Supreme Court clarifies discretionary powers of NCLT under Section 7(5)(a) of IBC: Vidarbha Industries vs. Axis Bank (2022)

Introduction

Date of the Judgment: 12 July 2022

Citation: (2022) ibclaw.in 70 SC

Judges: Indira Banerjee, J. and J.K. Maheshwari, J.

Can the National Company Law Tribunal (NCLT) refuse to admit an application for the initiation of Corporate Insolvency Resolution Process (CIRP) even if a debt and default exist? The Supreme Court of India addressed this crucial question in a recent judgment, clarifying the discretionary powers of the NCLT under Section 7(5)(a) of the Insolvency and Bankruptcy Code (IBC). This case revolves around the interpretation of the word “may” in the said section, and whether it implies a mandatory or discretionary power of the NCLT. The two-judge bench, composed of Justice Indira Banerjee and Justice J.K. Maheshwari, delivered the judgment.

Case Background

Vidarbha Industries Power Limited (the Appellant), a power generating company, established a thermal power plant in Maharashtra. The company’s operations are regulated by the Maharashtra Electricity Regulatory Commission (MERC). The Appellant entered into a Power Purchase Agreement with Reliance Industries Limited (RIL) to supply power from its two units.

The Appellant faced financial difficulties when MERC disallowed a substantial portion of the actual fuel costs claimed by the Appellant. The Appellate Tribunal for Electricity (APTEL) ruled in favor of the Appellant, directing MERC to allow the actual cost of coal purchased for Unit-1, capped to the fuel cost for Unit 2 until a Fuel Supply Agreement (FSA) was executed for Unit 1. However, MERC challenged this order in the Supreme Court, leading to a pending appeal. Due to the pending appeal, the Appellant could not realize the amount due to it, leading to financial difficulties.

Axis Bank Limited (the Respondent), a financial creditor of the Appellant, initiated CIRP against the Appellant under Section 7 of the IBC due to the Appellant’s failure to repay its dues. The Appellant sought a stay of these proceedings, arguing that the pending appeal in the Supreme Court prevented it from realizing the funds necessary to clear its debts. The NCLT rejected this plea, and the NCLAT upheld the decision, leading to the present appeal before the Supreme Court.

Timeline

Course of Proceedings

The National Company Law Tribunal (NCLT), Mumbai, dismissed the Appellant’s application for a stay of the CIRP proceedings, holding that the IBC is a special legislation aimed at time-bound resolution. The NCLT stated that the inability of the Corporate Debtor to service debts is not a relevant factor under the IBC. It emphasized that its role was limited to ascertaining whether a debt and default existed, and that these factors alone would trigger CIRP.

The National Company Law Appellate Tribunal (NCLAT) upheld the NCLT’s decision, stating that the Appellant had no justification for stalling the CIRP process. The NCLAT found no legal infirmity in the NCLT’s order and dismissed the appeal, noting that the legal process was being stalled.

Legal Framework

The core of the legal framework in this case lies within the Insolvency and Bankruptcy Code, 2016 (IBC), specifically Sections 6 and 7.

Section 6 of the IBC states:

“Where any corporate debtor commits a default, a financial creditor, an operational creditor or the corporate debtor itself may initiate corporate insolvency resolution process in respect of such corporate debtor in the manner as provided under this Chapter.”

This section outlines who can initiate the CIRP.

Section 7 of the IBC deals with the initiation of CIRP by a financial creditor. Sub-section (1) allows a financial creditor to file an application for initiating CIRP when a default has occurred. Sub-section (5) of Section 7 is crucial to this case, and it states:

“(5) 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:”

The Supreme Court focused on the use of the word “may” in Section 7(5)(a) of the IBC, interpreting whether it indicates a mandatory or discretionary power of the NCLT to admit an application for CIRP.

Arguments

Appellant’s Arguments (Vidarbha Industries Power Limited):

• The Appellant argued that the NCLT should have stayed the CIRP proceedings due to extraordinary circumstances. The Appellant’s inability to pay its dues was directly linked to the pending appeal filed by MERC against an order of APTEL, which, if implemented, would enable the Appellant to realize a sum of Rs.1,730 Crores.
• The Appellant contended that the word “may” in Section 7(5)(a) of the IBC indicates that the NCLT has the discretion to admit or reject an application for CIRP, even if a debt and default exist. It was argued that this discretion should be used to achieve the overall objective of the IBC, which is revival of the company and value maximization.
• The Appellant relied on Rule 11 of the National Company Law Tribunal Rules, 2016, which preserves the inherent powers of the Tribunal to make orders necessary for meeting the ends of justice and preventing abuse of process.
• The Appellant argued that the object of the IBC is to revive the company, not to spell its death knell. Where there are favorable orders in favor of the Corporate Debtor, the NCLT is not denuded of the power to defer the hearing of the petition under Section 7 of the IBC. The Appellant is in its current situation for no fault of its own, but due to the statutory authorities.
• The Appellant drew an analogy to Section 10(4) of the IBC, which was held to be discretionary in Surendra Trading Company v. Juggilal Kamlapat Jute Mills Company Limited and Ors. [(2017) 16 SCC 143].

Respondent’s Arguments (Axis Bank Limited):

• The Respondent argued that Section 7(5)(a) of the IBC casts a mandatory obligation on the Adjudicating Authority to admit an application of the Financial Creditor, once it is found that a Corporate Debtor has committed default.
• The Respondent cited Swiss Ribbons Private Limited and Anr. v. Union of India and Ors. [(2019) 4 SCC 17], emphasizing that the trigger for a financial creditor’s application is non-payment of dues, and the legislative policy is now to move away from the concept of “inability to pay debts” to “determination of default”.
• The Respondent contended that the Appellant had attempted to delay the insolvency proceedings despite the concurrent findings of NCLT and NCLAT that default had occurred.
• The Respondent emphasized that the object of the IBC is to set up an effective legal framework for resolution of insolvency and bankruptcy in a time-bound manner.
• The Respondent relied on Innoventive Industries Ltd. v. ICICI Bank and Another [(2018) 1 SCC 407], arguing that the object of the IBC was to provide a framework for expeditious and time-bound insolvency resolution.

Submissions by Parties

Issues Framed by the Supreme Court

The Supreme Court framed the following issue for consideration:

• Whether Section 7(5)(a) of the Insolvency and Bankruptcy Code, 2016, is a mandatory or a discretionary provision. In other words, is the expression ‘may’ to be construed as ‘shall’, having regard to the facts and circumstances of the case.

Treatment of the Issue by the Court

Authorities

The Supreme Court considered the following authorities:

The Court also considered the following provisions of the IBC:

• Section 6 of the IBC: Outlines who can initiate the CIRP.
• Section 7 of the IBC: Deals with the initiation of CIRP by a financial creditor.
• Section 8 of the IBC: Relates to the initiation of CIRP by an Operational Creditor.
• Section 9 of the IBC: Prescribes the mode and manner by which an Operational Creditor can make an application for initiation of CIRP.

Judgment

How each submission made by the Parties was treated by the Court?

How each authority was viewed by the Court?

• Surendra Trading Company v. Juggilal Kamlapat Jute Mills Company Limited and Ors. [(2017) 16 SCC 143]*: The Court used this case to draw an analogy, noting that Section 10(4) of the IBC was held to be discretionary and not mandatory.
• Swiss Ribbons Private Limited and Anr. v. Union of India and Ors. [(2019) 4 SCC 17]*: The Court clarified that this case did not consider the question of whether Section 7(5)(a) of the IBC is mandatory or discretionary and that a judgment is a precedent for the question of law that is raised and decided.
• Innoventive Industries Ltd. v. ICICI Bank and Another [(2018) 1 SCC 407]*: The Court observed that this case emphasized the object of the IBC as a framework for expeditious and time-bound insolvency resolution, but did not address the discretionary nature of Section 7(5)(a).
• Lalita Kumari v. Government of Uttar Pradesh and Ors. [(2014) 2 SCC 1]*: The Court referred to this case to emphasize the rule of literal interpretation of statutes.
• Hiralal Rattanlal v. State of Uttar Pradesh [(1973) 1 SCC 216]*: The Court cited this case to reiterate that the first rule of statutory interpretation is the literal construction.
• B. Premanand v. Mohan Koikal [(2011) 4 SCC 266]*: The Court referred to this case to reiterate that the literal rule of interpretation is the primary rule and other rules can only be resorted to when the plain words are ambiguous.

What weighed in the mind of the Court?

The Supreme Court’s decision was primarily influenced by the literal interpretation of Section 7(5)(a) of the IBC, which uses the word “may,” indicating a discretionary power. The Court emphasized that the objective of the IBC is not solely to initiate CIRP in every case of default but also to consider the viability and financial health of the Corporate Debtor. The Court noted that the NCLT and NCLAT had erred in treating Section 7(5)(a) as mandatory, failing to consider the specific circumstances of the case, particularly the pending appeal in the Supreme Court and the potential for the Appellant to realize a substantial sum of money.

Fact:Law Ratio

The Supreme Court’s reasoning was influenced more by the legal interpretation of Section 7(5)(a) of the IBC (60%) than by the factual aspects of the case (40%).

Logical Reasoning

Key Takeaways

• The Supreme Court has clarified that Section 7(5)(a) of the IBC is discretionary and not mandatory. The NCLT has the power to admit or reject an application for CIRP even if a debt and default exist.
• The NCLT must consider all relevant factors, including the viability and financial health of the Corporate Debtor, and not just the existence of debt and default.
• Pending appeals or other circumstances that could impact the financial health of the Corporate Debtor should be taken into account by the NCLT before admitting an application for CIRP.
• This judgment provides more flexibility in the CIRP process and ensures that the IBC is not used to penalize solvent companies that are temporarily in default.

Directions

The Supreme Court set aside the orders of the NCLT and NCLAT and directed the NCLT to reconsider the application of the Appellant for stay of further proceedings on merits in accordance with law.

Development of Law

The ratio decidendi of this case is that Section 7(5)(a) of the IBC confers discretionary power on the Adjudicating Authority (NCLT) to admit an application of a Financial Creditor under Section 7 of the IBC for initiation of CIRP. This decision clarifies the interpretation of the word “may” in Section 7(5)(a) of the IBC, establishing that it does not mandate the admission of a CIRP application in every case of default. This judgment changes the previous understanding that the NCLT was obligated to admit an application if a debt and default existed.

Conclusion

In conclusion, the Supreme Court’s judgment in Vidarbha Industries Power Limited vs. Axis Bank Limited clarifies that the NCLT has discretionary powers under Section 7(5)(a) of the IBC and is not obligated to admit a CIRP application solely based on the existence of a debt and default. This decision emphasizes the need for the NCLT to consider all relevant factors, including the financial health and viability of the Corporate Debtor, before admitting an application for CIRP. This ruling provides a more balanced approach to insolvency resolution under the IBC.