[Rohan Srivastava and Priyanshu Mishra are III Year B.A. LL.B.(Hons.) students at the National Law School Of India University Bengaluru]
Ever since the enactment of the Insolvency and Bankruptcy Code of 2016 (IBC), the corporate insolvency resolution process (CIRP) has been at the heart of the ambitious legislation. This statutorily guided process, aimed at reviving the corporate debtor, entails inviting bids for resolution plans to revive the corporate debtor. The resolution plans then go through two stages of approval, the first being the committee of creditors (CoC) where the commercial viability and technicalities of the plan are evaluated by the CoC comprising all the financial creditors. Secondly, the plan is required to receive approval from the adjudicating authority (AA), which examines its legality. The approval by the AA is currently governed by the doctrine of “commercial wisdom”, which states that the CoC’s commercial wisdom cannot be second-guessed by the AA on merits, as it is completely within the domain of the financial creditors, which comprise banks and financial institutions who which are well versed with the commercial technicalities and know-how for evaluating the feasibility of a resolution plan.
The Supreme Court in Ramkrishna Forgings
Last week, the Supreme Court in Ramkrishna Forgings Limited v. Ravindra Loonkar (2023 INSC 1013) has reiterated the primacy of this doctrine. The case involved the CIRP initiated against ACIL Limited by IDBI Bank, wherein the total value of admitted claims was around INR 1782 crores. Ramkrishna Forgings had submitted a resolution plan which provided for a total payout of INR 129.5 crores, with a total haircut of around 94.25%. The resolution plan was approved by the CoC with a majority of 88.56% votes. However, when presented to the AA for approval, the AA kept the plan in abeyance and appointed an original liquidator (OL) for the revaluation of the assets. This decision of the AA was challenged by Ramkrishna Forgings before the National Company Law Tribunal (NCLT) and subsequently the National Company Law Appellate Tribunal (NCLAT), wherein the decision was upheld in both instances. Finally, the matter reached the Supreme Court.
In its judgment, the Supreme Court set aside the previous orders of the NCLT and NCLAT, noting that the scope of judicial interference with the CoC’s decision is limited to the grounds enumerated specifically in section 30 of the IBC and the AA cannot casually interfere with their commercial wisdom. It criticized the NCLT for reasoning that “when figures of crores are emerging stage-wise, then there is no harm in looking at the expert opinion”.
Decoding Commercial Wisdom
The formulation of the doctrine of commercial wisdom of CoC by the Supreme Court is based upon the report of the Bankruptcy Law Reforms Committee (BLRC). The courts in India initially interpreted the doctrine of commercial wisdom of the CoC as a principle of non-justiciability. As a result, the courts granted high judicial deference to the commercial wisdom of the CoC. For instance, in K Shashidhar v Indian Overseas Bank, the Supreme Court propounded that the CoC’s assessment of the technical and commercial viability of the resolution plan is non-justiciable. Similarly, in Karad Urban Coop Bank Ltd v Swwapnil Bhingardevay, the Court followed the K Shashidharreasoning on the CoC’s evaluation of the feasibility and viability of the resolution plan.
The contours of judicial review of the resolution plan approved by the CoC were carved out by interpreting section 31of the IBC. In MCGM v Abhilash Lal, the Supreme Court set aside the resolution plan and held it to be illegal on the ground that the resolution plan approved the exploitation of leasehold land without the consent of the landowner. Similarly, in Jaypee Kensington v NBCC, the Court struck down the term in the resolution plan that extinguished the contractual right of the third party. Subsequently, when the matter was brought before a larger bench in Committee of Creditors v Satish Kumar Gupta, the Court rejected the approved resolution plan which contained the provision to effectively extinguish the surety’s liability in a unilateral manner, i.e., without the consent of the creditor. These cases brought into focus the question of the legality of the resolution plan, for example, violation of IBC norms and regulation, protection of third party rights, breach of general law/regulation, and the NCLT’s exercise of jurisdiction akin to a court of first instance. The judicial review of the resolution plan approved by the CoC was thus to be limited to the question of legality.
However, the courts have further extended the judicial deference in cases like Kalpraj Dharamshi v Kotak Investment Advisors Ltd, where the Supreme Court attempted to reverse the clock by holding that the resolution plan approved by the CoC could not be interfered with by the AA even when it is in violation of the timeline stipulated in law. It returned to the K Shashidhar reasoning of non-justiciability. This reasoning was subsequently criticized and corrected by courts in the recent case of MK Rajgopalachari v Dr Periasamy Gounder, where the Supreme Court observed that if the decision of the CoC is in contravention of any law in force, the principle of commercial wisdom cannot be taken as a defence to go forward with the impugned decision, and the same becomes subjected to judicial scrutiny. Moreover, the Court emphasized here that stretching the principle of commercial wisdom too far would overlook a significant flaw in the functioning of the CoC. Consequently, the Court attempted to contain the widening amplitude of the principle of commercial wisdom of CoC by providing a regulatory check by the adjudicating authorities within section 31 of the IBC.
Balancing Judicial Deference and Interests of Stakeholders
While Ramkrishna Forgings places an unsuspecting reliance on the CoC’s commercial wisdom and limits judicial interference to grounds specified in section 31 to further the IBC’s goal of a timely recovery in the short run, the grounds under section 31, as they exist, are inadequate. The judgment in Ramkrishna Forgings seems to follow a positivist approach to judicial interference in the CoC decision, where the Court has emphasized the fact that the resolution plan does not suffer from any of the infirmities prescribed specifically under section 31. Such an approach has to be evaluated in light of the fact that the recovery rate under the IBC has been at a low. There have been cases where creditors are forced to return with virtually nothing and have taken haircuts as high as 99%, which may lead to disillusionment of non-financial creditors in the CIRP, who do not even get a say in the passing of the resolution plan approving the haircut.
Following a hands-off approach in such cases will lead to agency costs. Agency costs arise when the interests of an interested party (in this case non-financial creditors) are not represented by the agent (in this CoC), as the decisions of the financial creditors end up determining the fate of the claims of all the creditors who are a part of the CIRP. The financial creditor’s interests and the interests of the other creditors may not always be in consonance, causing prejudice to the creditors not represented in the CoC. Even in Ramkrishna Forgings, we see the financial creditors prioritizing their interest by renegotiating for an up-front payment in favor of just the financial creditors. Moreover, the idea that financial creditors only comprise financial institutions and banks no longer holds true following the 2018 amendment, as even homebuyers, who lack any technical knowledge or commercial wisdom, have become a part of the CoC in real estate insolvencies. Thus, attaching a high level of judicial deference to the decision of the CoC comprising of financial creditors, who need not necessarily be financial institutions, attacks the premise of the doctrine that financial creditors are best placed to determine the fate of the corporate debtor.
The pitfalls of having a blanket deference to the commercial wisdom of the CoC have been recognized by the Insolvency and Bankruptcy Board of India (IBBI), which has in turn formulated a Code of Conduct and ethics for the CoC. However, such an approach will be of no avail if the grounds for judicial interference with the decisions of the CoC are limited to those enumerated in section 30, as held in the present case. Globally, in countries like the UK and Singapore, even though the courts do attach some level of deference and sanctity to the decision of the administrator, which is the decision-making body in the UK akin to the CoC, courts there have developed some judicial standards such as “unfair harm to the creditors” and “misapplication of the property of the company” which are broader than the limited grounds contained in section 30 of the IBC. These grounds help in reducing the agency costs and prejudice that may be caused by stakeholders who are not represented in the CoC.
Conclusion
Going forward, in order to inculcate greater trust and confidence in all the stakeholders in the CIRP, the courts may consider a more evaluative approach to the finality attached to the CoC’s commercial wisdom and develop judicial standards that can inculcate greater trust and confidence in other stakeholders in the CIRP process. While the NCLT and NCLAT’s overturned decisions may be bad in law as they currently stand, they rightly echoed certain considerations which may be worth paying heed to. For a start, the courts may consider expanding the judicial oversight by enforcing the Code of Conduct for the CoC to ensure greater accountability. As far as haircuts are concerned, the courts can consider having an upper limit for the percentage of haircuts to which deference will be shown, and judicial revaluation may be justified if the haircut goes beyond the prescribed limit. These changes can go a long way in inculcating greater trust and confidence in the CIRP which is one of the fundamental pillars in the scheme of the IBC.
– Rohan Srivastava & Priyanshu Mishra