Resolving the Conundrum Surrounding Applicability of Moratorium under Section(14)(1)(a) of IBC

[Kanishka Aswal and Ritik Jhanwar are III year students at the Gujarat National Law University, Gandhinagar. This post was first published here]

One of the ultimate goals of the Insolvency and Bankruptcy Code, 2016 (“IBC”) is to provide a mechanism for the timely resolution of a corporate debtor’s insolvency in order to maximize the value of its assets, to facilitate credit facility and to strike a balance between the interest of all the stakeholders. To achieve this goal, section 14 calls for a “moratorium” which is a period during no legal proceedings to recover money, enforce any security interest, sale or transfer of assets or termination of essential contracts that could be initiated or continued against a corporate debtor (“CD”). But the moratorium provision, as entailed in section 14(1)(a) of IBC has gone through vast judicial scrutiny and has been interpreted in a different manner to achieve the above-mentioned goal of IBC.

Continuing with the judicial development of the IBC and interpretation of Section 14(1)(a) of the IBC, notices issued in the case of Malayan Banking Berhad v. Ushdev International Ltd. by the Supreme Court (“SC”) hold great importance, wherein one of the issues before the court  is whether suits filed “by the corporate debtor” are subject to moratorium under Section 14(1)(a) or not.

Factual Background

A review petition was filed before the Bombay HC by Malyan Banking Berhad titled Malayan Banking BHD v. Ushdev International Ltd.  to seek review of an order dated July 7, 2019 by Bombay HC in response to a Notice of Motion filed by Malyan Banking in a suit brought by Ushdev International Ltd. During the pendency of Notice of Motion proceedings, a case filed against Ushdev International Ltd. was admitted by the National Company Law Tribunal (“NCLT”), Mumbai for initiating Corporate Insolvency Resolution Process (“CIRP”) against the same. In view of the CIRP proceedings, Bombay HC vide order dated July 7, 2019 adjourned the proceeding of Notice of Motion sine die considering moratorium.

In review petition, Bombay HC, through its order dated September 16, 2019 affirmed its order dated July 7, 2019 and held that the Notice of Motion would be considered a “proceeding” for purposes of section 14(1)(a) of the IBC as it seeks rejection of a suit initiated by CD who is undergoing CIRP and therefore barred by the moratorium.

This order, dated September 16, 2019, by Bombay HC was challenged before the Supreme Court before a Special Leave Petition (“SLP”), to which SC ordered to issue notices for the same.

Conundrum

The notice issued by the SC points out that there exists a legal lacuna regarding the application of a moratorium upon proceedings initiated by the CD. The dilemma exists because of the fact that while section 14(1)(a) of IBC explicitly states that the proceedings “against the corporate debtor” are to be stayed. Yet, proceedings initiated “by the corporate debtor” are also stayed. Hence creating a murky legal situation so as to application of moratorium, thus leading to Malayan Banking Berhad filing an SLP before the SC.

Judicial Trend

A similar anomaly occurred in the case of Power Grid Corporation of India Ltd. v. Jyoti Structures Ltd. before Delhi HC, wherein the Court, while interpreting section 14(1)(a) of the IBC, outlined the criteria required to assess the application of moratorium to proceedings initiated by the CD which are:

“The nature of the proceedings has to be considered, and it has to be observed whether such proceedings are in the favor of the Corporate Debtor or against the Corporate Debtor.”

Delhi HC ruled that if the above factors were in favour of the CD, then the application of moratorium to the proceedings initiated by the same would be harmful to the CD and would worsen the financials of the already financially stressed entity and thus would go against the mandate of the IBC. Court reasoned moratorium would not cover the proceedings initiated by the CD if the same is beneficial to the CD. Thus, proceedings that do not endanger, diminish, dissipate, or adversely impact the corporate debtor’s assets shall be continued if initiated by the CD.

Delhi HC while interpreting the same, observed that the legislative intent behind section 14(1)(a) was to limit the application of moratorium to only those proceedings filed against the CD and not to those initiated by the same. This is evident from distinction between the phrase “by or against the corporate debtor” in section 33(5) and “against the corporate debtor” in section 14(1)(a) of the IBC where in the former has wider interpretation and the latter has rather more restrictive interpretation.

In SSMP Industries Ltd. v. Perkan Food Processors Pvt. Ltd., the Delhi High Court recently uphold the above interpretation. The court was asked to determine whether adjudication of a suit brought by the CD and counterclaim brought in the same could be continued during the moratorium period. Following the rationale of Power Grid Corporation of India, Delhi HC did not order any stay on the proceedings and concluded that CD’s assets were not under any threat until the adjudication of the counter-claim and that moratorium would only be ordered once the counter-claim is adjudged and court orders for an amount to be paid or recovery or when execution proceedings are initiated against the CD. The Court further stated that the intent and purpose of the moratorium’s imposition must be satisfied and that a restricted approach cannot be used when determining whether it applies to proceedings brought by the CD.

Similar approach has been followed in Jharkhand Bijli Vitran Nigam Ltd v. IVRCL Ltd. wherein National Company Law Appellate Tribunal, New Delhi (“NCLAT”) was tasked to decide on whether a claim initiated by the CD and a counter-claim brought in the same arbitration could be pursued during the moratorium. NCLAT held that the arbitration tribunal can hear both the CD’s claim and counter-claim simultaneously as the IBC does not bar the same, and if CD loses the case and court orders some recovery against the same, then the same recovery cannot be executed in the moratorium period.

The above interpretation is backed by Allahabad HC in Trading Engineers International Ltd. v. U.P. Power Transmission Corpn. Ltd.

There appears to be two views with regard to the application of moratorium on the proceedings initiated by the CD, wherein one view is that moratorium would include all proceedings whether initiated “by” or “against” the CD while the other view (the one taken in Power Grid Corporation of India) is that moratorium includes only proceedings filed against the CD and if it is the CD who initiates the proceedings, then application of the moratorium would only be considered after taking into account the benefit to the CD.

Analysis of the Above Interpretation

The Delhi HC in Power Grid Corporation of India and NCLAT in Jharkhand Bijli Vitran advocated a broad interpretation with regards to applicability of moratorium, in lines with the intent of the legislature which was to limit the applicability and meaning of moratorium under section 14(1)(a) of the IBC, which in a way works in the benefit of the CD but there appears to be some pitfalls of this interpretation as enlisted:

Delay – While the enactment of the IBC was to expedite the CIRP or liquidity of the CD, if proceedings are allowed to be continued, this can result in exceeding the deadlines entailed in the regulation of the CIRP and the overall proceedings.

Financial Stress – While the object of the CIRP is to make the CD come out of its stressed finances and resume operations back to track, but with continued proceedings, additional litigation expenses would further deteriorate the financials of the CD.

Overburdening the judiciary – If courts are asked to determine whether a proceeding is in favour of the CD or not it would be equivalent to adjudication based on a sketchy understanding of the proceedings which could be prejudicial to the parties concerned and would lead to overrunning of judicial powers and functions.

Recommendations and Conclusions

While the interpretation adopted by Delhi HC and the criteria identified are laudatory yet there exist factors, including the status and the point of the proceedings, which also are needed to be taken into account, and a strict deadline shall be put forth for the adjudication of any pending proceedings filed by the CD so as to put into practise this interpretation.

This interpretation is undoubtedly in consonance with the goals of the IBC and works in the benefit of the CD but requires strict judicial standards to identify which proceedings need to be stayed and which should not. It is essential to adopt a well-balanced approach while adhering to strict rules when determining whether the proceedings initiated by the CD could be taken for the adjudication amidst the moratorium as the same would benefit the CD, its creditors and associated parties. It would be interesting to observe how SC decides this issue, but the current interpretation seems to be the best way forward.

– Kanishka Aswal & Ritik Jhanwar