This Article on Prominence of Liquidation over arbitral award with reference to Surana Power Ltd v BHEL is written by Pushti Dublish, pursuing B.A. LL.B. from Galgotias University.
In a recent case of Surana Power Ltd v BHEL,  the National Company Law Appellate Tribunal (hereinafter referred to as NCLAT) while setting aside the order of the National Company Law Tribunal (NCLT) ruled out that the liquidation process of corporate under the Insolvency and Bankruptcy Code, 2016 is given supremacy over the arbitration awards.
The discourse over the judgment shall begin with being acquainted with the imperative act i.e. the Insolvency and Bankruptcy Code, 2016 (in short I&B Code).
ABOUT INSOLVENCY AND BANKRUPTCY CODE, 2016
This code was brought in to shift the existing regime i.e. from ‘Debtor in possession’ to ‘Creditor in control’. In the past, the Indian Insolvency and Bankruptcy regime has multiple agencies involved in matters concerning debt defaults and insolvency. Thus, the process entails numerous complexities, delays, and huge costs which made the process sluggish and cumbersome. It often leads to productive assets lying dormant and getting wasted. The code came up with the expeditious insolvency resolution/revival process.
RATIONALE BEHIND THE CODE
- It was enacted to provide time-bound settlement of Insolvency and to create and maintain the database of defaulters. Like the SARFAESI Act, it safeguards the interest of various stakeholders.
- It established the Insolvency and Bankruptcy Board of India (IBBI).
- It facilitates the easy exit of bankrupt corporate and individuals & provides a painless revival mechanism for entities.
The code amalgamated and amended the various prior existing laws relating to Sick Companies Industrial (Special Provisions) Act, 1985 (SICA), the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI), the Companies Act, 2013 and others.
“Insolvency is a state and Bankruptcy is the end of the road.”
The important terms used in I&B Code, 2016 i.e. Insolvency and Bankruptcy. These terms are used interchangeably by a layman. But they are like chalk and cheese to each other.
“Insolvency” is a situation where an entity goes through a financial crunch in which it is unable to generate enough cash inflows to meet its cash outflow obligation. It means the value of assets is less than that of liabilities. In this state, an entity may either emerge or cease. If the insolvency procedures are capable of being conducted then, the entity (viz. the debtor) is not declared bankrupt. Whereas,
“Bankruptcy”- when a legal order has been passed by the court declaring that the entity cannot repay the amount it owes from creditors is termed as Bankruptcy. It is the legal option available to an entity (viz. the debtor) if insolvency is inoperable.
Liquidation is triggered when the Insolvency is not capable of being addressed to revive the entity from financial lows. In its plain meaning, it’s a process of winding up of an entity, when it is unable to disburse its creditors and the assets are realized into cash to pay off them.
It could be a voluntary act as well where the law ensures that all the liabilities of the company into existence should be paid off before it gets closed.
- WHEN DOES LIQUIDATION PROCESS INITIATE
Section 33 of the I&B Code, 2016 provides for the following circumstances under which a liquidation process can be initiated:
- When no resolution plan is submitted by the Interim Resolution Professional within the maximum period (180 days + one-time extension of 90 days) to the adjudicating authority, or if it is rejected by the authority.
- When the submitted Interim Resolution Professional is in non–compliance with Section 31.
- When the Committee of Creditors (COC) have voted to liquidate the corporate debtor during the Corporate Insolvency Resolution Period (CIRP) and the same is communicated to the Adjudicating Authority.
- When the corporate debtor does not follow the resolution plan approved by the adjudicating authority.
- When a liquidation order has been passed then no suit or any legal proceedings shall be instituted by or against the corporate debtor.
When the liquidation order is passed by the Adjudicating Authority, the liquidator is appointed who will initiate the liquidation process of the corporate debtor as per the provisions of the I&B Code, 2016, and the IBBI (Liquidation Process) Regulations, 2016. The date when the liquidation order is passed termed as Liquidation Commencement Date.
LIQUIDATION PROCESS UNDER I&B CODE
Step 1: Appointment of Liquidator & Consequences
Section 34 of the I&B Code provides for the appointment of Liquidator. Generally, an Insolvency Professional (IP) is appointed as a liquidator. The fee paid to him is a part of proceeds from the liquidation estate. The powers and duties of Liquidator are defined in Section 35 of the I&B Code.
NOTE: All the powers of BOD and KMP of the Corporate Debtor (CD) shall come to an end and vest in the Liquidator.
Step 2: Public Announcement of Liquidation and Calling for Claims and Appointment of Valuer’s
On the passing of the Liquidation Order, the moratorium commences. Public Announcement shall be made within 5 days of order informing that the Corporate Debtor is being liquidated and inviting claims from all creditors within 30 days of Public Announcement [as per Schedule II of IBBI (Liquidation Process) Regulation, 2016]. Subsequently, Liquidator appoints 2 Valuer to value Corporate Debtors’s assets. A report should be received by the liquidator within 75 days of order to file an assets memorandum with Adjudicating Authority.
Step 3A: Verification and Acceptance of Claims
As per Section 39 of the I&B Code, the liquidator verifies the claims within 30 days of the last date of submission of claims. He communicates his decision of admitting or rejecting the claims within 7 days of the verification under Section 40. An application under Section 42 can be made by the creditors against the liquidator’s decision.
Step 3B: Preparation of Asset Memorandum and other Reports
Section 36 of the Code is the stronghold of the liquidation process where the Liquidator forms an estate of assets termed as Liquidation Estate. He prepares a memorandum that defines what assets of the CD shall form the part of liquidation estate, the value of assets, manner of sale, estimated realization amount, and other relevant information for the sale of assets. Also, the Liquidator has to submit the various reports say the Preliminary Report, First Progress Report, Subsequent Progress Report, Sale Reports, and other Reports to the Adjudicating Authority from time to time.
Step 4: Formation of Liquidation Estate
Section 36(3) provides for the Liquidation Estate that includes the assets over which Corporate Debtor has ownership rights, movable/ immovable tangible assets, intangible assets, assets in respect of which security interest has been relinquished by Secured Creditor U/s 52 of I&B Code, 2016, assets subjected to determination of ownership by the court or authority, any assets or their value recovered through proceedings for avoidance of transaction, all proceeds of liquidation as and when they are realized. Secured Creditors in liquidation proceedings can give up its security interest to the Liquidation Estate and receive proceeds from the sale of assets by Liquidator in the manner stated U/s 53.
Step 5: Sale of Assets
The sale of assets of Corporate Debtor is governed by the Regulations, 2016. The Liquidator can sell the assets through the private sale in the manner specified in Schedule 1, in a transparent manner provided in Regulations, on arm’s length basis, and the prices determined by the market forces. However, the private sale of assets can be made only by the prior permission of the Adjudicating Authority.
Step 6: Distribution of Assets as per Waterfall (Waterfall Mechanism)
As the name suggests, the waterfall mechanism means the distribution of the water into equal droplets to every area or part. Under Section 53 of the I&B Code, the waterfall mechanism is mentioned i.e. in terms of payment, the priority is given to Secured Creditors over Unsecured ones. This section particularly deals with the mechanism where it prioritises the payments concerning the categories.
Following is the Priority List fall under the waterfall mechanism:
- Insolvency Resolution Process and Liquidation cost paid at par.
- Secured Creditors, relinquished u/s 52 of I&B Code, 2016 along with Workmen dues (up to 24 months preceding Liquidation Commencement date)
- Other Employees Dues (up to 12 months)
- Financial debts of Unsecured Creditors
- Government Dues (up to 2 years) and unpaid Secured Creditors following the enforcement of security interest U/s 52 of I&B Code, 2016.
- Any remaining debts and dues
- Preference Shareholders
- Equity Shareholders
Once the assets of the Corporate Debtor are liquidated, the liquidator is required to submit the final report to the Adjudicating Authority demonstrating how the liquidation has been conducted and how the assets are liquidated. Subsequently, U/s 54(1) of the Code, the Liquidator will make an application to the Authority for the dissolution of the Corporate Debtor.
ADJUDICATING AND APPELLATE AUTHORITY
For Corporate persons (Companies & LLPs): The adjudicating authority is the National Company Law Tribunal (NCLT). Any corporate person aggrieved by the order of NCLT shall file the appeal to the National Company Law Appellate Tribunal (NCLAT) within 30 days of such order.
For Individuals & Partnership Firms: Debt Recovery Tribunal (DRT). If any person is aggrieved by the order of DRT can file an appeal to Debt Recovery Appellate Tribunal (DRAT) within 30 days of such order.
CASE STUDY: SURANA POWER LTD. V. BHEL
JUDGES: Justice Venugopal M., V. P. Singh (Technical Member), and Shreesha Merla (Technical Member)
On 20th January 2019, the Chennai Bench of NCLT admitted the plea for insolvency against Surana Power Ltd. under Section 9 of the I&B Code, 2016 which states that the operational creditor can apply to initiate the Corporate Insolvency Resolution Process (CIRP) after the default of non-payment of the amount due to the Corporate Debtor. But as no resolution plan was approved, the company went into liquidation and the appellant was appointed as Liquidator. In the meantime, BHEL succeeded in the arbitration proceedings and the arbitral award was passed in its favour. Based on the arbitral award, BHEL claims to have exclusive rights over the secured assets and does not give any intimation to relinquish its security interest in the assets of the Corporate Debtor. This has blocked the liquidation process as one out of the eleven Creditors had not given the intimation. Therefore, he moved to the NCLT but his plea got rejected on the ground that the BHEL, a Secured Creditor, has the right over all the assets of the Corporate Debtor. The Liquidator moved to the NCLAT after being aggrieved by the order of NCLT.
Whether the adjudicating authority has acted arbitrarily in favour of BHEL?
Firstly, BHEL does not have exclusive rights over the Secured Assets on the ground that the arbitral award was untenable as it is the fundamental principle of the company law that when liquidation process is initiated, the Liquidator becomes the single body who construes the claims and the counter-claims of the Secured and Unsecured Creditors.
Secondly, It would be prejudicial to halt the liquidation process at the instance of a single Secured Creditor having a share of 26.24% in the Secured Assets. This step would be detrimental to the interest of the 10 Secured Creditors and the liquidation process. As per Section 13(9) of the SARFAESI Act, 2002, BHEL would have enjoyed the right over the assets only if it had the requisite 60% share in the Secured Assets of the Corporate Debtor. Therefore, the NCLAT held that the liquidation supersedes the arbitral award.
Surana Power Ltd v BHEL: COMMENT
BHEL cannot surpass the undergoing liquidation process just because it had won an arbitral award in its favour. This verdict came on 21st June 2020 where NCLAT said that when the liquidation embarks on, everyone has to move in the queue as per the waterfall mechanism laid down in Section 53 of I&B Code, 2016 which gives the priority list of the creditors to whom payment is to be made. It is evident from Surana Power Ltd v BHEL that a creditor cannot gain supremacy over other Secured Creditors, they all will be adjudicated on the same footing and get the fair share by following the waterfall mechanism of liquidation. However, it didn’t cross the arbitrator’s mind that once a Liquidator is appointed, his part came to an end. Exceptionally, BHEL also ignored the fact and continued to pretend the ignorance of the Liquidator being appointed. Thus, it is evident that NCLT had ruled inappropriately thereby causing a miscarriage of justice.
- Surana Power Ltd v BHEL, Company Appeal (AT) (Insolvency) No. 1510 of 2019.
- Aashish Aryan (2020). What does recent NCLAT ruling — liquidation of a firm under IBC holds precedence — mean?[online] The Indian Express. Available at: https://indianexpress.com/article/explained/what-does-recent-nclat-ruling-liquidation-of-a-firm-under-ibc-holds-precedence-mean-6468623/#:~:text=The%20National%20Company%20Law%20Appellate,outcome%20of%20an%20arbitration%20proceeding.&text=The%20Chennai%20Bench%20of%20National,ruled%20in%20favour%20of%20BHEL.
- (2016). The Insolvency and Bankruptcy Code: All you need to know. [online] Available at: https://www.prsindia.org/theprsblog/insolvency-and-bankruptcy-code-all-you-need-know .
- https://www.taxmann.com. (2017). Company Liquidation Process and Procedure. [online] Available at: https://www.taxmann.com/blogpost/2000000406/company-liquidation-process-and-procedure.aspx.