India: Supreme Court On Innoventive Industries: Recognition Of Paradigm Shift In Insolvency Law

Last Updated: 4 September 2017
Article by Kumar Saurabh Singh, Ashwin Bishnoi, Rajeev Vidhani, Dhwani Shah and Ashwij Ramaiah

Most Read Contributor in India, October 2017

In its first detailed ruling on some of the substantive legal questions under the Insolvency and Bankruptcy Code, 2016 (Code), the Hon'ble Supreme Court (Apex Court) has delivered a landmark order in the matter of Innoventive Industries Ltd v ICICI Bank and Another with an expressly avowed objective of ensuring that all the courts and tribunals across the country take notice of a 'paradigm shift in the law' ushered in by the Code.

Brief Background

In January 2017, ICICI Bank (Financial Creditor) filed a petition before the National Company Law Tribunal (NCLT) to initiate Corporate Insolvency Resolution Process (CIRP) against Innoventive Industries Ltd (Corporate Debtor) for having defaulted in its repayment obligations, distinguishing the application as a first under the Code. The Corporate Debtor, while defending the application inter alia claimed that it was categorized as a 'relief undertaking' under the provisions of the Maharashtra Relief Undertaking (Special Provisions) Act, 1958 (MRU Act) pursuant to which, all the debt obligations of the Corporate Debtor towards its creditors stood suspended. It was further argued that there was a non-obstante clause under Section 4 of the MRU Act which lays down that that the provisions of the MRU Act applied to relief undertakings notwithstanding anything contained in any other law. The Financial Creditor argued that there is a similar nonobstante clause under Section 238 of the Code which prescribes that the provisions of the Code would apply notwithstanding anything inconsistent contained in any other law.

The NCLT held the Code would prevail over the MRU Act as the Code was enacted subsequent to the MRU Act and the latter law prevails over the former one. Further, there was no repugnancy between the objects of the MRU Act and the Code since the objects of the MRU Act and the Code operate in different fields viz. prevention of unemployment of the existing employees of a relief undertaking and protection of creditors of the said entity, respectively.

Aggrieved by the above, the Corporate Debtor preferred an appeal under Section 60 of the Code before the National Company Law Appellate Tribunal (NCLAT) inter alia the ground that no reasonable opportunity of hearing was granted to the Corporate Debtor. The NCLAT dismissed the petition inter alia on the following grounds:

  • Further to NCLT's reasoning on this point, the NCLAT held that the protection under the MRU Act cannot be extended to other legislations especially to the Code which is a union legislation and relates to insolvency resolution;
  • While relying on well-settled law expounded by the Apex Court (AK Kripak, Maneka Gandhi, Swadeshi Cotton Mills, State of Orissa v. Bina Pani dei), the NCLAT held that natural justice is essential and as per amended Section 424 of Companies Act, 2013, it is mandatory for the adjudicating authority to follow the principles of natural justice while passing an order under the Code. The NCLAT also noted that Rule 4(3) of the Insolvency and Bankruptcy (Application to Adjudicating Authority) Rules, 2016 mandates a notice to be issued post filing of the application under the Code. However, there are exceptions to the rules of natural justice, inter alia: (A) where prompt action is needed; (B) where procedural effect has no effect on the outcome; and (C) where it is a useless formality. In the opinion of the NCLAT, the exceptions applied to the instant case; and
  • As far as the Master Restructuring Agreement dated 8 September 2014 (MRA) executed between the Financial Creditor and the Corporate Debtor was concerned; the Corporate Debtor cannot take advantage of the same. Even if it was presumed that fresh agreement came into existence, it does not absolve the Corporate Debtor from paying the previous debts which was due to the Financial Creditor.

The Corporate Debtor subsequently preferred an appeal before the Apex Court under Section 62 of the Code against the order of NCLAT on the ground that the 'debt' in question was temporarily suspended in terms of the notification issued under the MRU Act until 18 July 2017 and accordingly proceedings under the Code cannot be initiated against the Corporate Debtor. Further, the Corporate Debtor also relied on the MRA under which funds were to be infused by the Financial Creditor stating that the Corporate Debtor was unable to fulfil its repayment obligations as a direct consequence of the non-disbursal of funds by the Financial Creditor under the MRA.

Judgment of the Apex Court

The Apex Court after hearing the parties before it observed that under Section 17(b) of the Code, once an interim insolvency resolution professional has been appointed, the powers of the board of directors stand suspended and the erstwhile directors are no longer in the management of the company. Therefore, subsequent to the appointment of the interim insolvency professional, the erstwhile directors do not have any right to maintain an appeal on behalf of the company even if it pertains to challenge against the order of NCLT in terms of the provisions of the Code.

This observation of the Apex Court may raise some practical concerns with respect to filing of appeals by the Corporate Debtor whose CIRP is admitted by the NCLT. To provide a perspective, if according to the Apex Court's interpretation, only the person who is in management and control of the company can maintain an appeal on behalf of the company, the logical corollary of the same would be that only the insolvency resolution professional can maintain an appeal on behalf of the company. However, this would create a situation of potential conflict as the insolvency resolution professional is appointed on admission of the application filed by the creditors.

The Apex Court while observing that this procedural irregularity itself makes the appeal non-maintainable and liable to be dismissed, proceeded to address the other grounds of the appeal in order to substantively settle certain important legal questions under the Code to guide the subordinate courts and tribunals across the country.

Applicability of MRU Act Vis-Ŕ-Vis the Code

On the issue of inconsistency between the provisions of the Code which is a central legislation and the MRU Act, which is a state legislation, relying upon Article 254 of the Constitution of India, 1950 which recognises supremacy of central laws over state laws, to the extent of any repugnancy and authorities from several other jurisdictions across the world such as UK, USA, Australia etc., the Apex Court held that the provisions of the Code override the provisions of the MRU Act and the moratorium under the MRU Act would not come in the way of initiating proceedings under the Code.

After elaborately elucidating on different conditions under which legislation can be held to be repugnant with each other, the Apex Court while overruling the findings of the NCLAT held that the MRU Act was indeed in repugnance with the Code for the following reasons:

  • Both the legislations stem out of the subjects enshrined under the Concurrent List (i.e. Entry 9 for the Code and Entry 23 for the MRU Act), satisfying the primary test for repugnancy;
  • The Code envisages a CIRP of 180 days (extendable by another 90 days) during which the insolvency resolution professional shall take over the management from the board of directors, which stand suspended during this period. On the other hand, the MRU Act provides that if an entity has been categorized as a 'relief undertaking' then, the State Government may take over the management of such undertaking and a temporary moratorium is imposed restricting the creditors from proceeding against the concerned relief undertaking from recovering their debts. Therefore, giving effect to the provisions of the MRU Act, would certainly interfere with the operation and scheme of the Code, as it would directly impede the taking over of the management of the corporate body by the interim resolution professional;
  • Additionally, the moratorium imposed by the MRU Act would directly clash with the moratorium to be issued under the Code, as the moratorium under the MRU Act is discretionary and may relate to one or more matters, however, the moratorium under Section 14 of the Code is bereft of discretion and pertains to all matters set out therein;
  • Giving effect to the non-obstante clause under Section 4 of the MRU Act would necessarily come in the way of giving effect to the non-obstante clause under Section 238 of the Code; and
  • Lastly, the notification under the MRU Act, continues for 1 year at a time and can continue upto 15 years, as compared to the significantly shorter time period under the Code. Therefore, the vast difference in the length of the two provisions would scuttle the scheme and objective of the Code which is time bound resolution of stressed assets.

Failure of the Lender to Infuse Additional Funds

The Apex Court while rejecting the contention that failure of lenders to disburse under the MRA contributed to inability on the part of the Corporate Debtor to discharge its dues held that any such contention would not be maintainable in view of the unconditional nature of payment obligations under the MRA which did not depend upon infusion of funds by the creditors into the Corporate Debtor.

Basis the above two reasons, the Apex Court upheld the findings of NCLAT and dismissed the appeal filed by the Corporate Debtor.

Comment

The judgment of the Apex Court clearly recognises the objective and importance of the Code in so far as it provides a unified and time bound regime on insolvency and bankruptcy which can considerably ease the process of exit of entities in distress and help in protecting and preserving value of assets stuck in such distress situations. In this context, the multitude of overlapping legislations which would be repugnant to the provisions of the Code present a challenge in implementation of this landmark legislation and to that extent the ruling of Apex Court in Innoventive Industries is very welcome in so far as it clarifies and recognises the overriding nature of the Code in case of inconsistency. This would clearly provide an impetus for resolution of plethora of distressed accounts in the Indian banking system through the regime introduced under the Code.

The content of this document do not necessarily reflect the views/position of Khaitan & Co but remain solely those of the author(s). For any further queries or follow up please contact Khaitan & Co at legalalerts@khaitanco.com

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