The Game of Jurisdictions: Arbitration and Insolvency Proceedings

[Kunal Dey is an Associate at Argus Partners, Kolkata]

The Arbitration and Conciliation Act, 1996 has undergone significant changes as a result of the Arbitration and Conciliation (Amendment) Act, 2015. However, before the contours of the amendments (brought into effect on 23 October 2015) could be established by the courts, the Insolvency and Bankruptcy Code, 2016 (IBC) was introduced into the Indian legal regime. Although the object and purpose of both legislation are distinct, the courts have repeatedly faced several intriguing questions of law that have warranted an examination of the interplay of jurisdiction between the two legislation.

When it comes to the IBC, the law pertaining to the effect of existence of arbitration clauses in a contract or pending arbitration proceedings on a claim filed by an operational creditor before the National Company Law Tribunal (NCLT) under section 9 of the IBC is well settled. The Supreme Court in Mobilox Innovations Pvt. Ltd. v. Kirusa Software Pvt. Ltd. had eloquently laid down that the insolvency process, particularly in relation to operational creditors, cannot be used to bypass the adjudicatory and enforcement process of a debt contained in other statutes. Further, the Supreme Court in K. Kishan v. Vijay Nirman Company Pvt. Ltd. had also categorically held that a bar to initiate a claim under section 9 of the IBC exists in case there is a pending arbitration proceeding, as the same qualifies to be a pre-existing dispute under section 8 of the IBC. Thus, even the commencement of arbitral proceedings under section 21 of the Arbitration Act renders a petition under section 9 of the IBC non-maintainable, as held in Pramod Yadav v. Divine Infracon Pvt. Ltd.

The issue   

It has been held in Reliance Commercial Finance Limited v. Ved Cellulose Limited that the pendency of an arbitration proceeding is not a bar to the initiation of a corporate insolvency resolution process (CIRP) under section 7 of the IBC.  However, a controversy may arise in a situation wherein the NCLT is ascribed with the responsibility to act as a ‘judicial authority’, as held in Thota Gurunath Reddy v. Continental Hospitals Pvt. Ltd., to adjudicate upon a section 8 petition under the Arbitration Act, when an application under section 7 of the IBC is also pending at the admission stage.

Two sides of the same coin

The Supreme Court in Innoventive Industries Ltd. v. ICICI Bank had carved out the scope of applicability of section 7 of the IBC. The Court held that while adjudicating upon a section 7 application, the adjudicating authority has to merely satisfy itself that a default has occurred, by assessing the records produced by the financial creditor. Thus, the scope of enquiry before the adjudicating authority is very limited. Hence, the moment the adjudicating authority is satisfied that a default has occurred, the application must be admitted.

On the other hand, the law manifesting from section 8 of the Arbitration Act has evolved substantially over the years. Section 8 is peremptory in nature and, when there exists an arbitration agreement, the judicial authority is under an obligation to refer the parties to arbitration in accordance with the terms of the arbitration agreement, when the subject of the dispute before it is same as the subject matter of the arbitration agreement, as held in P. Anand Gajapathi Raju v. P.V.G. Raju (Dead). Further, section 8 of the Arbitration Act as amended by the 2015 Amendment Act prescribes that the judicial authority only forms a prima facie view in regard to the existence of a valid arbitration agreement and, thus, also confers a very limited jurisdiction.

The immediate question which, therefore, arises is whether the NCLT, while acting in the capacity of a judicial authority, can refer a party to arbitration when the subject matter of the agreement is inarbitrable in nature? The solution to this lies in a two-fold argument:

(a) The Supreme Court in Booz Allen and Hamilton INC v. SBI Home Finance Limited held that where the cause or dispute is inarbitrable, the court where a suit is pending will refuse to refer the parties to arbitration under section 8 of the Arbitration Act, even if the parties might have agreed upon arbitration as the forum for settlement of such disputes. Thereafter, the Court went onto enumerate “insolvency and winding up matters” as well-recognised examples of non-arbitrable disputes.

(b) Further, the Supreme Court in Emaar MGF Land Limited v. Aftab Singh categorically held:

“51. While carrying out amendment Under Section 8(1) of Act, 1996, the statutes providing additional remedies/special remedies were not in contemplation. The legislative intent is clear that judicial authority’s discretion to refuse arbitration was minimise in respect of jurisdiction exercise by judicial authority in reference to Section 8. The amendment was also aimed to do away with special or additional remedies is not decipherable from any material. The Law Commission 246th Report, the Statement and Objects of Bill and the notes on clauses do not indicate that amendments were made for overriding special/additional remedies provided under different statutes. In the event, the interpretation as put by the learned Counsel for the Petitioner is accepted, Section 8 has to be read to override the law laid down by this Court in reference to various special/additional jurisdictions as has been adverted to and noted in judgment of this Court in Booz Allen and Hamilton Inc. (supra) which was never the intent of amendment in Section 8.

52. The amendment in Section 8 cannot be given such expansive meaning and intent so as to inundate entire regime of special legislations where such disputes were held to be not arbitrable. Something which legislation never intended cannot be accepted as side wind to override the settled law.”

Hence, Emaar MGF makes it ex-facie evident that the NCLT, while acting in the capacity of a judicial authority, cannot refer insolvency and winding up matters to arbitration. This is because the IBC is a special legislation enacted for the said purpose, and has an overriding effect over any other law which is contrary or inconsistent with any of its provisions according to section 238 of the IBC.

The way forward

The prevailing legal scenario overrides the principles of party autonomy when the nature of the dispute falls under the ambit of a special legislation. The same is justified considering the legislative intent; however, it is also detrimental to the development of a nourishing arbitration environment in India. The issue would become more complex when the nature of the dispute comprises mixes questions of validity of contracts, for which an arbitral tribunal is the appropriate authority, and that of insolvency, for which the NCLT is the appropriate authority.

A party seeking reference under section 8 of the Arbitration Act is not left with many alternatives when an application under section 7 of IBC is pending before the NCLT. A possible alternative of bifurcation of the subject matter or cause of the dispute cannot also be undertaken by a judicial authority under section 8 of the Arbitration Act. This is in light of the judgment rendered by the Supreme Court in Sukanya Holdings Pvt. Ltd. v. Jayesh H. Pandya., which further narrows the scope of remedy as the court held that the word ‘a matter’ under section 8 of the Arbitration Act indicates that the entire subject matter of the suit should be subject to arbitration agreement.

Thus, in order to resolve the present dilemma, it is imperative to reconsider the ratio pronounced by the Supreme Court in Sukanya Holdings. If the Court can modify its decision in Sukanya Holdings to permit the bifurcation of the cause of action of the dispute, then such disputes which arise in connection with the interpretation of the terms of the contract can be referred to arbitration under section 8 of the Arbitration Act, whereas the claims pertaining to insolvency and winding up can be decided by the NCLT itself. Such arbitration proceedings can be conducted simultaneously with the IBC proceedings under section 7 as long as they are in favour of the corporate debtor as held in Power Grid Corporation of India Ltd. v. Jyoti Structures Ltd and are not inconsistent with any of the provisions of the IBC. However, any award against the corporate debtor as adjudicated by the arbitral tribunal should be executed only after the claim under section 7 of the IBC is determined.

Another alternative argument to resolve the issue would be that the provisions of IBC cannot be invoked for recovery of outstanding amounts, but that it can only be invoked to initiate a CIRP for justified reasons. This is because the IBC is a beneficial legislation which puts the corporate debtor back on its feet, and is not intended to be a substitute to a recovery forum as held by the Supreme Court in Swiss Ribbons Pvt. Ltd. v. Union of India. Thus, it would be preferable that the NCLT, acting in the capacity of a judicial authority, first decides upon the petition under section 8 of the Arbitration Act and refers the parties to arbitration without going into the merits of the application under section 7 of IBC if, prima facie, it is of the view that, the ultimate motive of the financial creditor is to recover money.  

The Covid-19 pandemic has casted a lot of doubts over the stability and effectiveness of IBC proceedings and, thus, it is now incumbent upon judicial authorities to adopt a procedure which can be beneficial for the parties while keeping the legislative intent of both the statutes, secured. 

– Kunal Dey