In Committee
of Creditors of Essar Steel India Limited vs. Satish Kumar Gupta1,
the Supreme Court has examined and clarified certain important aspects of the
corporate insolvency resolution process under the Insolvency and Bankruptcy
Code, 2016. The crux of this judgment represented by the main conclusions
reached by the Supreme Court is summarised here.
BACKGROUND
Essar Steel was one
of the twelve accounts mandated by the Reserve Bank of India (RBI) for
resolution under the Insolvency and Bankruptcy Code, 2016 (the Code). Essar
Steel owed approximately Rs. 49,000 crores to financial creditors. Its
resolution with payment of Rs. 42,000 to financial creditors in the final
resolution plan makes it among the best resolutions. The Supreme Court decision
has facilitated the biggest resolution under the Code in Indian corporate
history.
Essar was admitted
to insolvency in June, 2017. Several bidders showed interest, including
ArcelorMittal which finally won the bid after several legal and procedural
hurdles were cleared. Earlier, the National Company Law Appellate Tribunal
(NCLAT) had cleared the Committee of Creditors’ (COC) plan but tweaked the
financial distribution plan by ordering an equal recovery plan for all
creditors.
The challenges
faced during the corporate insolvency resolution process included managing
stakeholders for maximisation of value, improving operations and litigation in
different forums, including by resolution applicants u/s 29A of the Code.
Section 29A was introduced to prevent defaulting promoters from bidding without
paying overdue amounts.
ORDER OF APPELLATE TRIBUNAL (NCLAT)
The COC of Essar
Steel had filed an appeal against the July, 2019 order of the NCLAT, mainly
contesting NCLAT’s modification of the distribution of Rs. 42,000 crores in the
resolution plan amongst financial and operational creditors.
NCLAT had proposed
an equitable distribution of the bid amount, which meant secured lenders
sacrificing a large portion, approximately 30% of Rs. 42,000 crores. The NCLAT
had also held that the profits of Essar Steel during the pendency of the
insolvency would also be distributed among the creditors on a pro rata
basis.
The Supreme Court
observed that the law refers to ‘equitable’ and not ‘equal’ treatment of
operational creditors. Fair and equitable treatment of operational creditors’
rights requires the resolution plan to specify the manner of dealing with the
interests of operational creditors. This is different from saying that
operational creditors must be paid the same amount of their debt
proportionately.
The fact that the
operational creditors are given priority in payment over all financial
creditors does not imply that such payment must necessarily be the same
recovery percentage as that of financial creditors.
The Supreme Court
recognised the inherent gap in the nature of unsecured lending. The risk was
present at inception. Moreover, all secured creditors too are taking
substantial haircuts.
One of the
financial creditors (Standard Chartered Bank) had challenged ArcelorMittal’s
resolution plan before the NCLAT on the ground that the approval process
adopted by the COC was illegal and discriminatory.
By virtue of a stay
order in July, 2019 the Supreme Court had ordered status quo of the
resolution process till completion of the adjudication of the issues involved
in the matter. It had assured that it would expeditiously decide on all issues.
SUPREME COURT SETS ASIDE NCLAT ORDER
By its order of
November, 2019, the Supreme Court has set aside the order of NCLAT in the Essar
case2 and upheld the claims of the COC.
The Supreme Court
has eventually drawn the curtains on a major battle for debt-laden Essar Steel,
paving the entry of the world’s largest steel-maker, ArcelorMittal, into the
second-biggest steel market, India.
Its decision
removes all hurdles in the takeover of Essar Steel by ArcelorMittal. It has
been hailed by bankers and lawyers as a landmark judgment which will now speed
up resolution under the Code.
In a ruling that
would have a far-reaching impact on litigation under the Code, the Supreme
Court has set aside the NCLAT order that put on par a different class of
creditors – financial vis-à-vis operational creditors, as also secured
and unsecured financial creditors.
The judgment has
brought finality to the approval of the resolution plan of ArcelorMittal for
Essar Steel, the largest account under the Code, and opened the doors for its
implementation which would result in inflows of more than Rs. 42,000 crores to
creditors.
ISSUES SETTLED BY THE SUPREME COURT
The order was
delivered by a three-judge Bench of the Supreme Court and is binding on all
stakeholders, including the erstwhile promoters. This much-awaited judgment
puts to rest several controversies which were contested in various fora
below. It has settled several contentious issues under the Code as explained
here.
1. Commercial wisdom of
Committee of Creditors – not to be questioned
The Supreme Court
has held that the NCLAT could not have interfered with the decision of the COC,
which is based on its commercial wisdom. It held that the COC will have the
final say in the resolution plans and thereby upheld the primacy of financial
creditors in the distribution of funds received under the corporate insolvency
scheme.
Neither the NCLT
nor the NCLAT has the jurisdiction to reverse the commercial wisdom of the
dissenting financial creditors and that, too, on the specious ground that it is
only an opinion of the minority financial creditors.
The Supreme Court
accepted the distribution of proceeds as decided by the COC, thereby
establishing the primacy of financial creditors. It will now resolve hundreds
of cases that are pending in the NCLT and the NCLAT.
The Court has
crystallised the roles of the COC and the NCLT. It has clarified the limits of
judicial review and left commercial decisions to the COC.
According to the
Supreme Court, it was not proper for the NCLAT to have taken up the task of the
COC. The COC has to enter into negotiations with the resolution professional
and the resolution applicant and look at the health of the company and
thereafter make the allocation.
2. Equitable distribution
among creditors
Holding that there
could be no classes of financial creditors on the basis of being secured and
unsecured, the NCLAT had directed that all financial creditors having a claim
amount of over Rs. 100 crores would be entitled to 60.7% of their admitted
claim. It had also awarded around 60% of the admitted claim to certain operational
creditors having claims of more than Rs. 1 crore.
The Supreme Court held that under the principle of parity, secured and
unsecured creditors cannot be treated to be equal. It emphasised that equitable
treatment is applicable only to similarly situated creditors and that the
principle of equitable treatment cannot be stretched to equal treatment of
unequals. Equitable treatment may be given to each creditor depending on the
class to which it belongs (that is, secured or unsecured, financial or operational).
3. Deadline for completion
of resolution process – not mandatory
The Supreme Court
relaxed the revised time limit of 330 days for resolving stressed assets by
diluting its mandatory nature and leaving a window open for the NCLT and the
NCLAT to extend the time under certain circumstances.
The Court permitted
flexibility by observing that though 330 days is now the outer time limit
within which a corporate resolution plan must be made, exceptions can be made
in deserving cases in which a plan is on the verge of being finalised. It said
that the NCLT and the NCLAT can send the plan back if it falls short of
judicial parameters. If a plan is not approved within time, the liquidation
process must be allowed to start.
The Supreme Court
has recognised the need for time-bound resolution even though it has relaxed
the 330 days’ limit by making allowance for exceptional cases to take longer,
if required.
4. Status of personal
guarantees and undecided claims
The Supreme Court
examined the effect of approval of the resolution plan on the claims of
creditors who have not submitted their claims before the resolution
professional within the specified time limit. It held that in terms of section
31(1), once a resolution plan is approved by the COC, it binds all
stakeholders, including guarantors. The Court observed that after the
resolution plan submitted by the resolution professional has been accepted, a
successful resolution applicant cannot be made to face uncertainty in respect
of undecided claims as regards the amounts payable by a successful resolution
applicant who has taken over the business of the corporate debtor. All such
claims may be submitted to the resolution professional so that a resolution
applicant knows precisely the amount payable for taking over and managing the
business of the corporate debtor.
The NCLAT had
extinguished the right of creditors against guarantees extended by promoters /
promoter group of the corporate debtor. The Supreme Court set aside the
aforesaid decision on the premise that the same was contrary to section 31(1)
of the Code and the judgment of the Supreme Court in State Bank of India
vs. V. Ramakrishnan3 .
Moreover, the
guarantors of the corporate debtor contended that their right of subrogation,
which they may have if they are ordered to pay amounts guaranteed by them in
the pending legal proceedings, could not be extinguished by the resolution
plan. On this aspect, the Supreme Court observed that it was difficult to
accept that the part of the resolution plan which provides extinguishment of
claims of the guarantor on account of subrogation cannot be applied to the
guarantees furnished by the erstwhile directors of the corporate debtor.
Indeed, the Supreme Court added a caveat that it was not stating anything that may
affect the pending litigation pursuant to invocation of such guarantee.
5. Scope of jurisdiction
of NCLT and NCLAT
The Supreme Court
has clarified that the scope of judicial review to be exercised by the
Adjudicating Authority (NCLT) must be within the parameters of section 30(2) of
the Code while the review by the NCLAT must be confined to the grounds provided
in section 32 read with section 61(3) of the Code.
The NCLT cannot
exercise discretionary or equity jurisdiction outside section 30(2) of the Code
in respect of adjudication of a resolution plan. The Court emphasised that the
discretion to decide the amount payable to each class or sub-class of creditors
is vested in the COC. This, however, is subject to three caveats. Firstly,
the decision of the COC must show that it has considered the need of the
corporate debtor to continue as a going concern during the insolvency
resolution process. Secondly, the resolution plan has considered the
need to maximise the value of the assets of the corporate debtor. Thirdly,
the interests of all stakeholders, including operational creditors, have been
taken into account.
It was observed by the Supreme Court that if nothing is payable to the
operational creditors, the minimum, being liquidation value – which may be nil
after secured creditors have been paid – would not balance the interest of all
stakeholders or maximise the value of assets of a corporate debtor if it
becomes impossible to continue its business as a going concern. Moreover, the
review by the NCLT must consider whether the resolution plan as approved by the
COC has met the requirements of section 30(2) and section 30(2)(e) [viz., that
the resolution plan does not contravene any of the provisions of the law for
the time being in force, as the provisions of the Code are also provisions of
law for the time being in force]. If the NCLT finds that there is any such
contravention, it may send the resolution plan back to the COC to re-submit the
same after complying with the requirements of the said two provisions.
6. Delegation of powers to
sub-committee
As regards the
exercise of powers of the COC pertaining to managing the business of the
corporate debtor, the Supreme Court held that such powers cannot be delegated
to any other person in terms of section 28(1)(h). At the time of approving a
resolution plan u/s 30(4), such power cannot be delegated to any other body as
it is only the COC that is vested with this important power. The Court observed
that sub-committees may be appointed for negotiations with resolution
applicants, or for performing other ministerial or administrative acts,
provided such acts are ratified by the COC.
7. Profits
of the corporate debtor during the resolution process
Whether
available to pay off creditors
The NCLAT had held
that the profits of the corporate debtor during corporate insolvency resolution
process must be used to pay off creditors of the corporate debtor. The Supreme
Court set aside the aforesaid decision by observing that the request for
proposal issued and consented to by ArcelorMittal and the COC had provided that
distribution of profits made during the corporate insolvency process will not
go towards payment of debts of any creditor.
8. Treatment of disputed
claims submitted to resolution professional
In this case, the
claim of certain creditors was admitted by the resolution professional
notionally at Re. 1 on the premise that disputes were pending before various
authorities in respect of such claims. However, NCLT directed the resolution
professional to register their entire claim and the same was upheld by NCLAT.
But the Supreme Court set aside the decision of NCLAT on the ground that the
resolution professional was right in admitting the claim only at a notional
value of Re. 1 due to the pendency of disputes regarding such claims.
9. Constitutional validity
of 2019 amendments
The Constitutional
validity of sections 4 and 6 of the Insolvency and Bankruptcy (Amendment)
Act, 2019 (2019 Amendment Act) was challenged before the Supreme Court.
Section 4 of the
2019 Amendment Act sought to introduce the mandatory time limit of 330 days for
completion of the corporate insolvency resolution process, failing which the
corporate debtor would face liquidation. On the other hand, section 6 of the
2019 Amendment Act provided the minimum amount payable to the operational
creditors and dissenting financial creditors as per the resolution plan.
The Supreme Court
observed that the time taken in legal proceedings should not prejudice the
litigant if, without any fault of the litigant, the litigant’s case cannot be
taken up within the specified period. Thus, the mandatory deadline
without any exception would violate Articles 14 and 19(1)(g) of the
Constitution. With such observations, while retaining section 4 of the
2019 Amendment Act, the Supreme Court struck down the word ‘mandatorily’
as being manifestly arbitrary under Article 14 of the Constitution and as being
an excessive and unreasonable restriction on the litigant’s right to carry on
business under Article 19(1)(g) of the Constitution.
It was clarified
that ordinarily, the corporate insolvency resolution process must be completed
within the extended limit of 330 days from the insolvency commencement date,
including extensions and the time taken in legal proceedings. However, in a
particular case, if it is found that the period left for completion of
corporate insolvency resolution process beyond 330 days is inadequate, and that
it would be in the interest of all stakeholders that the corporate debtor
deserves to be revived and not liquidated, and that the time taken in legal
proceedings is largely due to factors for which the litigant cannot be faulted,
the delay or a large part thereof being attributable to the tardy adjudication
and appellate process, then the NCLT or NCLAT may extend the time limit beyond
330 days. Likewise, even under the new proviso to section 12, where due
to the aforesaid factors the grace period of 90 days from the date of
commencement of the 2019 Amendment Act is exceeded, the NCLT or NCLAT may give
further extension after taking into account the aforesaid factors. Indeed, such
extension is to be given only in such exceptional cases.
The Supreme Court
held that section 6 of the 2019 Amendment Act was a provision beneficial to
operational creditors and dissentient financial creditors inasmuch as they
would now receive minimum amount and the computation of such minimum amount was
more favourable to operational creditors, while in the case of dissentient
financial creditors the minimum amount provided was a sum that was earlier not
payable.
The constitutional validity of section 6(b) of the 2019 Amendment Act was
upheld by the Supreme Court by observing that the same was merely a guideline
for the COC which may be followed by it for accepting or rejecting a resolution
plan. It also clarified that the COC does not act in any fiduciary capacity to
any group of creditors. The COC is bound to take its decision by majority after
weighing the ground realities. Such a decision would be binding on all
stakeholders, including dissentient creditors.
THE WAY FORWARD
The Supreme Court’s
decision should significantly narrow down the chances of long-drawn litigations
under the Code and eventually lead to faster resolutions of stressed assets.
This landmark
decision will result in a large-scale disposal of pending appeals before NCLAT
and disposals at NCLT. On similar questions of law, even the High Courts will
now be in a position to direct their registrars to locate such cases and place
them before the judges / courts for disposal in accordance with this landmark
judgment.
