Adjudicating Authority Can't Venture Into Appreciation Of Merit Of Pre-Existing Dispute, Not Empowered By Section 9 IBC: NCLAT

The bench held that Section 9 of Insolvency and Bankruptcy Code doesn't empower the adjudicating authority to take upon itself the task of sifting through the rival contentions raised and to give a judgment upon it.

Section 9 of IBC allows operational creditors to initiate insolvency proceedings against defaulting corporate debtors. It involves issuing a demand notice, receiving a response, filing an application with the NCLT and if admitted, initiating the insolvency resolution process led by a resolution professional.

Brief Facts:

A contract for executing the four-laning of the Jhanji to Demow section of NH37 in Assam, from kilometers 491.05 to 535.25, was awarded to Gannon Dunkerley & Co Ltd (Operational Creditor) by the National Highway and Infrastructure Development Corporation Ltd (NHIDCL). Due to the Operational Creditor's failure to complete the project, it appointed Kapasi Infracon LLP (Corporate Debtor) as a sub-contractor. Under this agreement, the Corporate Debtor was entitled to 96.5% of the net amount received from NHIDCL for each RA bill, with the Operational Creditor retaining 3.5% as a management fee. The agreement also allowed the Corporate Debtor to use the Operational Creditor's resources, including equipment and staff, with predetermined charges.

Between November 12, 2019, and December 27, 2019, several pre-existing disputes arose between the Corporate Debtor and the Operational Creditor. Despite hurdles, including cash flow issues attributed to the Operational Creditor, the Corporate Debtor completed approximately 41.50% of the project work. On January 30, 2022, a new entity, Jalan Infrastructure LLP (JIL), entered into a principal agreement with the Operational Creditor, and a subsequent tripartite agreement with the Corporate Debtor was executed, wherein JIL agreed to infuse funds into the project. However, due to disputes between JIL and the Operational Creditor, these agreements were terminated on April 8, 2022, and referred to arbitration.

On July 15, 2022, the Corporate Debtor issued a final bill demanding Rs. 19,05,41,478 for completed works. Later that day, the Operational Creditor issued a Section 8 IBC Demand Notice against the Corporate Debtor, claiming rental charges under the contract. In response, the Corporate Debtor invoked the arbitration clause and issued a notice of dispute.

In July 2022, the Corporate Debtor filed a Section 9 arbitration petition before the High Court of Kolkata, while the Operational Creditor filed a Section 9 IBC petition before the Adjudicating Authority. The High Court of Kolkata referred the disputes to arbitration. Despite this, the Adjudicating Authority admitted the Section 9 IBC petition. Later, the Arbitral Tribunal in Kolkata rejected the Corporate Debtor's Section 16 arbitration application.

Section 16 of the Arbitration Act deals with the competence of arbitral tribunal to rule on its jurisdiction. It states that the arbitral tribunal has the power to rule on its own jurisdiction, including any objections with respect to the existence or validity of the arbitration agreement.

The NCLT held that there was no pre-existing dispute between the parties. The NCLT noted that the Corporate Debtor had issued a notice under Section 21 of the Arbitration Act demanding losses due to issues with JIL and rental charges during hindrances like CAA protests and COVID-19 lockdowns.

The NCLT noted that the Corporate Debtor was responsible for all statutory taxes and fees. The NCLT found the claim of Rs. 1,10,73,672 for maintenance expenses unsustainable. It also noted that on May 20, 2022, it was agreed that the Corporate Debtor would pay Rs. 7,55,76,839 to the Operational Creditor, which was seen as resolving all disputes.

Thus, the NCLT admitted the Section 9 IBC petition and reasoned that the arbitration notice served after the demand notice did not constitute a pre-existing dispute. Feeling aggrieved, the Corporate Debtor approached the National Company Law Appellate Tribunal (“NCLAT”) and challenged the decision of the NCLT.

Observations by the NCLAT:

The NCLAT referred to the decision of the Supreme Court in Mobilox Innovations Pvt Ltd vs. Kirusa Software Pvt Ltd (2018) 1 SCC 3531 in which the SC held that the existence of a dispute does not necessitate delving into the merits but requires a plausible contention that needs further investigation and is not merely spurious, frivolous, or vexatious. The dispute must be substantial enough to warrant adjudication by a competent court of law, thereby precluding the Adjudicating Authority from deciding the issue under Section 9 of the IBC.

The NCLAT noted that the Adjudicating Authority, in its impugned order, overstepped its jurisdiction by evaluating whether the defense raised by the Corporate Debtor (CD) was valid, rather than merely determining the existence of a dispute. This approach was contrary to the mandate that the Adjudicating Authority should only ascertain if a genuine dispute exists, which may or may not succeed ultimately. It held that even if the Corporate Debtor didn't reply to the demand notice, it could still bring forth evidence of a pre-existing dispute to the Adjudicating Authority, which would then require the rejection of the Section 9 petition.

Further, NCLAT referred to the Supreme Court in Raj Ratan Babulal Agarwal vs. Solar Tech's India Pvt Ltd (2023) 1 SCC 115 where it was held that the examination of a pre-existing dispute should not exceed the limited jurisdiction of the Adjudicating Authority under the IBC.

The NCLAT held that the Adjudicating Authority improperly segmented the entire transaction into two independent contracts. It failed to consider the final bill issued by the Corporate Debtor on June 21, 2022, which was emailed to the Respondent/Operational Creditor on July 15, 2022, before the demand notice was issued later that night.

The NCLAT held that, given the presence of a pre-existing dispute, such matters could not be resolved through the summary procedures outlined in Section 9 of the IBC. Consequently, it held that the petition under Section 9 filed by the Operational Creditor should be dismissed.

Case Title: Mr. Sanjay Kumar vs Gannon Dunkerley & Co Ltd and anr

Case Number: COMPANY APPEAL (AT) (INSOLVENCY) NO.1210 OF 2023

Advocate for the Appellant: Ms. Pooja Sehgal, Mr. Rajesh P, Mr. Pallavi Tayal Chadda

Advocate for the Respondent: Ms Sweta Gandhi, Advocate for R1.

Date of Judgment: 30.05.2024

Click Here To Read/Download Order or Judgment