IBC & Guarantee Contracts: NCLAT Rules on Simultaneous Applications

[By Shubham Nahata]

The author is a student at the Hidayatullah National Law University.

Introduction

Post the enactment of the Insolvency and Bankruptcy Code, 2016(“Code”), the credit recovery mechanism in India has witnessed substantial growth in terms of improved resolution opportunities for ailing entities. However, there still exist certain anomalies in its jurisprudential framework which need correction either in the form of affirmative action by the legislature or purposive interpretation by the Judiciary.

One such irregularity was addressed by the National Company Law Appellate Tribunal (NCLAT), in its recent judgment of State Bank of India v. Athena Energy Pvt. Ltd. The NCLAT while dealing with an appeal filed by a Financial Creditor against the Corporate Guarantor, settled the law relating to the simultaneous application for the same debt against the Principal Borrower and the Corporate Guarantor under the Code. This post discusses the law laid down by the NCLAT with reference to its previous judgment in Piramal’s Case and the Insolvency and Bankruptcy Code (Second Amendment) Act of 2018.

Facts of the Case

The State Bank of India (Financial Creditor) filed an insolvency application under Section 7 of the Code against Athena Energy Ventures Pvt. Ltd. (Corporate Guarantor) for a secured loan to Athena Chhattisgarh Power Ltd. (Principal Borrower), a joint venture company promoted by the Corporate Guarantor. The application against the Principal Borrower was admitted by the NCLT bench of Hyderabad. However, the application filed by the Financial Creditor against the Corporate Guarantor was rejected by the Adjudicating Authority following the dicta laid down in the case of Vishnu Kumar Agarwal v. Piramal Enterprise Ltd.

In the Piramal Enterprises case, an application was filed by the financial creditor against two corporate guarantors for the same set of debt and default. The NCLAT while dealing with this issue held that under the scheme of the Code there exists no bar to the filing of simultaneous applications against the corporate debtor and the guarantor. However, the Tribunal deviated from the scheme of the Code and held, that once a Section 7 application is admitted against the corporate debtor then it places a bar on admission of the same application against the guarantor on the same set of debt and default. Similarly, a Section 7 application cannot be filed jointly against two corporate debtors on the ground of joint liability unless they are a joint venture company.

Hence, while dealing with an application filed by two Corporate Guarantors, the NCLAT denied simultaneous insolvency proceedings on the same set of debt and default. In the present case, the NCLT relying on the dicta as laid down by the NCLAT ruled, that as the companies were not joint ventures (because of different MoA) they shall not be covered under the exception clause as given under the ratio of Piramal’s judgment.

The decision of the NCLT was thus challenged by the Financial Creditor relying on the law laid down by the Supreme Court in State Bank of India v. Ramakrishna & Ors. and the Insolvency and Bankruptcy Code (Second Amendment) Act of 2018. It was also brought to the notice of the Appellate Tribunal that the judgment in Piramal’s case was stayed by the Apex Court in a subsequent appeal.

Judgment and Analysis

Financial debt under Section 5(8) of the Code has been defined as “a debt along with interest, if any, which is disbursed against the consideration for the time value of money”. It also includes guarantee and counter indemnity obligations as provided under Section 5(8)(h) and (i) of the Code. Under Section 60(2) of the Code, when an insolvency resolution or liquidation process of the Corporate Debtor is pending before the NCLT then an application against a Corporate Guarantor or Personal Guarantor can also be filed before the NCLT.

Similarly, when an insolvency resolution or liquidation process of a Corporate Guarantor or a Personal Guarantor is pending before the Court or the Tribunal then the same shall be transferred to the Adjudicating Authority dealing with the resolution or liquidation of the Corporate Debtor. Hence, under the scheme of the Code, an application for insolvency resolution of the Corporate Guarantor can be initiated even when an application has been accepted for the resolution of the Corporate Debtor.

The Insolvency Law Committee Report of 2020, also discussed the conundrum surrounding simultaneous proceedings under the Code. The Committee suggested in its report that in case of different applications against the Corporate Debtor and the Guarantor under the Code, the amount of recovery can be revised based on the quantum of Creditor’s recovery in any one of the proceedings. The Committee referred to the NCLAT judgment in Edelweiss Asset Reconstruction Co. v. Sachet Infrastructure Ltd. & Ors., wherein simultaneous applications were allowed against the principal borrower and corporate guarantors under the Code.

The Tribunal also referred to the Supreme Court judgment in State Bank of India v. Ramakrishna & Ors., wherein it was held that simultaneous applications can be filed as, under the contract of guarantee the liability of the surety is co-extensive. The Court emphasized that once a resolution plan is approved for the corporate debtor, the same becomes binding on the guarantor and it cannot escape liability under Section 133 of the Indian Contracts Act.

Contracts of guarantee are usually governed by the principles as enshrined under Chapter VII of the Indian Contracts Act, 1872. One of the primary principles governing guarantee is that the liability of the surety is “joint and several” and “co-extensive with that of the principal borrower”. In Bank of Bihar v. Damodar Prasad &Anr., the Supreme Court has emphasized that joint and several liability is the key feature of the contract of guarantee. The fact that a creditor has proceeded against the corporate debtor doesn’t preclude him from an alternative remedy against the surety. However, the creditor is also not entitled to recover more than what is due and the amount of claim is adjusted based on the result of one of the proceedings.

Conclusion

Covenants in the nature of guarantee perform an essential task of securing credit obligations in financial transactions. The NCLAT in Piramal imposed unnecessary restrictions on invocation of rights against the Corporate Guarantor thereby creating an inconsistency between the Code and contractual principles. Hence, disregarding its judgment in the aforementioned case the NCLAT allowed the present appeal and simultaneous applications against the Corporate Guarantor, and Corporate Debtor for the same set of debt were allowed under the Code.

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