and ensuring that provisions of the Code will continue to be in full force even if they are inconsistent with any other law of the country. It is also stated in section 231 of the Code, that no civil court shall have the jurisdiction in any matter where the Adjudicating Authority or the Board is empowered by, or under, this Code to pass any order and no injunction shall be granted by any court or other authority in respect of any action taken or to be taken in pursuance of any order passed by such Adjudicating Authority or the Board under this Code. Section 33 of the Code bars every suit or proceeding instituted against the Corporate debtor when a liquidation order has been passed.
In this case, NCLAT set aside the order of the NCLT and quashed the civil suit against the Corporate Debtor. The Tribunal further observed that, even though the filing of a civil suit is barred in terms of the code, the correct course for the liquidator is to approach the Court where the civil suit was pending and point out the pertinent provisions of law. Also, the NCLT should not quash the proceedings pending before the Court.
Section 61 of the Insolvency and Bankruptcy Code, 2016 provides for appeals from the National Company Law Tribunal (NCLT) to the National Company Law Appellate Tribunal (NCLAT). Similarly, Section 62 of IBC provides that an appeal from the order of National Company Law Appellate Tribunal on a question of law shall lie before the Supreme Court. Such appeal shall be filed within a period of 90 days. The issue of whether an application under Section 9 of the Code will be maintainable, in case of the pre-existing dispute was decided by the NCLAT in the present case. As per section 9 of IBC, the operational creditors of a company may initiate a corporate insolvency resolution process if a default has occurred.
An appeal was filed under Section 61 of IBC, to initiate the Corporate Insolvency Resolution Process (CIRP) against the respondent or corporate debtor for an outstanding amount of Rs 14 89,966. The NCLAT dismissed the Appeal against the NCLT order for rejecting the application filed under section 9 on the grounds of pre-existing dispute. The Tribunal observed that, since there was a dispute existing prior to the issuance of Section 8 notice and IBC is not intended to substitute a recovery forum, the insolvency provisions cannot be invoked. While dismissing the petition on merits, the NCLAT elucidated that :
”No one can take a recourse saying a judgment was not communicated to them as it is the duty of the counsel to keep a track of the status after the matter is reserved for pronouncement.”
It further held that non-communication of the judgment is not a valid ground for requesting condonation of delay.
Section 5(20) of the Code defines the operational debt as a claim in respect of the provisions of goods or services including employment or a debt in respect of the payment of dues arising under any law for the time being in force and payable to the Central Government, any State Government or any local authority.
In the present matter of Ravindranath Reddy, the Tribunal interpreted the scope of Operational debt with respect to the service sector. The issue that came before the Tribunal was –
Whether a landlord by providing lease, will be treated as providing services to the corporate debtor, and hence, an operational creditor within the meaning of Section 5(20) read with Section 5(21) of the Insolvency and Bankruptcy Code, 2016?
Unlike goods, services are intangible and a large part of the business industries is present in the service sector. Any sum of money is classified as an operational debt when the amount falls under the ambit of ”claim” as defined under Section 3(6) of the Code. Also, when such a claim falls within the confines of the definition of ”debt” under Section 3(11) of the Code, meaning it should be by way of a liability or obligation due from any person. Thirdly, when such a ”debt” strictly falls within the scope of ”operational debt” as provided in Section 5(21) of the Code, i.e. the claim should arise in respect of:
- provision of goods or services including employment; or
- a debt in respect of the repayment of dues arising under any law for the time being in force and payable to the Central Government, any State Government, or any local authority.
and if the claim does not fall under any of the three categories mentioned above, the claim cannot be classified as an operational debt.
The Indian Appellate Insolvency Tribunal, namely, the National Company Law Appellate Tribunal (NCLAT) held in the present case that, any debt arising without nexus to the direct input to the output produced or supplied by the corporate debtor, cannot, in the context of the IBC, be considered as an operational debt, even though it is a claim amounting to debt and therefore, lease of immovable property cannot be considered as a supply of goods or rendering of any services and thus, cannot fall within the definition of Operational Debt.
To know more on the Suspension of Insolvency Proceedings in India, SEBI’s stricter norms for Companies undergoing Insolvency, we recommend you read-
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