[Aditi is a student at Hidayatullah National Law University.]
The principle of commercial wisdom of the committee of creditors (CoC) has been hit hard by the Supreme Court (SC) in the very recent judgement of MK Rajagopalan v. Dr Periasamy Palai Gounder and Another (the present judgement). The court observed that if the decision of the CoC is in contravention of any law in force, the principle of commercial wisdom cannot be taken as a defense to go forward with the impugned decision, and the same becomes subjected to judicial scrutiny.
In light of the present judgement, the author attempts to analyze the stage that the principle of commercial wisdom of the CoC holds under the Indian insolvency jurisprudence, its functioning in the current regime, and what holds for the future.
About the Case
Appu Hotels Limited (Corporate Debtor) was successfully admitted to corporate insolvency resolution process (CIRP). Among the various resolution plans submitted, MK Rajagopalan’s was accepted by the CoC and it acted as the successful resolution applicant. The resolution plan was approved by the National Company Law Tribunal (NCLT) which was challenged before the National Company Law Appellate Tribunal (NCLAT). NCLAT rejected the resolution plan on various grounds of material procedural irregularity and also declared the resolution applicant to be ineligible in terms of Section 88 of the Indian Trusts Act 1882 and Section 29A of Insolvency and Bankruptcy Code 2016 (IBC) read with Section 164(2)(b) of the Companies Act 2013 (2013 Act). The resolution applicant appealed to the SC against the NCLAT’s order.
The relevant issues were (a) whether the resolution applicant was ineligible, and (b) whether the resolution plan so approved by the CoC and the NCLT had the sound authority of commercial wisdom of the CoC?
The resolution applicant was held ineligible as it acted as an alter ego of a trust named Sri Balaji Vidyapeeth (Trust). The Trust had also submitted a resolution plan, however, the same was rejected on the ground that it is a charitable trust being hit by Section 88 of the Indian Trusts Act 1882. MK Rajagopalan, being the Managing Director of the Trust, relied on the Trust for its credentials, hence he was more or less acting on behalf of the Trust itself.
Further on, MK Rajagopalan was, at the same time, also acting as Managing Director of a healthcare company, and the expansion motives of the company brought MK Rajagopalan into conflict of interest with the Corporate Debtor. Therefore, this resulted in his ineligibility to act as a resolution applicant under Section 29A of IBC due to the criterion mentioned in Section 166(4) of the 2013 Act.
Section 30 read with Section 31 of IBC requires that the final resolution plan be approved by the CoC before it is furnished for approval of the Adjudication Authority. In this case, the resolution applicant was directed by the CoC to revise the resolution plan. However, the revised plan was directly presented to NCLT for its approval. The resolution applicant contended post-facto approval of the CoC, which was rejected by the court. The court viewed such a procedural irregularity to be affecting the commercial wisdom of the CoC. It observed that the commercial wisdom of the CoC is to be founded on thorough examination and assessment of all the circumstances surrounding the subject matter.
Principle of Commercial Wisdom: Explained
IBC envisages a body of financial creditors of a corporate debtor called CoC, which plays a fundamental role in in determining the adoption of a resolution plan. A resolution plan is adopted successfully by receiving at least 66% of the total voting share of the creditors.
CoC’s decision is considered a commercial decision, hence it is considered appropriate that for a defaulting corporation, its creditors should make the final call. Commercial wisdom of the creditors lies in the assumption that creditors are well-informed about the corporate debtor, therefore being the best evaluators of a resolution plan. This makes them well-equipped to make a collective business decision that is based on analytical assessment and thorough examination of all the qualitative and quantitative circumstances.
Calling IBC a beneficial economic legislation, the judiciary has taken a hands-up approach toward the commercial wisdom of CoC. In K Sashidhar v. Indian Overseas Bank, SC took note of the primacy of commercial wisdom of the CoC stating that the legislature has not given the tribunals or the courts the jurisdiction to scrutinize CoC’s commercial decision. The courts cannot intervene in the justness or fairness of the decision by the CoC; it is final and non-justiciable. In Committee of Creditors of Essar Steel v. Satish Kumar Gupta, SC held that the final decision is left with the CoC which evaluates the feasibility and viability of the resolution plan and considers all aspects of the plan and the consequences that would follow; making such a decision requires an utmost degree of commercial wisdom, hence it should not be questioned by the Adjudicating Authority. The courts have expanded the principle to the extent whereby it refrains from intervening even in cases where the resolution plan is submitted by the resolution applicant beyond the time limit prescribed in IBC. Kalpraj Dharmashi and Ebix Singapore Private Limited v. Committee of Creditors of Educomp Solutions Limited are prime instances of such a non-interventionist approach of the judiciary.
Consequences of Primacy of Commercial Wisdom of the Creditors
Courts have made commercial wisdom a set-in-stone principle of the IBC. However, in recent years, the same has had its ramifications.
Haircuts are defined as the difference between what is claimed and what is actually received. In recent years, there have been instances where lenders have conceded to massive haircuts. Although haircuts are a part and parcel of CIRP, the high degree and increased frequency of such haircuts is problematic. With every financial year, the recovery rate has been showing a downtrend. Banks have been able to recover only 30% of their value, wherein they have been accepting INR 69 for every INR 100 of admitted claims. One of the recent instances is of Videocon Industries Limited case, whose creditors took a haircut of as high as 99.28% on their loans, receiving almost nothing. The same was also condemned by the court, but the decision could not be overridden due to commercial wisdom. Such practices have been damaging to the creditors and reveal much about the way commercial wisdom is being exercised.
Inefficiency in CIRP
One of the key objectives of the code is the insolvency resolution of the corporate debtor in a time-bound manner. The report of the Bankruptcy Law Reforms Committee noted that “speed is the essence” of insolvency law, particularly for two reasons: (a) when there is no clarity as to the ownership and control of the company, major decisions cannot be taken; (b) with time, the assets depreciate further lowering the liquidation value. Unfortunately, the IBC is unable to fulfil its objective in the true spirit, and the Standing Committee Report has also highlighted such delays in CIRP with 71% of cases pending resolution for more than 180 days. Some of the major causes of inefficiency in decision making by CoC are the non-exclusion of financial creditors in the CoC, promoters indirectly gaining control of the CoC in certain cases, and members of the CoC sending their representatives who are not adequately informed about their role nor have the intellectual empowerment to take decisions, resulting in delays in decision making.
Abandonment of labour welfare
In the Swiss Ribbons case, SC observed that the ultimate goal is to maximize the interest of all the stakeholders. ‘Stakeholders’ effectively includes workers of the corporate debtor. Although IBC caters to the claims of the workers, its implementation is in the hands of the creditors, and their commercial wisdom might not necessarily meet the interests of the employees. In Jet Airways insolvency, the approved resolution plan provided for INR 52 crores for the workers as against the claim of INR 715 crores. Workers do not have a seat at the CoC, and the situation is made worse by subjecting their fate to the commercial wisdom of the lenders.
Significance of the Judgement
In the previous cases, the judiciary has supported commercial wisdom holding it as a matter of preeminence and refusing to interfere. However, in the present judgement, the apex court has accepted the primacy of commercial wisdom of CoC but made a bold step in observing that commercial wisdom is a “considered decision which is to be taken with reference to the commercial interests, keeping in the centre the goal of revival of the corporate debtor and maximization of value of assets. It is not just a matter of rhetoric, rather a well-considered decision of the CoC”. This opens the door to the perspective that only because a decision is taken by the CoC, it cannot be presumed to be warranted by a wise commercial judgement that is based on a thorough examination. Rather, it should be actually based on all the relevant information and duly deliberated in the interest of the corporate debtor, and the judiciary or the adjudicating authority has to ensure the same.
In the UK, the central role is played by the administrator who has a wide range of powers to re-organize the company and its assets and has the duty to take into account the interest of the creditors and the corporate debtor and exercise rational business judgement. It was held in Re Charnley Davis Ltd that the administrator is not required to have the highest form of meticulous standards, but what is expected of him is the exercise of reasonable skill, care, and judgement as an insolvency professional of ordinary prudence. The insolvency law in the UK permits the court to interfere with the commercial decision if it causes unfair harm to the creditors or the property of the company is misapplied. Hence, even though the judicial intervention is limited, there exist certain guiding factors for the judiciary when it can intervene and evaluate the commercial wisdom of the creditors.
In Singapore, the company goes into the hands of a judicial manager who is a certified insolvency practitioner responsible for managing the company’s affairs and stands in a fiduciary relation to the company and its creditors. He / she / they are required to exercise commercial judgement and the same is ordinarily respected by the courts. Of course, certain circumstances exist when the courts can examine the judicial manager’s conduct, i.e., unfair prejudice or perverse to the interests of the company and its assets or a wrongful exercise of commercial judgement.
Globally, commercial wisdom has been kept on a high pedestal, and mostly, the creditors are considered as a judicious body evaluating the future of corporate debtors. However, their decisions are often subjected to limited judicial scrutiny if they are grossly unfair or misfeasant to the corporate debtor, its assets, or stakeholders.
The problem of unfettered discretionary power to CoC has been previously recognized by the Insolvency and Bankruptcy Board of India (IBBI), pursuant to which it released a discussion paper on Code of Conduct for CoC, but the same has not been given effect in law and has also been marred by criticisms. However, with the present judgement, hope exists for a more evaluative interpretation of the commercial wisdom of the CoC by the judiciary. In this respect, the author suggests that by taking lessons from the UK and Singapore, the Indian legislature can evolve certain factors such as unfair prejudice to creditors, misfeasance, or illogical considerations, and it may incorporate the same in the IBC. Only when a commercial decision of the CoC is blemished by the above-mentioned factors can the judiciary intervene to ensure a balance between commercial wisdom and interests of the corporate debtor and its assets.
To tackle the problem of haircuts, IBBI can prescribe a permissible limit of haircuts, and if the haircut goes beyond the limit, the same must be subject to scrutiny by the Adjudicating Authority. Due to the gap in commercial knowledge, a major obstacle is that the stakeholders are many a time unable to understand commercial judgement, even when it is valid. A plausible solution can be the creation of a communication channel between the CoC and the other stakeholders, whereby the latter can raise their objections or clarifications. This will help the stakeholders to understand the rationale behind the proposed resolution plan. Additionally, it will also reduce the likelihood of unnecessary litigation. This might raise the question of delay in the CIRP, but the communication channel can run in parallel with the other stages of CIRP.