Restructuring & Insolvency Monthly Newsletter | March 2021 - Insolvency/Bankruptcy

STATUTORY UPDATES

IBBI Circular dated February 02, 2021 pertaining to providing copy of Application to the Board, as mandated under Rule 9 of the Insolvency and Bankruptcy (Application to Adjudicating Authority for Insolvency Resolution Process for Personal Guarantors to Corporate Debtors) Rules, 2019

The Insolvency and Bankruptcy Board of India (IBBI) in exercise of the powers under clause (k) of sub-section (1) of Section 196 of the Insolvency and Bankruptcy Code, 2016 (IBC), has under Rule 9 of the Insolvency and Bankruptcy (Application to Adjudicating Authority for Insolvency Resolution Process for Personal Guarantors to Corporate Debtors) Rules, 2019 made it mandatory for the Applicant to provide a copy of the Application filed under sub-Section (1) of Section 94 or sub-Section (1) of Section 95 of the IBC for initiation for Insolvency Resolution Process of a personal guarantor to a Corporate Debtor, inter alia, to the IBBI for its record.
This amendment has been brought in furtherance to the current Rule 9 that provides a period of three days to the Applicant to provide the copy of Application to IBBI and the Resolution Professional after his appointment under Section 97(5) of the IBC.

RECENT JUDGMENTS

Phoenix Arc Pvt Ltd v. Spade Financial Services Ltd & Ors.

Judgment dated February 01, 2021 [Civil Appeal No. 2842 of 2020 with Civil Appeal No. 3063 of 2020]

Background facts

An Application for initiation of Corporate Insolvency Resolution Process (CIRP) of AKME Projects Ltd (AKME), the Corporate Debtor, was filed under Section 9 of the IBC by Mr. Hari Krishan Sharma, the Operational Creditor. The NCLT, New Delhi Bench- III vide order dated April 18, 2018 (Admission Order) admitted the Application and passed an order to initiate the CIRP of AKME.
During the CIRP of AKME, the appointed Insolvency Resolution Professional (IRP) invited the claims of the various lenders of the Corporate Debtor. Along with the other creditors, Spade Financial Services Pvt Ltd (Spade) and AAA Landmark Pvt Ltd (AAA) also submitted their claims. Thereafter, the Committee of Creditors (CoC) was constituted on May 22, 2018.
On May 25, 2018, the IRP rejected the claim of Spade, which was filed inter alia, on the ground that the claim was not in the nature of a Financial Debt in terms of Section 5(8) of IBC since there was an absence of consideration for the time value of money. The IRP also rejected the claim of AAA on the ground that its claim as a Financial Creditor in Form C was filed after the expiry of the period for filing such a claim.
Aggrieved by the rejection of their claims by the IRP, Spade and AAA filed Applications before the NCLT to be included in the CoC, the NCLT vide order dated May 30, 2018 (Inclusion Order) allowed these Applications and ordered for inclusion of Spade and AAA as members of CoC of AKME.
Thereafter, Phoenix ARC Pvt Ltd (Phoenix) and YES Bank Ltd filed Applications before the NCLT under Section 60(5) of the IBC against the Inclusion Order. The NCLT vide judgment dated July 19, 2019 (Impugned Order) formulated upon the issues raised in these Applications and held that the nature of transaction of AKME with Spade and AAA respectively was collusive in nature and do not qualify as Financial Debt for the purpose of IBC. Therefore, as per first proviso to Section 21(2) of the IBC Spade and AAA could not be included in the CoC of AKME.
Pursuant to the Impugned Order, Spade and AAA filed Appeals before the NCLAT against such order of the NCLT. The NCLAT vide judgment dated January 27, 2020 dismissed the Appeals preferred under Section 61 of the IBC and upheld the Impugned Order of the NCLT.
Consequently, Spade and AAA filed an Appeal before the Supreme Court (SC) against the NCLAT judgment upholding the Impugned Order of NCLT. Further, an Appeal was also filed by Phoenix on a limited issue of NCLAT judgment recognizing Spade and AAA as Financial Creditors of AKME.

Issue at hand?

Whether a Related Party of the Corporate Debtor be the Financial Creditor of such Corporate Debtor? And can a Related party to the Corporate Debtor form part of the CoC of the Corporate Debtor, if the nature of transaction is 'collusive'?

Decision of the Court

SC allowed the Appeal preferred by Phoenix and observed that due to the collusive nature of transaction of AKME with Spade and AAA respectively, the Respondents could not be labelled as Financial Creditors in terms of Section 5(7) of the IBC. In furtherance to this, SC also upheld the decision of NCLAT and NCLT to exclude Spade and AAA from the CoC of the Corporate Debtor.
While arriving at this decision, with regard to the issue of recognizing Spade and AAA as Financial creditors as per Section 5(7) of the IBC, the Supreme Court referred to decision of Swiss Ribbons Pvt Ltd v. Union of India¹ and Pioneer Urban Land and Infrastructure Ltd vs. Union of India², wherein the contours of a Financial Creditor and Financial Debt read with the provisions of IBC have been determined.
SC also discussed the rationale of the first proviso of Section 21(2) of the IBC in order to determine the aim of the CoC of a Corporate Debtor.
Further, SC deliberated upon the factual circumstances of the matter in the light of Section 5(24), 45 (2) and 49 of the IBC in order to determine if the nature of transactions between the Corporate Debtor and the Respondents was 'collusive' in nature.
Finally, after observing the facts along with the provisions of the IBC, the Supreme Court concluded that the IBC has made provisions for identifying, annulling or disregarding "avoidable transactions" which distressed companies may have undertaken to hamper recovery of creditors in the event of the initiation of CIRP. It recognizes that for the success of an insolvency regime, the real nature of the transactions has to be unearthed in order to prevent any person from taking undue benefit of its provisions to the detriment of the rights of legitimate creditors. Further, the definition ensures that those entities which are related to the corporate debtor can be identified clearly, since their presence can often negatively affect the insolvency process.
With regard to the aim of the CoC comprehended with Section 21(2) of the IBC, it was observed that the aim of the CoC is to enable coordination between various creditors so as to ensure that the interests of all stakeholders are balanced, and the value of the assets of the entity in financial distress is maximized. Further, the objects and purposes of the IBC are best served when the CIRP is driven by external creditors, so as ensure that the CoC is not sabotaged by related parties of the Corporate Debtor. The exclusion under the first proviso to Section 21(2) is related not to the debt itself but to the relationship existing between a related party Financial Creditor and the Corporate Debtor. While the default rule under the first proviso to section 21(2) is that only those Financial Creditors that are related parties in praesenti would be debarred from the CoC, those related party Financial Creditors that cease to be related parties in order to circumvent the exclusion under the first proviso to Section 21(2), should also be considered as being covered by the exclusion thereunder.
Therefore, it could be stated that where a Financial Creditor seeks a position on the CoC on the basis of a debt which was created when it was a related party of the corporate debtor, the exclusion which is created by the first proviso to Section 21(2) must apply.

Our viewpoint

This decision is a progressive step towards achieving the objectives of the IBC. It sets an additional degree of check to ensure that the Committee of Creditors is able to achieve the aim of resolution of Corporate Debtor while maximizing the value and is not sabotaged by the Corporate Debtor or its related parties by trying to gain a backdoor entry into the Committee of Creditors via entering into collusive transactions.

Suri Rajendra Rolling Mills v. Bengani Udyog Pvt Ltd

Order dated February 11, 2021 [Company Appeal (AT) (Insolvency) No. 334 of 2020]

Background facts

Suri Rajendra Rolling Mills, the Operational Creditor (Appellant), had issued a notice under Section 8 of the IBC to Bengani Udyog Pvt Ltd, the Corporate Debtor, on April 04, 2018 to claim the amount due from the Corporate Debtor. In response to the same, the Corporate Debtor sent a reply raising various pre-existing disputes.
Pursuant to this, the Appellant filed a Company Petition under Section 9 of the IBC against the Corporate Debtor claiming the Operational Dues, however, this Application was later withdrawn by the Appellant on September 04,2019 on the grounds that the Corporate Debtor had given instructions to withdraw such Application in order to settle the claim.
Thereafter, the Appellant sent another Demand Notice dated January 25, 2019 under Section 8 of the IBC to the Corporate Debtor and subsequently filed a fresh Application under Section 9 of the IBC before the NCLT to claim the dues, however, the same was rejected and not admitted by the NCLT vide order dated January 06, 2020 (Impugned Order) on the grounds that similar Application was filed by the same Operational Creditor previously and thereafter was withdrawn.
Aggrieved by Impugned Order by the NCLT, The Appellant filed an Appeal before the NCLAT. The Counsel for the Appellant contested that as a fresh notice under Section 8 of IBC was given and thus there was a fresh cause of action.

Issue at hand?

Can a fresh Application under Section 9 of the IBC be filed by the Operational Creditor for same cause of action which was permitted to withdraw without liberty to file a fresh Application?

Decision of the Tribunal

The NCLAT dismissed the present Appeal and observed that both the Applications filed by the Appellant referred to the same amount and similar facts. Further, NCLAT also took note of the disputes raised by the Corporate Debtor in reply to the Demand Notice sent by the Appellant and held that as the Notices on record shows various pre-existing between parties, therefore, as per Section 9(5)(ii) of the IBC the Application by the Appellant was bound to be rejected.

Our viewpoint

This decision of NCLAT would be a blessing for various Corporate Debtors who are dragged into futile insolvency proceedings disguised as recovery proceedings without any substantial cause of action by the Operational Creditors.

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Footnotes

1. (2019) 4 SCC 17

2. (2019) 8 SCC 416

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