Supreme Court clarifies Adjudicating Authority’s Role in Insolvency Petitions: E S Krishnamurthy vs. Bharath Hi Tech Builders (2021)

Date of the Judgment: 14 December 2021

Citation: (2021) Civil Appeal No 3325 of 2020

Judges: Dr Dhananjaya Y Chandrachud, J and A S Bopanna, J

Can a bankruptcy court simply dismiss a plea for insolvency if the company promises to pay its dues later? The Supreme Court of India tackled this question in a recent case, clarifying the powers of the National Company Law Tribunal (NCLT) when dealing with insolvency petitions. The court examined whether the NCLT can dismiss a petition under Section 7 of the Insolvency and Bankruptcy Code, 2016 (IBC) solely because the company is trying to settle with its creditors, without looking into the merits of the case. The judgment was delivered by a two-judge bench comprising Justice Dr. Dhananjaya Y Chandrachud and Justice A.S. Bopanna.

Case Background

The case originated from a Master Agreement to Sell dated 22 June 2014, between M/s Bharath Hi Tech Builders Pvt. Ltd. (the respondent), IDBI Trusteeship Limited, and Karvy Realty (India) Limited. The goal was to raise ₹50 crores for developing agricultural land. The respondent was to sell plots to buyers and pay them 25% annual interest. The ninth appellant was allotted a plot for ₹12,50,000, with the plot to be conveyed by 21 March 2016.

Due to insufficient funds, a Syndicate Loan Agreement was made on 22 November 2014, to borrow ₹18 crores. Lenders would sign a Deed of Adherence. The respondent was to use the funds for the project and pay a 20% annual return, with an additional 1% monthly interest for defaults. The appellants, except the ninth, claim they lent money to the respondent based on advice from Karvy, resulting in over ₹15 crores raised from about 300 investors.

On 29 February 2016, the respondent sought an extension until 31 October 2016, to convey the plots, promising a refund with interest if they failed. On 30 November 2016, the loan term was extended by 12 months, with a promise to repay the principal in three installments. However, on 26 April 2019, 11 of the 17 appellants, along with 72 others, filed a petition under Section 7 of the IBC, claiming the respondent defaulted on payments of ₹33,84,32,493.

Timeline

Course of Proceedings

Initially, the National Company Law Tribunal (NCLT) adjourned the case multiple times to allow for settlement. On 28 February 2020, the NCLT dismissed the petition, noting the respondent’s efforts to settle with 140 investors, including 13 of the petitioners. The NCLT directed the respondent to settle remaining claims within three months, allowing aggrieved parties to re-approach the NCLT if needed. The NCLT reasoned that the IBC process is summary and cannot manage every individual claim, and that initiating CIRP would harm home buyers and creditors, as the project was near completion.

The National Company Law Appellate Tribunal (NCLAT) upheld the NCLT’s decision on 30 July 2020, stating that the NCLT had disposed of the petition at the ‘pre-admission stage’ due to ongoing settlement efforts. The NCLAT also noted the COVID-19 pandemic’s impact on businesses and emphasized that the claims of home buyers should be prioritized. The NCLAT held that the NCLT had protected the rights of the appellants by setting a time frame for settlement and allowing them to re-approach the NCLT if their claims remained unsettled. It concluded that pushing the corporate debtor into liquidation should be the last resort.

Legal Framework

The core of this case revolves around Section 7 of the Insolvency and Bankruptcy Code, 2016 (IBC). This section allows a financial creditor to initiate the Corporate Insolvency Resolution Process (CIRP) against a corporate debtor when a default has occurred. According to Section 3(12) of the IBC, a “default” means the non-payment of debt when it has become due and payable. Section 3(11) defines “debt” as a liability or obligation in respect of a claim due from any person, including financial and operational debts.

Section 7(5) of the IBC outlines the Adjudicating Authority’s powers. It states:

“Where the Adjudicating Authority is satisfied that—(a) a default has occurred and the application under sub-section (2) is complete, and there is no disciplinary proceedings pending against the proposed resolution professional, it may, by order, admit such application; or (b) default has not occurred or the application under sub-section (2) is incomplete or any disciplinary proceeding is pending against the proposed resolution professional, it may, by order, reject such application…”

This provision indicates that the Adjudicating Authority can either admit the application if a default has occurred and the application is complete, or reject it if no default has occurred or the application is incomplete. The code does not provide for any other course of action.

Arguments

Appellants’ Submissions:

• The NCLT and NCLAT acted beyond their jurisdiction under the IBC, making their orders invalid.
• The orders contradict Section 7 of the IBC, which requires the Adjudicating Authority to admit a petition if a default has occurred, unless the debt is not due or is legally barred.
• The respondent defaulted as per Section 3(12) of the IBC, as they were willing to settle the debt. Despite this, the NCLT did not admit the application.
• The NCLT and NCLAT incorrectly directed parties to settle, acting beyond their statutory powers. They acted as courts of equity, which is not allowed by the IBC.
• The NCLT should have decided the case on merits after settlement attempts failed.
• Admission of the petition would not have prevented settlement, as the IBC allows for settlement even after admission and before the formation of the Committee of Creditors (CoC), and also through Section 12A of the IBC.
• The NCLAT created a sub-class of financial creditors by prioritizing allottees in housing projects over other investors.
• The threshold requirement of 10% allottees for filing a Section 7 petition, as upheld in Manish Kumar v. Union of India, was met by the original 83 petitioners.

Respondent’s Submissions:

• The appeal aims to bypass the procedural requirements of Section 7 of the IBC.
• The reduced number of litigants shows that the respondent has made efforts to settle disputes.
• The amended Section 7 requires a threshold of 10% or 100 home buyers, which the appellants do not meet.
• The proceedings are an attempt to arm-twist the respondent, rather than accept settlement offers.
• The respondent has settled with many investors, and is committed to settling with the remaining ones.
• The respondent should not be pushed into insolvency because a few creditors are unwilling to settle. The appellants are speculative investors, not allottees under Section 5(8)(12) of the IBC.

Submissions Table

Issues Framed by the Supreme Court

The Supreme Court framed the following issue for adjudication:

“Whether, in terms of the provisions of the IBC, the Adjudicating Authority can without applying its mind to the merits of the petition under Section 7, simply dismiss the petition on the basis that the corporate debtor has initiated the process of settlement with the financial creditors.”

Treatment of the Issue by the Court

Authorities

Cases Relied Upon by the Court:

• Innoventive Industries Ltd. v. ICICI Bank [(2018) 1 SCC 407] – Supreme Court of India: This case was cited to emphasize that the Adjudicating Authority only needs to determine if a default has occurred, not delve into disputes about the debt. The court reiterated that if a default is established, the application must be admitted unless incomplete.
• Embassy Property Developments (P) Ltd. v. State of Karnataka [(2020) 13 SCC 308] – Supreme Court of India: This case was cited to support the proposition that the Adjudicating Authority and Appellate Authority have limited jurisdiction under the IBC.
• Pratap Technocrats (P) Ltd. v. Monitoring Committee of Reliance Infratel Limited [2021 SCC OnLine SC 569] – Supreme Court of India: This case was used to argue that the Adjudicating Authority and Appellate Authority cannot act as courts of equity and must adhere to the statutory provisions of the IBC.
• Swiss Ribbons Pvt Ltd and Anr. v. Union of India and Ors. [(2019) 4 SCC 17] – Supreme Court of India: This case was cited to highlight that settlement is possible even after the admission of a Section 7 petition and before the formation of the CoC.
• Manish Kumar v. Union of India [(2021) 5 SCC 1] – Supreme Court of India: This case was cited to discuss the threshold requirement for allottees of a housing project to file a petition under Section 7 of the IBC.
• Arun Kumar Jagatramka v. Jindal Steel & Power Ltd. [(2021) 7 SCC 474] – Supreme Court of India: This case was cited to caution the Adjudicating Authorities and the Appellate Authority against judicial interference with the framework created by the IBC.

Legal Provisions Considered by the Court:

• Section 3(11) of the Insolvency and Bankruptcy Code, 2016: Defines “debt” as a liability or obligation in respect of a claim due from any person.
• Section 3(12) of the Insolvency and Bankruptcy Code, 2016: Defines “default” as the non-payment of debt when it has become due and payable.
• Section 7 of the Insolvency and Bankruptcy Code, 2016: Provides for the initiation of CIRP by a financial creditor.
• Section 7(5) of the Insolvency and Bankruptcy Code, 2016: Specifies the powers of the Adjudicating Authority to admit or reject an application for CIRP.
• Section 12A of the Insolvency and Bankruptcy Code, 2016: Provides a mechanism for the withdrawal of a petition if the parties reach a settlement.
• Section 5(8)(12) of the Insolvency and Bankruptcy Code, 2016: Defines financial debt.

Authority Consideration Table

Judgment

The Supreme Court held that the NCLT and NCLAT erred in dismissing the Section 7 petition based on settlement efforts alone, without assessing the merits of the case. The Court emphasized that the Adjudicating Authority has a statutory duty to determine whether a default has occurred and either admit or reject the application accordingly. It cannot compel parties to settle or dispose of the petition by directing settlement.

How each authority was viewed by the Court:

• Innoventive Industries Ltd. v. ICICI Bank [(2018) 1 SCC 407]*: The court followed this authority to emphasize that the Adjudicating Authority only needs to determine if a default has occurred.
• Embassy Property Developments (P) Ltd. v. State of Karnataka [(2020) 13 SCC 308]*: The court relied on this authority to support the limited jurisdiction of the Adjudicating Authority and Appellate Authority under the IBC.
• Pratap Technocrats (P) Ltd. v. Monitoring Committee of Reliance Infratel Limited [2021 SCC OnLine SC 569]*: The court used this authority to highlight that the Adjudicating Authority and Appellate Authority cannot act as courts of equity and must follow the statutory provisions.
• Swiss Ribbons Pvt Ltd and Anr. v. Union of India and Ors. [(2019) 4 SCC 17]*: The court cited this authority to show that settlement is possible even after the admission of a Section 7 petition.
• Manish Kumar v. Union of India [(2021) 5 SCC 1]*: The court referred to this authority to discuss the threshold requirement for allottees of a housing project to file a petition under Section 7 of the IBC.
• Arun Kumar Jagatramka v. Jindal Steel & Power Ltd. [(2021) 7 SCC 474]*: The court cited this authority to caution against judicial interference with the framework created by the IBC.

What weighed in the mind of the Court?

The Supreme Court’s decision was primarily influenced by the need to ensure that the Adjudicating Authority adheres to the statutory framework of the IBC. The Court emphasized that the Adjudicating Authority cannot abdicate its responsibility to determine whether a default has occurred and must either admit or reject the application based on the merits of the case. The Court’s reasoning was driven by the following:

• Statutory mandate: The Court stressed that the Adjudicating Authority is a creature of statute and must operate within the confines of the IBC. It cannot act as a court of equity or compel parties to settle disputes.
• Importance of adjudication: The Court highlighted that the Adjudicating Authority must adjudicate on the existence of a default. It cannot dismiss a petition solely based on settlement efforts without assessing the merits of the case.
• Limited jurisdiction: The Court reiterated that the Adjudicating Authority’s jurisdiction is limited by the IBC and it cannot take actions not explicitly provided for in the statute.
• Purpose of IBC: While encouraging settlements, the Court clarified that the primary purpose of the IBC is to facilitate the resolution of insolvency in a time-bound manner, and not to avoid insolvency at all costs.

Sentiment Analysis of Reasons Given by the Supreme Court:

Fact:Law Ratio Analysis:

The court’s reasoning was heavily influenced by legal considerations, with a focus on the statutory framework of the IBC and the precedents set by prior judgments.

Logical Reasoning

Key Takeaways

• Adjudicating Authority’s Role: The Adjudicating Authority under the IBC must assess the merits of a Section 7 petition and cannot dismiss it solely based on ongoing settlement efforts.
• Limited Jurisdiction: The Adjudicating Authority and Appellate Authority are creatures of statute and must operate within the confines of the IBC. They cannot act as courts of equity or compel parties to settle.
• Importance of Adjudication: The Adjudicating Authority must adjudicate on the existence of a default. It cannot dismiss a petition without assessing the merits of the case.
• Settlement Encouraged, Not Mandated: While settlements are encouraged, the Adjudicating Authority cannot mandate them or use settlement efforts as a basis to avoid its statutory duty of adjudication.
• Restoration of Proceedings: The Supreme Court restored the petition to the NCLT for a fresh decision on its admissibility under Section 7(5) of the IBC.

Directions

The Supreme Court set aside the judgments of the NCLAT and NCLT and restored the original petition under Section 7 of the IBC to the NCLT for a fresh decision on its admissibility under Section 7(5) of the IBC. The impleadment applications were disposed of, with the applicants being granted the liberty to adopt appropriate proceedings in accordance with law before the Adjudicating Authority.

Final Order

The Supreme Court allowed the appeals, set aside the judgments of the NCLAT and NCLT, and restored the original petition under Section 7 of the IBC to the NCLT for a fresh decision on its admissibility under Section 7(5) of the IBC. The impleadment applications were disposed of, with the applicants being granted the liberty to adopt appropriate proceedings in accordance with law before the Adjudicating Authority.