Can NCLT Direct Distressed Entity for Settlement by Rejecting CIRP Application?

[Deevanshu Jaswani is a 4th year B.A. LL.B. (Hons.) student at National Law University, Odisha.]

This post attempts to analyse two different judgments to highlight that in IBC, the role of the adjudicating authorities has been clearly specified. According to section 7(5) of the IBC, only two options are provided to the adjudicating authorities while dealing with the petition to initiate Corporate Insolvency Resolution Process (CIRP) by the financial creditor, which is either to admit the petition on the existence of default or reject if no default can be made. Hence, the adjudicating authorities cannot create a new route by rejecting the application at ‘pre-admission stage’ and directing the corporate debtor to settle the debt.

The Cases

In the first case, Drip Capital Inc. v Concord Creations Ltd (Drip Capital), the National Company Law Appellate Tribunal (NCLAT) held that CIRP is not a litigation and does not amount to recovery proceedings.  In the second case, ES Krishnamurthy v M/s Bharath Hi Tech Builders Pvt. Ltd. (ES Krishnamurthy), the Supreme Court held that National Company Law Tribunal ((NCLT) and NCLAT cannot direct parties to go for settlement acting as courts of equity.  

In Drip Capital, the observation was made in the backdrop of adjudicating authority dismissing the application for initiating CIRP, stating that corporate debtor (CD) is not an insolvent company. The NCLT also assumed defences on behalf of the CD even in absence of any reply or objections by the CD. It held: “…that the Respondent [CD] should be given some more time to repay the debt. Considering the amount involved, its financial status and the present economic scenario, despite the argument of the Petitioner that it is a fit case for admission, we are of the view that it would be fair to allow the Respondent some more time.

In the ES Krishnamurthy case, the Supreme Court made such observation because the NCLT and NCLAT dismissed the petition stating that the settlement is underway and held “Instead of examining all the individual claims in detail, we would like to dispose of the instant case by directing the Corporate Debtor to settle all the remaining claims sincerely within a definite time frame.

Both of these cases present a situation whereby the authorities exceeded their jurisdiction by ignoring the fact that default had occurred and rejected the petition while looking into the causes, in order to provide the CD a certain period of time to settle the claims.

Background of the Cases: Why did the Authorities Push for Settlement?

A common aspect noted in both cases was a belief that pushing the entity into CIRP would jeopardise the interests of all the stakeholders as it will worsen the financial condition of the entity. 

In Drip Capital it was found that the adjudicating authority evaluated the financial health of the entity and held that in light of the pandemic and financial status of the entity, it would be detrimental to push the corporate debtor to CIRP as it would worsen the financial condition and might lead to liquidation. 

As a result, the NCLAT held that CIRP should not be contemplated as recovery proceedings. As noted in Binani Industries Ltd. v Bank of Baroda:

recovery is an individual effort by a creditor to recover its dues through a process that has debtor and creditor on opposite sides creditors recover their dues – one after another or simultaneously- from the available assets of the firm, nothing may be left in due course. Thus, while recovery bleeds the ‘Corporate Debtor’ to death, resolution endeavors to keep the ‘Corporate Debtor’ alive

In addition, NCLAT reasoning simply stressed that the process of CIRP should be construed as the primary mechanism for corporate rescue and not the first step towards corporate death. It is a time-bound process and is initiated to further streamline the rehabilitation of the distressed entity. Furthermore, the liquidation will only take effect if CIRP fails; essentially, it will facilitate resolution in different ways with the intention of reviving the distressed entity and making it a going concern.

That being said, in the ES Krishnamurthy case, it was observed that the NCLAT and NCLT were of the opinion that because most of the settlements were already in motion, it would not be favourable to the CD if pushed to CIRP, therefore, the adjudicating authorities granted time to the Corporate Debtor to settle the claims. However, the authorities failed to take into account the interests of creditors

Lastly, in ES Krishnamurthy, the NCLT stated that creditors can file a fresh application if claims are not settled within three months. Likewise, in Drip Capital, NCLT directed the CD to settle the amount within six months, failing which creditors would be at liberty to file a fresh application.

In such a context, it is worth noting that this approach of allowing the CD to have some time in order to settle the claims, meanwhile asking the creditors to file a fresh application after a few months defeats the whole objective of the resolution mechanism being a time-bound process and undermine the interests of creditors.

Jurisdictional Limits of the Authorities

With respect to the Drip Capital case, it was held that the NCLT exceeded its jurisdiction by assuming defenses on behalf of CD even in absence of any reply and thereby rejecting the petition. It relied on M/s Innovative Industries Ltd. v ICICI Bank wherein it was observed that when the default is established from information utility or evidence provided by the creditor, if the adjudicating authority is satisfied that the corporate debtor has committed the default then it has to admit the application and not look for reasons. 

Moving to the ES Krishnamurthy case, the Supreme Court examined the scope of jurisdiction of the adjudicating and appellate authorities by relying on the Pratap Technocrats Ltd. v Monitoring Committee of Reliance Infratel Ltd. and Arun Kumar Jagatramka v Jindal Steel And Power Ltd. It was held that the jurisdiction was statutorily conferred, wherein the authorities can encourage the settlement but cannot direct the parties to settle the claims acting as courts of equity, as it will be beyond the scope of their jurisdiction. The observation clearly specifies the jurisdictional limits of the adjudicating and appellate authorities.

Interestingly, the JJ Irani committee report adopted a similar view wherein one of the recommendations was:

The insolvency tribunal should have a general, non-intrusive and supervisory role in the rehabilitation and liquidation process. Greater intervention of the tribunal is required only to resolve disputes by adopting a fast track approach.

Similarly, during the post-admission stage also, the adjudicating and appellate authorities cannot direct the parties for settlement because it would give rise to a lot of complexities. For instance, one such anomaly is if post-admission, the adjudicating authority directs the parties for settlement, the section 29A of the IBC (aimed at preventing certain persons trying to regain control over the assets) would be defeated as it will create a route for promoters or management of the CD to approach the authorities for allowing for settlement.

It must be noted here that the parties can still have an opportunity for settlement. In the ‘pre-admission’ stage it is up to the parties to settle the claims. After the application for CIRP is filed the adjudicating authority before admitting the application, can encourage settlement between the parties. Furthermore, even after initiation of the CIRP, the ineligible parties under section 29A of the IBC can make an offer to the Committee of Creditors (CoC) under section 12A of the IBC, and if 90% of CoC approves then settlement can be arrived at, and the CIRP can subsequently be withdrawn. For instance, recently in Vinayak K Deshpande v Nexo Industries, CIRP was stayed as the parties reached a settlement agreement, and NCLAT approved the withdrawal of CIRP under section 12A of the IBC.

Conclusion

To conclude, in both the cases it was observed that the authorities exceeded their jurisdiction by ignoring the fact that default had occurred and rejected the petition while looking into the causes, in order to provide the CD a certain period of time to settle the claims.

The role of the Supreme Court in clearly specifying that the authorities must act within the confines of the statute and desist from creating such routes which would enable the CD to escape the resolution process is appreciable. Because it now settles the position and is consistent with the objectives of the IBC and results in “balancing the interests of stakeholders”.

Deevanshu Jaswani

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