Aug 03, 2022

SC’s Vidarbha Industries Judgment – Unsettling the Long-Settled Practice?

The recent judgment in Vidarbha Industries Power Ltd. vs. Axis Bank Ltd, caused a major stir and has invited mixed reactions by holding that the admission of an application filed under Section 7 of the Insolvency and Bankruptcy Code, 2016 (“IBC”) is discretionary and not mandatory. This ruling has made a stark departure from the long-settled practice followed by the Adjudicating Authority (“NCLT”) that if there is existence of debt and that default has occurred on such debt, the application has to be mandatorily admitted and no other factors are required to be considered.

Briefly, the facts are that Vidarbha Industries Power Limited (“VIPL”) is a company engaged in the business of production of electricity for which tariff is regulated by the Maharashtra Electricity Regulatory Commission (“MERC”) and the Appellate Tribunal for Electricity (“APTEL”). VIPL was expecting an amount of Rs. 1,730 crores pursuant to a favourable order of APTEL, which was challenged by MERC and is now pending before the Supreme Court. In the meanwhile, Axis Bank, a financial creditor of VIPL, filed a Section 7 application against VIPL before NCLT, Mumbai for a default of Rs. 533 crores. VIPL sought for a stay on the proceedings before the NCLT on the pretext of pendency of proceeding before the Supreme Court and resultantly, VIPL being unable to realize a substantial sum of Rs. 1730 crores which would enable the Appellant to clear the debt towards Axis Bank.

NCLT dismissed the application for stay and admitted the Section 7 application, citing two main reasons, namely- (a) that once there was satisfaction towards existence of debt and admission of default, it was mandatory to admit the Section 7 application for initiation of CIRP, and (b) that extraneous matters such as the MERC proceedings pending before the Supreme Court were irrelevant to the expeditious timelines enlisted by the Code. In an appeal by VIPL, NCLAT concurred with the stance taken by NCLT. VIPL then, therefore, appealed before the Supreme Court under Section 62 of the IBC.

Court’s findings

The main question tabled before the Apex Court herein was whether admission under Section 7(5)(a) of the Code was mandatory and therefore, whether the NCLT and the NCLAT were right in ignoring the Applicant’s matter pending before the Supreme Court for realising the amount due and initiating the CIRP process owing to existence of debt and default.

The Supreme Court, while allowing the appeal, and answering the aforesaid questions in the negative, delved mainly into the language and intent of the IBC, and Section 7, in specific. It was observed that according to Section 7(5)(a) of the IBC, the NCLT may, by order, admit such an application, if it has determined that a default has occurred, the application made is complete, and no disciplinary action has been taken against the proposed Resolution Professional.

Applying the literal rule of interpretation, the Court observed that the meaning and intention of the provision has to be ascertained from the phraseology of the provision keeping in mind the nature, scope and design of the IBC. It has been held that the use of the word ‘may’ instead of ‘shall’ in Section 7(5)(a) of the IBC expressly showed the intent of the legislature to make the provision discretionary and not mandatory, whereby the NCLT can reject an application even post existence of debt and/or admission of default. Further, the use of the word ‘shall’ in the otherwise almost identical provision of Section 9(5) pertaining to initiation of CIRP by an operational creditor aided towards the intent to consciously differentiate and supply two distinct meanings to the two cited provisions.

While agreeing that there must be expeditious and timely resolution vide the process laid down under the IBC, and that extraneous matters must not act as impediments in the said process, the Apex Court reasoned that the viability and overall financial health were pertinent to be taken into account and could not to be categorised as extraneous matters. Moreover, it also laid down that the entire premise of time bound resolution would only arise if the said company was bankrupt or insolvent or in financial distress.

Therefore, the Court was of the view that since the object of the Code isn’t to penalize solvent companies which defaulted as to its financial debts but to revive the company,[1] the Tribunal must apply its mind to important and relevant factors such as the feasibility of initiation of the process, surrounding circumstances and arguments raised by the corporate debtor against the admission of the application etc. This discretion has been vested by the Code itself vide a conjoint application of Section 7(5)(a) of the Code read with Rule 11 of the National Company Law Tribunal Rules, 2016 which grant inherent powers to the tribunal to act in furtherance of meeting the ends of justice.

The Apex Court, thereby, noted that the existence of a financial debt and default in payment thereof only gave the financial creditor the right to apply for initiation of CIRP, and that the Code intended on conferring discretion with the tribunal to admit or reject a Section 7 petition filed by a financial creditor thereafter. However, it also cautioned against arbitrary or capricious exercise of the same. It instated that ordinarily, the Tribunal would have to admit the application upon existence of debt and default, unless it finds good reasons not to admit the same, and that if the facts and circumstances warrant exercise of discretion in a particular manner, discretion would have to be exercised in that manner only.

Analysis/ Personal Views

The judgement herein has been met with mixed reactions from the industry. On one hand, it acts as a welcome step for the corporate debtor as it provides for an additional layer of check and defence whereby numerous factors must be assessed before admitting the application. Albeit a remarkable departure from the well-settled law, it furthers protection to a solvent, financially stable corporate debtor as well as the resolution process’ sanctity as a beneficial process, and not as a recovery forum.  It is a remarkable shift towards factoring in the solvency and health of the company and protecting the corporate debtor, while also balancing the interests of the creditors by not astounding the same to be a matter of principle i.e. there must exist reasons which require consideration.

Furthermore, this discretion conferred on the tribunals to admit or reject can not only deplete frivolous petitions being admitted on account of a single default by an otherwise solvent company, but also can assist in deviating from the orchestrated practices through intentional defaults to evade paying creditors by initiating the process and subsequently, protecting itself under the contours of a moratorium.

However, on the other hand, it must be noted that the rationale set herein was specific to the facts of the present case wherein there was an unrealized amount pending which far exceeded the defaulted amount. The judgement falls short of chalking out an outline and/or a set of guidelines for the tribunals to comply with or follow in the future. The discretion vested by the judgement fails to list out or elucidate towards a set of principles/factors which would be deemed to be extraneous. This could have an adverse impact whereby different and subjective levels of discretion may result in contradictory judgements/views being passed by different benches/tribunals.

Moreso, instead of carving out the intent of the legislation vide literal rule of interpretation, a harmonious construction could have been undertaken where a consistent approach across the creditors towards factoring in the surrounding and mitigating circumstances/arguments was permitted. The Court, in the author’s opinion, did not need to distinguish basis the use of word ‘may’ and ‘shall’, as has been observed in numerous cases filed either under Section 9 or Section 10 of the IBC wherein the NCLT refused to admit such application on the grounds of unclean hands.

Notably, while deliberating over the legislature’s intent to differentiate between applications filed under Section 7 with those filed under Section 9 or Section 10 of the IBC, the Court failed to surface the intent of the legislature behind doing the same. This distinction, carved out in the present judgement, renders factors such as corporate debtor’s financial viability and solvency or any other factor to be irrelevant when the application is filed by an operational creditor. Its reasoning that the apparent lower quantum of amounts involved in a transaction with an operational creditor, renders it pertinent for the Section 9 to have mandatory admission post satisfaction towards existence of debt and default also appears to be flawed. More often than not it is seen that operational creditors tend to adopt IBC as a pressure tactic to recover outstanding debt instead of actually being concerned or involved with the recovery and revival of a distressed corporate debtor.

While there persist numerous and conflicting views and opinions on the aforesaid precedent, its acceptance and application would be dictated and observed with time by other benches/courts in the future.

[1] Innoventive Industries Ltd. v. ICICI Bank, (2018) 1 SCC 407 at paragraph 12; Dena Bank v. C. Shivakumar Reddy, (2021) 10 SCC 330 at paragraphs 77 to 87; Swiss Ribbons (P) Ltd. v. Union of India, (2019) 4 SCC 17 at paragraph 28.





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