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Formation of the Committee Of Creditors under the Insolvency and Bankruptcy Code: A Visible Collusion

Jinan K R
17 Jun 2021 11:18 AM GMT
Formation of the Committee Of Creditors under the Insolvency and Bankruptcy Code: A Visible Collusion
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The Insolvency and Bankruptcy Code, with the primary motive of rehabilitation of financially distressed corporates, came into force with effect from 1st December 2016. The National Company Law Tribunal was constituted through a notification dated 1.06.2016 to pursue the afore goals. The Code empowered Insolvency Professionals and Committee of Creditors to exercise the most vital functions...

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The Insolvency and Bankruptcy Code, with the primary motive of rehabilitation of financially distressed corporates, came into force with effect from 1st December 2016. The National Company Law Tribunal was constituted through a notification dated 1.06.2016 to pursue the afore goals. The Code empowered Insolvency Professionals and Committee of Creditors to exercise the most vital functions to resolve the debt-ridden corporate debtor. Though the powers and duties of resolution professionals and the CoC have been defined under the provisions of the Code, independence, transparency and competency of the resolution professionals in the classification of the status of the creditors and determination of voting rights are subjected to challenge.

In some cases, the Adjudicating Authorities doubted the independence in the performance of the resolution professionals and to rule out the invisible collusion between the creditors who propose the name of the insolvency professional, took the task of removal of the resolution professional. However, in the majority, the NCLAT and Supreme Court took a view that the Adjudicating Authority has no power to change the name of the resolution professionals proposed by the financial creditors. In State bank of India Vs. Metenere Ltd the NCLAT though upheld the NCLT ruling directing the SBI to substitute its nominee and Ex-OGM of theirs, to act as the Interim Resolution Professional (IRP) to ensure CIRP conducted in a fair and unbiased manner in the insolvency proceedings of Metenere ltd. [CA (AT) (Ins.) No.76 of 2020], the Hon'ble Supreme Court reversed the said finding and held in State bank Of India Vs. Metenere ltd (2020) ibclaw.in 17 SC, that "A resolution Professional, just because he was in the employment of a financial creditor can't summerly be disentitled to act as RP/IRP, wherein the said financial creditor constitutes CoC of the Corporate Debtor".

The BLRC Report recommends assigning the most crucial function in respect of the CIRP to the resolution professionals. Recognising the report the Code has entrusted great powers and responsibilities to the resolution professionals in the process of resolving a debt-ridden corporate debtor. Perhaps the most significant function assigned to the resolution professionals is the constitution of CoC.

The invisible anticipation of collusion between the resolution professional and the creditors were made visible in a very recent decision by the Hon'ble NCLAT in CA (AT) (Ins.) No.348 of 2020 Jayanta Banerjee Vs.Shashi Agarwal, Liquidator of INCAB Industries Ltd and Anr.

Brief facts

The Corporate Debtor INCAB Industries Ltd was admitted into the Corporate Insolvency Resolution Process (in short 'CIRP'), vide order dated 7th August 2019, and Respondent No. 1 was appointed as Interim Resolution Professional (IRP) of the Corporate Debtor. Skipping the process should have been completed by the RP, the CoC suo moto took the issue of liquidation of the CD and a decision was taken to liquidate the CD with a vote share of 90.83%. One of the FC, Pegasus Asset Reconstruction Company Pvt. Ltd, a group of Operational Creditors and workmen of CD filed applications challenging the proposal for passing the resolution for liquidation and appointment of RP as liquidator. All these applications were considered by the NCLT, Kolkata Bench, along with another application filed by an Intervenor, Tata steel Ltd.

The instant appeal is pertinent to the orders in CA(IB) No1748/KB/2019 and CA(IB) No.57/K.B/2020. CA 1748 of 2019 was filed by the resolution Professional for passing an order of liquidation and appointment of RP as liquidator. CA 57 of 2020 was filed by the workmen mainly contending none preparation of IM and inclusion of two financial creditors namely, 'Kamla Mills Private Limited' and 'Fasqua Investment Private Limited' in the CoC who are allegedly related parties and prayed for the removal of the RP. It is significant to note that the Financial Creditor- Pegasus Asset Reconstruction Pvt. ltd. challenged the decision of the Committee of Creditors (CoC) in respect of passing a resolution for liquidation of the CD by filing CA(IB)No.1740 of 2019. They have also filed CA(IB)No 56 of 2020 for removal of RP before the Adjudicating Authority has withdrawn the same and seems to have avoided the scope of any argument challenging the decision of CoC recommending liquidation. By overruling sound and stressful arguments advanced on the side of the workmen and Operational Creditors, the Adjudicating Authority passed an order of liquidation u/s 33 of IBC and appointed RP as the liquidator. It is this order under challenge in the instant appeal before the Hon'ble NCLAT.

Findings:

The Hon'ble NCLAT upon hearing the argument advanced on the side of the parties, framed the following Issues:

1. Whether 'Kamla Mills Private Limited' and 'Fasqua Investment Private Limited' who was made part of CoC are related parties in terms of provision to Section 21(2) of the Insolvency and Bankruptcy Code 2016?

2. Whether assignment of debt in violation of Section 5 of the SARFAESI Act 2002 and Factoring Regulation Act 2011 is valid?

3. Whether IRP/RP can constitute CoC based on submission of claims only, without verifying and admitting or rejecting the claims?

The Hon'ble NCLAT after having an in-depth analytical scanning of the order under challenge allowed the appeal by answering issues No.1 and 3 in the affirmative. I am reproducing some of the relevant paragraphs in the order of Appellate Tribunal, for a better understanding of the well-reasoned findings:

"83. We have also noticed that the IRP/RP has not prepared the Information Memorandum. In the Minutes of the fourth COC meeting dated 11 November 2019, it is stated that verification of claims is under process, and the amount of claims is to be determined. The Information Memorandum, as specified under Regulation 36, will be ready by 22 November 2019. However, in the fifth CoC meeting, i.e. the last meeting, it was decided that there is no need for an Information Memorandum. It was also decided that there is no requirement of Transaction and Forensic Audit and also no need for publication of Form-G for the invitation of expression of interest. The COC also decided to liquidate the corporate debtor. Therefore, there is no need to prepare an Information Memorandum.

84. Based on the minutes of all the five 'CoC' meetings, it is crystal clear that entire CIRP proceedings were conducted & completed even without any valuation of the Corporate Debtor. In all the COC meetings, it was informed that no records are available and suspended directors are not cooperating. The Interim Resolution Professional has constituted the Committee of Creditors even without admitting the claims. The Committee of Creditors has been formed based on claims submitted. In the column of a status report, It is mentioned everywhere that verification of claims is under process. But the said verification process never came to an end, and the committee of creditors resolved to liquidate the corporate debtor ignoring mandatory requirements of determination of fair market value, liquidation value and preparation of information memorandum. There was no publication of Form 'G' for inviting expressions of interest. One of the Financial Creditors objected to the participation of Financial Creditors, Kamla Mills Ltd and Fasqua Investment Private Limited, as they are related parties. However, this objection was overruled by the Adjudicating Authority while it was issuing directions to the suspended Director to extend cooperation to the IRP for submission of records of the Corporate Debtor.

85. Based on the above discussion, we are of the considered opinion that the Constitution of the Committee of Creditors violates the proviso to Section 21 (2) of the I & B code 2016 read with 12(3) of CIRP Regulations. Therefore, the Constitution of the creditors' committee is a nullity in the eye of law that vitiates the entire CIRP. Liquidation is like a death knell for the corporate entity/corporate person. Liquidation based on the resolution of the CoC, which consists of related party Financial Creditors having 77.20 % vote share, is a matter of grave concern. Hon'ble Supreme Court in the case of Phonix ARC (supra) has described the entering of such related party Financial Creditors in the Committee of Creditors as an act of commercial contrivances through which these entities sought to enter the CoC which could affect the other independent Financial Creditors. An order for liquidation of a corporate debtor based on the sole decision of related parties Financial Creditors could be fatal for the existence of the corporate debtor, cannot be sustained. It is also pertinent to mention that when the Constitution of the Committee of Creditors itself is found to be tainted, then the decision of that COC cannot be validated on the pretext of exercise of commercial wisdom.

86. We have also noticed that the role of IRP/RP/liquidator was not impartial in the conduct of the corporate insolvency resolution process; therefore, we think it proper to change the Resolution Professional. The above discussions show that the Resolution Professional failed to discharge duties and responsibilities cast on the Resolution Professional under the IBC and Regulations' provisions. 'Kamla Mills Private Limited' and 'Fasqua Investment Private Limited' are related parties that were made part of this CoC and were in a commanding position to rush through the decision to liquidate the Corporate Debtor. Facts show that the Corporate Insolvency Resolution Process was initiated in view of Section 9 of the IBC. The petition was admitted on 7th August 2019, and the 5th CoC meeting held on 8th December 2019, which is within 122 days, decided to liquidate the Corporate Debtor. The CoC had two entities holding the majority of the voting rights of 77.20%. However, their claims were not even admitted and were also related parties and thus, the whole process before CoC has been vitiated. In view of the extraordinary facts of the present matter and the disputes being raised by so many workers through the Appellants, the interest of justice requires certain directions to do justice in the matter. The impugned order dated 7th February 2020 was passed within 184 days of the petition being admitted on 7th August, 2019. The Application under Section 33 of the IBC appears to have been filed on 17th December, 2019. It appears in the interest of justice that the time spent before the Adjudicating Authority when the application under Section 33 of the IBC was filed, till now should be excluded from calculating the period under Section 12 (1), (2) & (3) of the IBC. Parties and Corporate Debtors need not suffer for time spent during this period before Adjudicating Authority and in Appeal, as an effort at Resolution needs to be made.

87. We further observe that the corporate insolvency process in the instant case is totally in disregard of the provision of the Code and Regulations thereunder. The formation of the Committee of Creditors in the instant case is a nullity in the eyes of the law. Since the illegally constituted committee of creditors took the decisions at every stage of CIRP. Therefore, the entire corporate insolvency resolution process of the Corporate Debtor is found to be vitiated. Therefore the impugned order of liquidation passed by the Adjudicating Authority deserves to be set aside.

88. For the reasons mentioned above, we order that:-

(i) The Company Appeal (AT) (Insolvency) Nos. 348 of 2020 and 720 of 2020 are allowed with the following directions:-

(a) The impugned order passed in C.A. (I.B.) No.1748/K.B./2019 and C.A. (I.B.) 57/K.B./2020 in C.P. (I.B.) No 1684/K.B./2018 whereby the Adjudicating Authority directed initiation of liquidation proceedings against the Corporate Debtor- 'INCAB Industries Limited' is quashed and set aside. Actions taken pursuant to impugned order are also quashed and set aside and shall not be binding on the corporate debtor. The Original Application under Section 9 of IBC is restored to the file of the Adjudicating Authority (National Company Law Tribunal, Kolkata Bench, Kolkata).

(b) The Adjudicating Authority is directed to appoint another IRP/ Resolution Professional in place of Respondent No.1- Shashi Agarwal, at the earliest, preferably within seven days (from the list, if any, maintained by the Adjudicating Authority or urgently getting names from IBBI).

(c) The time spent from the date of earlier filing of the application under Section 33 of the IBC, i.e. 17th December 2019, till date is excluded from the period of CIRP.

(d) Respondent No.1- Shashi Agarwal will immediately hand over the complete charge of the Corporate Debtor to the new IRP/ Resolution Professional as the Adjudicating Authority may appoint.

(e) The new IRP/ Resolution Professional will collate all the claims submitted by Creditors before the earlier IRP/ Resolution Professional and, depending on the claims admitted from CoC excluding 'Kamla Mills Private Limited' and 'Fasqua Investment Private Limited' and proceed further with the CIRP.

(f) Parties to appear before the Adjudicating Authority on 09th June 2021.

(g) Copy of the present order may be sent to IBBI for further action(s), which may be deemed fit, if any, against the earlier Resolution Professional.

(h) Appeals are disposed of accordingly. No costs."

A comparative study of the order of NCLT and NCLAT:

In my opinion, the Adjudicating Authority had committed a grave error in appreciating the decision of the CoC to liquidate the corporate Debtor with a majority vote of 90.83%. Holding that the CoC in its business decision passed the resolution for liquidation of the CD, the Adjudicating Authority has to pass an order of liquidation and hence passed the order for liquidation. The Adjudicating Authority failed in appreciating the factual issues in the appropriate perspective. Two inconsistent orders of Adjudicating Authority relating to the role of suspended director Mr. Ramesh Ghamandiram Gowani, his relationship with the disputed Financial creditors and by exonerating the factors established in the case in hand against the RP by the Adjudicating Authority, leads to a legitimate inference of collusion between the financial creditors related to the Corporate Debtor and the RP. The Hon'ble NCLAT in Antanium Holdings Pvt. ltd. vs M/s. Sujana Universal Industries ltd and Anr, [CA (AT) (CH) (Ins.) No.07 of 2021] has held that "AA is to record analytical subjective satisfaction which is a precondition before an Approval to the Resolution Plan". The same yardstick is quite applicable in regards to the passing of an order of liquidation under section 33 of IBC.

Here in the instant case, it is crystal clear that RP despite public announcement for inviting claims under Regulation 6(1) of IBBI (Insolvency Resolution for Corporate Persons) Regulations,2016 has not verified the claims within 7 days from the receipt of the claim as per Regulation 13(1) and without having admission of all claims submitted by the creditors and without determination of the status of the financial creditors as to whether any of one of them are related parties to be exempted from the CoC as per sub-section 2 of section 21 of IBC, constitute a Committee of Creditors. Despite confirmation of RP's appointment after the constitution of CoC, no valuers were appointed within 47 days of the commencement to the CIRP as provided under Regulation 27. Regulation 27 of the CIRP Regulations requires RP to appoint two registered valuers within seven days of his appointment but not later than the forty-seventh day from the insolvency commencement date. Valuation is an essential part of the CIRP and is crucial to formulate a resolution plan and also vital for the liquidation of a CD. Timely appointment of valuers is vital to the completion of CIRP in a time-bound manner.

An insolvency professional is expected to exercise professional due care and diligence in the preparation and presentation of the Information Memorandum (IM). Section 25(2)(g) of the Code requires resolution professionals to prepare the IM as per Section 29 to preserve and protect the assets of the corporate debtor. Neither the RP took due care in the submission of Information Memorandum to CoC as per Regulation 36(1), nor invited Expression of Interest (EoI) in Form G within 75 days of commencement of CIRP under Regulation 36-A. The RP in the instant case has not obtained a valuation report and his inaction contravened Regulation 27 of the CIRP Regulations,2016. He is duty-bound to preserve and protect the assets of the CD. The RP has to initiate the valuation process independently without the involvement of CoC or at the influence of any of the members of CoC. Involvement of financial creditors who were found to have related practices in not getting valuation reports in the case in hand cannot be ruled out from the circumstances described by the Hon'ble Appellate Tribunal in its order. The Adjudicating Authority in the instant case seems to have not scanned the actions of the RP and has not appreciated as to the reason for non-receipt of a resolution plan before invoking its power under section 33(1) of IBC. An RP like the RP in the instant case created a cloud regarding the non-receipt of the resolution plan and opened a window for liquidation which is not the objective of the Code.

The order of NCLAT in the instant case is an eyeopener to the independence, and integrity of resolution professionals. Though the Appellate Tribunal recommended appropriate action by the IBBI it appears to me that no effective purpose can be served by meeting ends of justice in a case of this nature. Mere reference to IBBI for taking actions against the erring RP in no way prevent like inactions of insolvency professionals. A reference to recent disciplinary orders against a few insolvency professionals reveals the gravity of penalty offered by the IBBI to erring insolvency professionals. In the matter of Mr. Venkataramanarao Nagarajan (IP). No. IBBI/DC/70/2021; Mr. Kiran Chinubhai Shah, Insolvency Professional, No. IBBI/DC/69/2021; Mr. Venkatesan,No. IBBI/DC/68/2021,Mr. Vijaykumar V Iyer, Insolvency Professional (IP),No. IBBI/DC/67/2021.

It is time to take judicial notice of the inaction like the inaction of RP in the instant case by the Tribunals and it is time to take administrative notice by the IBBI in order to protect the interests of all stakeholders, and to achieve the object of the Code within the timeline prescribed by the Code. An action taken by any person authorised by the Tribunal in good faith being protected under section 428 of the Companies Act,2013, an inaction in collusion with the stakeholders in the insolvency process is to be booked and a person found guilty is to be punished considering the gravity of the contravention committed by them. Whether the inaction, contravention of the provisions of the code is deliberate or is an action in collusion with any one of the stakeholders an inquiry is to be conducted by the Special Court under section 236 and not by the inspecting authority under the IBBI. If found guilty adequate punishment is to be provided.

The powers of IBBI under Regulation 11 of IBBI (Insolvency Professional) Regulations,2016 is to initiate disciplinary proceedings against the delinquent professional and if the Board is satisfied that the delinquent is guilty of contravening the provisions of the Code and Regulation take actions under section 220 (2) to (4) of IBC. Sub-section 2 to 4 is limited to impose penalty, or suspend or cancel the registration of Insolvency professional Agency or Information Utility as the case may be. It cannot impose a penalty exceeding one crore rupees. Even if any of the resolution professionals are suspected to collude with the stakeholders the IBBI cannot make a complaint under Section 236(2) to the Special Court, because Section 220 of IBC imposes penalty to the erring professionals and no punishment is provided however grave is the contravention of the provisions of the Code by the insolvency professional. S.235 -A inserted by Act 26 of 2018 attracts only against a person contravening any of the provisions of the Code or the rules or regulations for which no penalty or punishment is provided in the Code. The penalty to be imposed under section 220 of IBC is therefore, needed to be amended so as to include punishment as provided under section 235 of the Code so as to protect the CIRP corruption free.

The Insolvency Professionals under Insolvency Regime plays a vital role in the corporate insolvency resolution process. The BLRC in its report emphasized the role of an RP which stated that "insolvency professionals form a crucial pillar upon which rests the effective, timely functioning as well as credibility of the entire edifice of the insolvency and bankruptcy resolution process". These professionals are paid very attractive fees. A resolution professional fees including resolution cost in a recent resolution of Hindustan Newsprint Ltd was about 2.12 Crore wherein the resolution fund was about 145 Crore. The Mere suspension of licence for a temporary period imposing penalty below one crore rupees and warning do not meet ends of justice in preventing the commission of deliberate omission and collusion to safeguard the interest of stakeholders. On the other hand, the Adjudicating Authority has to have an in-depth analytical screening of every action and inaction of the insolvency professionals in detecting invisible collusion to make it visible like the scanning done by the Hon'ble Appellate Tribunal in the case in hand. Moreover, offences coming under the IBC can be tried only by the Special Courts established under the Companies Act, 2013 and that too upon a complaint made by the Board or the Central Government or any person authorised by the Central Government. No one will be prepared to take such trouble unless prompted by some interested person with his influence in whatever manner. This is a toothless provision to bring the perpetrators to justice under IBC. Any aggrieved stake-holder of a Corporate Debtor under IBC must be able to file a complaint before the Special Court as in the cases coming under the Companies Act, 2013 whereunder the Registrar, a shareholder or a member of the Company or by a person authorised by the Central Government can file a complaint before the Special Court under Section 439(2) of the Companies Act, 2013.

Reference:

  1. The Report of the Bankruptcy Law Reform Committee Volume 1: Rationale and Design-2015.
  2. State bank of India Vs. Metenere Ltd CA (AT) (Ins.) No.76 of 2020.
  3. State Bank Of India Vs. Metenere ltd (2020) ibclaw.in 17 SC.
  4. Jayanta Banerjee Vs.Shashi Agarwal,Liquidator of INCAB Industries Ltd and Anr.CA (AT) (Ins.) No.348 of 2020.

5. Antanium Holdings Pvt.ltd vs M/s. Sujana Universal Industries ltd and Anr, [CA (AT) (CH) (Ins.) No.07 of 2021

Views are personal

The Author is an Advocate and Former District judge & Former Judicial Member, NCLT, Kolkata.


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