Essar Steel Judgment: IBC undergoes much needed course correction

Essar Steel Judgment: IBC undergoes much needed course correction

Chinmoy Pradip Sharma 

Promotion of investments, time bound insolvency resolution, maximisation of the value of assets under distress, and promotion of entrepreneurship are the avowed objectives of the Insolvency and Bankruptcy Code, 2016 (IBC). The Code was touted as the “new thinking” in the commercial law arena in India.

The IBC came at a time when several Indian corporates were facing major financial difficulties. Like all financial legislations, the working of the IBC showed several chinks in its armour. The Legislature, on its part, stepped in on several occasions to address the lacunae in the law through amendments.

The National Company Law Tribunal (NCLT) and National Company Law Appellate Tribunal (NCLAT) were called upon to interpret and apply the provisions to resolve intricate issues. Several key disputes revolving around the interpretation of the IBC and its Regulations relating to the insolvency resolution process were bound to reach the doorstep of the Supreme Court.

One of the first cases was that of K Sashidhar v. Indian Overseas Bank, where the Supreme Court ruled on the limited scope of interference by the NCLT with respect to a resolution plan. Another important aspect that the Supreme Court dealt with was the primacy of the commercial wisdom of the Committee of Creditors (CoC) over the NCLT and the NCLAT. Financial creditors who are well versed with the feasibility of a proposed resolution plan were to be the last word regarding the business decision to put a resolution plan into action. On the other hand, the NCLT and the NCLAT were empowered to only review the fairness and equitability of a resolution plan.

This position of law was taken forward by the judgment in the case of Swiss Ribbons v. Union of India. In this case, the Supreme Court, in an extremely articulate and extensive manner, once again ruled that financial creditors hold the highest position in the pecking order in a resolution plan and the claims of operational creditors have to yield to those of financial creditors. This judgment also set at rest the controversy regarding the role of a resolution professional in the resolution process as merely the facilitator without any adjudicatory powers. 

In the Swiss Ribbons judgment passed in January this year, the Bench of Justices Rohinton Nariman and Navin Sinha upheld the IBC in its entirety.
In the Swiss Ribbons judgment passed in January this year, the Bench of Justices Rohinton Nariman and Navin Sinha upheld the IBC in its entirety.

The major highlight of the Swiss Ribbons’ Case, however, is the elaborate discussion on the judicial hands-off policy in relation to economic legislations and the raison d’etre for the enactment of the IBC. It is evident that the Supreme Court was mindful of the challenges being faced at various levels for successful implementation of the IBC as an insolvency resolution mechanism and the undue judicial intervention in such cases leading to de-railing and delay in concluding a resolution process.

The Supreme Court’s decision ratifying the view taken by NCLAT in approving the acceptance of the revised bid offered by UltraTech Cement by the CoC of Binani Cement was viewed as the coming of age moment of the IBC. The CoC based its acceptance of the revised bid of UltraTech Cement over the bid of Dalmia upon the former’s resolution plan providing for payment of dues of the operational creditors in full. In doing so, the CoC as a body received the much-needed credibility as being unbiased and looking out for the interests of the operational creditors and not just of their own.

The Bhushan Power and Steel Case also saw the accomplishment of an insolvency resolution process. Though travelling a litigious road as expected, the resolution plan of Tata Steel was eventually approved by the CoC and was duly accepted by the NCLT. 

The IBC’s journey thus far was regarded as fruitful and effective, though it faced several road blocks along the way. The legal parameters under the IBC were now seemingly set and its provisions had the requisite clarity for effective implementation.

However, this joyride was disrupted by the decision of the NCLAT in the Essar Steel Case. In a judgment that had the effect of taking insolvency resolution processes under the IBC completely off track, the NCLAT took the view that operational creditors stood on an equal footing as financial creditors and their claims had to be considered at par with those of financial creditors. The most striking feature of the judgment of the NCLAT is the view taken that the CoC is not empowered to decide the manner in which claims of creditors are to be dealt with. 

In the Essar Steel case, the NCLAT held that operational creditors stood on an equal footing as financial creditors.
In the Essar Steel case, the NCLAT held that operational creditors stood on an equal footing as financial creditors.

The other aspect of NCLAT’s judgment in the Essar Steel case is that claims decided by the resolution professional and affirmed by the NCLT or the NCLAT are final and binding on all creditors. Moreover, NCLAT took the view that operational creditors have separate classes within themselves and can be classified into sub-classes for the purpose of distribution. It was further held that undecided claims could be adjudicated upon the resolution professional or the NCLT.

The Supreme Court’s ruling overturning the NCLAT’s judgment in the Essar Steel Case is not one that breaks new legal ground. The path-breaking judgments rendered in K. Sashidhar’s Case and Swiss Ribbons’s Case had already elaborately dealt with the issues that were brought forth for adjudication in the Essar Steel Case. Therefore, the Supreme Court consciously kept its unflinching focus on reiterating the principles laid down in the above-mentioned two judgments. Ironically, such an exercise was unwarranted, but for the flawed interpretation of the IBC as well as corporate law in general contained in the NCLAT’s judgment. 

The Supreme Court, in the most eloquent manner, has again thrown its weight behind the CoC and its commercial wisdom with respect to the feasibility and viability of a resolution plan and the manner in which distribution is to be made under it. As regards distinction between operational and financial creditors, the Supreme Court has re-affirmed its view that such distinction is writ large in the provisions of the IBC as well as the general law governing classes of creditors. 

Though the Supreme Court has persisted with the view that the claims of financial creditors are at a premium and have to be addressed first, the Essar Steel judgment assumes great significance as it endeavours to tighten the loose ends pertaining to the claims of operational creditors in the face of the onslaught of the claims of financial creditors. The Supreme Court has taken the view that though the IBC envisages different classes of creditors who can be treated differently, equal treatment between creditors falling in same category must be ensured. The judgment calls for payment of dues of operational creditors to ensure that a corporate debtor can continue to carry on its business as a going concern. 

The rationale behind this ruling is to ensure maximisation of the value of assets of corporate debtors and the balancing of interests of all stakeholders, which are the foremost objectives of the IBC. On this count, the Supreme Court has made it clear that the above-mentioned features ought to be taken into consideration by the CoC while arriving at a business decision to revive the corporate debtor and to pay off the dues of financial and operational creditors. 

The Supreme Court has cautioned that though the ultimate discretion of what to pay and how much to pay each class of creditors is with the CoC, the decision must reflect the fact that the CoC has taken into account the above-mentioned factors. The NCLT and NCLAT has been afforded the power to review the decision of CoC with such scrutiny and consideration. At the same time, the Supreme Court has also sought to lay to rest any debate on the scope of judicial review available with NCLT and NCLAT by observing that it is limited to the parameters set out in K Sashidhar’s Case viz., that it cannot trespass upon a business decision of the majority of the CoC.

The judgment of the Supreme Court in the Essar Steel Case is likely to set the tone for resolution processes that will follow in the times ahead. However, several challenges still remain.

The IBC is aimed to promote investments as well as resolution of insolvency. Over time, the IBC has become a recovery mechanism which has been frowned upon by the Supreme Court in the case of Mobilox Innovations v. Kirusa Software. Besides completing the resolution process in Binani Cement and Bhushan Steel, the IBC has not aided in smoothly formalising the eventual approval of resolution plans after pulling through the maze of claims and procedures.

The final outcome in the Essar Steel case will provide the necessary boost to efforts to revive several corporate entities which are in the doldrums. The time has also come for the NCLT and NCLAT to look at cases under the IBC beyond their legal issues and monetary claims. Their adjudicatory power ought to be exercised bearing in mind the implications on stakeholders, creditors as well as the people whose lives depend on revival of a company.

For the sake of creating a robust IBC, the need of the hour is to provide progressive judicial statesmanship rather than narrow and myopic interpretations leading to regressive pronouncements.

The author is a dispute resolution lawyer practising in Delhi and is a keen observer of law, polity and judicial process

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