KEY HIGHLIGHTS

  • NCLT: Corporate insolvency resolution process cannot be initiated under Section 7 of IBC based on transfer agreement for purchase of debentures from financial creditors.
  • NCLAT: Security for refund of advance amount cannot change the nature of transaction for supply of goods into financial debt.
  • Delhi High Court: Directors of a company cannot be made a party to an arbitration proceeding which has been initiated against the company by the virtue of the 'group of companies doctrine'.
  • NCLAT: Definition of financial debt under IBC does not use the expression that disbursement should be made to corporate debtor only.

I. NCLT: Corporate insolvency resolution process cannot be initiated under Section 7 of IBC based on transfer agreement for purchase of debentures from financial creditors.

The National Company Law Tribunal, Mumbai ("NCLT"), vide its judgment dated January 29, 2024, in the matter of Edelweiss Asset Reconstruction Company Limited v. Ajmera Realty and Infra India Limited [CP (IB) No. 877/MB/2023], has held that if the element of disbursal against the consideration for time value of money is absent, such transaction, cannot amount to financial debt under Section 5(8) (Definition of 'financial debt') of the Insolvency and Bankruptcy Code, 2016 ("IBC").

Facts

On December 27, 2006, Meeti Developers Private Limited ("MDPL") had executed a Development Agreement ("Development Agreement") with New Kamal Kunj Cooperative Housing Society ("Society") for redevelopment of the Society's building. For the aforesaid purpose, MDPL had issued Non-Convertible Debentures ("NCDs") to the tune of INR 55 Crores to the predecessor of Edelweiss Asset Reconstruction Company Limited ("Petitioner") under a Debenture Trust Deed dated November 29, 2016 ("Debenture Trust Deed"). Subsequently, by virtue of a deed of assignment executed on May 21, 2019, the NCDs were assigned in favour of the Petitioner.

Thereafter, upon default in repayment of the NCDs, the Petitioner filed a company petition against MDPL under Section 7 (Initiation of corporate insolvency resolution process by financial creditor) of IBC ("Company Petition"). Subsequent to admission of MDPL in corporate insolvency resolution process ("CIRP"), Ajmera Realty and Infra India Limited ("Respondent") along with MDPL had approached the Petitioner to enter into an arrangement whereby the Respondent would purchase the NCDs from the Petitioner for a sum of INR 31,66,00,000/-. In view of the afore-mentioned, the Petitioner and the Respondent executed a Transfer Agreement dated July 8, 2022 ("Transfer Agreement") and Financial Undertaking dated July 8, 2022 ("Financial Undertaking"). The afore-mentioned agreements recorded the terms and conditions for purchase of NCDs by the Respondent and expressly stipulated that the liability of the Respondent to pay the sum of INR 31,66,00,000/- shall be absolute, unconditional and irrevocable. Further, it was stipulated that out of the sum of INR 31,66,00,000/-, the Respondent shall make an upfront payment of INR 3,26,00,000/- ("Upfront Amount") and the balance sum of INR 28,40,00,000/- ("Balance Amount") was to be paid by December 31, 2022. In case of any default in making payment in the aforesaid manner, the Respondent was liable to imposition of interest at the rate of 24% per annum. It was also agreed that the NCDs would not be transferred to the Respondent until the Respondent complies with the payment obligations under the Transfer Agreement and Financial Undertaking. Furthermore, it was agreed that upon payment of the Upfront Amount, the Petitioner shall withdraw the Company Petition.

Clause 3 of the Transfer Agreement provided for "Undertaking for Financial Obligation". Pertinently, the aforesaid clause stipulated that the Respondent agrees, undertakes, confirms and declares that it shall furnish an irrevocable and unconditional undertaking, that is, the Financial Undertaking in favour of the Petitioner and guarantees to make payment of the Balance Amount. It was further stipulated that the Petitioner shall be considered as financial creditor qua the Respondent subject to the terms and conditions as set out in the Transfer Agreement.

Accordingly, the Petitioner withdrew the Company Petition. However, despite the aforesaid withdrawal, the Respondent did not make timely payment of the Balance Amount and continued to seek extension of time for payment of the same. However, despite the Petitioner granting additional time upon acknowledgement of liability by the Respondent, the Respondent sought another extension and kept on repeatedly seeking additional time to make the balance payment. On account of the aforesaid default committed by the Respondent, the Petitioner filed the present Company Petition before NCLT. Further, the Petitioner, having a separate remedy against MDPL, filed another company petition being CP No. 624 of 2023.

Issue

Whether CIRP can be initiated under Section 7 of IBC on the basis of transfer agreement for purchase of debentures if the element of disbursal against the consideration for time value of money is absent, thereby, the debt not amounting to financial debt under Section 5(8) of IBC.

Arguments

Contentions of the Petitioner:

Petitioner submitted that the Respondent had issued a public notice dated January 14, 2023 to investigate right, title and interest of MDPL in the subject property for redevelopment. The Society had issued a reply to the aforesaid notice and alleged that MDPL had committed default of its obligations under the Development Agreement. Further, the Society had issued a notice dated February 24, 2023, thereby terminating the Development Agreement with MDPL on account of several defaults committed by MDPL. Further, the Respondent had addressed a letter dated March 14, 2023, thereby informing the Petitioner about the termination of the Development Agreement. Further, the Society and MDPL had filed cross-petition against each other under Section 9 (Interim measures, etc., by Court) of the Arbitration and Conciliation Act, 1996 before the High Court of Bombay. In the aforesaid proceeding, the Hon'ble High Court of Bombay passed an order dated September 12, 2023, thereby granting reliefs in favor of the Society and against MDPL. Further, by way of letter dated October 25, 2023 the Respondent terminated the Transfer Agreement and Financial Undertaking.

Petitioners submitted that under the Transfer Agreement and Financial Undertaking, the Respondent had inter alia given an indemnity/guarantee under the Debenture Trust Deed. Pertinently, under the afore-mentioned agreements, the Respondent had undertaken that it guarantees that it shall, upon demand, forthwith pay to the Petitioner without demur the Balance Amount, together with interest at the rate of 24% per annum (compounded annually) and further that the Petitioner shall be considered as a financial creditor of the Respondent until the aforesaid financial obligation is fully discharged to the satisfaction of the Petitioner. Further, the Respondent had also given an indemnity to the Petitioner in terms of the afore-mentioned agreements.

The Petitioner also submitted that the Transfer Agreement and Financial Undertaking are commercial contracts as mutually and bilaterally entered into between the Petitioner and Respondent. The terms of the aforesaid agreements are clear and unambiguous and the same needs to be construed strictly without altering the nature of the contract. In this regard, the Petitioner relied upon the judgment pronounced by the Hon'ble Supreme Court in the matter of Ramana Dayaram Shetty v. International Airport Authority of India and Others [(1979) SCC (3) 489], which reiterates the legal position that as a matterof judicial interpretation, courts should interpret the language of a document on the understanding that parties intended to be bound by the interpretation of the language in its literal sense.

Further, the transaction between the Petitioner and Respondent arose pursuant to the issuance of NCDs as per the transaction between the Petitioner and MDPL. Considering the fact that the transaction between the Petitioner and MDPL falls within the scope of financial debt, an indemnity/guarantee given by the Respondent for such financial debt would also be classified as a financial debt. The Petitioner submitted that the clauses of Transfer Agreement and Financial Undertaking also specify that the liability owed by the Respondent qua the Petitioner is in the nature of financial debt.

On account of the afore-mentioned, it was contended that the transaction between the Petitioner and Respondent fulfils the test of "commercial effect of borrowing" under Section 5(8)(f) of IBC.

Contentions of the Respondent:

The Respondent contended that there has been no borrowing whatsoever by the Respondent from the Petitioner. The Respondent further submitted that there has been no disbursal of any amount by the Petitioner to the Respondent till date against consideration for time value of money. Further, it was contended that reliance on the clauses of Transfer Agreement and/or Financial Undertaking would not constitute a financial debt under Section 5(8) of IBC.

Respondent further submitted that the entire premise of the arrangement as agreed by the Respondent was that MDPL continues to have valid and subsisting development rights over the subject property in question, which in turn, would ensure that the NCDs are duly secured and assigned by the Petitioner in favour of the Respondent. However, by virtue of termination of Development Agreement on account of defaults by MDPL, the entire premise of the transaction between the Petitioner and the Respondent as contemplated under the Transfer Agreement and Financial Undertaking stood extinguished.

It was contended that the Financial Undertaking also records that the Petitioner is obligated to transfer the NCDs in favour of the Respondent along with all rights, title, interest, claims. causes of action available with the Petitioner under the debenture documents. However, the Respondent had neither taken over the liabilities of MDPL nor guaranteed the obligations of MDPL under the debenture documents. In fact, contrary thereto, Petitioner had agreed to transfer the NCDs to the Respondent along with its security interest and actionable claims against MDPL and that Petitioner had represented to the Respondent that the Petitioner has considerable value on account of the underlying security on the subject property in question, from the perspective of a valuable consideration. However, no security for payment of the aforesaid amount of balance purchase price under the Transfer Agreement has been created by the Respondent in favour of the Petitioner either under the Transfer Agreement or under the Financial Undertaking. Further, on account of the termination of the Development Agreement by the Society, MDPL neither has development rights over the subject property in question nor possession or control over the same. Therefore, the security interest created in favour of the Petitioner stands completely deteriorated and the NCDs have been rendered without any value. On account of the aforesaid reason, it was contended that the Transfer Agreement has become incapable of performance and thus stands terminated, cancelled, null and void.

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Navya Shukla
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