Home » Between The Lines » NCLT Chennai: Creditors having vested interest in corporate debtor should not be a part of the committee of creditors

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Mr. Arpit Sinhal
Ms. Batul Barodawala
Mr. Mahim Sharma
Mr. Drushan Engineer
Mr. Atul Kumar Singh

All provisions cited in this case analysis, unless specified otherwise, refer to the provisions of the Insolvency and Bankruptcy Code, 2016 (“Code”).

The National Company Law Tribunal (“NCLT”), Chennai in the case of M/s. Asset Reconstruction Company (India) Limited v. Mr. Gopal Krishna Raju and Others (decided on March 5, 2019), on the basis of a business arrangement between the corporate debtor and certain unsecured creditors, laid down that such creditors would be disqualified from participating in the committee of creditors.

M/s. Anandram Developers Private Limited (“Corporate Debtor”) had taken a loan from two financial institutions namely Indian Overseas Bank and Oriental Bank of Commerce. The loans were assigned by the said banks to M/s. Asset Reconstruction Company (India) Limited (“Applicant”).

On June 6, 2018, corporate insolvency resolution process (“CIRP”) was initiated against the Corporate Debtor and Mr. Gopal Krishna Raju was appointed as the interim resolution professional (“Respondent 1”). Respondent 1 sent out a public announcement and called for claims, following which the Applicant filed a claim as a financial creditor. On receipt of the claims, Respondent 1 constituted the committee of creditors (“CoC”) and sent out a notice for convening the first CoC meeting. From the notice, the Applicant discovered that M/s. Jayapushpam Investments and Trading Private Limited (“Respondent 2”), M/s. JDA Consultancy Private Limited (“Respondent 3”) (Respondent 2 and Respondent 3 are collectively referred to as “Claimants”), and M/s. Anand Cine Services Private Limited had also submitted their claims as financial creditors. M/s. Anand Cine Services Private Limited was categorized by Respondent 1 as related party under Section 5(24)(a) and hence, was not allowed any right of representation, participation or voting in the CoC, as stated in proviso to Section 21(2).

Following this, the Applicant sent an e-mail to the Respondent 1 asking for the details of claims submitted by Claimants, which the Respondent 1 made available to the Applicant only after the first CoC meeting was convened. The Applicant, on perusal of the claims, found that the claims of the Claimants were based on alleged assignment of debts of unsecured loans by parties who fall under the category of “related party” under Section 5 and hence, even the Claimants must have been prohibited from participating or voting in the CoC as under proviso to Section 21(2). Respondent 1, however, admitted the claims of the Claimants and included them in the CoC.

Based on this knowledge, the Applicant filed a petition in the NCLT, Chennai which passed an order directing the Respondent 1 to resolve the issue raised by the Applicant within 3 weeks. Ignoring this, the Respondent 1 conducted two CoC meetings and in the third meeting, the Respondent 1 circulated an information memorandum which showed debt due from related parties as NIL, which was contrary to the Respondent 1’s decision of categorizing M/s. Anand Cine Services Private Limited as related party. Aggrieved by the conduct of the Respondent 1, the Applicant filed the present application before the NCLT, Chennai.

Whether the Claimants are related parties of the Corporate Debtor as under proviso to Section 21(2) read with Section 5(24)?

Relevant provisions
For ease of reference, Section 5(24)(a) and Section 21(2) of the Code involving related party are reproduced below:

“5. Definitions. –
In this Part, unless context otherwise requires,-
(24) “related party” in relation to a corporate debtor, means-

(a) a director or a partner of the corporate debtor or a relative of a director or partner of the corporate debtor;”

“21. Committee of creditors. –

(2) The committee of creditors shall comprise all financial creditors of the corporate debtor:
Provided that a financial creditor or the authorised representative of the financial creditor referred to in sub-section (6) or sub-section (6A) or sub-section (5) of section 24, if it is a related party of the corporate debtor, shall not have any right of representation, participation or voting in a meeting of the committee of creditors….”

The Applicant submitted that the Claimants were camouflaged as financial creditors based on documents which were created for the purpose of such claims. It was argued that the Claimants were related parties to the Corporate Debtor. The basis for this was twofold. First being that the original unsecured creditors (assignors) would be hit by the related party transactions (being suspended directors and shareholders of the Corporate Debtor) and therefore the Claimants being assignees cannot have a better title. Second being that the Claimants were a part of a project under which land belonging to the Claimants was being developed by the Corporate Debtor. A joint development agreement (“JDA”) was executed between the parties whereby post the development, certain plots would be allotted to the Claimants. It was argued that the assignment agreements were entered into between the related party individuals and interested parties in order to secure the recoverability of the amounts in the hands of the interested parties, since they also owned a share of the property. Hence, the Claimants were in the position to influence the decision making in their capacity as business partners in developing the property who have a bearing on the activities of the Corporate Debtor. In view of the same, they are liable to be declared as related parties.

Respondent 2 pleaded that the Claimants were not related parties under Section 5(24). It argued that the stand of the Applicant was based on the deeds of assignment between the suspended directors and the Claimants. The assignment took place in 2017, that is, prior to commencement of CIRP. The assignment was not challenged by the Applicant and what was challenged was the consequence of the assignment. In response to the argument that the Claimants fall under the purview of related parties, Respondent 2 referred to the case of Swiss Ribbons Private Limited v. Union of India (decided on January 25, 2019), wherein it was held by the Supreme Court that a person who can be directly connected as related party to the corporate debtor itself can only be termed as related party and not others. Thus, they stated that the assignees to the loan cannot be held as related party as they are not directly connected to the Corporate Debtor. They further referred to a National Company Law Appellate Tribunal judgement in the case of Edelweiss Asset Reconstruction Company Limited v. Synergies Dooray Automotive Limited (decided on December 14, 2018) and pointed out that assignee of a related party cannot be held as a related party and hence, they have the right to participate, represent and vote in the committee of creditors. The arguments of Respondent 3 too were on similar lines.

NCLT, Chennai after review of the deeds of assignment came to the conclusion that the elements of partnership between the suspended directors of the Corporate Debtor and the Claimants were clearly established in view of the JDA. The deeds of assignment were akin to assignments cum partnership deeds, which point out towards the JDA between the Claimants and the Corporate Debtor. Therefore, the relationship between the assignors, being the suspended directors/ertswhile shareholders of the Corporate Debtor, and the assignees, being the Claimants, is of a partnership for the purpose of the joint ownership and development of the land. Thus, the Claimants were in a position to influence the decision making in their capacity as business partners as owners of the property, who have a say in the activities of the Corporate Debtor, which falls within the purview of the definition of “related party” given under Section 5(24)(a). Further, the consideration for the assignors under the deeds of assignment was allotment of equity shares in the capital of the Respondent 2 which would clearly make Respondent 2 a related party to the Corporate Debtor.

The Claimants were held to be related parties of the Corporate Debtor and were barred from participating in the CoC.

Vaish Associates Advocates View
Section 5(24) and proviso to Section 21(2) were enacted to ensure that the corporate insolvency resolution process is not influenced by any party, who stands in an interested position as regards the corporate debtor. The decision of the NCLT, Chennai in this judgment, supports the intent of the legislature to keep the CoC independent. In the instant case, the NCLT, Chennai investigated into the past relationship of the assignor (related party) and the assignee (financial creditor) to conclude that the assignees were in a position to influence the decision making in their capacity as business partners of the Corporate Debtor and hence were considered as related parties to the Corporate Debtor.

However, the application of Section 5(24)(a) seems to be erroneous. Neither were the Claimants, directors or partners of the Corporate Debtor, nor were they relatives of a director or partner of the Corporate Debtor. Sub-section (h) of Section 5(24) which states that “any person on whose advice, directions or instructions, a director, partner or manager of the corporate debtor is accustomed to act” would have been an appropriate provision to determine the disqualification of the Claimants as related parties of the Corporate Debtor in this instance.

For more information please write to Mr. Bomi Daruwala at [email protected]