[The Viewpoint] Analysis of the Supreme Court's decision in Vidarbha Industries

By making the Adjudicating Authority undertake an analysis of the financial strength of the corporate debtor, the Supreme Court has delayed the process of initiation of insolvency.
Amay Bahri
Amay Bahri
Published on
5 min read

The Insolvency and Bankruptcy Code, 2016 (IBC) marked a monumental change in the landscape of insolvency and has been more effective than any of its predecessors. The reason for the success of this Code has been the push for resolution over liquidation, and the emphasis on timelines in the insolvency process.

Despite its effectiveness, the Code has still been unable to achieve the ambitious timelines, and the primary reason for this is the litigation surrounding the Code. There are numerous contradictory judgments of the courts that convolute the understanding of even the most basic concepts under the Code.

One such decision is the recent decision in the case of Vidarbha Industries v. Axis Bank. The Supreme Court in this case held that under a Section 7 application for initiating the Corporate Insolvency Resolution Process (CIRP), the Adjudicating Authority (AA) has the discretion to not admit the insolvency application despite the existence of a debt or default on the part of the Corporate Debtor. This is a drastic change to the existing jurisprudence of the Code as till now, it was a settled proposition that the IBC allows initiation of insolvency proceedings with just a default in payment of debt above the threshold limit.

This piece will analyse the decision and highlight how it is contrary to the history and intention of the Code, as well as the principles of interpretation of statues.

Overview of the decision

Axis Bank (creditor) filed a Section 7 application before the National Company Law Tribunal (NCLT) for instituting the CIRP against Vidarbha Industries (corporate debtor/CD). The application was opposed by the CD, which argued that it had a favourable order against Maharashtra Electricity Regulatory Commission, for an amount higher than the defaulted amount. The NCLT and the National Company Law Appellate Tribunal (NCLAT) both rejected this contention noting that there existed a debt and a default which was not disputed by the CD.

However, the Supreme Court overturned the decision and held that the AA has the discretion to not admit an application filed under Section 7 of IBC, despite the existence of a debt and undisputed default. Further, the Court remanded the matter to the NCLT for fresh consideration and asked it to note that the CD had a favourable order for ₹1,750 crores, which is much higher than the amount due to the creditor.

Against the intent of Bankruptcy Law Review Committee (B

The BLRC Report is one of the most critical documents to understand the interpretation and intention of provisions of the IBC. The BLRC under the heading “5.2.2 How can the IRP be triggered?”, discusses that the trigger point to be adopted for financial creditors under the IBC is the existence of default on payment. The Code presupposes that instituting insolvency is the final resolve and at this stage, all that the AA has to look into is whether the application is complete and whether there is existence of default. It states,

"In case the financial creditor triggers the IRP, the Adjudicator verifies the default from the information utility (if the default has been filed with an information utility, tit such be incontrovertible evidence of the existence of a default) or otherwise confirms the existence of default through the additional evidence adduced by the financial creditor, and puts forward the proposal for the RP to the Regulator for validation."

Thus, the interpretation adopted by the Supreme Court clearly contradicts the legislative intent.

Furthermore, the Court's interpretation essentially brings back the approach of the Sick Industrial Companies Act (SICA), which was repealed by the IBC. One of the main reasons for the failure of SICA was that there were huge delays within the process. Under SICA, the insolvency process would commence once the now defunct Board for Industrial and Financial Reconstruction (BIFR) had determined that the company was sick and needed resolution. This determination of whether a company was sick or not itself used to take a lot of time, which led to delaying the process. This, along with intervention from various courts, led to the insolvency process stretching for years; thereby reducing value of the CD.

The IBC was introduced to ensure that such issues do not arise again. However, the decision of the Supreme Court takes the IBC back to these problems that the SICA had faced. Leaving it to the AA to determine whether a company needs to undergo the insolvency requires a detailed analysis of its financial capacity, which will not only cause enormous delay in the admission stage, but is also beyond the purview of the AA’s expertise and jurisdiction.

"May" can mean "shall"

The crux of the Supreme Court’s reasoning was that Section 7(5) of the IBC uses the word "may", and a literal interpretation of the provision suggests that the AA can decide not to admit the application despite fulfilment of all the prerequisites mentioned in the provision. The Court observed that literal interpretation is the primary rule of interpretation, so where there is no ambiguity, the words used in the statute must be given effect to. This analysis of the Supreme Court is only partially correct, as it fails to consider that "may" in some situations can also impose an obligation. There are situations where "may" has to be read as "shall"; thereby imposing an obligation to act a certain way.

To determine the interpretation of "may", one must look at the context of the provision and see if the ordinary meaning of the word would make the legislation redundant, or if it would give unbridled power that may lead to arbitrariness. In the present case, reading "may" as being discretionary makes the provision redundant and gives unguided power to AA that would lead to arbitrariness.

The IBC was introduced to provide an effective legal framework for timely resolution of such disputes. The focus of the process is on value maximisation through timely resolution of business; hence, time is of the essence under the IBC. To ensure that there are fewer delays, the Code has reduced the amount of judicial intervention in the process and has adopted a creditor in control model. Further, the Code permits only a limited and narrow scope of interference by the AA. By making the AA undertake an analysis of the financial strength of the CD, the decision of the Supreme Court has led to delaying the process of initiation of insolvency and has also increased the scope of intervention.

Further, there is nothing in the Code to provide any guidance as to the factors to be considered by the AA when deciding whether or not to admit an application. Section 7 only talks about existence of default, and the Resolution Professional (RP) being eligible. Once these factors are fulfilled, there is nothing in Section 7 or in the Code that provides when the AA should not admit the insolvency application. The decision of the Supreme Court has vested the adjudicatory authority with powers that are not provided under the IBC, and that too without any guidance on when and how to exercise the same. Hence, looking at the intention and scheme of the Code, we see that section 7(5) uses "may" as "shall" and must be interpreted in the same manner.

Conclusion

The Supreme Court's interpretation of Section 7(5) of IBC in the Vidarbha Industries case looked at the provision in a vacuum and disregarded the history and intention of the Code. Furthermore, the decision operates on a misplaced reliance on literal interpretation and fails to consider the established principles of interpretation of statues. The facts of Vidarbha Industries do warrant a fair consideration, but the same could be done by the Supreme Court through its powers under Article 142 of the Constitution.

The route taken by the Court sets a new and incorrect position of law, which also provides precedent value to future litigation. By putting default as the trigger, it was envisaged that the IBC would also bring a change in the payment culture of India. However, the interpretation adopted by the Supreme Court will have wide ramifications on the effectiveness of the IBC and the changes it sought to bring within the commercial sector.

Amay Bahri is an Associate at Luthra and Luthra Law Offices India.

Bar and Bench - Indian Legal news
www.barandbench.com