Subhash Chandra’s Insolvency: Four Fissures in the IBC that NCLT Encountered
The National Company Law Tribunal, New Delhi (‘NCLT’) recently delivered judgment(s) in Indiabulls Housing Finance Limited v Dr. Subhash Chandra (‘Subhash Chandra case’) with an anti-climactic conclusion that ‘no order can be passed’ in the case. After a bench of two members delivered diverging opinions, the case was referred to a third member who wrote an independent opinion that didn’t completely agree or disagree with opinions of the two members. Thus, no majority opinion emerged, and the case has now been referred to a 5-member bench which has stayed NCLT’s order will, likely, hear the case afresh but for now has restrained Subhash Chandra from alienating any property. Since the legal position remains unaltered in the absence of an order, I will eschew a typical comment on the case. Instead, let me use the attention and controversy that the case has generated to highlight some fissures of the Insolvency and Bankruptcy Code (‘IBC’) that the Subhash Chandra case has revealed.
To begin with, it is important to note that Subhash Chandra was a personal guarantor to several loans – Rs 22,000 crores approximately – disbursed to various companies that were under his influence. In 2022, Indiabulls Housing Finance Ltd initiated insolvency resolution process against the debtor/personal guarantor, Subhash Chandra, under Section 95 of the IBC. The resolution professional, after completing the process under IBC, sought NCLT’s approval of repayment plan. The repayment plan was approved by creditors with a voting share of more than 80%, but the dissenting financial creditors opposed it on various grounds. I will focus on three grounds invoked by the dissenting financial creditors to object to the repayment plan: (i) the value under repayment plan constitutes only 0.028% of the personal guarantors’ net worth which was more than 40,000 crores in 2018; (ii) various creditors that had voted in favor of the repayment plan were associates of personal guarantor; (iii) procedure adopted by the resolution professional for approval of repayment plan was contrary to provisions of the IBC since adequate notice period was not provided.
I. Attention-Grabbing Numbers
(a) Drop in Net Worth
2018: net worth of Subhash Chandra was Rs 40,562 crores (as per net worth certificate)
2026: net worth of Subhash Chandra was Rs 31.79 crores approximately
By any measure, it is a substantial drop in the net worth of Subhash Chandra within a span of 8 years and provided spark for one of the many disagreements amongst the NCLT members. While one member was of the view that the resolution professional, while preparing its report under Section 99, should have inquired if there was any diversion of assets. However, other members opined that resolution professional’s obligation to prepare a report under Section 99 did not extend to conducting an audit and/or forensic examination of the personal guarantor’s assets. The latter opinion is a strict reading of the IBC’s provisions. And this is the first fissure that the case revealed: whether the resolution professional should investigate if the assets were concealed? A strict reading of Section 99 suggests that the answer is no. This is because, if you compare Section 99 with Sections 43-51 and 66; the latter empower resolution professional to inquire about corporate debtor in relation to preferential, undervalued, fraudulent or extortionate transactions. Similar power is not expressly granted to resolution professional in relation to insolvency of personal guarantor. But, if the net worth of the personal guarantor drops so dramatically, does it warrant additional scrutiny by resolution professional? And should courts adopt a purposive interpretation? Or at the very least, should a resolution professional be vigilant and not accept the personal guarantor’s claims without a scrutiny? The generic answer is to take sides in favor of strict or purpose interpretation. But courts adopt one or other method of interpretation as per facts of case and interpretation of IBC is not tied to one single interpretive approach. Another option is to amend the IBC – again! – and provide the resolution professional powers to audit the personal guarantor’s assets under Section 99. But such a legislative approach presumes that audits are foolproof.
An alternate answer maybe to trust the resolution professional to assess the facts and determine if plainly accepting personal guarantor’s net worth and/or list of assets will serve the intent of providing an accurate report to the adjudicating authority. Or do facts warrant a meaningful scrutiny and follow-up questions. The resolution professional, in either case, must state its observations in the report submitted to adjudicating authority which can use its discretion to order an audit if it deems necessary. Admittedly, such an approach places trust in integrity, competence, and sound judgment of a resolution professional. And dissenting creditors raised various questions about conduct of the resolution professional. But if we can’t trust resolution professional to take forward an insolvency process, maybe it is time that the regulator – Insolvency and Bankruptcy Board of India – pulls up its socks. Regardless, I would suggest that entrusting the resolution professional with a duty to meaningfully scrutinize financials of personal guarantor and forward its observations to the NCLT, alongside the report under Section 99 is a much better option than saying that a resolution professional has no option but to believe the personal guarantor when he says that he has put ‘everything he has’ in the repayment plan.
(b) Miniscule Amount in Repayment Plan
Total admitted claims of creditors aggregated to: Rs 22,006.57 crores
The repayment plan proposed a repayment of: Rs 6.50 crores (25 lakhs towards costs)
The repayment plan envisaged a 99.9% haircut for creditors. To underline the miniscule recovery, here is an example of one of the creditors – LIC Housing Finance. The LIC Housing Finance had an admitted claim of Rs 1322.39 crores, and its proposed repayment was Rs 38,09,294/. This meant it would have received 0.028% of its admitted claims under the repayment plan. More than 80% of the creditors approved this repayment plan. The resolution professional submitted the report of approval to the NCLT. And the second fissure that emerged was: can and should the NCLT approve the repayment plan under Section 114 even if creditors receive practically nothing in return? The well-established dictum on this point is that commercial wisdom of the Committee of Creditors (‘CoC’) is paramount. And the NCLT cannot substitute its own commercial view with that of the CoC. However, the NCLT can examine if procedural and substantive obligations prescribed by the IBC were adhered to by the CoC. While the above dictum is well-established for corporate insolvency resolution, the NCLT’s powers under Part III of IBC – relating to personal insolvency is yet to be meaningfully tested. And the NCLT’s jurisdiction is unclear, partly because the relevant provision – Section 114 – is worded curiously.
Under Section 114(1), the NCLT is obligated to approve or reject the repayment plan based on resolution professional’s report of the creditors meeting. Implying that the resolution professional is not expressly obligated to present the repayment plan to the NCLT, but expecting the NCLT to approve or reject the plan without going through it seems unreasonable. Section 114(3) allows the NCLT to recommend modification of the repayment plan and direct the resolution professional to reconvene a meeting of creditors. However, it does not specify the parameters or grounds on which the NCLT can recommend a modification. But, if we apply the doctrine of commercial wisdom to Section 114(3), it will mean that the NCLT can only recommend modification of repayment plan in case of an illegality – substantive or procedural. But the NCLT to substitute its commercial wisdom with that of the CoC. But does the commercial wisdom extend to repayment plans which approve a 99.9% haircut? Or can the NCLT characterize such a repayment plan as illegal?
To my mind, both aspects about the attention-grabbing numbers are inter-related. If the resolution professional makes observations in the report submitted under Section 99 that financials of personal guarantor are questionable; the NCLT can characterize approval of 99.9% haircut in a repayment plan as illegal. But if the personal guarantor has verifiably lost his assets to an extent that it has no substantive means to offset the loan liability, then a 99.9% haircut may seem akin to unvarnished commercial wisdom. Here again, my cautionary note will be that casting a 99.9% haircut for creditors as the final evidence of collusion among stakeholders or demonstration ulterior motives may not help salvage the integrity of IBC. A 99.9% haircut is hair raising and should invite scrutiny. But it should be starting point of the inquiry if the personal guarantor truly has lost assets or is indulging in a smoke and mirrors game to avoid its obligations as a personal guarantor to loans. And the inquiry, even it is not an audit, should be initiated by the resolution professional to examine the financials meaningfully and not adopt a hands off approach.
II. Importance of Procedure
An ancillary question that the NCLT had to encounter was the importance of procedure in insolvency resolution. The NCLT in its final order described the IBC as an ‘amphibious piece of legislation’ that encompasses both procedural and substantive provisions. Implying that both pillars were crucial for effective implementation of the IBC. There were two procedural mandates that the resolution professional seemingly violated: (i) Under Section 106(4), the resolution professional needs to give at least fourteen days of notice for meeting of creditors after submission of repayment plan and report to the NCLT; (ii) Under Section 107(1), resolution professional shall issue a notice calling the meeting of creditors at least fourteen days before the date fixed for such meeting. The third member of the NCLT, in his independent opinion, held that the timelines for procedure were not strictly complied with by the resolution professional. But since creditors themselves agreed to shorten the timeline, no prejudice was caused, no creditor was deprived of an opportunity to vote, the repayment plan cannot be rejected. Another member held otherwise.
Thus, we arrive at the third fissure: should procedure prescribed under the IBC be followed scrupulously or substantively? If no creditor is denied an opportunity to vote or if no prejudice is caused, procedural timelines can be shortened by the resolution professional? The answer isn’t straightforward. Firstly, it is unclear if the NCLT has the jurisdiction to examine if prejudice was caused to creditors due to non-adherence with procedural timelines. Secondly, if procedural timelines are optional or can be bypassed under certain circumstances then those circumstances need to be clear and specific. Else, we end up being caught in a litigation beehive where procedure can be determined to be both sacrosanct and optional based on facts of each case. In the Subhash Chandra case, the facts themselves allowed members to arrive at divergent conclusions. One member stressed on the fact that creditors themselves agreed to shorten the timeline. While another emphasized on the limited time provided to creditors to examine a repayment plan which involved loans of more than 22,000 crores. The facts of Subhash Chandra case evidence the slippery road of viewing procedural timelines with varied importance depending on circumstances. We need a more coherent approach towards importance of procedure under the IBC and it is time that the NCLT/NCLAT move beyond generic statements that time and procedure is of utmost importance under the IBC without providing clear opinions as to how breach of procedure impacts an insolvency resolution.
III. Associates as Creditors – Creditors as Associates
Finally, the fourth fissure was whether one of the entities – Veena Investments – whose claims were admitted by resolution professional could be said to be associate of debtor. The reason this question was vital was because Section 109(4)(b) bars a creditor from voting in a meeting of creditors if they are an associate of the debtor.
Veena Investments was controlled by Subhash Chandra’ brother’s wife (sister-in-law). So, to determine if Veena Investments was an associate, the NLCT had to refer to Section 79 of the IBC.
Section 79(a) states that a person who belongs to the immediate family of the debtor is an associate. And Section 79(g) states that an associate of the debtor means:
a company, where the debtor or the debtor along with his associates, own more than more than fifty per cent of the share capital of the company or control the appointment of the board of directors of the company.
If we read Section 79(a) with 79(g), we understand that Subhash Chandra’s sister-in-law is an associate under Section 79(a) and is barred from voting if she was his creditor. But sister-in-law wasn’t the creditor. The creditor was a company controlled by the sister-in-law. Can such a company be also considered an associate and barred from voting?
One of the NCLT’s member held that as per Section 79(g), the requisite control in a company cannot be exercised by the sister-in-law exclusively. The control must be either by debtor alone or by debtor with his sister-in-law. Since Veena Investments was controlled by sister-in-law exclusively, it was not hit with the bar of Section 79(g) read with Section 109(4)(b). The third member agreed. The second member – Member (Technical) though disagreed and said that the strict interpretation of Section 79(g) would suggest that debtor’s sister-in-law is an associate but a company in which she holds majority shareholding is not an associate! And that will be an absurd consequence. To avoid the absurdity, she adopted a purposive interpretation and held that Section 79(g) is attracted even if debtor holds indirect shareholding in a company through their associate such as a sister-in-law. The fissure: should members embrace strict interpretation or a purposive interpretation when they believe that the former could lead to an absurd result?
One may question, if barring the sister-in-law and not the company controlled by her is really an absurdity. I would say yes, if the legislative intent is that any person associated with the debtor should not be allowed to be part of the CoC and vote on repayment plan as it may impinge on fairness of the insolvency resolution process. With the benefit of hindsight wisdom, it is easier to say that the Veena Investments should ideally have been considered an associate and restrained from voting on the repayment plan. But, when NCLT/NCLAT strays from the statutory text, they invite immediate criticism for not adhering to strict interpretation. Especially in commercial disputes involving high stakes. The totality of facts, as detailed in the judgment, suggests that permitted Veena Investments to vote on the repayment plan diluted the legislative intent behind Section 79. But respected a strict interpretation, at the cost of clouding the insolvency process with a cloud of suspicion.
Perhaps, and it may not be the first time for IBC, a loosely drafted provision should also take the blame. Section 79(2) has two evident flaws: Section 79(2)(a) does not identify or enlist which person belongs to ‘immediate family’ of the debtor rendering the definition of an associate open-ended; and Section 79(2)(g) creates a situation where a company controlled by the debtor is not allowed to vote, but a company exclusively controlled by an associate maybe permitted to vote. Creating incentive for debtor to hold shareholding in a company indirectly through an associate.
IV. What’s Next?
One case does not conclusively prove or disprove fairness of a legislation and its implementation. However, one case can certainly strike a cautionary note about how a legislation is being implemented. And, one case, can also create a long-lasting impression of an unfair legal process that can be hard to shirk off. To prevent a concretization of the impression of unfairness, the 5-Member bench of the NCLT will ideally provide a balanced and more cohesive interpretation of the provisions of IBC. But it is easier said than done. Some of the challenges that the NCLT members faced involved making tough and unprecedented interpretive choices. And resulted in approval of a repayment plan that hardly screamed justice and invited speculations of extraneous influences and motivations. Tough to prove one way or the other, but a balanced conclusion that respects rights of creditors and genuine limitations of the personal guarantor is the only way to quell the perception that the IBC has been hijacked by influential people with less than honest intentions.
