HAS THE SUPREME COURT WHIPPED UP A STORM IN THE CASE OF

VIDABHA INDUSTRIES V. AXIS BANK?

INTERPRETATION OF STATUTES

SUBMITTED TO: SUBMITTED BY:

DR RABINDRA PATHAK VINEET PRIYADARSHI

ASSISTANT PROFESSOR SEMESTER VI (SECTION B)

ROLL NO. 1324

NATIONAL UNIVERSITY OF STUDY AND RESEARCH IN LAW

RANCHI
 TABLE OF CONTENTS

ABSTRACT .............................................................................................................................. 3

INTRODUCTION ...................................................................................................................... 4

FACTUAL MATRIX ................................................................................................................. 5

OBJECTIVES OF THE IBC ...................................................................................................... 5

THE SUPREME COURT’S DECISION....................................................................................... 6

INTERPRETATION OF SECTION 7 ........................................................................................... 7

ANALYSIS ............................................................................................................................... 7

1. Conflict with established rule of law ......................................................................... 8

2. Counterintuitive to the objectives of the IBC ............................................................ 8

3. Dilution of the power of the committee of creditors.................................................. 9

4. Practical Implications ................................................................................................ 9

CONCLUSION ....................................................................................................................... 10

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ABSTRACT

The Supreme Court of India, in the case of Vidarbha Industries Power Limited v. Axis Bank
Limited, has held that Section 7(5)(a) of the Insolvency and Bankruptcy Code, 2016, confers a
discretionary power on the National Company Law Tribunal to admit an application of
insolvency after the financial creditor has proved the existence of default. This marks a
departure from previous judgments where the NCLT was required to restrict its analysis to the
existence of debt and default in payment of debt. The Supreme Court held that the use of the
word "may" in Section 7(5)(a) confers upon the NCLT the discretion to admit the application
after being satisfied of the existence of debt. The review petition against the judgment was
dismissed by the Supreme Court. The decision has stirred up a storm and raised concerns over
the impact on the insolvency process, which may now depend on the discretion of the NCLT.

Keywords: Vidarbha, Insolvency and Bankruptcy Code, Discretionary, may, shall.

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INTRODUCTION

On July 12, 2022, the Supreme Court of India (“Supreme Court”) in Vidarbha Industries
Power Limited v. Axis Bank Limited1 (“Vidarbha”), held that Section 7(5)(a) of the Insolvency
and Bankruptcy Code, 2016 (“IBC”) confers a discretionary power on the National Company
Law Tribunal (the “NCLT”) to admit an application of insolvency after the financial creditor
has proved the existence of default. This judgment marks a significant departure from previous
judgements of the Supreme Court where it has held that the NCLT needs to restrict its analysis
to: (1) the existence of debt and (2) default in payment of debt. On September 22, 2022, the
Supreme Court dismissed a petition for review of this judgment.

Section 7(5)(a) of the IBC reads: “Where the Adjudicating Authority is satisfied that— a default
has occurred and the application under sub-section (2) is complete, and there is no disciplinary
proceedings pending against the proposed resolution professional, it may, by order, admit
such application.”

The Supreme Court in Vidarbha applied the literal interpretation test and held that the use of
the word “may” confers upon the NCLT the discretion to admit the application after it is
satisfied of the existence of debt. Further, it held that Section 9(5) of the IBC by using the word
“shall” in the context of an application made by an operational creditor, highlights a deliberate
legislative intent to differentiate between applications made by financial creditors and
operational creditors.

In the review petition, reliance was placed on the Supreme Court’s judgment in E S
Krishnamurthy & Ors. v. Bharath Hi-tech Builders Pvt. Ltd.2 in which the Supreme Court held
in the context of Section 7(5) of the IBC that ”...The Adjudicating Authority is empowered only
to verify whether a default has occurred or if a default has not occurred. Based upon its
decision, the Adjudicating Authority must then either admit or reject an application
respectively. These are the only two courses of action which are open to the Adjudicating
Authority in accordance with Section 7(5)...”

The Supreme Court however rejected the review petition on the basis that the question whether
the power under Section 7(5) was mandatory or directory was not in issue in the judgments
cited before the court.

1
Vidarbha Industries Power Limited v. Axis Bank Limited, 2022 SCC OnLine SC 841.
2
E S Krishnamurthy & Ors. v. Bharath Hi-tech Builders Pvt. Ltd., (2022) 3 SCC 161.

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FACTUAL MATRIX
Vidarbha Industries Private Ltd. (“VIPL”), a power generating company, got into an
agreement with Maharashtra Industrial Development Corridor (“MIDC”) for implementing a
Group Power Purchase. VIPL demanded fuel costs for the financial year 2014-2015 and 2015-
2016 which was rejected by the Maharashtra Electricity Regulatory Commission (“MERC”).
VIPL challenged this decision before the Appellate Tribunal for Electricity (“APTEL”), which
directed MERC to pay the fuel costs to VIPL. Consequently, MERC filed a civil suit before
the SC challenging the said decision.

Axis Bank, the Financial Creditor (“FC”) of VIPL, filed an application u/s 7 of the IBC seeking
initiation of CIRP against VIPL for default of the loan before the National Company Law
Tribunal, Mumbai. VIPL challenged the said application and demanded a stay on the
proceedings. It contended that the default arose due to non-payment of fuel costs by MERC to
VIPL whose adjudication was pending before the SC. NCLT declined its demand to stay in the
CIRP proceedings. It approached the National Company Law Appellate Tribunal (“NCLAT”)
which affirmed the decision of NCLT and observed that if a debt exists and the default has
been established, NCLT is bound to admit such application u/s 7(5) of the IBC.

Hence, VIPL being displeased with the NCLAT’s decision approached the SC. The question
before the SC was, whether Section 7(5) of the IBC is mandatory or discretionary.

OBJECTIVES OF THE IBC

Prior to the enactment of the IBC, insolvency and bankruptcy law in India was governed by a
plethora of legislations including the Presidency Towns Insolvency Act 1909, the Provincial
Insolvency Act 1920, Companies Act 2013, the Recovery of Debt Due to Banks and Financial
Institutions Act 1993, Securitisation and Reconstruction of Financial Assets and Enforcement
of Security Interest Act 2002 and most importantly, the Sick Industrial Companies (Special
Provisions) Act 1985 (“SICA”).

The Bankruptcy Law Reforms Committee (“BLRC”) in its report dated November 4, 2015
(the “BLRC Report”) highlighted that these prior legislations have convoluted the insolvency
process and have resulted in a lack of clarity and jurisdiction. Further, by allowing authorities
to venture into the merits of the dispute and the solvency of the debtor, there have been
prolonged delays and uncertainty of outcomes. Before the enactment of the IBC, the average

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time to resolve insolvency in India was far longer than most other countries. As a result, the
IBC was enacted with the intention of promoting a consolidated, transparent, predictable and
efficient insolvency law in India.

THE SUPREME COURT’S DECISION

The SC observed that if a CD is in the red, it should be resolved expeditiously and that no
extraneous matter should come in its way. However, the overall viability and financial health
of a CD can’t be termed as extraneous matter. Therefore, the NCLAT erred in holding that only
two conditions have to be satisfied for initiation of CIRP i.e., the existence of a debt and default
in its repayment. The SC stated that satisfaction with these two conditions only provides the
FC with a right to apply for initiation of CIRP. The Adjudicating Authority (“AA”) herein, the
NCLT has to look upon various factors including the feasibility of CIRP, overall financial
health and viability of the CD under its existing management.

The Court then deliberated on the usage of the term “may” in Section 7(5)3 of the IBC, it
observed that there was no ambiguity in Section 7(5) and therefore, it wasn’t necessary to
deviate from the literal interpretation and resort to purposive interpretation. It also pointed out
the legislative intent behind Section 7(5) by comparing it with Section 9(5)4 which contrary to
the former uses the term “shall”. The SC stated that in case of an application by an Operational
Creditor, it is mandatory to admit the same if the compliance is met with the rules and
regulations of IBC while in case of an application by an FC, it is not mandatory.

Further, the SC observed that the question of law in Swiss Ribbons v. Union of India5 was
regarding the constitutionality of IBC and not whether Section 7(5) is mandatory or
discretionary. Therefore, the ruling in Swiss Ribbons is irrelevant to the present case.

To sum up, the SC held Section 7(5) of IBC as a discretionary provision and NCLT is not
obligated to admit an application under the provision even when the existence of debt and
default in repayment is shown.

3
The Insolvency and Bankruptcy Code, 2016, § 7(5), No. 31, Acts of Parliament.
4
Supra note 3 at § 9(5).
5
Swiss Ribbons Private Limited v. Union of India, (2019) 4 SCC 17.

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INTERPRETATION OF SECTION 7

The IBC promotes a party driven insolvency resolution process. Section 76 of the IBC allows
a financial creditor to initiate an insolvency resolution process against the corporate debtor
upon showing a default in debt owed by the corporate debtor. In Innoventive Industries Limited
v. ICICI Bank7 (“Innoventive”) the Supreme Court held that the scheme of the IBC is to ensure
that when a default takes place, the insolvency resolution process begins. The Supreme Court
held that the moment the NCLT is satisfied that a default has occurred, the application must be
admitted.

Further, in Swiss Ribbons Private Limited v. Union of India8 (“Swiss Ribbons”), the Supreme
Court expanded on the decision laid down in Innoventive and held that the trigger under the
IBC, is non-payment of dues owed to creditors. It further held that the legislative policy in
India has shifted from the concept of “inability to pay debts” to “determination of default”.
This shift enables the financial creditor to initiate the insolvency resolution process, the
moment there is evidence of a default.

This shift is highlighted in the BLRC Report9 as the committee was against introducing a test
of solvency under Section 710 of the IBC. The reasoning behind this approach was that there
exists no standardized, indisputable way to establish insolvency. Rather, the IBC presumes that
creditors only file an application for insolvency after failing to resolve conflicts through
negotiation. In this context, the BLRC specified that the trigger for the insolvency resolution
process is the evidence of default.

ANALYSIS

In Vidarbha, the Supreme Court has laid down a new approach to admission of claims. It has
directed the NCLT to apply its mind to relevant factors and to ensure that solvent companies,
temporarily defaulting in repayment of financial debts are not penalized by an insolvency
resolution process. In our view, however, this approach is not sound.

6
Supra note 3 at § 7.
7
Innoventive Industries Limited v. ICICI Bank, (2018) 1 SCC 407.
8
Supra note 5.
9
5.2.2, Bankruptcy Law Reforms Committee Report, November 4, 2015.
10
Supra note 6.

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1. Conflict with established rule of law

The Supreme Court in Vidarbha did not adequately differentiate application of this new
test from the tests laid down previously. The twin test of “debt” and “default” laid down
in Innoventive advocated for a binary approach of only inquiring the existence of a debt
to admit an application. In Vidarbha, the Supreme Court stated that the NCLT cannot
ignore relevant surrounding factors of the case. It was held that where the realizable
dues of the corporate debtor were more than the payable dues, the NCLT must exercise
its discretion in not admitting the petition. The Supreme Court has however failed to
outline to extent of the discretion exercisable by the NCLT apart from stating that it
must not be arbitrary. Not only does this approach run contrary to
the Innoventive judgment, but it also goes against the recommendations of the BLRC.
In the BLRC interim report dated February 10, 2015, the committee recommended the
following:

“The rules for operationalization of the NCLT should specify that, whenever a company
is given an opportunity to file a reply before admission of a petition, the NCLT should
not hear the matter on merits at that stage”11

In the final BLRC Report of November 2015, the committee further stated that due to
the unreliable nature of the solvency test in India, the insolvency resolution process
should be triggered upon existence of default. This approach was cited in Swiss
Ribbons as well whereby it was held that “Legislative policy now is to move away from
the concept of ‘inability to pay debts’ to ‘determination of default’. The said shift
enables the financial creditor to prove, based upon solid documentary evidence, that
there was an obligation to pay the debt and that the debtor has failed in such
obligation.”

2. Counterintuitive to the objectives of the IBC

The Supreme Court in Vidarbha held that the objective of the IBC is not to “penalize
solvent companies, temporarily defaulting in repayment of its financial debts, by

11
4.1, Bankruptcy Law Reforms Committee Interim Report, February 10, 2015.

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 initiation of CIRP.” While this is not disputed, it is also true that the IBC was designed
to expediate insolvency disputes in a transparent and predictable manner.

An important aspect behind the failure of SICA was the significant degree of court
involvement in the rescue process.12 The BLRC noted that it took five to seven years
for a sick industrial company to be revived under the previous legislations due to routine
challenges to the appellate courts on the merits of insolvency in the process. As a result,
the IBC has always advocated for a minimum judicial intervention approach. It is
evident from the BLRC Report and the cited Supreme Court judgements that the NCLT
should not look into the merits of the case and must restrict its analysis to the existence
of default. This “hands-off” approach is not restricted to the stage of admission.
In Committee of Creditors of Essar Steel India Limited v. Satish Kumar Gupta,13 the
Supreme Court held that the NCLT must not question the commercial wisdom of the
committee of creditors and must restrict its analysis to ensuring that the process laid
down in the IBC has been followed.

3. Dilution of the power of the committee of creditors

The committee of creditors is empowered to file an application of withdrawal and end

the process of resolution under Section 12A14 of the IBC. This provision, which requires
an approval of 90% of the voting share, can be perceived as an existing failsafe in the
IBC, which prevents abuse of the insolvency process. Ultimately, this decision is left
to the commercial wisdom of the committee of creditors and not the NCLT to decide.

4. Practical Implications

The premise of Vidarbha’s ruling is the usage of two different terms in almost similar
provisions i.e., “may” in Section 7(5) which deals with the application for initiation of
CIRP proceedings by an FC while utilization of the term “shall” in Section 9(5) which
deals with the application for initiation of CIRP proceedings by an OC. In order to
understand this discretionary nature, we need to consider the order of NCLT in Hytone

12
Supra note 11.
13
Committee of Creditors of Essar Steel India Limited v. Satish Kumar Gupta, (2020) 8 SCC 531.
14
Supra note 3 at § 12A.

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 Merchants v. Satbadi Investments Consultants15 wherein it rejected the application
based on the mala fide intention of FCs and CD. Therefore, the usage of different terms
(“may” and “shall”) in both these provisions signifies protection against possible abuse
of the CIRP proceeding by FCs and CD through collusions among themselves, while
OC is a third party that is not associated with the company and thus cannot be assumed
to collude with the stakeholders.

Vesting discretionary power in the AA would result in a situation which existed before
the enactment of IBC i.e., a time-consuming insolvency process. The very purpose of
its enactment was maximizing the value within time bound manner as stated by the SC
in Swiss Ribbons. The FC even after having submitted the application u/s 7(5) of IBC
alongside all relevant documents for proving the existence of debt and default would
be at the mercy of AA for the admission of the application. Further, the SC didn’t devise
any test for the utilisation of discretionary power by the AA, this would result in
arbitrariness by the AA while deciding the admission of an application u/s 7(5) of IBC.

CONCLUSION

The decision of the Supreme Court will undoubtedly be taken into serious consideration by the
Union Government, which is reportedly considering a fresh set of reforms to the IBC in 2022.
Presently, this judgement stands in stark contrast to the BLRC Reports and the previous
judgements of the Supreme Court in Innoventive and Swiss Ribbons.

The authors submit that Vidarbha judgement has not given any compelling reasons why the
test laid down in Innoventive is not to be followed or why the BLRC guidance should be
ignored. Without a timely intervention in the form of a legislative amendment or
reconsideration by the Supreme Court in an appropriate case, this judgement exposes the IBC
to the risk of suffering the fate suffered by the previous insolvency regime in India.

15
Hytone Merchants v. Satbadi Investments Consultants, 2021 SCC OnLine NCLAT 983.

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