Case Analysis of Naresh Kumar Agarwal, shareholder of Nikhil Footwear Limited v. CFM Asset Reconstruction Private Limited; Company Appeal (AT) (Insolvency) No. 470 of 2023.
Insolvency and Bankruptcy Code, 2016
INTRODUCTION
As intended, the Insolvency and Bankruptcy Code of India was introduced to simplify the insolvency process of the corporations and ease the resolution of the same. However, the matters still arise as to combat the implication of such code into the system and the companies still fight to the end in order to escape the process.
IBC, 2016 provides with adequate factors to be considered during the resolution process and have been outlined in a way so as to provide with the possible application of the procedure at every stage, i.e., Pre-admission stage, Resolution process, Liquidation stage and Miscellaneous, covering all the facets affecting the insolvency of the corporate debtor.
In the recent judgment of Naresh Kumar Agarwal, shareholder of Nikhil Footwear Limited v. CFM Asset Reconstruction Private Limited[1], the issue was presented before the adjudicating authority regarding the admissibility of the application for invoking CIRP process by an asset reconstruction company, putting in force various regulations and precedents in order to appeal against the decision of NCLT of accepting the same under section 7 of the code.
This case highlights an important aspect regarding the admissibility and acceptance of the application for proceeding with the CIRP process against the corporate debtor and also defines the status of the corporate guarantor under the same situation. Along with that, this case also reflects towards the inconsistencies lying in the pre-admission stage of the insolvency resolution process.
BACKGROUND
State Bank of India sanctioned various credit facilities in favor of Action Ispat and Power Private Limited, who was the principal borrower in the current scenario. In the year 2013, Master Restructuring Agreement was executed between the SBI and several other banks with the principal borrower. On 30.09.2013, M/s Nikhil Footwear Pvt Ltd, the corporate debtor in this case, executed a deed of Guarantee in favor of SBICAP Trustee Company. Another Master Restructuring Agreement was entered on 29.06.2016. Now, the State Bank of India filed a company petition CP (IB) No. 1096 of 2018, against the principal borrower, which was admitted by the court on 23.02.2022.
Meanwhile, SBI entered into an agreement on 18.01.2021 with respondent number 1 of the appeal, which is CFM Asset Reconstruction Company, assigning the debt owned by the principal borrower to them.
Now, the CFM Asset Reconstruction Company filed for CIRP under section 7 of the code to recover the amount from corporate debtor, and after deliberation, NCLT, the adjudicating authority under its impugned order 28.02.2023, admitted the application. The corporate debtor was however aggrieved with this decision and filed a fresh appeal before the NCLAT to review the decision so passed by NCLT and contended that this application held no grounds whatsoever to be admitted and should be dismissed outrightly.
The counsel for Nikhil Footwears challenged the order by arguing that the assignment agreement between SBI and CFM Asset Reconstruction was unregistered and that due to it being unregistered, it held no validity, thus negating their power to file an application under section 7 of IBC. They also argued that the deed of guarantee was entered into agreement with SBICAP Trustee Company and can only be enforced by them. Along with this, they also submitted that CIRP against principal borrower, which is Action Ispat and Power Private Limited was already initiated by SBI, as on 23.02.2022, by filling an application under the said section and that the process was already initiated and filing of another application would result in a mala-fide attempt to initiate CIRP on same debt and on same facts.
The counsel for CFM Asset Reconstruction Company, on the other hand, replied to these contentions by highlighting the fact that the agreement between their party and SBI was done in accordance with Section 5 of Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest (SARFAESI) Act, 2002, which provides that assignment of financial debt between the financial institution and asset reconstruction company can be effected without requiring any registered document. The counsel also provides that application under section 7 was accepted for another corporate debtor, i.e., Micro Stock Holding Pvt Ltd. and this acceptance provided the precedential value for the same. They also provided with the argument that the liability of corporate debtor and that of principal borrower are co-extensive and so the creditors have full authority to initiate proceedings against the corporate debtor.
The court was presented with a dilemma in deciding as to if the pre-stage application by CFM Asset Reconstruction Company was acceptable under the code and that if the impugned decision of NCLT of admitting the same held any grounds.
NCLAT ANALYSIS
The adjudicating authority analyzed that the relationship between SBI and CFM Asset Reconstruction Company was that of Assignor and Assignee and that the assignment agreement formulated between the two provided respondent, the asset reconstruction company with all the rights, title, and interest in the financing documents and any underlying security interests, pledges and/or guarantees in respect of such loans to the Assignee. NCLAT outrightly rejected the claim of the appellant of the agreement being unregistered as a basis of denying the application under section 7 of the code.
The adjudicating authority provided two reasons for rejecting the appeal of Nikhil Footwears and upholding the decision of NCLT in accepting the application. Court held on to the argument submitted by the respondent that another application pertaining to invoking CIRP against another guarantor Micro Stock Holding Pvt Ltd was accepted by authority and that it being based on the same assignment agreement was neither modified nor reversed leading up to the appeal against the acceptance being rejected.
Section 5 of SARFAESI Act deals with ‘Acquisition of rights or interest in financial assets’ providing relevant provisions for acquisition of financial assets by any asset reconstruction company. The adjudicating authority observed that section 5 was in fact an enabling provision to empower the Asset Reconstruction Companies to acquire financial assets in the manner as prescribed. Observing that the assignment agreement in transaction was in accordance with the section 5, hence the agreement was valid.
Sub-section 2 of Section 5 was further broken down to highlight the fact that this sub section was a deeming clause and it is important to note the fact that any legislature which carries a deeming clause is so because for a specific purpose and object which that legislature is aiming to achieve through its implementation. The court used Anuj Jain, Interim Resolution Professional for Jaypee Infratech Limited v. Axis Bank Ltd. & Ors.[2] as a precedent to infer that deeming clause is essentially used to refer the subject matter to be treated as if it were real even though in reality it is not so the case. This analogy helped the court in arriving at the conclusion that when section 5 came into play, the CFM Asset Reconstruction Company was deemed to be lender for all the purposes, and since they were deemed to be lender, they were fully entitled to exercise their rights as lenders to initiate proceedings under section7 of IBC.
The argument that the deed of guarantee being assigned to SBICAP and not SBI and that option of proceedings under section 7 of IBC being available to SBICAP was also not accepted by the court. Since the proceedings were initiated against another debtor which is Micro Stock Holdings Limited was already initiated by the order of court and that the SBICAP being a trustee company for all the lenders and assignment of such debts by the trustee to CFM Asset Reconstruction Company was already accepted by the court, thus this claim was not maintainable.
The court, against the claim of Nikhil Footwears, provided that application under section 7 can be filed against the corporate debtor and can be initiated against both the parties, which is Principal Borrower or Corporate Guarantor and that too in equal measure as mentioned by the Supreme Court in the judgement of Laxmi Pat Surana v. Union of India & Anr.[3]
The court held in its judgment that since no claim was made against the debt or default and that the parties accepted their fault on the part of repayment of the debt and claim being made against only the admission of application under section 7 of the IBC by NCLT, after highlighting all the above points, the application for the same was accepted and the decision of the NCLT was upheld.
CONCLUSION
The Insolvency and Bankruptcy Code, being a new legislation, is continuously facing various challenges due to it being open-ended covering a bigger prospect of bringing regulations under the bankruptcy subject and is being provisioned to changes every day. In this case too, the applicability of section 7 of the code was put into question and the admission of application for insolvency resolution was challenged.
This case provided a clear image regarding the admissibility of application under the code and the initiation of the resolution process by an Asset Reconstruction Company to which the debt was assigned through an agreement and the validity of such agreement. It also provided a clear stance of the adjudicating authorities on the question pertaining to the initiation of CIRP against the corporate debtor and principal borrower, thus providing a clear view on the liability and charges of all the stakeholders involved in the transaction and setting a precedence for future transactions.
This article was authored by Aviral Jain, a third-year B.Com.LLB. student at Jindal Global Law School
[1] Naresh Kumar Agarwal, Shareholder of Nikhil Footwears Private Limited v. CFM Asset Reconstruction Private Limited, Company Appeal (AT) (Insolvency) No. 470 of 2023. [2] Anuj Jain, Interim Resolution Professional for Jaypee Infratech Limited v. Axis Bank Ltd. & Ors., (2020) 8 SCC 401. [3] Laxmi Pat Surana v. Union of India & Anr., (2021) 8 SCC 481.
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