Between The Lines | Supreme Court: NCLT has discretion to not admit Financial Creditor’s CIRP Application even if Corporate Debtor is in default August 23, 2022
Published in: Between The Lines
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The Hon’ble Supreme Court (“SC”) has in its judgment dated July 12, 2022 in the matter of Vidarbha Industries Power Limited v. Axis Bank Limited [Civil Appeal No. 4633 of 2021] held that it is not mandatory for the adjudicating authority to admit an application to initiate Corporate Insolvency Resolution Process (“CIRP”) even if the existence of debt and default in payment of debt by the corporate debtor is established.
Vidarbha Industries Power Limited (“Appellant”), being the corporate debtor, is an electricity generating company within the meaning of Section 2(28) of the Electricity Act, 2003 and has set up a 600 MW coal-fired thermal power plant comprising of two units each of 300 MW capacity, within the Butibori Industrial Area in the Nagpur District in Maharashtra.
The Appellant is short of funds, for the time being on account of a pending litigation before the SC, more particularly, Civil Appeal Number 372 of 2017 preferred by the Maharashtra Electricity Regulatory Commission (“MERC”) against an order dated November 3, 2016 passed by the Appellate Tribunal for Electricity (“APTEL”), pursuant to which a sum of INR 1,730 Crores is due to the Appellant. Subject to the outcome of Civil Appeal Number 372 of 2017 pending before the SC, implementation of the order dated November 3, 2016 would enable the Appellant to clear all its outstanding liabilities.
On or about January 15, 2020, Axis Bank Limited (“Respondent”), in the capacity of financial creditor of the Appellant, preferred an Application under Section 7(2) the Insolvency and Bankruptcy Code, 2016 (“IBC”) before the National Company Law Tribunal, Mumbai (“NCLT”) seeking initiation of the CIRP against the Appellant. The Respondent had claimed a total amount to the tune of INR 533 Crores as due from the Appellant.
In view thereof, the Appellant preferred a Miscellaneous Application for seeking stay on the adjudication of CIRP admission proceedings, until the above-mentioned Civil Appeal is pending before the SC. However, by order dated January 29, 2021, the NCLT dismissed the Miscellaneous Application filed by the Appellant for seeking stay on the CIRP admission proceedings and refused to stay the CIRP initiated against the Appellant. The NCLT, inter alia, held that the objective of IBC is to decide petition seeking initiation of CIRP of a corporate debtor in a time bound manner and relied upon the landmark judgment of the SC in the matter of Swiss Ribbons Private Limited and Another v. Union of India and Others [(2019) 4 SCC 17] (“Swiss Ribbons Judgment”) to arrive at the aforesaid observation.
Aggrieved by the order dated January 29, 2021 passed by the NCLT, the Appellant preferred an appeal before the National Company Law Appellate Tribunal, New Delhi (“NCLAT”). However, the NCLAT dismissed the appeal by order dated March 2, 2021 (“Impugned Order”). The NCLAT, inter alia, observed that the Appellant has no jurisdiction in stalling the process and seeking stay of CIRP, with the hidden intent of blocking the passing of order of admission of the Application preferred by the Respondent under Section 7(2) of the IBC for seeking initiation of CIRP of the Appellant. As such, the NCLAT held that there is no merit in the appeal and no infirmity in the order dated January 29, 2021 passed by the NCLT.
Aggrieved by the Impugned Order passed by the NCLAT, the Appellant preferred an appeal before the SC.
Whether Section 7(5)(a) of IBC is a mandatory or a discretionary provision. In other words, is the expression ‘may’ to be construed as ‘shall’, having regard to the facts and circumstances of the case.
Contentions raised by the Appellant:
The Appellant submitted that considering the facts and circumstances of the case, the Appellant is unable to realize a sum of INR 1,730 Crores in terms of the order dated November 3, 2016 passed by the APTEL due to Civil Appeal Number 372 of 2017 pending adjudication before the SC, the application preferred by the Respondent under Section 7 of the IBC should not have been admitted against the Appellant.
The Appellant further contended that the use of the word ‘may’, and not ‘shall’, in the language of Section 7(5)(a) of the IBC, confers a discretion to the NCLT to reject an application, even if there is existence of debt, for any reason that the NCLT may deem fit, for meeting the ends of justice, keeping in mind the objective of the IBC, which includes revival of the company and value maximization. It was further submitted by the Appellant that Rule 11 of the National Company Law Tribunal Rules, 2016 (“NCLT Rules”) provides inherent power to the NCLT to pass such orders as may be necessary for meeting the ends of justice or to prevent abuse of the process of the Tribunal. In view thereof, the Appellant submitted that on a conjoint reading of Section 7(5)(a) of the IBC read with Rule 11 of the NCLT Rules, it cannot be said that NCLT has no power, except to examine whether a debt exists or not and accordingly accept or reject the application under Section 7 of the IBC.
Contentions raised by the Respondent:
The Respondent submitted that the Appellant had admittedly defaulted in payment of its dues and the NCLT has rightly declined stay of proceedings initiated by the Respondent. It was further contended that Section 7(5)(a) of the IBC cast a mandatory obligation on the adjudicating authority to admit an application of the financial creditor under Section 7(2) of the IBC, once established that a corporate debtor has committed default in repayment of dues of the financial creditor. As such, there are no grounds to interfere with the concurrent findings of the NCLT and the NCLAT.
The Respondent further relied on the judgment of the SC in the matter of Innoventive Industries Limited v. ICICI Bank and Another [(2018) 1 SCC 407] to argue that the object of the IBC is resolution of the insolvency and bankruptcy in a time bound manner.
Observations of the Supreme Court
The SC observed that placing reliance upon the Swiss Ribbons Judgment, the NCLT held that the imperativeness of timely resolution of a corporate debtor, who was in the red, indicated that no other extraneous matter should come in the way of deciding petitions filed under Section 7 and Section 9 of the IBC. However, in this regard, the SC held that the viability and overall financial health of the corporate debtor are not extraneous matters.
The SC further examined the question as to whether an award of the APTEL in favour of the Appellant for a sum of INR 1,730 Crores, that is, an amount far exceeding the claim of the financial creditor, can be completely disregarded. The SC answered the aforesaid question in the negative.
The SC observed that both, the NCLT and the NCLAT proceeded on the premises that an application must be necessarily entertained under Section 7(5)(a) of the IBC, upon existence of a debt and corporate debtor found to be in default. In this regard, the SC held that the NCLAT and the NCLT erred in deciding that if the aforesaid two aspects are being satisfied, it is sufficient to trigger CIRP of the corporate debtor. In fact, the existence of a financial debt and default in payment in respect thereof only gave the financial creditor the right to apply for initiation of the CIRP. However, the adjudicating authority is supposed to apply its mind to all relevant factors including feasibility of initiation of CIRP and the overall financial health and viability of the corporate debtor under its existing management.
The SC agreed with the contention raised by the Appellant that the legislature has consciously used the word ‘may’ and not ‘shall’ in Section 7(5)(a) of the IBC. However, while arriving at the conclusion that it is discretionary upon the adjudicating authority to admit an application filed by financial creditor seeking initiation of CIRP of a corporate debtor, the SC has made it clear that in case of rejection of such application, the financial creditor will not be precluded from applying afresh for initiation of CIRP of that corporate debtor, if the dues continue to remain unpaid.
The SC also drew a comparison between the use of the word ‘may’ in Section 7(5)(a) of the IBC in the context of financial debt vis-à-vis the use of the word ‘shall’ in Section 9(5) of the IBC in the context of operational debt. In this regard, the SC observed that the legislature has consciously kept a distinction between financial creditors and operational creditors as there is an inherent difference between the business of investment and financing as in the case of financial creditors and the business of supply of goods and services as in the case of operational creditors. Further, financial debts are secured and for a longer duration in comparison to operational debts which are usually unsecured, for a shorter duration and of lesser amount. As such, the impact of non-payment of operational debts could be more serious than non-payment of financial debts.
In conclusion, the SC observed that it is not the object of the IBC to penalize solvent companies, which are temporarily defaulting in repayment of its financial debts, by initiating the CIRP of such companies. Hence, the SC held that Section 7(5)(a) of the IBC confers discretionary power on the adjudicating authority to admit an application filed by a financial creditor under Section 7 of the IBC for seeking initiation of CIRP of a corporate debtor.
Decision of the Supreme Court
The SC held that the NCLAT and the NCLT erred in holding that once the existence of debt and default in payment of debt by the corporate debtor is established, the adjudicating authority is bound to admit an application filed by a financial creditor under Section 7 of the IBC.
In view of the above, the SC was pleased to allow the appeal and set aside the order dated January 29, 2021 passed by the NCLT and the Impugned Order. Further, the SC directed the NCLT to re-consider the miscellaneous application filed by the Appellant for seeking stay on the adjudication of the CIRP admission proceedings, until the Civil Appeal Number 372 of 2017 is pending before the SC.
This judgment can be considered as landmark in the domain of the restructuring and insolvency laws, whereby the SC has provided the much-needed clarity that the legislature has conferred upon the adjudicating authority with the discretionary power to look into the facts and circumstances pertaining to the corporate debtor and apply its mind to relevant factors including the feasibility of initiation of CIRP and overall financial health and viability of the corporate debtor under its existing management, rather than mandatorily initiating the CIRP of the corporate debtor in a mechanical manner once the existence of debt and default in payment of debt by the corporate debtor is established.
Further, the SC has also enlightened with the inherent difference between the nature of operational debt and financial debt, which throws light upon the legislative intent behind the use of the word ‘may’ in Section 7(5)(a) of the IBC in the context of financial debt vis-à-vis the use of the word ‘shall’ in Section 9(5) of the IBC in the context of operational debt.
However, the flip side of this judgement is that some corporate debtors defending an application filed by the respective financial creditors under Section 7 of the IBC may press this judgment into service, by taking a mechanical defense against the initiation of CIRP against them, wherever an award or decree is already passed in favour of corporate debtor and such award or decree is under appeal by the judgment debtor. In such a scenario, the adjudicating authority will have to cautiously ascertain the viability and pros and cons of initiating CIRP against a corporate debtor, and the same would be prone to appeals.
For any query, please write to Mr. Bomi Daruwala at [email protected]DOWNLOAD NEWSLETTER