NCLAT: Majority shareholders of a company have the locus to challenge an admission of CIRP against the corporate debtor where the admission took place on account of collusion amongst the creditors

The National Company Law Appellate Tribunal (“NCLAT”), in the case of Ashish Gupta v. Delagua Health India Private Limited and Others [Company Appeal (AT) (Ins.) No. 17 of 2022], has held that majority shareholders of a company have the locus to challenge an admission of corporate insolvency resolution process (“CIRP”) against the corporate debtor where the admission took place on account of collusion amongst the creditors of the corporate debtor.

Facts

Ashish Gupta (“Appellant”) was employed with Delagua Health India Private Limited (“Corporate Debtor/ Respondent No. 1”) with effect from February 11, 2014 as director of the Corporate Debtor and tendered his resignation on July 2, 2017 with immediate effect. He had not been paid salary for the period from January, 2016 till June, 2017 and submitted that the said operational debt of the Corporate Debtor fell due on June 30, 2017. Not having received the said payment, a demand notice was sent to the Corporate Debtor on June 15, 2019 (“Demand Notice”). An application under Section 9 (Application for initiation of corporate insolvency resolution process by operational creditor) of the Insolvency and Bankruptcy Code, 2016 (“IBC”) was filed after the Appellant did not receive any response from the Corporate Debtor (“Application”).

The National Company Law Tribunal, New Delhi (“Adjudicating Authority”), by the order dated October 11, 2021 (“Impugned Order”), rejected the Application. The present appeal was preferred by the Appellant under Section 61 (Appeals and Appellate Authority) of the IBC against the Impugned Order.

Issues

• Whether the Application filed before the Adjudicating Authority was a collusive petition.
• Whether, in the given facts and circumstances of the present case, Delgua Health Limited (Grand Bahamas) (“Respondent No. 2”) and Delgua Water Testing Limited (“Respondent No. 3”) as shareholders are entitled to defend the interests of Respondent no.1.
• Whether there is any pre-existing dispute surrounding the operational debt.

Arguments

Contentions of the Appellant:

The Appellant contended that the Demand Notice was addressed by the Appellant to the Corporate Debtor at its registered office address, as mentioned in the company master data. Further, proof of service of the Demand Notice was provided.

In response to the contentions of the Respondents that the Appellant was in control of the registered office address and the official e-mail ID of the Corporate Debtor, the Appellant had stated that he had taken efforts to delete his name and e-mail address from the company master data besides taking initiative for a new board of the Corporate Debtor by calling extraordinary meeting of the Corporate Debtor in 2018 but was not allowed to do so by the majority shareholders.

The Appellant contended that the Corporate Debtor did not appear before the Adjudicating Authority. Instead, Respondent No. 2 and Respondent No. 3, together holding 98.98% shareholding of the Corporate Debtor, subsequently filed an intervening application though they did not have any locus in the matter. The Adjudicating Authority on October 11, 2021 wrongly proceeded to dismiss the Application by holding it to be a collusive petition without giving any reasons.

The Appellant contended that since the Demand Notice had been sent at the registered office address of the Corporate Debtor, as mentioned in the company master data, there was no infirmity in the service of the Demand Notice.

It was also the contention of the Appellant that the consultancy agreement dated November 4, 2013 (“Consultancy Agreement”) being referred to by the Respondents was superseded by an employment agreement dated August 1, 2014 (“Employment Agreement”) and since the dues arose from the Employment Agreement, only the Employment Agreement was mentioned in the Application. Thus, there was no attempt on the part of the Appellant to suppress the Consultancy Agreement and that it was the Respondents who were misleading the NCLAT by making a mention of the Consultancy Agreement which has been superseded by the Employment Agreement.

Further, with respect to the contention of the Respondents that the Appellant had violated the clauses of the Consultancy Agreement pertaining to non-compete, the Appellant contended that Caya Constructs (“Caya”) and the Corporate Debtor are in different businesses hence clauses 9.1 and 9.2 of the Consultancy Agreement was not attracted and there was no violation of the Consultancy Agreement.

Contentions of the Respondents:

The Respondent No. 2 and Respondent No. 3 submitted that the Appellant and Respondent No. 2 had signed the Consultancy Agreement on November 4, 2013 by virtue of which the Appellant had agreed to provide certain services to Respondent No. 2 to assist them in setting up an entity in India and for overseeing its operations. However, this fact had not been deliberately disclosed by the Appellant before the Adjudicating Authority. The Corporate Debtor had been subsequently incorporated on February 11, 2014. Post incorporation of the Corporate Debtor, the Appellant along with one Mr. K.K. Vashishtha (“KKV”) were appointed as directors of the Corporate Debtor and thereafter their fees/ remuneration was paid directly by the Corporate Debtor. Both the Appellant and KKV resigned from the directorship of the Corporate Debtor with effect from July 2, 2017 without sending proper intimation to the shareholders of the Corporate Debtor. The abrupt resignation of both directors had caused a void in the board of the Corporate Debtor. Further, because of the said void on the board, the Appellant continued to remain in control of all modes of communications in respect of Corporate Debtor and hence by design ensured that the Demand Notice never actually got served upon the Corporate Debtor. In this way, the Appellant intentionally and deliberately shut the opportunity for the Corporate Debtor to respond to the Demand Notice.

Furthermore, though the Appellant and KKV had submitted their respective resignations on the same day and the Appellant had full knowledge of the resignation of KKV, he acted in collusion with KKV and chose to serve the Demand Notice upon KKV with an ulterior motive. KKV, even though he had already resigned as director of the Corporate Debtor, presented himself before the Adjudicating Authority on behalf of Corporate Debtor and unauthorisedly expressed inability to pay the amount claimed by the Appellant in the Demand Notice during the hearing of the Application. The Adjudicating Authority, having observed this act of connivance between the Appellant and KKV, correctly dismissed the petition as collusive.

It was further argued by the Respondents that the Corporate Debtor having been denied opportunity to respond to the collusive Demand Notice or to defend their interests before the Adjudicating Authority in the context of the Application, Respondent No. 2 and Respondent No. 3 had filed an intervention application before the Adjudicating Authority. It was strenuously contended that as the Corporate Debtor being a subsidiary of Respondent No. 2, they were fully entitled to file the intervention application to protect the interest of the shareholders of the Corporate Debtor.

It was submitted by Respondent No. 2 and Respondent No. 3 that the Appellant had deliberately withheld information from the Adjudicating Authority about the Consultancy Agreement which had been signed between the Appellant and Respondent No. 2 on November 4, 2013. The Respondents further submitted that this Consultancy Agreement was placed on record much later by the Appellant and that too only after directions were issued on September 6, 2019 by the Adjudicating Authority to produce the original documents. It was also contended that the Consultancy Agreement constituted the basis of relationship between the Appellant and the Corporate Debtor and that it continued to subsist.

The Respondents submitted that clause 9.1 of the Consultancy Agreement stipulated that without the prior written consent of the Corporate Debtor, the consultant could not accept any engagement or employment or have any concern in any business which is similar to or in any way competitive with any of the businesses of the company or any group company. The Appellant while still serving as consultant with Corporate Debtor started engaging himself in the activities of a competing entity, Caya, thus, breaching the terms of the Consultancy Agreement and causing loss to the business of the Corporate Debtor. Furthermore, the Appellant had made excess withdrawals from the accounts of the Corporate Debtor. Pointing out at these pre-existing disputes, it was submitted that the Application is not maintainable.

Observations of the NCLAT

With respect to issue nos. 1 and 2, the NCLAT observed that on the date of issue of the Demand Notice, the Appellant having admitted that both KKV and he had already tendered their respective resignations from the position of director of the Corporate Debtor with effect from July 2, 2017, it defied logic as to why the Appellant sent the Demand Notice at the given address at a time when the board of Corporate Debtor had ceased to exist. Further, the other copy of the Demand Notice has admittedly been addressed to KKV who at that point of time had also resigned from the position of director of the Corporate Debtor. The Appellant in spite of having full knowledge of the fact that KKV had already resigned, yet, addressed the Demand Notice to him which puts question marks on the intention of the Appellant.

Furthermore, the NCLAT observed that when the Application was filed before the Adjudicating Authority, at which time KKV had already resigned as a director, he still appeared before the Adjudicating Authority, not only recording his presence but also making a statement expressing inability on the part of the Corporate Debtor to pay the amount claimed by the Appellant. In view of the above, the NCLAT stated that the Appellant had connived with KKV to manipulate the Section 9 proceedings in his favour by making KKV unauthorisedly represent on behalf of the Corporate Debtor.

With respect to the contention of the Appellant that intervention on part of shareholders is not permissible, the NCLAT stated that, in view of the peculiar circumstances of the case where the Demand Notice could not be responded to by the Corporate Debtor for reasons beyond their control and a collusive petition having been filed, Respondent No. 2 and Respondent No. 3, being majority shareholders of the Corporate Debtor deserved to be heard in the interest of justice. Hence, the NCLAT held that present appeal deserved to be considered on merit.

With respect to issue no. 3, the NCLAT observed that it was an admitted fact by both parties that the Consultancy Agreement is dated November 4, 2013 while the Employment Agreement is dated August 1, 2014. The Appellant was appointed as director in the Corporate Debtor on February 11, 2014 which was before the Employment Agreement was signed. Based on the chronological sequencing of the two agreements, it was the contention of the Appellant that the Employment Agreement supersedes the terms and conditions of the Consultancy Agreement. However, the Respondents had questioned the validity of the Employment Agreement since it was a document signed only between the Appellant and KKV. The Corporate Debtor or the shareholders or their authorised representatives do not figure anywhere in the document as signatories and therefore was not binding on them. It had also been submitted that the Employment Agreement was not a registered document and hence legally untenable. On the other hand, the Consultancy Agreement was signed between the Appellant and Respondent No. 2.

The NCLAT was of the considered view that given the framework of Section 9 of IBC, the remit of the tribunal is summary in nature and it therefore does not behove the tribunal to undertake either the comparative examination of the areas of specialisation of Caya and the Corporate Debtor. All that the NCLAT observed at this stage is that a dispute centring on breach of fiduciary duty by the Appellant in the context of Consultancy Agreement has been raised by the Respondents as their defence against the claim of the Appellant which is evidenced from the material placed on record.

Hence, in the light of the submissions and pleadings made by Respondent No. 2 and Respondent No. 3 and after seeing the material on record, NCLAT was satisfied that dispute raised on behalf of the Corporate Debtor is not a moonshine dispute or a bluster. In respect of issue no. 3, the NCLAT answered in the affirmative.

Decision of the NCLAT

The NCLAT held that the Adjudicating Authority had not committed any mistake in observing that the Application was collusive and dismissed it on the same grounds.

VA View:

The NCLAT has upheld the spirit of the IBC and protected the interests of stakeholders involved by preventing an unjust admission of a company into CIRP. In cases of collusion such as the above, it is important to look at the circumstances surrounding the facts in order to unveil the true picture which is falsely portrayed by the creditors.

It is a well settled canon of natural justice that anything which eludes or frustrates the recipient of justice should be avoided and reasonable opportunity of hearing be allowed to advance the cause of justice. By taking cognizance of the apparent dispute in existence, the NCLAT has also protected the interests of the shareholders of the Corporate Debtor, namely Respondent No. 2 and Respondent No. 3 and adhered to this well settled position of law and equity.

For any query, please write to Mr. Bomi Daruwala at [email protected]

Delhi High Court: Arbitrator has no jurisdiction to set aside sale notice issued by secured creditor under Section 13(4) of the SARFAESI Act

The High Court of Delhi (“High Court”) has, by a common judgement dated February 21, 2023, in a batch of appeals namely, Arb. Appeal (Comm.) No. 36 of 2022, Arb. Appeal (Comm.) No. 37 of 2022 and Arb. Appeal (Comm.) No. 38 of 2022 (“Arbitration Appeals”) arising under Section 37(2)(b) (Appealable orders) of the Arbitration and Conciliation Act, 1996 (“Arbitration Act”), filed by Indiabulls Housing Finance Limited (“Indiabulls”) and Edelweiss Asset Reconstruction Company Limited (“Appellants”) against Shipra Estate Limited, Shipra Hotels Limited and Shipra Leasing Private Limited (“Respondents”) respectively, held that arbitrator has no jurisdiction to set aside sale notice issued by secured creditor under Section 13(4) (Enforcement of security interest) of the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (“SARFAESI Act”).

Facts

In an arbitration proceeding involving the above-mentioned parties, the Learned Arbitrator, by an order dated June 11, 2022 (“Impugned Order”), had set-aside a sale notice dated April 29, 2022 issued by Indiabulls (“Sale Notice”) under Section 13(4) of the SARFAESI Act read with the Security Interest (Enforcement) Rules, 2002 (“SARFAESI Rules”) seeking enforcement of their “security interest” in the secured asset being Shipra Mall, Ghaziabad (“Mall Asset”). In view of the aforesaid order dated June 11, 2022, Arbitration Appeals arose before the High Court and were disposed of by order dated July 8, 2022. Thereafter, in view of the Learned Arbitrator reiterating his previous order dated June 11, 2022, the aforesaid proceedings were sought to be revived by the Appellants by way of filing of applications, namely, I.A. No. 14180 of 2022, 14179 of 2022 and 14181 of 2022. In view thereof, the High Court allowed the aforesaid applications and was pleased to take on record the Arbitration Appeals.

Subsequently, by an order dated August 30, 2022, the Learned Arbitrator clarified that the Impugned Order continues to apply, thereby prohibiting enforcement of security interest in the Mall Asset and restraining Indiabulls from confirming the sale of the Mall Asset.

In view of the above-mentioned, the Appellants approached the High Court, challenging the Impugned Order.

Issues

• Whether the Learned Arbitrator was within his powers to interdict and set aside the Sale Notice.
• Whether the Learned Arbitrator could have curtailed the rights of a secured creditor in relation to a security interest created under the SARFAESI Act, being a special statute, in relation to which the Respondents have a specific remedy under Section 17 (Application against measures to recover secured debts) of the SARFAESI Act, before the Debts Recovery Tribunal.

Arguments

Contentions raised by the Appellants:

It was contended by the Appellant that by restraining Indiabulls from confirming sale of the Mall Asset, the Learned Arbitrator has exceeded his jurisdiction and stepped into the domain of the Debts Recovery Tribunal, which is exclusively empowered to decide on the legal issues pertaining to enforcement of security interest under the SARFAESI Act. Further, the Appellant relied upon the judgment of the Supreme Court in the matter of Vidya Drolia and Others v. Durga Trading Corporation [(2021) 2 SCC 1] (“Vidya Drolia Judgment”), wherein it is held that the matters falling within the purview of SARFAESI Act are non-arbitrable. In order to substantiate the contentions, Indiabulls submitted that they are a “financial institution” and a “secured creditor” within the meaning of Section 2(m) and 2(zd) of the SARFAESI Act qua the Respondents, who are covered within the meaning of “borrower” in terms of Section 2(f) of the SARFAESI Act and a “security interest” has been created in favour of the Mall Asset, in terms of Section 2(zf) and Section 2(zc) of the SARFAESI Act.

Further, it was contended that Indiabulls is legally empowered to enforce its security interest over the secured asset as per Section 13(4) of the SARFAESI Act, thereby taking possession of the Mall Asset and giving effect to sale of the Mall Asset as per the terms stipulated under Rule 8 of the SARFAESI Rules.

The Appellants further contended that legal remedy against enforcement of secured asset by the secured creditor lies before the Debts Recovery Tribunal under Section 17 of the SARFAESI Act. The Appellant relied upon various judicial pronouncements in order to substantiate the aforesaid contention that, when an efficacious remedy is available to the aggrieved borrower exclusively before the Debts Recovery Tribunal, even the High Court cannot exercise extraordinary writ jurisdiction to entertain a challenge to a sale notice issued under Section 13(4) of the SARFAESI Act. Similarly, by virtue of Section 34 (Civil court not to have jurisdiction) of the SARFAESI Act, even Civil Courts are barred from entertaining any challenge to the legality of enforcement of security interest.

It was further argued that enforcement of a ‘mortgage’, which is a right in rem, cannot be decided by an arbitral tribunal. Further, it was contended that since remedy against enforcement of security interest exists under SARFAESI Act being a special statute, the Arbitration Act cannot over-ride such special remedy, and hence, the “doctrine of election” is not applicable in the present case.

Contentions raised by the Respondents:

It was contended on behalf of the Respondents that the Learned Arbitrator was well within his jurisdiction and has not entered into the domain of SARFAESI Act. The Respondent further submitted that the Learned Arbitrator was empowered to pass such orders which were necessary to preserve the asset, which is the subject-matter of arbitration by way of interim measure of protection, so that the arbitral proceedings are not rendered infructuous. Further, the Respondents contended that the Learned Arbitrator had only prohibited Indiabulls, being the respondent party in the Arbitration proceeding, from confirming the sale of the Mall Asset, through subsequent auction proceedings, without impeding their right to issue sale notice or call for bids.

Further, it was submitted that once the parties had chosen to refer the dispute to arbitration and submit themselves before the Learned Arbitrator, the Appellant in the present Arbitration Appeal have by implication, waived their right to file a civil suit or to adopt remedies under the SARFAESI Act.

Further, the Respondent made an attempt to demonstrate that the Vidya Drolia Judgment is factually distinguishable from the present case. More particularly, it was contended that Vidya Drolia Judgment has been pronounced in the context of rent control legislation and has no relation to SARFAESI Act.

Further, the Respondents sought reliance upon the principle of “doctrine of election”, thereby submitting that if there exist remedies under two statutes, a party is free to elect any one of them. In the context of the present case, it was argued that once the parties to the dispute had elected to resolve their disputes under the Arbitration Act, remedies under SARFAESI Act would no more be available to them.

Observations of the High Court

At the outset, the High Court made it clear that by way of the present judgment, the High Court does not propose to decide on the arbitrability or non-arbitrability of matters covered under SARFAESI Act at large, since the same would depend upon the nature of the dispute and other factors.

In the present case, the High Court relied upon the Vidya Drolia Judgment, and came to the finding that since Section 13(4) of the SARFAESI Act provides for a specific right vested in the secured creditor to enforce security interest, by issuance of sale notice, the aforesaid right cannot be ousted by an order passed by an arbitral tribunal. Further, the High Court observed that the remedy available to the borrower aggrieved by enforcement of security interest at the behest of the secured creditor lies before the Debts Recovery Tribunal under Section 17 of the SARFEASI Act. In view of the above-mentioned, the High Court observed that the “doctrine of election” is not applicable in the present case, since the question of choice does not arise. It was further observed that the question of remedy under the Arbitration Act as an alternative to a proceeding before the Debts Recovery Tribunal does not arise, since there is no inconsistency or repugnancy before the provisions of the SARFAESI Act and the Recovery of Debts and Bankruptcy Act, 1993 on the one hand and the Arbitration Act on the other hand.

Further, the High Court observed that the challenge to a sale notice issued under Section 13(4) of the SARFAESI Act is non-arbitrable and hence, the Learned Arbitrator had no discretion or jurisdiction to pass any order in this regard. Therefore, grant of an interim measure under Section 17 of the Arbitration Act, which is wholly outside the scope of arbitration, cannot be permitted. Thus, the High Court observed that it is empowered under Section 37(2)(b) of the Arbitration Act to interfere in the Impugned Orders.

Decision of the High Court

In view of the aforesaid observations and precedents, the High Court held that the Learned Arbitrator clearly exceeded his powers and jurisdiction in interdicting and setting aside sale notices issued by Indiabulls. Accordingly, the High Court was pleased to set aside the aforesaid orders.

VA View:

By way of the present judgment, the High Court has answered a pertinent question of law and clarified the legal position that in the event of the borrower being aggrieved by enforcement of security interest by the secured creditor, the remedy would exclusively lie before the Debts Recovery Tribunal under Section 17 of the SARFAESI Act and no other forum including arbitral tribunal can step into the unchartered territory of SARFAESI regime, for which purpose, only the Debts Recovery Tribunal was empowered to grant appropriate relief(s).

This judgment is relevant, particularly for the reason that it reiterates the exclusivity of jurisdiction and powers vested with the Debts Recovery Tribunal in matters falling within the domain of SARFAESI Act (which is a special statute) and makes it clear that even an arbitral tribunal, whilst deciding an application seeking interim reliefs, cannot grant such interim measures, which are supposed to be adjudicated upon by the Debts Recovery Tribunal.

For any query, please write to Mr. Bomi Daruwala at [email protected]

The Rise of ESG Investing in India: What it Means for Corporations

Environmental, social, and governance (“ESG”) investing is rapidly gaining popularity in India, as investors are becoming more conscious of the impact their investments can have on the environment, society, and other stakeholders of companies. ESG investing focuses on companies that have strong ESG practices. Such companies are considered to be more sustainable and are likely to be more profitable in the long run.

Due to its increasing relevance, Indian corporations are facing increasing pressure to disclose information about their ESG performance and to meet certain performance standards. The Government of India (“GoI”) has been working on creating a framework to encourage more companies to adopt ESG practices. The Ministry of Corporate Affairs has issued a draft National Action Plan on Corporate Social Responsibility (“CSR”), which aims to promote sustainable and inclusive growth by mandating companies to undertake CSR activities. GoI has also launched various schemes like ‘Swachh Bharat Abhiyan’ and ‘Make in India’ to promote sustainable practices and inclusive growth in the country.

The Securities and Exchange Board of India (“SEBI”) under its Business Responsibility and Sustainability Reporting (“BRSR”) mandate has issued guidelines and the companies listed on Indian stock exchanges are now required to disclose their ESG performance in the annual reports. This move is aimed at increasing transparency and encouraging companies to adopt sustainable practices. Companies that fail to meet these standards may be at risk of reputational damage and potential financial penalties.

The Dow Jones Sustainability Indices (“DJSI”) are a benchmark for ranking companies in 61 industries, scoring them based on their responses to questionnaires called the S&P Global Corporate Sustainability Assessment. DJSI is seeing greater adoption amongst Indian companies for assessing ESG performances.

Companies that prioritize ESG issues are likely to see benefits such as improved risk management and increased access to capital. Data shows that the top performers in terms of 10-year returns are those companies that are ESG compliant. For example, companies that have strong environmental practices are less likely to face penalties for environmental violations and are more likely to be able to access capital from socially responsible investors. Similarly, companies with strong governance practices are less likely to face corruption scandals and are more likely to be able to access capital from investors looking for companies with good governance.

It is important to be cognizant of ‘greenwashing’ which is the act of making false, misleading, unsubstantiated or otherwise incomplete claims about the sustainability of a product, service, or business operation. The SEBI on February 2, 2023 reviewed the framework of Green Debt Securities (“GDS”) and introduced changes to the SEBI (Issue and Listing of Non-Convertible Securities) Regulations, 2021 requiring the issuer of any GDS to: (i) continuously monitor the operations against sustainability standards disclosed in the offer document, (ii) utilize the funds only for categories of operations set out in the definition of GDS, (iii) undertake complete and continuous disclosure of data from research when highlighting green practices, (iv) quantify the negative externalities of utilizing funds raised, (v) adhere to the highest standards for issue of GDS and associated ratings, and (vi) not make any misrepresentations about certification by a third-party entity.

Today, prior to entering into any contractual arrangements, investors and contracting parties proactively undertake searches on robust databases and information services to examine public reputation, undertake review of public profiles including social media presence and political affiliations, credit ratings, carbon trading and bankruptcy history, international sanctions, and money laundering, bribery or corruption allegations/ issues. Carrying out holistic analysis of the company’s operations will help dispel any apprehensions of misrepresentations or ‘greenwashing’ and provides for an additional level of comfort between contracting parties, prior to entering into M&A transactions, joint ventures or private equity investments.

In conclusion, ESG investing is gaining traction in India and it’s becoming increasingly important for Indian corporations to understand the implications of ESG investing and take steps to meet the growing demand for sustainable investments. This can be achieved by disclosing ESG performance in the annual reports, adopting sustainable practices and by following the guidelines and regulations framed by SEBI and GoI.

VA View:

Aside from regulatory requirements, GoI in its Annual Budget 2022-23 has implemented soft measures to support sustainable business practices, encouraging a shift towards renewable energy and more eco-friendly business methods through policies, financial incentives, and favorable tax treatment. All of this is aimed at the goal of achieving carbon neutrality by 2070.

Indian corporations need to be aware of the growing trend of ESG investing and the potential impact on their businesses through a comprehensive review of their existing policies and prepare a roadmap to guide future action.

For any query, please write to Mr. Bomi Daruwala at [email protected]

NCLAT: The obligation of the adjudicating authority to direct for liquidation shall rise only when decision of the Committee of Creditors is in accordance with the Insolvency and Bankruptcy Code, 2016

The National Company Law Appellate Tribunal (“NCLAT”), in the case of Hero Fincorp Limited v. M/s. Hema Automotive Private Limited [Company Appeal (AT) (Insolvency) No. 1540 of 2022], held that the obligation of the adjudicating authority to direct for liquidation shall arise only when decision of the Committee of Creditors (“CoC”) is in accordance with the Insolvency and Bankruptcy Code, 2016 (“IBC”).

Facts

Hero Fincorp Limited (“Appellant”) extended financial facilities to the corporate debtor in the year 2018-19. The corporate debtor committed default in repayment of the loan facilities. The financial creditor initiated proceedings under Section 13 (Enforcement of security interest) of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 by taking possession of the secured assets. An order dated July 8, 2022 was passed by the adjudicating authority commencing the Corporate Insolvency Resolution Process (“CIRP”) against the corporate debtor.

The CoC was constituted with the Appellant as the sole member of the CoC. On October 7, 2022, in accordance with the approval of the CoC, the Resolution Professional (“RP”) published Form-G, wherein the last date for receipt of Expression of Interest (“EOI”) was October 24, 2022.

The RP convened the CoC meeting on October 19, 2022 with sole agenda pertaining to eligibility criteria vis-à-vis extension of time seeking EOI by revising Form-G. In the meeting, CoC passed the resolution for liquidation of the corporate debtor. In pursuance of the said resolution, the RP filed an application in M/s. Five Ess Precision Components Private Limited v. M/s. Hema Automotive Private Limited [IA No. 5586 of 2022] (“Application”) praying for an order of the liquidation.

The adjudicating authority heard and dismissed the Application on November 23, 2022 and directed the CoC to reconsider the Application (“Impugned Order”). It made the following directions to the CoC:

“[…]
Para 3 of the present application says that as per the public announcement dated 28.07.2022 the last date for submission of claims by Creditors was 09.08.2022. It also transpires that M/s. Hero Fincorp Ltd. (in NBFC) is the sole Member of the CoC. It transpires that on 07.10.2022 in accordance with the approval of the CoC, RP has published “Form G” wherein the last date of receipt of Expression of Interest (“EOI”) was 24.10.2022. However, prior to the said date the sole Member of the CoC resolved and directed the RP to move an application for liquidation of the Corporate Debtor.

Such approach is not in the spirit of IB Code as Insolvency Resolution is the focus of the act. Only in the event of failure of insolvency resolution the steps for liquidation have to be taken. The sole Member of CoC has not adopted a judicious approach of exploring the possibility of resolution. Since he has recommended the liquidation even before the time period for seeking EOI had elapsed which is 24.10.2022. Therefore, CoC is directed to reconsider the present application. CoC is also directed to release RP fee and expenses incurred by RP till date on priority basis. The prayer at “(i)”, “(iii)” & “(iv)” are denied.”

The present appeal has been filed against the Impugned Order (“Appeal”).

Issue

Whether the adjudicating authority was obligated to direct for liquidation of the corporate debtor, considering the provisions of Section 33(2) (Initiation of liquidation) of the IBC.

Arguments

Contentions raised by the Appellant:

The Appellant contended that it was mandatory for the adjudicating authority to pass an order of liquidation in view of the provision of Section 33(2) of the IBC and that the adjudicating authority committed error in not allowing the Application filed by the RP. The Appellant relied on the judgment of the NCLAT in Sreedhar Tripathy v. Gujarat State Financial Corporation and Others [Company Appeal (AT) (Insolvency) No. 1062 of 2022] (“Sreedhar Tripathy”).

The Appellant also submitted that the decision taken by the CoC for liquidation was in the commercial wisdom of the CoC, which ought not to have been interfered by the adjudicating authority. The Appellant relied on the judgment of the Hon’ble Supreme Court in Vidarbha Industries Power Limited v. Axis Bank Limited [(2022) 8 SCC 352] (“Vidarbha Industries”).

Observations of the NCLAT

It is pertinent to note Section 33(2) of the IBC as under:

“… (2) Where the resolution professional, at any time during the corporate insolvency resolution process but before confirmation of resolution plan, intimates the Adjudicating Authority of the decision of the committee of creditors approved by not less than sixty-six percent of the voting share to liquidate the corporate debtor, the Adjudicating Authority shall pass a liquidation order as referred to in sub-clauses (i), (ii) and (iii) of clause (b) of sub-section (1).

Explanation– For the purposes of this sub-section, it is hereby declared that the committee of creditors may take the decision to liquidate the corporate debtor, any time after its constitution under sub-section (1) of section 21 and before the confirmation of the resolution plan, including at any time before the preparation of the information memorandum. …”

The NCLAT observed that the explanation to Section 33(2) of the IBC contains a legislative declaration empowering the CoC to take a decision to liquidate the corporate debtor any time after its constitution and before the confirmation of the resolution plan, including at any time before the preparation of the information memorandum. The provisions contained in the explanation has to be given meaning and effect.

The NCLAT, while considering the contentions of the Appellant, observed that in the case of Sreedhar Tripathy, CoC had passed a resolution for liquidation. However, in the said case, the corporate debtor was not a going concern since the last 19 years. Hence, the adjudicating authority had passed the order allowing for liquidation basis the below observation:

“[…] The CoC in the Legislative Scheme has been empowered to take decision to liquidate the Corporate Debtor, any time after its constitution and before confirmation of the resolution plan. The power given to the CoC to take decision for liquidation is very wide power which can be exercised immediately after constitution of the CoC.  The reasons which has been given in Agenda Item 1, it is made clear by the CoC that the Corporate Debtor is not functioning for last 19 years and all machinery has become scrap, even the building is in dilapidated condition and the CIRP will involve huge costs. We are not convinced with the submission of learned counsel for the Appellant that the CoC’s decision is an arbitrary decision. CoC is empowered to take decision under the statutory scheme and when in the present case the decision of the CoC for liquidation has been approved by the Adjudicating Authority, we see not good ground to interfere at the instance of the Appellant. However, we make it clear that the decision taken by the CoC was in the facts of the present case and it cannot be said that whenever decision is taken for liquidation the same is not open to judicial review by the Adjudicating Authority and this Appellate Tribunal. It depends on the facts of the each case as to whether the decision to liquidate the Corporate Debtor is in accordance with the I&B Code or not. With these observations, the Appeal is dismissed.”

Further, the NCLAT observed in the case of Vidarbha Industries that,

“… 77. On the other hand, in the case of an application by a financial creditor who might even initiate proceedings in a representative capacity on behalf of all financial creditors, the adjudicating authority might examine the expedience of initiation of CIRP, taking into account all relevant facts and circumstances, including the overall financial health and viability of the corporate debtor. The adjudicating authority may in its discretion not admit the application of a financial creditor.” 

The NCLAT further noted that though Section 33(2) of the IBC uses the word ‘shall’, judicial review of the decision of the CoC in a particular case is not precluded and it depends on facts of each case. This was clearly held in the case of Sreedhar Tripathy.

Decision of the NCLAT

In view of the aforesaid observations and precedents, the NCLAT was of the opinion that the adjudicating authority did not commit any error in rejecting liquidation of the corporate debtor and asking the CoC to reconsider its decision. Accordingly, the Appeal was dismissed.

VA View:

The NCLAT engaged in a detailed analysis of the provisions of Section 33(2) of the IBC, particularly with regard to the role of adjudicating authority in the liquidation process.

Not only does the ruling uphold the spirit of the IBC by ensuring fair and just resolution of the corporate debtor, it also ensures that corporate debtors are not simply sent for liquidation without following the due process laid down in the IBC for their resolution. The NCLAT’s decision strengthens the role of adjudicating authorities in such cases under the IBC and will serve as a precedent for similar cases in the future.

For any query, please write to Mr. Bomi Daruwala at [email protected]

Allahabad High Court: No ipso facto absolvement of guarantor’s liability upon approval of resolution plan

The High Court of Allahabad (“High Court”) by order dated January 12, 2023, in the matter of Narendra Singh Panwar v. Pashchimanchal Vidyut Vitran Nigam Limited and Others [Writ – C No. 26355 of 2022], held that approval of a resolution plan does not ipso facto discharge a personal guarantor of a corporate debtor of his liabilities under contract of guarantee.

Facts

The National Company Law Tribunal, Allahabad (“NCLT”) initiated Corporate Insolvency Resolution Process of Trimurti Concast Private Limited (“Corporate Debtor”), following an application by Ram Alloys Casting Private Limited under Section 7 (Initiation of corporate insolvency resolution process by financial creditor) of the Insolvency and Bankruptcy Code, 2016 (“IBC”). Thereafter, by an order dated March 22, 2022 (“Order”), NCLT approved the resolution plan (“Plan”) in respect of the Corporate Debtor. During the consideration of approval of Plan, an application was filed by Pashchimanchal Vidyut Vitran Nigam Limited (“Respondent”), basis which NCLT directed that its claim pertaining to electricity dues be considered in the resolution plan, along with other operational creditors.

Thereafter, the electricity connection of the Corporate Debtor, which was temporarily disconnected since September 9, 2019, was permanently disconnected on August 30, 2022. Further, a demand notice dated June 30, 2022 (“ Impugned Notice”) under Section 3 (Notice of demand for dues not paid) read with Section 5 (Recovery of dues) of the U.P. Government Electrical Undertakings (Dues Recovery) Act, 1958 (“Act”) was issued against two of the directors of Corporate Debtor, Mr. Narendra Singh Panwar (“Petitioner”) and Mr. Ashok Sharma. On August 2, 2022, a copy of the Impugned Notice was also forwarded to the District Magistrate, Muzaffarnagar for making recovery of dues as arrears of land revenue.

Aggrieved by the above-mentioned, the Petitioner challenged the Impugned Notice before the High Court by way of the captioned writ petition.

Issue

Whether a director of a company who is claimed to be the personal guarantor for payment of electricity dues of the company would be liable to fulfil the demand of dues of electricity from his personal assets, in view of the insolvency proceedings concluded in relation to the defaulter company under the IBC.

Arguments

Contentions raised by the Petitioner:

Petitioner contended that a provision has already been made in the Plan for recognition and treatment of the electricity dues of the Corporate Debtor as operational dues. These outstanding dues could not have been recovered from the directors of the Corporate Debtor, since they are not personally liable. Pursuant to the NCLT approving the Plan in respect of the Corporate Debtor, treating the electricity dues as operational dues, all claims against the Corporate Debtor stood extinguished.

Further, the Petitioner demonstrated the waivers, reliefs and exemptions granted by the NCLT in the Order to contend that pursuant to approval of a resolution plan, a creditor is prohibited from initiating proceeding for recovery of its claims which are not part of the resolution plan and all such claims stand permanently extinguished. It was thus, contended that the Plan is binding on the Corporate Debtor as well as all other stakeholders.

Placing reliance upon the judgment of the Supreme Court (“SC”) in the matter of Indian Overseas Bank v. RCM Infrastructure Limited [AIR Online 2022 SC 736], the Petitioner further contended that IBC is a complete code in itself and by virtue of Section 238 (Provisions of this Code to override other laws) of IBC, it will override other laws for the time being in force, in the event of inconsistency.

Further, it was contended that the expression “consumer” as defined under Section 2(15) of the Electricity Act, 2003 does not cover the director, where the body corporate is a consumer and recovery, as such, cannot be made against the directors.

Contentions raised by the Respondent:

The Respondent submitted that the provisions of the Electricity Supply Code, 2005 empower the electricity department to initiate recovery proceeding against the directors of a company and any payment due to the licencee company can be recovered as arrears of land revenue as per the provisions of the Act in accordance with the provisions of the Electricity Supply Code, 2005.

It was further contended that out of the total outstanding due against the Corporate Debtor to the tune of INR 9,00,00,000 (Rupees Nine Crores only), the Plan merely provides for payment of an amount to the tune of INR 6,00,000 (Rupees Six Lakhs only).

Observations of the High Court

The High Court observed that IBC is a complete code in itself and in the event of any inconsistency, shall prevail over any other law for the time being in force, by virtue of its non-obstante clause, that is, Section 238 of IBC.

The High Court further observed that the waivers, reliefs and exemptions granted by the NCLT while approving the Plan are with respect to the claims against the Corporate Debtor and the assets of the Corporate Debtor. However, the issue in the present case pertains to the personal liability of the directors of the Corporate Debtor.

It was further observed that one of the directors of the Corporate Debtor, Mr. Ashok Sharma, filed his affidavit along with the application form for supply of electricity, to undertake that whatever be the dues of the Company, he would always be ready and bound to deposit the same in accordance with the orders of the Executive Engineer, U.P. Power Corporation Limited. Further, the agreement for supply of electrical energy dated April 8, 2013 had been signed by Mr. Ashok Sharma in the capacity of director of the Corporate Debtor as the ‘consumer’.

Further, the High Court relied upon the judgment of the SC in the matter of State Bank of India v. Ramakrishna and Another [(2018) 17 SCC 394], wherein the question before the SC was whether upon admission of the insolvency petition, the moratorium under Section 14 of IBC would apply to a personal guarantor of corporate debtor. It was observed in the above-mentioned judgment that the absence of mention of ‘personal guarantor’ in the provisions of Section 14 of IBC makes it clear that Section 14 has no application to personal guarantors of corporate debtor.

Further, the High Court relied upon the judgment of the SC in the matter of Laxmi Pat Surana v. Union of India and Another [(2021) 8 SCC 481], whereby the SC had held that the obligation of guarantor is coextensive and coterminous with that of the principal borrower, as stipulated under Section 128 (Surety’s liability) of the Indian Contract Act, 1872.

Thereafter, the High Court arrived at the conclusion that the sanction of a resolution plan and finality imparted to it by Section 31 (Approval of resolution plan) of IBC does not discharge the guarantor’s liability. Approval of a resolution plan does not ipso facto absolve the surety/ guarantor of his liability, which arises out of an independent contract of guarantee. Further, the nature and extent of the guarantor’s liability arising out of such guarantee shall depend upon the terms of the guarantee/ contract.

Decision of the High Court

In view of the aforesaid observations and the precedents, the High Court held that the contention of the Petitioner to challenge the recovery of electricity dues on the ground that approval of Plan of Corporate Debtor would ipso facto absolve the directors of the Corporate Debtor, who have stood as guarantor, from all liabilities in respect thereof whatsoever, cannot be accepted. Accordingly, the High Court dismissed the writ petition.

VA View:

The High Court has rightly held that the challenge to Impugned Notice for recovery of electricity dues, issued jointly in the name of the directors of the Corporate Debtor, cannot be sustained on the ground that in view of approval of the Plan of the Corporate Debtor, all liabilities of directors who may be the guarantor, stood automatically discharged/ extinguished.

It is well-settled law that upon the approval of resolution plan pertaining to the corporate debtor, all liabilities, claims, dues and all waivers, reliefs, exemptions for past period, stands discharged/ extinguished, only in respect of the corporate debtor itself, but it does not discharge the directors of the Company, who may have stood as personal guarantors, from the liability of making the payments to the creditors/ requisite authorities as per the terms of the contract/ deed of guarantee executed by them.

Therefore, the present judgment of the High Court ensures that no director of a company or personal guarantor shall attempt to wriggle out of his responsibilities/ liabilities, on the ground that the resolution plan has already been approved and all liabilities have thus stood extinguished qua the directors/ guarantor.

For any query, please write to Mr. Bomi Daruwala at [email protected]