Promoter Cannot Initiate Restructuring Scheme for Insolvent Company

In an earlier post, I had noted the revival of the scheme of arrangement as a restructuring tool for companies that have been taken into liquidation under the Insolvency and Bankruptcy Code, 2016 (IBC). In the cases discussed therein, the adjudicatory authorities sought to encourage the parties to use the scheme to attempt a revival of the company before certifying its demise. Among the leading rulings is that of the National Company Law Appellate Tribunal (NCLAT) in S.C. Sekaran v. Amit Gupta. While finding that the use of schemes of arrangement is encouraging, I concluded that discussion with a note of caution:

At the same time, several issues abound. One of the main allegations against this approach is that it has the effect of providing leeway to errant promoters by giving them another opportunity to wrest control over their company. … Although the IBC cases such as S.C. Sekaran and its progeny are less clear about whether the creditors or promoter directors can directly initiate a scheme of arrangement or whether they can do so only through the liquidator, they nevertheless have the effect of providing the erstwhile promoters with another bite at the cherry. Note that amendments to the IBC in the form of sections 29A and 12A seek to preserve the sanctity of the IBC process. While section 29A of the IBC bars promoters and associated parties in certain circumstances from bidding for their companies in the insolvency process, section 12A prevents a withdrawal from the insolvency process except with the consent of 90 percent in value of the committee of creditors. By permitting the promoters to bid for their company (whether directly or through the liquidator) in case of failure of the CIRP process, the promoters may very well be in a better position if the insolvency process fails rather than succeeds. The adjudicatory authorities must pay closer attention to these issues.

In a recent development, the NCLAT not only affirmed S.C. Sekaran in retaining the expansive scope for the use of the scheme of arrangement to revive companies before they are liquidated, but it also paid closer attention to the issue raised above and clarified that promoters are prevented from initiating schemes of arrangement, thereby plugging any possible loophole.

In Jindal Steel and Power Limited v. Arun Kumar Jagatramka, the National Company Law Tribunal (NCLT) ordered a liquidation of Gujarat NRE Coke Limited, the corporate debtor, as a resolution plan under the IBC was not forthcoming within the stipulated 270-day period. However, the promoter of the company preferred an appeal before the NCLAT as the NCLT had rendered him ineligible to present a resolution plan under the IBC. In the meantime, the promoter initiated a scheme of arrangement under section 230 of the Companies Act, 2013, on which the NCLT passed an order.

Two questions arose on appeal before the NCLAT. The first was whether a scheme under section 230 of the Companies Act can be initiated in a liquidation proceeding under the IBC. Although the NCLAT engaged in a lengthy discussion on the issue, the outcome was rather clear in light of its earlier and detailed ruling in S.C. Sekaran. The question was answered in the affirmative, i.e. that a petition under section 230 of the Companies Act is indeed maintainable.

The second question, the trickier one, was whether a promoter of the corporate debtor, who is ineligible under section 29A of the IBC, can be permitted to file a scheme of arrangement under section 230 of the Companies Act in respect of a company in liquidation under the IBC. This question was left open by S.C. Sekaran. In terms that assuage concerns raised from different quarters, the NCLAT in Jindal Steel clarified that a promoter who is ineligible under section 29A of the IBC to submit a resolution plan for the corporate debtor would concomitantly be disqualified from proposing a scheme of arrangement under section 230 of the Companies Act. In doing so, the NCLAT relied on the Supreme Court’s dictum in Swiss Ribbons Pvt. Ltd. v. Union of India and, in particular, a phrase from that judgment suggesting that the corporate debtor must be protected from its own management. The NCLAT draws strength from this observation of the Supreme Court to extend the logic to find that those ineligible under section 29A of the Companies Act stand ineligible under section 230 of the Companies Act as well. In particular, the NCLAT relies upon the proviso to section 35(f) of the IBC, which prevents the liquidator from selling immovable or movable property or actionable claims of the corporate debtor to a person that is ineligible to being a resolution applicant. On this ground, the scheme of arrangement was set aside and the matter remitted to the NCLT to decide on the terms laid down.

The NCLAT’s conclusion is understandable and desirable. While the scheme of arrangement is a useful tool to prevent liquidation of the company by offering its revival another chance, it would be regrettable if ineligible persons such as promoter of the corporate debtor can misuse the scheme route to circumvent the prohibition under section 29A of the IBC. However, in arriving at its conclusion on such a crucial issue, the NCLAT is thin on reasoning as it largely relies on observations of the Supreme Court in Swiss Ribbons, which did not even involve a scheme of arrangement in the first place. Perhaps the adjudicatory authorities may require a further opportunity to expound on the rationale further in order to solidify the legal principle, especially because recalcitrant promoters are only likely to push the envelope further.

About the author

Umakanth Varottil

Umakanth Varottil is an Associate Professor at the Faculty of Law, National University of Singapore. He specializes in corporate law and governance, mergers and acquisitions and cross-border investments. Prior to his foray into academia, Umakanth was a partner at a pre-eminent law firm in India.

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