[Navantak Agrawal is a third-year student at National University of Study and Research in Law, Ranchi]
Introduction
The Insolvency and Bankruptcy law was introduced to consolidate and amend the laws that would give certainty of process, time, and outcome to creditors, borrowers, and other market participants. It has improved the jurisprudence of insolvency in the country. The present case demonstrates the parliamentary form of government as the Corporate Insolvency Resolution Process (CIRP) provisions were clarified even though, the decision of the National Company Law Appellate Tribunal (NCLAT) was pending before the Supreme Court.
Recently, in the case of Committee of Creditors of Essar Steel India Limited v. Satish Kumar Gupta & Ors[1], the Supreme Court on 15th November, 2019 dismissed the NCLAT order and upheld the approved Resolution Plan of ArcelorMittal in a joint venture with Japan’s Nippon Steel. It includes a payment of Rs. 42,000 cr. upfront towards resolution debt and further Rs. 8,000 cr. of capital infusion to support growth. The Plan provides for differential payment to secured and unsecured creditors, viz., State Bank of India (SBI) and other secured financial creditors to recover 92% of their admitted dues, approximately Rs. 13,000 cr., whilst Standard Chartered Bank (SCB) stands to recover 5% of approximately Rs. 3000 cr. Further, the operational creditors have been divided into two categories: small creditors with claims below Rs. 1 cr., who will be paid their dues in full and others in excess of Rs. 1 cr., who will collectively receive Rs. 1196 cr. out of admitted debt of Rs. 3339 cr. and individually receive liquidation value (a little more than nil in majority cases). The workmen and employees will be paid full dues amounting to Rs. 18 cr.
The saga in this case began when the operational creditors of the debt-laden Essar Steel and Standard Chartered Bank complained to the tribunal about the unfair treatment meted out to them. While all the other financial creditors had a recovery rate of 90%, Standard Chartered Bank would have only been able to recover around 2% of its debt lent to a subsidiary of Essar Steel. Apart from mentioned creditors, tax authorities, operational creditors like energy companies and power utilities, had almost negligible recovery under the resolution plan approved by the Committee of Creditors (hereinafter ‘CoC’).
Factual background of the case
In this case, ArcelorMittal India Private Limited and Numetal Limited applied as resolution applicants to acquire Essar Steel in December 2019. After duly analyzing the resolution plans of both the applicants, the Resolution Professional for Essar Steel disqualified and declared them ineligible for the same in accordance with Section 29 A of the Code. Both ArcelorMittal India Pvt. Ltd. and Numetal Ltd. approached the National Company Law Tribunal, Ahmedabad Bench and contended to set aside the decision to disqualify the Resolution Applicants. The NCLT, Ahmedabad approved the Resolution Plan of ArcelorMittal India Pvt. Ltd. and suggested the CoC to distribute the funds as is proposed in the Resolution Plan of ArcelorMittal. However, this order was then challenged by Operational Creditors, Standard Chartered Bank, past promoters and suspended directors of the Corporate Debtor before the National Company Law Appellate Tribunal.
The NCLAT observed the case in order to bring parity among the financial and operational creditors of Essar Steel in matters of distribution of the proceeds. Therefore, it approved the Resolution Plan of Essar Steel. However, the NCLAT modified the distribution of funds in the Resolution plan. After this, appeals were filed before the Hon’ble Supreme Court to set aside the NCLAT ruling and set aside the decision of the CoC on how the funds offered by ArcelorMittal are to be distributed among the creditors.
Fair Treatment of Stakeholders
This judgment by the Supreme Court settled many questions of law. However, we analyse the verdict of the Supreme Court with respect to the principle of ‘Equality’ where the Apex Court expressively and extensively observed that the financial creditors hold superiority in the Resolution Plan with respect to the settlement of dues.
The Supreme Court has placed its confidence in the CoC and the commercial intelligence with regards to the viability and practicality of a resolution plan and the manner in which distribution is to be made under the same. The same principle was outlined in a previous judgment of the Hon’ble Supreme Court in the case of K. Sashidhar v. Indian Overseas Bank[2]. The Hon’ble court has asserted that fair treatment among the creditors falling in the identical category is necessary, even if the IBC lays down dissimilar classes of Creditors to be treated differently. However, the Supreme Court has constantly preserved the view that claims of financial creditors are of prime importance, and further, the judgment identifies the payment of dues of operational creditors to make sure that a corporate debtor can continue to hold on to its business as a going concern.
The Supreme Court has, although given the authority to the CoC to decide on the aspect of distribution of funds, however, the manner in which the funds are to be distributed is still a matter of debate. This has thus raised important questions in the Corporate Insolvency Resolution Process and the Corporate Liquidation Process.
The Waterfall Mechanism
Section 53 of the Code provides for the Waterfall Mechanism in order to distribute the assets during Liquidation. As per this mechanism, the assets are distributed giving first priority to the insolvency resolution process costs and the liquidation costs, workmen’s dues, debts owed to a secured creditor, etc. However, Section 53 has no mention of Operational Creditors in the priority list, thus leaving them in the bracket of “any remaining debts and dues.” In the 2020 Report of the Insolvency Law Committee[3], this confusion was addressed and it was recommended that a proper elucidation can be provided by inserting an explanation under Section 53(2) to support the validity of inter-creditor and subordinate agreements. However, its implementation is still awaited.
Moreover, regulation 38 of the CIRP Regulations provides for the mandatory contents in the Resolution Plan. Rule (1A) of this regulation provides for the Resolution Plan to include the interests of all stakeholders (Financial and Operational creditors of the Corporate Debtor). However, even this regulation remains silent on the way the interests of the stakeholders can be maximized.
Discrimination between Creditors
As the code does not provide a particular mechanism to ensure that the interest of all stakeholders is taken into consideration, the IBC thus in a way discriminates between the operational and financial creditors. Section 21 of the IBC, 2016 provides for the establishment of CoC. However, sub-section 2 of Section 21 provides that the members of the Committee of Creditors shall include only the Financial Creditors, thus leaving the Operational Creditor without having any voting power for or against the resolution plan or insolvency and related matters. As the Financial Creditors have a decisive power, the payments of dues to the Financial Creditors are thus kept on a higher pedestal.
Furthermore, in the Essar Steel Case, the Supreme Court has held that all creditors are not entitled to equal recovery but the principle of equality applies to similarly situated creditors. As per the resolution Plan of ArcelorMittal, there was a recovery of 20% for the operational creditors while the secured creditors recovered 89% of their dues. This shows the way in which the dues of operational creditors are being compromised.
Treatment of OC and FC: Effective practical solution?
The Code clearly creates different classes of creditors providing for their differential treatment and the same has been correctly upheld. The Bankruptcy Laws Reform Committee Report of 2015 adequately justifies this classification; as also shown in Swiss Ribbons judgment pointing out the intelligible differentia between financial and operational debt and functions of creditors. The UNCITRAL Legislative Guide and the 2015 World Bank Report opine that these general principles of priority between secured/unsecured and financial/operational creditors are fundamental to credit efficiency.[4] Despite the Essar Steel judgment discussed herein, the question remains; will the safeguard of Section 30 of the Code and Regulation 38(1) of the CIRP regulations along with precedents such as Binani Cementṅ[5] Resolution Plan serve the interests of OCs equitably?
A conflicting explanation is given in para 46 of the judgment stating that balancing of the interest of OCs will not be achieved by only granting the minimum amount under the Code i.e. liquidation value (which in many cases is nil) as that would not maximize the asset value of the CD. It directs that the CoC must have the commercial wisdom to arrive at an unbiased business decision that would pay off substantial dues of OCs. This indicates that mere semantic satisfaction of section 30(2) is not sufficient; rather the balancing spirit of the Code must be embodied in the approved Plan. However, the operative practical position demonstrated from the ArcelorMittal Plan (wherein majority OCs are recovering minimal dues compared to 92% recovery of dues by FCs) is that the business decision of CoC even if otherwise, cannot be trespassed by the Adjudicating Authority and satisfaction of section 30(2) is enough to consider the plan as being fair and equitable.
Though it is expected that by upholding the power of the CoC, this judgment will put to rest the question of funds distributed between OCs and FCs; in light of the above reasoning, only time will tell whether interests of OCs will be adequately addressed in the future, thus reducing further litigation upon this question. Notwithstanding the legal solution to the tussle between OCs and FCs, it is anticipated that in order to safeguard their interests, henceforth OCs will transform their service payment systems and change the way they deal with their client companies.
The Insolvency and Bankruptcy Code (Amendment) Bill, 2019
The answer to whether the manner of the distribution proposed in a resolution plan was a commercial activity and within the powers of the committee of Creditors is found to be in the affirmative according to the recent proposed Amendment bill, 2019 passed by the Cabinet on 17 July 2019 and by the Lok Sabha[6] on 1 August 2019. The press release accompanying the Bill states that, “Inclusion of commercial consideration in the manner of distribution proposed in resolution plan, is within the powers of the Committee of Creditors.”
Further, in the proposed Bill the deadline for the completion of CIRP has been increased to 330 days from 270 days. These 330 days will be inclusive of all the litigation and judicial proceedings. Earlier, it was often argued that 270 days do not comprise the time spent in litigation. The NCLAT in its order has stated that a party may approach an appropriate forum under section 60(6) of the Code, even if the party had not filed such claim before the resolution professional during the CIRP. Given this, the 330 days limit seems unachievable because, with that liberty, it will be very difficult for the plethora of applications filed by the interested parties to be resolved within the proposed time frame.
The most significant amendment proposed is the application of section 53 of the Code to the resolution process which is not necessarily a ‘liquidation’. The Bill provides that:
“financial creditors who have not voted in favour of the resolution plan and operational creditors shall receive at least the amount that would have been received by them if the amount to be distributed under the resolution plan had been distributed in accordance with section 53 of the Code or the amount that would have been received if the liquidation value of the corporate debtor had been distributed in accordance with section 53 of the Code, whichever is higher.”
The NCLAT had rejected outright the application of section 53, which lays down the hierarchy of payment, citing the absence of liquidation in the present case.
The Bill further mentions that the resolution plan shall be binding on all stakeholders, including employees and government and provides clarity that the committee of creditors may take the decision to liquidate the corporate debtor any time after constitution of the committee of creditors and before preparation of information memorandum along with other general suggestions to expediate the whole process of insolvency.
The Code under section 31(1) clearly mentions that the approved Plan would be binding on all the stakeholders including the guarantors. As laid down in State Bank of India v.V. Ramakrishnan[7], Supreme Court held that the defence under section 133 of the Contract Act won’t be available on variation in debt under the Plan and it will be binding on guarantors. Similarly, in Lalit Mishra & Ors. v. Sharon Bio Medicine Ltd.[8], it was held that the right of subrogation under section 140 of the Contract Act would not be available to the guarantor under the code as the proceedings are not in the form of recovery but aim to maximise value of assets and the same was upheld by SC on appeal. This view was recently dealt with by the NCLT, Principal Bench, New Delhi in the matter of Rave Scans Pvt. Ltd.[9] wherein the application filed by a guarantor challenging proceeding against him after approval of Plan was dismissed.
Key Takeaways
Commercial wisdom of the Committee of Creditors [“CoC”] held paramount to determine ‘feasibility and viability’ of a Plan taking into account all aspects of implementation including distribution of funds among various classes of creditors. Majority vote (not less than 66% of voting share of Financial Creditors [“FCs”]) of the CoC to be the ultimate decision provided interests of all stakeholders are balanced simultaneously with asset value maximization.
As embodied by the Code, different classes of creditors are to be given differential treatment. NCLAT order has been overturned by Apex Court, i.e. secured and unsecured FCs will not be treated equally and neither will operational creditors (OCs) nor FCs be at par. Distribution of funds will be as decided by CoC in accordance with the Plan as approved on 23.10.2018 submitted by ArcelorMittal and approved by NCLT Ahmedabad.
Scope of judicial review to Adjudicating Authority [“NCLT”] is limited to four corners of section 31 read with section 30(2) of the Code, while that of Appellate Authority [“NCLAT”] is limited to section 32 read with section 61(3) i.e. to apply judicial mind without encroaching upon business decisions of the CoC. The task is to objectively satisfy itself ensuring compliance with existing laws in force based on reasoning provided by the CoC. In case of dissatisfaction, the Plan may be sent back to the CoC directing due compliance to parameters under Regulation 38 of CIRP Regulations before resubmission.
The court clarified that the successful resolution applicant cannot be burdened with undecided claims at a later stage as it would hinder the acquisition of the corporate debtor.
Conclusion
Although IBC 2016 was successful enough in bringing reform into the existing banking system, however, this success appears to be at the cost of the interests of other stakeholders. While the Hon’ble Apex Court in the Essar Steel Case has settled the issue of the rights of the Committee of Creditors, it has still not clarified the procedure of the distribution of the dues. However, the apex court has done a commendable job by clarifying some major conflicting questions of law and standing the ground in support of the Code. However, certain pertinent questions continue to exist on grounds of liability of guarantor and disparity between OCs and FCs. Further, due to the present volatile market conditions, ArcelorMittal must set reasonable expectations and make well thought out strategic decisions in order to compete successfully in the Indian Steel Industry.[10] This gives an unfair advantage to the Secured Creditors, who form the CoC and have an opportunity to discriminate against the Operational Creditors. Thus, another verdict of the Hon’ble Apex Court is required which could provide guidelines in order to ensure that the interest of all stakeholders is maximized.
[1] Civil Appeal No. 8766-67 of 2019. [2] K. Sashidhar v. Indian Overseas Bank, 2019 SCCOnline SC 257. [3] https://www.mca.gov.in/Ministry/pdf/ICLReport_05032020.pdf (last accessed on November 1, 2022) [4] UNCITRAL, Legislative Guide on Insolvency Law, https://www.uncitral.org/pdf/english/texts/insolven/05-80722_Ebook.pdf (last accessed on Nov 2, 2022) [5] Binani Industries Limited v. Bank of Baroda & Another, NCLAT Order dated Nov 22, 2018. [6] IBC Amendment Bill gets Lok Sabha nod, Hindu Business Line, https://www.thehindubusinessline.com/news/parliament-passes-insolvency-and-bankruptcy-code-amendment-bill-2019/article28784030.ece (last accessed on November 5, 2022) [7] State Bank of India v. V. Ramakrishnan 2018 SCC OnLine SC 963. [8] Lalit Mishra & Ors.v. Sharon Bio Medicine Ltd., Company Appeal (AT) (Insolvency) No. 164 of 2018 dated 19.12.2018. [9] Rave Scans Pvt. Ltd., IB No. 01/2017, dated 09.05.2019 [10] Business Line Bureau, ArcelorMittal to close Essar Steel deal by December-end, https://www.thehindubusinessline.com/companies/arcelormittal-to-close-essar-steel-deal-by-december-end/article30014283.ece (last accessed on November 5, 2022)