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June 2019

Whether recovery proceedings for a debt pertaining to a period prior to approval of resolution plan can be initiated against corporate debtor?

by Ankit Parhar

 

It is now a settled position that the prime objective of the Insolvency and Bankruptcy Code, 2016 (“IBC”) is resolution or revival of the Corporate Debtor; followed by maximising the value of the assets of the Corporate Debtor; and lastly to promote entrepreneurship and availability of credit. The proceedings under the IBC are not intended to substitute recovery proceedings.

One of the most litigated aspects of the IBC has been the treatment of Operational Creditors. Most Resolution Plans do not provide for the payment of Operational Debts on the basis that the Operational Creditors being unsecured creditors would not get any part of the liquidation estate in the event of the liquidation of the Corporate Debtor. As such, the understanding was that in case a Resolution Plan which does not provide for the payment of Operational Debts was approved, the Operational Creditor would be bound by the same and could not initiate recovery proceedings against the Corporate Debtor. Even Resolution Applicants understood that no recovery proceedings would be initiated against the Corporate Debtor for a debt pertaining to a period prior to the approval of the Resolution Plan.

However, in a recent decision, Prasad Gempex & Ors. (“Appellant”) v. Star Agro Marine Exports Pvt. Ltd. & Ors. (“Corporate Debtor”) being Company Appeal (AT) (Insolvency) No. 469 of 2019, decided on 02.05.2019, the National Company Law Appellate Tribunal (“NCLAT”) has granted the Appellant, an Operational Creditor, liberty to initiate appropriate recovery proceedings against the Corporate Debtor for recovery of its Operational Debt pertaining to a period prior to the date of the approval of a Resolution Plan under Section 60(6) of the IBC.

The facts before the NCLAT were that the Appellant had entered in an agreement dated 05.04.2017 with the Corporate Debtor for investment in the Corporate Debtor’s business. Certain disputes arose between the parties. Meanwhile, the Financial Creditors of the Corporate Debtor initiated proceedings under the IBC against the Corporate Debtor. The said proceedings were admitted by the NCLT, Chennai Bench (“NCLT”) on 08.01.2018. Accordingly, a Resolution Professional (“RP”) was appointed to take over the management and affairs of the Corporate Debtor and the Moratorium under Section 14 of the IBC was declared.

Subsequently, the Appellant filed its claim before the RP claiming to be a Financial Creditor. The RP rejected the contention of the Appellant that it was a Financial Creditor. However, the RP suggested that the Appellant may file its claim as an Operational Creditor. Thereafter, the Appellant filed its claim as an Operational Creditor which was also rejected by the RP.

Meanwhile, the RP invited prospective Resolution Applicants to submit their Resolution Plans for taking over the management and affairs of the Corporate Debtor. The Appellant and two other Resolution Applicants submitted their respective Resolution Plans. The Resolution Plan submitted by the Appellant was rejected by the RP vide letter dated 10.04.2018 on the ground that the Appellant had failed to demonstrate that it satisfied the eligibility criteria with regard to its net worth. The Appellant challenged the rejection of its Resolution Plan by the RP before the NCLT. The NCLT upheld the order of the RP vide order dated 22.05.2018.

The Appellant challenged the order of the NCLT before the NCLAT assailing the rejection of its claim and also the rejection of its Resolution Plan. One of the prospective Resolution Applicants also filed an appeal before the NCLAT against an order dated 23.07.2018 passed by the NCLT whereby the NCLT had upheld the decision of the RP refusing to recalculate and reduce the claims raised by the Financial Creditors and Operational Creditors.

In the meantime, a Resolution Plan submitted by the other prospective Resolution Applicant was unanimously approved by the Committee of Creditors (“COC”) on 01.10.2018 and placed before the NCLT on 04.10.2018. It may be noted that the said Resolution Plan did not provide for the payment of any Operational Debts on the basis that the Operational Creditors would not get any proceeds from sale of the liquidation estate as per the waterfall mechanism provided under Section 53 of the IBC.

The appeals filed by the Appellant and the unsuccessful Resolution Applicant were disposed of by the NCLAT by a common judgment dated 01.02.2019. Relying upon the judgment of the Supreme Court in Swiss Ribbons Pvt. Ltd. & Anr. v. Union of India & Ors. being W.P. (C) No. 99 of 2018 decided on 25.01.2019, the NCLAT reiterated the position that a RP does not have adjudicatory powers. As such, the RP was correct in not recalculating the claims raised by the Financial Creditors and Operational Creditors in the manner sought by the unsuccessful Resolution Applicant.

As far as the claim filed by the Appellant is concerned, relying on its earlier decision in Dynepro Pvt. Ltd. v. V. Nagarajan being Company Appeal (AT) (Insolvency) No. 229 of 2018 decided on 30.01.2019, the NCLAT held that in view of Section 60(5) of the IBC, notwithstanding the approval of a Resolution Plan by the NCLT under Section 31 of the IBC, it is open to a party to initiate appropriate proceedings against the Corporate Debtor after completion of the Moratorium. Since the Resolution Plan of the successful Resolution Applicant had not been approved by the NCLT as yet, the NCLAT directed the NCLT to pass appropriate orders under Section 31 of the IBC.

In this background, the NCLAT granted the Appellant liberty to initiate appropriate recovery proceedings against the Corporate Debtor in the event that the Resolution Plan is approved and does not ‘take proper care’ of the Appellant or, in the event that the Resolution Plan is not approved and the Corporate Debtor is ordered to be liquidated, to file its claim before the Liquidator who shall decide the same in accordance with Section 40 of the IBC.

After the disposal of the said appeals by the NCLAT, the NCLT held that the Resolution Plan was in line with the provisions of the IBC and approved the same vide order dated 11.03.2019. The NCLT also declared that any financial obligation of the Corporate Debtor other than those forming part of the Resolution Plan shall stand extinguished. Since the Resolution Plan did not provide for the payment of any Operational Debts, the Appellant once again came in appeal before the NCLAT.

In the appeal, the NCLAT held that since the Appellant had already been given an opportunity to initiate appropriate proceedings against the Corporate Debtor, the NCLT cannot prohibit it from initiating appropriate proceedings for recovery of its claims. Accordingly, the order of the NCLT, to the extent that it held that all claims against the Corporate Debtor in relation to any period prior to the plan approval date shall stand withdrawn and dismissed, was set aside by the NCLAT.

The interpretation of Section 60 (6) of the IBC by the NCLT is likely to be challenged on various grounds. Section 60 (6) provides that the period during which the order of Moratorium operates shall be excluded for the purposes of limitation for any proceedings by or against the Corporate Debtor. It is likely to be argued that Section 60 (6) is not an enabling provision and cannot be construed so as to mean that recovery proceedings can be initiated against a Corporate Debtor for a debt pertaining to a period prior to the approval of the Resolution Plan.

The decision of the NCLAT disturbs the understanding that has been prevailing since the enactment of the IBC and raises some serious issues that shall have far reaching implications, particularly, for Resolution Applicants and Operational Creditors. For instance, a Resolution Applicant that submits a Resolution Plan based on the assumption that the liabilities mentioned in the information memorandum are exhaustive, and such Resolution Plan having been accepted, may be in for a rude shock when it faces recovery proceedings for a debt previously unknown. The understanding that a Resolution Applicant takes over the management and affairs of the Corporate Debtor with a clean slate may no longer hold good.

On the other hand, it opens up another avenue for Operational Creditors, who are by and large kept out of most Resolution Plans on the basis that they would not get any proceeds from sale of the liquidation estate as per the waterfall mechanism provided under Section 53 of the IBC. Such Operational Creditors who are not ‘taken care of’ in Resolution Plans can now initiate recovery proceedings against a Corporate Debtor if and when a Resolution Plan is approved.

The NCLAT has certainly made its position regarding the interpretation of Section 60(6) of the IBC clear, however, this is not the final word on the issue as the Supreme Court is yet to consider this aspect. It remains to be seen whether the interpretation by the NCLAT will be upheld by the Supreme Court as and when it is called upon to decide the issue.

[The author is a Joint Partner in Commercial Dispute Resolution practice, Lakshmikumaran & Sridharan, New Delhi]

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