ELUCIDATING THE FATE OF AVOIDANCE APPLICATION FILED POST THE APPROVAL OF RESOLUTION PLAN
This post is authored by Sanskar Modi and Vijpreet Pal, 2nd-year students of B.A.LL.B. (Hons.) at National Law Institute University, Bhopal.
The continuously evolving jurisprudence around the Insolvency and Bankruptcy Code (“Code”) and its amendments are a testament to the legislative and judicial attempt to resolve several legal conundrums emanating from the interpretation of certain provisions of the Code. Some judgments clear the mist around the insolvency resolution process while others create more complexity than they solve, like the recent Delhi High Court’s judgment in Venus Recruiters Private Limited v. Union of India, dated November 26, 2020, which decided the issue regarding the status of Avoidance Application filed by the Resolution Professional (“RP”) post the approval of Resolution Plan. This decision on one hand demystifies the process of avoidance applications during the CIRP but on the other hand, had led to several judicial fallacies which have been dealt with by the author in the latter part. Before delving into the issues of the present judgment, it would be relevant to briefly touch upon the background and verdict of the Court.
The State Bank of India (“SBI”) initiated the Corporate Insolvency Resolution Process (“CIRP”) against the corporate debtor, M/s Bhushan Steel Limited on July 26, 2017. The resolution applicant proposed a resolution plan, which was approved by the Committee of Creditors (“CoC”), and thereafter, the RP filed it before the NCLT on March 28, 2018, for approval. However, on April 9, 2018, an application was filed by the RP for avoiding transactions that were considered to be suspicious, subject to Section 25(2)(j) of the Code, which stipulates the duty of the RP to file an application for the avoidance of transactions; Sections 43 to 51, which mention the process of filing avoidance applications against suspicious transactions which can include preferential, undervalued, or extortionate transactions; and lastly, Section 66, which mentions fraudulent or wrongful trading during the CIRP of the Code. This application was filed by placing reliance on the forensic audit report, submitted to the RP on April 3, 2018. The report highlighted that the 10% extra service charge for the supply of manpower paid to the petitioner under the agreement was suspicious in nature.
Surprisingly, the NCLT went ahead and approved the resolution plan on May 15, 2018, leaving the avoidance application unheard. Subsequently, the avoidance application was heard by the NCLT on July 24, 2018, after the approval of the resolution plan. Aggrieved by this, Venus Recruiters Pt. Ltd., one of the manpower contractors, who entered into the suspicious transaction with the corporate debtor, filed a writ petition before the Delhi High Court to declare the avoidance proceedings pending before the NCLT as void.
The questions that have arisen before the court are:
(a) Does the RP become functus officio after the acceptance of the resolution plan?
(b) Whether the NCLT possesses the necessary jurisdiction to adjudicate avoidance application after the acceptance of the resolution plan?
(c) Who would likely be profited by such proceedings of suspicious transactions?
The Delhi High Court while allowing the writ petition held that the RP becomes functus officio after the acceptance of the resolution plan. The Court relied upon Regulation 39 of IBBI (Insolvency Resolution Process for Corporate Persons) Regulations, 2016, which significantly mentions that the RP has to submit all the particulars of objectionable transactions along with the resolution plan. The Court further added that Chapter III Clause 2.4 of the Insolvency Law Committee Report states that once the resolution plan of the applicant is accepted, he is not allowed to file an avoidance application. Even Section 30(2)(a) read with Section 5(13) of the Code were relied upon, indicating that the CIRP cost includes the fee which has to be paid to the person acting as RP under the insolvency process and thereby giving the idea that the RP has a limited role and he/she cannot perform beyond the CIRP.
The High Court also emphasized the strict time-bound nature of the Code to conclude the CIRP or to decide the suspicious nature of transactions, substantiating its stand by stationing reliance on the Preamble of the Code, IBBI Regulations 2016, and on the case of Innoventive Industries Ltd. v. ICICI Bank & Anr, wherein the Hon’ble Supreme Court opined that “[o]ne of the important objectives of the [C]ode is to bring the insolvency law in India under a single unified umbrella with the object of speeding up of the insolvency process.”
On the next issue of the jurisdiction of the NCLT to adjudicate avoidance application after the acceptance of the resolution plan, the burden on the High Court was to examine whether the proceedings pending before the NCLT were associated with the insolvency process or not because according to Section 60 of the Code, the NCLT possesses the jurisdiction to adjudicate only the cases of insolvency resolution and liquidation. The Court held that since the resolution plan had already been approved by the NCLT, the latter did not have any jurisdiction to entertain the avoidance applications.
Finally, on the issue regarding the proceeds of the avoidance transaction, the Court opined that since the orders emanating from Section 44 of the Code aimed to benefit the creditors and not the new management of the corporate debtor, the instant avoidance application was not maintainable.
4. CRITICAL ANALYSIS
The judgment delivered by the Delhi High Court concluding that the avoidance application could not survive the resolution plan is flawed on the following grounds:
4.1. Failure to take Cognizance of Error Committed by the NCLT
The factual matrix of the case clearly mentions that the avoidance application was filed on April 9, 2018, and five weeks later, the resolution plan was approved. The order of the NCLT approving the resolution plan failed to discuss the issue of the pending avoidance applications, as is apparent from the concluding statement of the order, i.e., “all other applications are also disposed-off”. In effect, the application filed by the RP in relation to the suspect transactions was neither heard nor decided on merits. Shockingly, the High Court also, in the present judgment, failed to consider the judicial fallacy on behalf of the NCLT in not listing the avoidance application prior to the approval of the resolution plan.
4.2. Unjustified Reasoning of the Court for Ignoring Avoidance Application
The process of avoidance application was filed on April 9, 2018, soon after the Forensic Audit Report was submitted to the RP on April 3, 2018, which mentioned the presence of a suspicious transaction undertaken by the erstwhile corporate debtor.
Therefore, the justification of the Court for dodging the avoidance application by placing reliance upon Regulation 35A, which stipulates a timeline in which the RP shall form an opinion on whether the corporate debtor has been subjected to any suspicious transactions; Regulation 39, which mentions that the RP has to submit the details of all the questionable transactions, along with the resolution plan, for approval to the CoC; and also, Section 23 of the Code, which mentions that the role of RP ends after the completion of the CIRP, stands fallible. There was no delay in taking cognizance of the avoidance application on the part of the resolution applicant.
4.3. Deviation from the Report of the Insolvency Law Committee
The High Court’s primary reasoning was that the main objective of the Code is the timely completion of the CIRP and therefore, rejected the avoidance application filed after the approval of the resolution plan. However, the Court overlooked Clause 2.4 of the IBC Law Committee Report, 2020, which states that “avoidance application may continue even beyond the closure of the resolution proceedings”. The report also discussed the issue of the distribution of the proceeds of an avoidance transaction by stating that, “provisions regarding the distribution of avoidance proceeds must not be very rigid and the decision regarding the same must be left to the prudence of the adjudicating authority”. Since the timeline for avoidance proceedings has not been strictly mentioned in the Code, the report recommended that there should be a lenient approach towards the timeline.
4.4. Failure to Delink the Insolvency Proceedings with Avoidance Proceedings
The High Court erred in its reasoning by merging the insolvency proceedings with the avoidance proceedings and considering them to be part of the same application.
Section 26 of the Code expressly states that “filing of an application for the avoidance of transactions by the resolution professional shall not affect the CIRP of the corporate debtor”. Further, the paper titled, Statement of Best Practices, published by the Institute of Company Secretaries of India (“ICSI”), also observes that, “[t]he application for avoidance transactions is against the promoters/directors/related parties, however, the resolution is for the CD.” Therefore, the two ought to be treated separately.
4.5. Encroaching upon the Jurisdiction of the NCLT/NCLAT
Section 61 of the Code clearly provides the aggrieved party with an option to appeal against the NCLT’s order before the NCLAT. However, in the present case, the petitioner bypassed this remedy. In the presence of an efficacious effective remedy, the writ petition filed by the petitioners is not maintainable. Many cases in England and India, like Wolverhampton New Waterworks Co. v. Hawkesford,[i] Union Bank of India v. Satyawati Tandon, etc., ruled on similar lines, stating that “where a liability not existing at common law is created by a statute, which also gives a special and particular remedy for enforcing it, the remedy provided by the statute must be followed”. However, the Court, in its judgment, failed to entertain this jurisdictional issue and held that the petitioner was correct in approaching the High Court.
This approach clearly signifies that the Court considers avoidance applications differently from those of the CIRP but to the contrary, the Court has expressly mentioned in a different segment of the same judgment that avoidance proceedings are part of the CIRP and once the resolution plan gets approved, all these proceedings come to an end. This clearly shows the contradictory view taken by the single-judge bench in the same judgment and hence, the judgment lacks merit due to judicial fallacy and contradictions.
The judgment passed by the Delhi High Court, on one hand, is a remarkable judgment in vehemently sending a message to the NCLT to mark priority to disposing off all the avoidance applications but on the other hand, sets a menacing precedent by allowing the defaulters to go scot-free. The judgment, by prioritizing one objective of the Code, i.e., timely disposition of insolvency proceedings, has flouted the other basic objective, which is balancing the interests of all the stakeholders. The rejection of the avoidance application in the instant case has confined the insolvency proceedings merely to the process of distribution of assets among the creditors. The chief intent behind the avoidance proceedings, i.e., to annul the suspect transactions seems to be overlooked in the judgment. Hence, this judgment warrants detailed judicial scrutiny by the highest court.
[i] Wolverhampton New Waterworks Co. v. Hawkesford,  6 C.B. (NS) 336.