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Challenge to arbitral award is a ‘dispute’ under Insolvency Code: Supreme Court

Challenge to arbitral award is a ‘dispute’ under Insolvency Code: Supreme Court

Varun Marwah

Upholding the principles laid down in Mobilox Innovations, a Supreme Court bench of Justices R.F Nariman and Indu Malhotra has ruled that insolvency cannot be triggered when the corporate debtor has challenged an arbitral award passed against it.

The arbitral award in question being the debt awarded in favour of the creditor based on which insolvency is sought to be triggered.

In the case of K. Kishan vs. Vijay Raman Company Pvt Ltd, a dispute regarding claims arising out of a project was referred to an arbitral tribunal. While the arbitration award was passed in favour of the creditor (the company), the debtor (Kishan) challenged the said arbitration amount for counterclaims which are larger than the actual debt claimed by the creditor.

The challenge to the arbitral award under Section 34 of the Arbitration and Conciliation Act, was made by the debtor during the 10 days notice period which is provided under the IBC for operational creditor filings. Despite a dispute being raised during the 10-day statutory period, an application was filed by the creditor with the NCLT.

Despite the existence of a dispute, the NCLT admitted the case ruling that the Section 34 petition filed by the debtor was irrelevant for the reason that the claim stood admitted. On an appeal filed, the NCLAT upheld the NCLT’s order and ruled that Section 238 of the IBC would override the Arbitration Act.

After hearing arguments made by Senior Advocate Gourab Banerji (for debtor/appellant) and Advocate P.V Amarnadha Prasad (for creditor/respondent), the Bench observed that the counterclaims made by the debtor during arbitration proceedings were rejected only for lack of evidence and other technical reasons.

Referring to precedents laid down in Mobilox, the Bench found it necessary to briefly delve into the legislative history of IBC and some problems envisaged during its drafting stage, such as improper use of IBC as a debt enforcement mechanism. The Bench thought that the case before it was an instance of the aforesaid problem,

“…it becomes clear that operational creditors cannot use the Insolvency Code either prematurely or for extraneous considerations or as a substitute for debt enforcement procedures”.

It then reiterated the three questions that need to be answered by the NCLT while dealing with an application under IBC, and said that if one of the conditions is missing, the application would be rejected:

(i) Whether there is an “operational debt” as defined exceeding Rs 1 lakh? 

(ii) Whether the documentary evidence furnished with the application shows that the aforesaid debt is due and payable and has not yet been paid? and

(iii) Whether there is existence of a dispute between the parties or the record of the pendency of a suit or arbitration proceeding filed before the receipt of the demand notice of the unpaid operational debt in relation to such dispute?

Following this, the court reiterated that the object of the IBC,  “at least insofar as operational creditors are concerned, is to put the insolvency process against a corporate debtor only in clear cases where a real dispute between the parties as to the debt owed does not exist.

The Court agreed with the Singapore High Court’s line of reasoning that where debtor appears to have a valid counterclaim or cross-demand which is equivalent to or exceeds the amount of debt, the insolvency process will not be put against such debtor. At the same time, it rejected the high thresholds of fraud, collusion and miscarriage of justice imposed by Australian High Court to disprove a debt and held that they cannot be applied in the Indian context of IBC.

Accordingly, the Bench observed that a Section 34 petition against an arbitral award shows a pre-existing dispute which culminates at the first stage of the proceedings in an award and continues even after the award. The Bench while setting aside the NCLAT ruling, held that,

The very fact that there is a possibility that Mr. Banerji’s client may succeed on these cross-claims is sufficient to state that the operational debt, in the present case, cannot be said to be an undisputed debt.

Senior Advocate Gourab Banerji was assisted by AOR Bharati Reddy, along with Sushanth Reddy, Harsha Peechare, Gautam Singh, Subhro P. Mukherjee and Raka Chatterjee.

Read the judgment