Unpaid License Fees as ‘Operational Debt’: The Ambiguity Persists

[Soundarya Rajagopal and Palak Sheth are 4th year B.Com. LL.B. (Hons.) students at Gujarat National Law University, Gandhinagar]

In Jaipur Trade Expocentre Pvt. Ltd. v. Metro Jet Airways Training Pvt. Ltd. (“Jaipur Trade”), a full-bench of the National Company Law Appellate Tribunal (“NCLAT”) held that dues in relation to lease and license of immovable property constitute ‘operational debt’ under section 5(21) of the Insolvency & Bankruptcy Code, 2016 (“IBC”). It overruled M Ravindranath Reddy v. G Kishan (“Ravindranath”), where the NCLAT had held that such dues do not constitute ‘operational debt’. The decision comes in the wake of an appeal pending before the Supreme Court (“SC”) against Promila Taneja v. Surendri Design Pvt. Ltd. (“Promila”), which seeks to determine the correctness of Ravindranath.

The Debate

This issue was first discussed in Parmod Yadav & Ors. v. Divine Infracon Pvt. Ltd. (“Parmod”). The National Company Law Tribunal (“NCLT”), Delhi held that such dues would not constitute ‘operational debt’. It relied on regulation 32, Insolvency & Bankruptcy Board of India (Insolvency Resolution Process of Corporate Persons) Regulations, 2016 (“Regulations”), which defines ‘essential goods and services’ as those related to the direct input of the output produced by the corporate debtor. Since Parmod Yadav and the other applicants did not raise a contention to this effect, the NCLT held that it was not an operational debt.

A fork in the jurisprudence was created by Sarla Tantia v. Ramaanil Hotels & Resorts Pvt. Ltd., where NCLT Kolkata relied on Mobilox Innovations Pvt. Ltd. v. Kirusa Software Pvt. Ltd. (“Mobilox”). In Mobilox, the SC referred to the Bankruptcy Law Reforms Committee Report, 2015 (“BLRC”) to explain the concept of ‘debt-in-dispute’. In this context, the SC also referred to the BLRC’s definition of ‘operational debt’, which contained examples including dues arising from a three-year lease. Based on this example quoted in Mobilox, the NCLT held that arrears in rental dues are operational debts.

However, the observation in Mobilox holds no precedential value as the SC relied on the BLRC to answer a different point of law. The BLRC also does not carry the force of law as it was never incorporated into legislation. As a result, this reasoning rests on nebulous statutory foundations.

Further discord ensued when NCLT Mumbai and NCLT Hyderabad declined to apply Mobilox and relied on Parmodinstead.

Subsequently in Ravindranath, a three-member bench of the NCLAT held that such dues do not fall under ‘operational debt’. G Kishan, the creditor, relied on the BLRC to contend that the claim was with respect to dues arising from the provision of a service. The NCLAT rejected this contention and applied regulation 32 in a similar manner as Parmod. Since rental dues do not fall under ‘essential goods and services’ as defined in the Regulations, it concluded that the landlord filing an application for the recovery of enhanced rent is not an operational creditor.

While this pronouncement seemed to put the debate to rest, it came back into the spotlight when a two-member of the NCLAT gave an opposing view in Anup Sushil Dubey v. NAFED & Ors. (“Anup Dubey”).

Here, the corporate debtor raised a contention that mirrors the holding in Parmod. The NCLAT rejected it, stating that ‘essential goods and services’ under the Regulations would not be an exhaustive definition of ‘goods and services’. It held that the Regulations applies in the specific context of moratorium and provides for continuation of the provision of certain goods and services even during this period. Thus, the meaning of ‘goods and services’ cannot be restricted to ‘essential goods and services’.

The NCLAT relied on Mobilox, as well as the definition of ‘services’ in the Central Goods & Services Act, 2017 (“CGST Act”) and Consumer Protection Act, 2019. It concluded that arrears arising from the leave and license agreement would constitute an operational debt. The precedential scope of the decision is limited as it detracts from Ravindranath, which was decided by a three-member bench.

Regardless, NCLT Indore followed Anup Dubey in Saiom Developers Pvt. Ltd. v. R Square Shri Saibaba Abhikaran Pvt. Ltd.

Later in Promila, a division bench comprising of some members on the bench in Ravindranath considered the question once again. They reiterated their inability to rely on the BLRC. Additionally, section 3(37), IBC prescribes a list of statutes that may be used to define terms that have not been defined in the IBC. They noted that legislation relied on in Anup Dubey are not a part of this list. Promila did not approve of this detraction and reaffirmed Ravindranath.  Since then, it has been appealed against and is pending before the Supreme Court.

The Jaipur Trade Case

Jaipur Trade Expocentre Pvt. Ltd. and Metro Jet Airways Training Pvt. Ltd. entered into a license agreement for an ‘Admin Building’ with fittings, electrical infrastructure and flooring. The license was for setting up a training institution.

Metro Jet gave two consecutive cheques for part-payment of the license fee, but they were returned as dishonoured. After following the procedure under section 8, IBC, Jaipur Trade filed a section 9 application. The NCLT dismissed it, stating that license fee for the use of immoveable property is an operational debt. Jaipur Trade filed an appeal before a division bench of the NCLAT, which referred it to a full-bench.

The full-bench dealt with two questions: (i) whether the law laid down in Ravindranath is correct; and (ii) whether the license fee for the use of immoveable property for commercial purposes constitutes ‘operational debt’.

Dealing with the first question, the NCLAT observed that Ravindranath erred in referring to section 14(2), IBC, to interpret the meaning of ‘goods and services’. It overruled Ravindranath, stating that the scope of operational debt cannot be restricted to ‘essential goods and services’.  

Moving to the second question, the NCLAT held that the license in question was an operational debt for three reasons.

First, the license envisages the payment of GST by Metro Jet. The parties can contemplate such a payment only if the license qualifies as a ‘service’ under the CGST Act. The NCLAT agreed with Promila’s observation that section 3(37), IBC does not include the CGST Act. Nevertheless, it stated that the CGST Act is relevant because terms may be interpreted in light of their general meaning. To determine such a meaning of the term, it applied the meaning of ‘services’ as defined under the CGST Act.

The NCLAT also distinguished Ravindranath and Promila. It observed that the claims in these cases were in respect of rental dues. However, the present case concerned the license of a premises that included furniture and fittings, electricity and flooring. Since it was being used by Metro Jet to conduct its operations, the unpaid license fee would constitute an operational debt.

Second, the NCLAT referred to terms like ‘operating cost’ and ‘operating profit and loss’ to define ‘operation’. It held that ‘operational debt’ is a debt which has nexus to the corporate debtor’s core activities. Since the licensed premises was used to run a training institute, which formed part of Metro Jet’s core activities, dues arising in this regard would constitute an operational debt.

It is the authors’ view that this reason is in line with the IBC’s objective to allow operational creditors to initiate the corporate insolvency resolution process (“CIRP”). The fact that an entity is unable to fund its core operations is an indicator of insolvency and ought to be brought within the purview of the IBC. This approach would indicate that dues arising from leases and licenses that are integral to such core activities are operational debts.

Third, it relied on the BLRC to hold that unpaid license fee is an operational debt. The NCLAT observed that the Supreme Court did not specifically affirm the BLRC’s definition of ‘operational debt’ in Mobilox. However, the apex court’s reliance on the BLRC meant that its recommendations could be used to decipher the meaning of the term.

Conclusion

Jaipur Trade’s reasons for overruling Ravindranath enlarge the scope of analysis for the Supreme Court in Promila. While it gives lessors and licensors a better standing to file section 9 Applications, the NCLAT’s holding that license fee constitutes operational debt was specific to the facts of the case. This leaves the door open for differing positions in the larger debate.

Even in light of the facts, the reasoning to apply the CGST Act may be subject to challenge. The NCLAT did not reconcile its decision with section 3(37)’s limitation on the sources of interpretation of the IBC. This was necessary as section 3(37) tends to indicate that the use of a term in general parlance has limited importance.

Furthermore, the CGST Act defines ‘services’ in the specific context of their taxability. The IBC, on the other hand, uses the same term to define a type of debt that allows creditors to initiate CIRP. Therefore, Jaipur Trade may fail to hold water before other benches.

As a result, the status of dues in relation to the lease and license of immovable property remains shrouded in ambiguity. The Supreme Court has an important question to resolve in the appeal against Promila.

– Soundarya Rajagopal & Palak Sheth

About the author

Add comment

Subscribe to Blog via Email

Enter your email address to subscribe to this blog and receive notifications of new posts by email.

Top Posts & Pages

Topics

Recent Comments

Archives

web analytics

Social Media