Supreme Court Clarifies Limitation and Pre-Existing Dispute in Insolvency Cases: Sabarmati Gas vs. Shah Alloys (2023)

Introduction

Date of the Judgment: 04 January 2023

Citation: (2023) INSC 17

Judges: Justice Ajay Rastogi, Justice C.T. Ravikumar

Can a creditor initiate insolvency proceedings against a company when the debt recovery was previously barred by law? The Supreme Court of India recently addressed this complex question in a case between Sabarmati Gas Limited and Shah Alloys Limited. The court examined whether the period during which legal proceedings were suspended under the Sick Industrial Companies Act (SICA) should be excluded when calculating the limitation period for filing an application under Section 9 of the Insolvency and Bankruptcy Code (IBC). This case also delves into what constitutes a ‘pre-existing dispute’ that could prevent the initiation of insolvency proceedings. The judgment was delivered by a two-judge bench comprising Justice Ajay Rastogi and Justice C.T. Ravikumar, with Justice C.T. Ravikumar authoring the opinion.

Case Background

Sabarmati Gas Limited (the appellant) and Shah Alloys Limited (the respondent) entered into a Gas Sales Agreement (GSA) on 30 May 2008, where Sabarmati Gas was to supply natural gas to Shah Alloys. According to the agreement, Shah Alloys was obligated to make payments for the gas supply. However, the respondent started defaulting on payments from November 2011, making only partial and irregular payments.

Meanwhile, on 31 August 2010, the Board for Industrial and Financial Reconstruction (BIFR) declared Shah Alloys a ‘sick company’ under the Sick Industrial Companies Act (SICA), which imposed a moratorium on any legal proceedings against the company without the BIFR’s permission. On 7 August 2012, Sabarmati Gas stopped the gas supply and subsequently intervened in the BIFR proceedings. On 8 March 2013, Sabarmati Gas sought permission from the BIFR to initiate recovery proceedings for outstanding dues of Rs. 4,71,56,095. The BIFR passed an order on 9 September 2015.

The SICA was repealed on 1 December 2016, and the Insolvency and Bankruptcy Code (IBC) came into effect. Following this, Sabarmati Gas issued a demand notice on 1 April 2017, under Section 8 of the IBC, demanding payment of the operational debt. Shah Alloys replied on 10 April 2017, claiming a shortfall in gas supply and losses due to the disconnection of gas supply, thus denying liability. Consequently, Sabarmati Gas filed an application under Section 9 of the IBC before the National Company Law Tribunal (NCLT), seeking initiation of the Corporate Insolvency Resolution Process (CIRP). The NCLT dismissed the application on 27 June 2019, citing limitation and the existence of a ‘pre-existing dispute’. This decision was upheld by the National Company Law Appellate Tribunal (NCLAT), leading to the present appeal before the Supreme Court.

Timeline:

Legal Framework

The case primarily revolves around the interpretation of Section 22 of the Sick Industrial Companies (Special Provisions) Act, 1985 (SICA) and Sections 8, 9, and 238A of the Insolvency and Bankruptcy Code, 2016 (IBC).

Section 22(1) of SICA imposed a bar on legal proceedings against a company declared ‘sick’ by the BIFR. It stated:

“22. Suspension of legal proceedings, contracts, etc. – (1) Where in respect of an industrial company, an inquiry under section 16 is pending or any scheme referred to under section 17 is under preparation or consideration or a sanctioned scheme is under implementation or where an appeal under section 25 relating to an industrial company is pending, then, notwithstanding anything contained in the Companies Act, 1956 (1 of 1956) or any other law or the memorandum and articles of association of the industrial company or any other instrument having effect under the said Act or other law, no proceedings for the winding up of the industrial company or for execution, distress or the like against any of the properties of the industrial company or for the appointment of a receiver in respect thereof [and no suit for the recovery of money or for the enforcement of any security against the industrial company or of any guarantee in respect of any loans or advance granted to the industrial company] shall lie or be proceeded with further, except with the consent of the Board or, as the case may be, the Appellate Authority.”

Section 22(5) of SICA allowed for the exclusion of the period of suspension while calculating the limitation period. It stated:

“22. Suspension of legal proceedings, contracts, etc. – (5) In computing the period of limitation for the enforcement of any right, privilege, obligation or liability, the period during which it or the remedy for the enforcement thereof remains suspended under this section shall be excluded.”

Section 8 of the IBC deals with the insolvency resolution process initiated by an operational creditor, requiring a demand notice to be issued to the corporate debtor. Section 9 of the IBC allows an operational creditor to initiate CIRP if the debt remains unpaid after the demand notice period. Section 238A of the IBC makes the Limitation Act, 1963 applicable to proceedings before the Adjudicating Authority.

Arguments

Appellant (Sabarmati Gas Limited) Arguments:

• The appellant argued that the NCLT and NCLAT failed to appreciate the effect of Section 22(1) and 22(5) of SICA. They contended that the period during which the right to proceed against Shah Alloys was suspended due to the moratorium under SICA (from 31 August 2010 to 1 December 2016) should be excluded when calculating the limitation period for filing an application under Section 9 of IBC.
• Relying on Paramjeet Singh Patheja v. ICDS Ltd. [(2006) 13 SCC 322], the appellant argued that there was a statutory bar on initiating legal proceedings for the realization of their rights during the SICA moratorium.
• The appellant contended that the application under Section 9 of the IBC was filed on 20 August 2018. If the period of suspension under SICA was excluded, the application would fall well within the three-year limitation period prescribed under Article 137 of the Limitation Act, 1963.
• The appellant argued that Shah Alloys had acknowledged the debt in the BIFR proceedings and had agreed to incorporate the dues in the Draft Rehabilitation Scheme (DRS), indicating no pre-existing dispute.
• The appellant also relied on Macquarie Bank Limited v. Shilpi Cable Technologies Limited [(2018) 2 SCC 674] to argue that the production of a certificate from a financial institution is not a condition precedent to trigger CIRP.

Respondent (Shah Alloys Limited) Arguments:

• The respondent argued that the NCLT and NCLAT correctly applied the law and found the application under Section 9 of the IBC to be barred by limitation.
• The respondent contended that there was a discrepancy between the amount claimed in the Section 9 application and the demand notice under Section 8 of the IBC.
• The respondent also argued that the cause of action was different in the Section 9 application and the demand notice.
• The respondent argued that Section 22(1) of SICA did not provide a blanket protection against the running of the cause of action but merely suspended coercive legal proceedings.
• The respondent contended that the benefit of exclusion of time under Section 22(5) of SICA is not applicable for computing the limitation period for an application under Section 9 of the IBC.
• The respondent argued that a pre-existing dispute existed between the parties, as evidenced by their letter dated 4 January 2013, and the issues related to the shortfall in gas supply and losses due to the disconnection of gas supply.
• The respondent relied on Macquarie Bank Limited v. Shilpi Cable Technologies Limited [(2018) 2 SCC 674] to argue that the existence of a pre-existing dispute warrants the dismissal of the application under Section 9 of the IBC.

[TABLE] of Submissions:

Issues Framed by the Supreme Court

The Supreme Court framed the following issues for consideration:

1. Whether in computation of the period of limitation in regard to an application filed under Section 9, IBC, the period during which the operational creditor’s right to proceed against or sue the corporate debtor that remain suspended by virtue of Section 22 (1) of SICA can be excluded, as provided under Section 22 (5) of SICA?
2. Whether the respondent has raised a dispute which is describable as ‘pre-existing dispute’ between itself and the appellant warranting dismissal of application under Section 9 of the IBC at the threshold?

Treatment of the Issue by the Court:

The following table demonstrates as to how the Court decided the issues

Authorities

The Supreme Court considered the following authorities:

On the interpretation of Section 22 of SICA:

• Paramjeet Singh Patheja v. ICDS Ltd. [(2006) 13 SCC 322] – The Court discussed this case, which held that the term “suit” in Section 22 of SICA includes any proceedings for realization of a right vested in a party by law, including arbitration proceedings. However, this case was later found to be decided per incuriam.
• Kailash Nath Agarwal and Ors. v. Pradeshiya Industrial & Investment Corporation of U.P. Ltd. and Anr. [(2003) 4 SCC 305] – This case held that Section 22(1) of SICA only prohibits recovery against the industrial company and does not protect guarantors. It was noted that this case was not brought to the notice of the bench in Paramjeet Singh Patheja’s case.
• KSL & Industries Ltd. Vs. M/s. Arihant Threads Ltd [(2015) 1 SCC 166] – This three-judge bench decision clarified that Section 22(1) of SICA bars recovery applications against a sick company, as it is a proceeding that may result in execution and distress.

On the applicability of the Limitation Act to IBC:

• B.K. Educational Services Private Limited v. Parag Gupta and Associates [(2019) 11 SCC 633] – This case clarified that the Limitation Act, 1963, applies to applications under Sections 7 and 9 of the IBC and that the limitation period is three years from the date the right to apply accrues.
• Babulal Vardharji Gurjar v. Veer Gurjar Aluminium Industries Private Limited and Anr. [(2020) 15 SCC 1] – This case discussed when the right to apply accrues under the IBC and reiterated that the limitation period is three years from the date of default.

On ‘Pre-Existing Dispute’ under IBC:

• Macquarie Bank Limited v. Shilpi Cable Technologies Limited [(2018) 2 SCC 674] – This case discussed the conditions for triggering the IBC and clarified that a certificate from a financial institution is not a condition precedent. It also emphasized that the existence of a pre-existing dispute entails dismissal of an application under Section 9 of the IBC.
• Innoventive Industries Ltd. v. ICICI Bank and Anr. [(2018) 1 SCC 407] – This case highlighted the contrast between the schemes under Sections 7 and 8 of the IBC and stated that the moment there is existence of such a dispute, the operational creditor gets out of the clutches of the Code.
• Mobilox Innovations (P) Ltd. v. Kirusa Software (P) Ltd. [(2018) 1 SCC 353] – This case explained the scheme under Sections 8 and 9 of the IBC and clarified that the dispute must be pre-existing (i.e., before the receipt of the demand notice) and that the adjudicating authority must reject the application if a notice of dispute has been received, provided it is not a patently feeble legal argument.

Other Authorities:

• State of Punjab v. The Okara Grain Buyers Syndicate Ltd. [AIR 1964 SC 669] – This case was cited in the context of preserving the beneficent purpose of the statute.

[TABLE] of Authorities Considered by the Court:

Judgment

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

How each authority was viewed by the Court?

• Paramjeet Singh Patheja v. ICDS Ltd. [(2006) 13 SCC 322]: The Court acknowledged the ruling but noted it was per incuriam.
• Kailash Nath Agarwal and Ors. v. Pradeshiya Industrial & Investment Corporation of U.P. Ltd. and Anr. [(2003) 4 SCC 305]: The Court noted the conflicting view in this case but did not rely on it, as the issue was clarified by a subsequent three-judge bench decision.
• KSL & Industries Ltd. Vs. M/s. Arihant Threads Ltd [(2015) 1 SCC 166]: The Court followed this three-judge bench decision, which clarified the scope of Section 22(1) of SICA, stating that recovery applications against a sick company are barred.
• B.K. Educational Services Private Limited v. Parag Gupta and Associates [(2019) 11 SCC 633]: The Court followed this case to establish that the Limitation Act applies to IBC proceedings and that the limitation period is three years from the date the right to apply accrues.
• Babulal Vardharji Gurjar v. Veer Gurjar Aluminium Industries Private Limited and Anr. [(2020) 15 SCC 1]: The Court followed this case to clarify that the limitation period is three years from the date of default.
• Macquarie Bank Limited v. Shilpi Cable Technologies Limited [(2018) 2 SCC 674]: The Court relied on this case to reiterate that a certificate from a financial institution is not a condition precedent and that the existence of a pre-existing dispute warrants the dismissal of an application under Section 9 of the IBC.
• Innoventive Industries Ltd. v. ICICI Bank and Anr. [(2018) 1 SCC 407]: The Court referred to this case to highlight the contrast between the schemes under Sections 7 and 8 of the IBC.
• Mobilox Innovations (P) Ltd. v. Kirusa Software (P) Ltd. [(2018) 1 SCC 353]: The Court followed this case to define the scope of ‘pre-existing dispute’ under the IBC, emphasizing that the dispute must be pre-existing and not a patently feeble legal argument.

What weighed in the mind of the Court?

The Supreme Court’s decision was influenced by several key factors:

• Statutory Bar under SICA: The court recognized that Section 22(1) of SICA imposed a statutory bar on legal proceedings against a sick company, which prevented the appellant from initiating recovery proceedings.
• Exclusion of Time: The court acknowledged that the period of suspension under SICA should be excluded when calculating the limitation period, not directly under Section 238A of IBC and the Limitation Act, but as a sufficient cause for condonation of delay under Section 5 of the Limitation Act.
• Pre-Existing Dispute: The court found that the respondent had raised a plausible pre-existing dispute, as evidenced by their letter dated 4 January 2013, and the issues related to the shortfall in gas supply and losses due to the disconnection of gas supply.
• Ongoing Arbitration: The court also took note of the ongoing arbitration proceedings between the parties, which further supported the existence of a dispute.

Sentiment Analysis of Reasons Given by the Supreme Court:

Fact:Law Ratio Analysis:

The court’s reasoning was a blend of both factual considerations (such as the existence of a pre-existing dispute and the ongoing arbitration) and legal considerations (such as the statutory bar under SICA and the applicability of the Limitation Act).

Logical Reasoning:

Ruling

The Supreme Court held that while the period of suspension under Section 22(1) of SICA could be excluded for the purpose of computing limitation, the respondent had raised a valid pre-existing dispute. Therefore, the Court upheld the decision of the NCLT and NCLAT, dismissing the application under Section 9 of the IBC.

The Court concluded that the application under Section 9 of the IBC was rightly dismissed by the NCLT and NCLAT. The Court held that the period of suspension under SICA can be excluded for the purpose of condoning the delay in filing the application, but the existence of a pre-existing dispute warrants the dismissal of the application. The Court did not interfere with the findings of the NCLT and NCLAT.

Significance and Implications

The Supreme Court’s judgment in Sabarmati Gas Limited vs. Shah Alloys Limited has significant implications for insolvency law, particularly concerning the interplay between SICA and IBC, the calculation of limitation periods, and the definition of a ‘pre-existing dispute’.

Key Implications:

• Exclusion of SICA Suspension Period: The judgment clarifies that the period during which legal proceedings were suspended under SICA can be excluded when calculating the limitation period for applications under Section 9 of the IBC, not directly under Section 238A of IBC and the Limitation Act, but as a sufficient cause for condonation of delay under Section 5 of the Limitation Act. This provides relief to creditors who were previously barred from initiating proceedings due to SICA.
• Definition of Pre-Existing Dispute: The judgment reinforces the principle that a pre-existing dispute, if genuine and not a patently feeble legal argument, is sufficient to dismiss an application under Section 9 of the IBC. The court emphasized that the dispute must have existed before the issuance of the demand notice.
• Relevance of Ongoing Arbitration: The court’s consideration of the ongoing arbitration proceedings between the parties highlights that the existence of an arbitration clause and the initiation of arbitration proceedings can be a strong indicator of a pre-existing dispute.
• Balance between Creditor and Debtor Rights: The judgment strikes a balance between the rights of creditors to recover their dues and the protection of debtors from frivolous insolvency proceedings. It ensures that genuine disputes are resolved before insolvency proceedings are initiated.
• Application of Limitation Act: The court reiterated that the Limitation Act applies to IBC proceedings, reinforcing the importance of timely action by creditors.

Lessons Learned:

• Timely Action: Creditors must be proactive in pursuing their claims and should not delay initiating proceedings, keeping the limitation period in mind.
• Documentation of Disputes: Corporate debtors should document any disputes with operational creditors, as this can be crucial in preventing the initiation of insolvency proceedings.
• Understanding the Interplay of Laws: The judgment underscores the importance of understanding the interplay between different laws, particularly the SICA and the IBC, and how they affect the rights and obligations of creditors and debtors.
• Importance of Genuine Disputes: The judgment highlights the need for genuine disputes to be addressed outside the IBC framework, preventing the misuse of insolvency proceedings as a debt recovery mechanism.

Conclusion

The Supreme Court’s judgment in Sabarmati Gas Limited vs. Shah Alloys Limited provides valuable clarity on the interpretation of limitation periods and the definition of pre-existing disputes in the context of insolvency proceedings. While the Court acknowledged that the period of suspension under SICA could be excluded for the purpose of computing limitation, it ultimately upheld the dismissal of the application under Section 9 of the IBC due to the existence of a pre-existing dispute. This judgment reinforces the importance of genuine disputes being resolved outside the IBC framework and provides a balanced approach to the rights of creditors and debtors.

The Supreme Court’s decision underscores the importance of addressing genuine disputes before initiating insolvency proceedings. It clarifies that while the period of suspension under SICA can be excluded for limitation purposes, the existence of a pre-existing dispute will warrant the dismissal of an application under Section 9 of the IBC. This judgment serves as a significant reference for future cases dealing with similar issues.