Expanding clutches of NCLT – Beyond IBC purview?

The Insolvency and Bankruptcy Code, 2016 (“IBC”) was enacted to “consolidate and amend the laws relating to reorganisation and insolvency resolution of corporate persons, partnership firms and individuals in a time bound manner."

The National Company Law Tribunals (“NCLT”), constituted under Section 408 of the Companies Act, 2013, were designated as the ‘Adjudicating Authorities’ of this Insolvency framework, with the main purpose being protection from financial distress.

However, a skim through of regular disputes and corresponding orders reveals that, over time, through practice, NCLT has travelled beyond the permitted purview sanctioned by IBC. The focus also seems to have shifted to the adjudication of disputes, which is largely the domain of civil courts, through the process of finding facts, requiring further disclosure of documents in the nature of evidence in support of claims or alleged admission of debts. This erodes the very essence which characterised an IBC proceeding for insolvency of any debtor, namely – requirement of an invoice, demand for payment and proof of non-payment in the absence of any dispute related to the work for a proceeding under Section 9 of IBC.

The simplicity of the filing procedure, i.e., the applicable forms under IBC, like Form 5 by an operational creditor to initiate corporate insolvency, through the course of an NCLT hearing, stands converted to lengthy and continuous applications with the dump of unconnected documents, giving rise to unlimited hearings to decipher such an application to reach an ultimate conclusion.

The procedural simplicity contemplated in IBC stands etched in the terminology used in IBC – it is a form that is filled up with relevant supporting documents and not an application, which is akin to court procedures. The result of such conversion of vision through practice is also seen in multiple frivolous cases being initiated with the sole motive to coerce unjustified payment or pressurise a party to accept unjust demands – for the repercussion of being admitted into insolvency is large and far-reaching, capable of crippling the entity itself permanently.

The recovery of money through NCLT rather appears to be an attractive modus for alleged operational creditors, for the fear of admissions is like a death knell, placing corporates under duress and leading to forced settlements, thereby characterising the very fabric of Section 9 IBC proceedings as abusive.

The Section 9 framework under IBC is a clear mandate – the alleged operational creditor may file an application before NCLT for initiating an insolvency resolution process in the form and manner as prescribed, along with requisite fees. Such application is to be supported by (i) copy of the invoice demanding payment or demand notice delivered by the operational creditor to the corporate debtor (ii) affidavit to the effect that there is no notice given by the corporate debtor relating to a dispute of the unpaid operational debt (iii) proof confirming that there is no payment of the unpaid operational debt.

However, more often than not, in violation of the above clear mandated requirement of Section 9 of IBC, applications are filed wherein either work is pending, or work is unsatisfactory or there is dispute with alternate modes of resolution and that too during the pendency of contract, i.e., without even the completion of work or fruition of the contract leading to crystallisation of rights and liabilities. Such applications are also in complete contradiction to the contract entered into between the parties.

Such an act may be the by-product of a misguided reading of Section 9 of IBC, which allows an operational creditor, such as a supplier, vendor or service provider, to initiate insolvency proceedings after a payment default by the debtor. An apt example lies in disputes related to works contract (involving claims for liquidated damages, final bills, delay, risk and cost, poor performance, etc.) wherein one needs to go beyond and deeper from the superficial layer of simple demand made and unpaid.

A perusal of Section 5(21) of IBC is clear that it contemplates operational debt to mean “a claim in respect of the provision of goods or services…”

The very definition draws the boundary to either claim for goods or claim for services and is not to be read together conjunctively as ‘goods and services’.  

A works contract is typically a culmination of both goods and service i.e., both elements characterise a works contract. The very framework of a works contract contemplates - running bills, extension of time and corresponding permission, delay analysis, work schedule, actual schedule while performance, intermediary schedule adjustments, measurements, certifications of such measurements, reconciliations, assessment of performance, statutory compliances and lastly submission of final bill leading to completion certificate being issued. Until and unless every step is exhausted, leading to submission of the final bill, its assessment, leading to the closure of a contract, can debt be said to have crystallised?

However, applications under Section 9 of IBC are being filed and adjudicated only upon the bare existence of an agreement between the parties and any debt payable arising therefrom, while completely ignoring the stages of the work contemplated under the contract. A classic example of supporting documents is ‘running bills’ which have no validity, save and except a proof of a running account between the parties and in no manner constitute a debt. Mere raising of the running bill without the closure of a contract is premature, unless there is a final bill duly approved. As such, it is only a final bill which can serve as evidence of the existence of “debt." Until the final bill is raised and certified, the debt has not "crystallized" [Ved Contracts Pvt. Ltd. vs. Pan Realtors Pvt. Ltd. (2020 SCC OnLine NCLAT 56)]

As a result, a modus to circumvent such a requirement, has seen the rise of Section 9 IBC applications based on self-created documents being excels charts, ledger entries maintained or journals of the company, balance sheet entries as the sole documents purportedly being proof of debt till such menace was addressed by Ld. NCLAT in GL Engineering Industries Pvt. Ltd. v. Supreme Engineering Ltd (CA (AT) (Ins.) 431 of 2021).

A natural corollary of such an enlarged interpretation of operational debt is also the continuous and cumbersome adjudication of the applications for finding the drop in the ocean, which oftentimes than not, is a mirage.  

More often than not, claims arising out of a works contract require a full-fledged trial in a civil court or a thorough adjudication of the dispute by an arbitral tribunal. The reason for the same being that there may be a plausible contention, which requires further investigation and adjudication, that the dispute so raised is not patently feeble, a mere legal argument or assertion of facts or unsupported by evidence.

The trial contemplated under IBC is in the nature of a summary trial. As such, exclusion of works contracts from the realm of IBC was logical to prevent inflation of full-fledged trials. However, by inviting and deliberating upon extensive evidence, NCLT is increasingly overstepping its statutory mandate.

The direct consequence of such misreading of Section 9 of IBC is the characterisation of NCLT as a recovery agent for unpaid contractor leading to the encouragement for forum shopping as well by operational creditors seeking to bypass the rigorous trial process of civil courts. Such practice not only heaps cases on the NCLTs but also is a black spot on perfectly solvent and fully functional companies who are now forced to contest cases, incur expenses, that too for such contractors who have already created a hindrance during project execution.

For addressing the prevailing menace, stricter procedural gateways, akin to Order 7 Rule 11 of CPC, 1908 or Section 16 of the Arbitration and Conciliation Act, 1996, may be thought of. IBC contemplates such rigours in Section 60 (5) and 65 to curb the menace of a proceeding initiated “fraudulently or with malicious intent for any purpose other than for the resolution of insolvency, or liquidation” to adjudicate “any question of priorities or any question of law or facts, arising out of or in relation to the insolvency resolution or liquidation proceedings” and even makes way to penalise an amount “which shall not be less than one lakh rupees, but may extend to one crore rupees.”

However, stricter enforcement is required to deal with such applications at the very threshold and nip the menace in the bud before dealing with the dispute involved. Such an application, if filed, deserves an independent hearing and not a clubbed hearing with the main Section 9 IBC petition, whereby the view of the NCLT is no longer prima facie or a simple reading but a deeply analysed and a time consuming one.

At present, the balance of scales seems to be heavily tilted unjustly/ negatively in favour of the corporate debtor, who not only has to contest the proceeding with the sword of CIRP always dangling on its shoulders, but the contractor also gets a freeway to force its way unjustly.

The primary aim of IBC was to revive and resolve. However, somewhere down the line, every objective of IBC seems to have gone for a toss, where it becomes an avenue for money recovery while harassment of the corporate debtor comes as gratis. The only remedy lies in respecting contractual obligations so that the vision propounded in IBC is not shrouded in clouds.

The need of the hour may be a saving intervention from the government in the nature of clarification/ Notification reinforcing its vision of IBC and expressly barring entertainment of works contract by the NCLTs including mandatory express inclusion of such understanding in the forms that the subject dispute does not pertain to works contract – for the vision of justice should be well balanced, proportionate and equitable.    

About the authors: Paramita Banerjee is an Associate Partner and Rupali Bansal is an Associate at MCO Legals (Meharia & Company).

Disclaimer: The opinions expressed in this article are those of the author(s). The opinions presented do not necessarily reflect the views of Bar & Bench.

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