The firm is grateful to its associate Ms. Rachita Chatter for her contribution in this Update.
INTRODUCTION
In the recent landmark decision given in the case of Mobilox Innovations Private Limited v. Kirusa Software Private Limited, the Honorable Supreme Court of India had to adjudicate on the following issue which arose under an appeal made against the order of the National Company Law Appellate Tribunal (“NCLAT”):-
Can the National Company Law Tribunal (“NCLT”) entertain insolvency petition filed by an operational creditor under the Insolvency Code, wherein the corporate debtor denies / disputes a claim of the debt, but the said dispute is not raised / pending in a court / tribunal / judicial authority?
Setting aside the judgement of the NCLAT, the Court essentially held that, – it was not necessary that the dispute has to be raised / pending in a court / tribunal / judicial authority. The moment there is an existence of a dispute, meaning thereby that there is a real dispute to be tried; the NCLT has to dismiss an application for initiating insolvency proceedings. If however, the dispute raised is a sham, frivolous or vexatious, then, the NCLT has to admit the insolvency application. In doing so, the NCLT is not required to do a detailed enquiry of the merits of the case but is only required to satisfy itself that that there is indeed a genuine dispute which has been raised by the debtor for not paying the debt.
LEGAL BACKDROP
The Code inter alia contains certain special requirements with respect to operational creditors, (i.e., creditors owed debts in relation to the provision of goods or services) wherein operational creditors are permitted to initiate insolvency resolution proceedings against a corporate debtor, subject to certain conditions precedent as elucidated hereunder:
As per Section 8 of the Code, upon occurrence of a default (i.e., non-payment of debt, when it has become due and payable) an operational creditor can issue a demand notice, to a corporate debtor, which can be followed by filing an application before the NCLT in terms of Section 9 of the Code. As per section 8 (2) of the Code, the corporate debtor, within a period of 10 days of the receipt of the demand notice, is required to bring to the notice of the operational creditor, “existence of a dispute” if any.
The term ‘dispute’ is defined under Section 5(6) of the Code which is reproduced as under:
“In this Part, unless the context otherwise requires, – ‘dispute’ include a suit or arbitration proceedings relating to – (a) the existence of the amount of the debt; (b) the quality of the goods or service; or (c) the breach of a representation or warranty.”
Section 8(2) of the Code, is reproduced as under:
“The corporate debtor shall, within a period of ten days of the receipt of the demand notice or copy of the invoice mentioned in sub-section (1) bring to the notice of the operational creditor—
(a) existence of a dispute, if any, and record of the pendency of the suit or arbitration proceedings filed before the receipt of such notice or invoice in relation to such dispute;
NCLT, within 14 days of the receipt of the insolvency application is required to admit the application on satisfaction of certain conditions which inter alia include that there should not be any notice of dispute received by the operational creditor or there is no record of dispute in the information utility. Else, the application has to be rejected.
FACTS OF THE CASE
Mobilox Innovations Private Limited (“Mobilox”) was engaged by Star TV for conducting tele-voting for the “Nach Baliye” program on Star TV. Mobilox in turn subcontracted the work to Kirusa Software Private Limited (“Kirusa”). A non-disclosure agreement (“NDA”) was executed between the parties in connection with the said arrangement on 26, December 2014.
Kirusa provided the requisite services and raised monthly invoices between December, 2013 and November, 2014 which were payable within 30 days from the date on which they were received. Mobilox failed to make the payments and Kirusa followed up with Mobilox for payment of pending invoices through e-mails sent between April and October, 2014. Mobilox, on 30th January, 2015, wrote to Kirusa that the payments were withheld as Kirusa breached the NDA by disclosing on their webpage that they had worked for the “Nach Baliye” program run by Star TV. Kirusa sent a notice to Mobilox on 23 December 2016 under Section 8 of the Insolvency and Bankruptcy Code, 2016. By an e-mail dated 27th December, 2016, Mobilox responded to the aforesaid notice stating that there exists serious and bona fide disputes between the parties, that the notice issued was a pressure tactic, and that nothing was payable on account of breach of NDA.
Kirusa filed an application before the NCLT, Mumbai for initiation of insolvency proceedings against Mobilox. NCLT rejected the application because it treated the ‘reply’ to Section 8 (2) Notice by Mobilox, as ‘existence of dispute’ for the purposes of the Code. Kirusa filed an appeal before the NCLAT against the order of NCLT. The NCLAT set aside the NCLT Mumbai Bench Order and remitted the application to the Mumbai Bench so as to consider the same for admission.
NCLAT held that for a dispute to fall within the scope and ambit of section 8 and 9 of the Code, it would have to be raised in a court of law or authority and proposed to be moved before the court of law or authority and not any got up or mala fide dispute just to stall the insolvency resolution process. NCLAT held that merely raising a dispute for the sake of dispute, if not raised prior to application and not pending before any competent court of law or authority cannot be relied upon to hold that there is a ‘dispute’ raised by the corporate debtor.
Kirusa filed an appeal with the Honorable Supreme Court from the judgement of NCLAT.
QUESTION WHICH CAME UP BEFORE THE HONORABLE SUPREME COURT
Can NCLT entertain insolvency petition filed by an operational creditor under the Code wherein the corporate debtor denies / disputes a claim of the debt but the said dispute is not raised / pending in a court / tribunal / judicial authority?
ARGUMENTS BY THE PARTIES
Arguments by Mobilox (in favour of not initiating the insolvency proceedings)
Under Section (8)(2)(a), the expression “existence of a dispute, if any, and record of the pendency of the suit or arbitration proceedings filed …” must be read as existence of a dispute “or” record of the pendency of the suit or arbitration proceedings filed, i.e. disjunctively.
The definition of “dispute” under Section 5(6) of the Code is an inclusive one and the original draft bill not only had the word “means” instead of the word “includes”, but also the word “bona fide” before the words “suit or arbitral proceedings”, which is missing in the Code. Therefore, the moment there is existence of a dispute, meaning thereby that there is a real dispute to be tried, and not a sham, frivolous or vexatious dispute, NCLT is bound to dismiss the application. All that a corporate debtor needs to do is to file a reply within a period of 10 days of the receipt of demand notice or copy of invoice from an operational creditor, showing the existence of a dispute, which then does not need to be “ascertained” by NCLT.
Main arguments by Kirusa (in favour of initiating the insolvency proceedings)
The expression “dispute” under Section 5(6) covers only three things, namely, existence of the amount of debt, quality of goods or services or breach of a representation or warranty and since what was sought to be brought as a defense was that the NDA was breached, it would not come within the definition of “dispute” under Section 5(6).
At best, the breach of the NDA is a claim for unliquidated damages which does not become crystallized until legal proceedings are filed, and none were filed by Mobilox. Therefore, there was no real dispute on the facts of the case and NCLT was correct in its finding that the dispute was a sham one.
JUDGEMENT OF THE HONOURABLE SUPREME COURT
While giving its judgement the Honorable Supreme Court relied upon various jurisprudence that went into making the Insolvency and Bankruptcy Code, including:-
the resolution of the UN General Assembly, passed on 2nd December, 2004 –“Legislative Guide on Insolvency Law of the United Nations Commission on International Trade Law”,
the interim and the final report issued in February 2015 and November 2015 respectively by the Bankruptcy Law Reforms Committee,
the Insolvency and Bankruptcy Bill, 2015 and the notes on clauses annexed to the Bill and
judgements given by the Australian High Court and the Chancery Division of U.K.
Supreme Court’s observation on the definition of “Dispute” proposed under the Insolvency and Bankruptcy Bill, 2015 vis-à-vis the definition that was finally included in the Code.
Definition of “dispute” under Section 5(4) of the Insolvency and Bankruptcy Bill, 2015.
“dispute” means a bona fide suit or arbitration proceeding regarding (a) the existence or the amount of a debt; (b) the quality of a good or service; or (c) the breach of a representation or warranty;”
Definition of “dispute” under Section 5(6) of the Code.
“5. Definitions
In this Part, unless the context otherwise requires-
(6) “dispute” means includes a bona fide suit or arbitration proceedings relating to—
(a) the existence or the amount of debt;
(b) the quality of goods or service; or
(c) the breach of a representation or warranty;”
In the aforesaid background, the Supreme Court observed that, in the passage of the Bills which ultimately became the Code, various important changes took place. The original definition of “dispute” became an inclusive definition, the word “bona fide” before “suit or arbitration proceedings” being deleted. Therefore, one could not import the expression “bona fide” into Section 8(2)(a) in order to judge whether a dispute exists or not.”
The word “and” to be read as “or” under section 8(2)(a) of the Code
As per Section 8(2)(a) of the Code, – “the corporate debtor shall, …..bring to the notice of the operational creditor— (a) the existence of a dispute, if any, and record of the pendency of the suit orarbitration proceedings filed prior to the receipt of such notice…”.
In relation to the aforesaid section, the Court held that, – the word “and” occurring in Section 8(2)(a) must be read as “or” keeping in mind the legislative intent and the fact that an anomalous situation would arise if it is not read as “or”. If read as “and”, the same would lead to great hardship because a dispute may arise a few days before triggering of the insolvency process, in which case, though a dispute may exist, there is no time to approach either an arbitral tribunal or a court. Further, given the fact that long limitation periods are allowed, where disputes may arise and do not reach an arbitral tribunal or a court for upto three years, such persons would be outside the purview of Section 8(2) leading to bankruptcy proceedings commencing against them.
In support of the judgement that the word “and” as appearing in section 8(2)(a) must be read as “or”, the Court relied upon a past judgements given by it wherein it was held that, – “and” may be read as “or” in order to further the object of the statute and/or to avoid an anomalous situation.
Reliance placed on the foreign judgements (given by the Australian High Court and the Chancery Division of U.K.) which threw light on the expression “existence of dispute”
The Court relied upon the Australian judgment given in the case of Spencer Constructions Pty Ltd G & M Aldridge Pty Ltd [(1997) FCA 681] wherein it was essentially held / observed that, – it is not expected that the court will embark upon any extended enquiry in order to determine whether there is a genuine dispute between the parties and certainly will not attempt to weigh the merits of that dispute. All that the legislation requires is that the court conclude that there is a dispute and that it is a genuine dispute. The essential task is relatively simple – to identify the genuine level of a claim (not the likely result of it). This does not involve, in itself, a determination of whether the claim will succeed or not, but it does go to the reality of the dispute, to show that it is real or true and not merely spurious”.
Based on the foreign judgements, the Supreme Court held that, – all that NCLT is to see at this stage is whether there is a plausible contention which requires further investigation and that the “dispute” is not a patently feeble legal argument or an assertion of fact unsupported by evidence. It is important to separate the grain from the chaff and to reject a spurious defence which is mere bluster. However, in doing so, the Court does not need to be satisfied that the defence is likely to succeed. The Court does not at this stage examine the merits of the dispute except to the extent indicated above. So long as a dispute truly exists in fact and is not spurious, hypothetical or illusory, the NCLT has to reject the application.
Court’s judgement on the argument by Kirusa that the breach of the NDA did not tantamount to a “dispute” under the Code
The definition is an inclusive one, and that the word “includes” was substituted the word “means” which occurred in the first Insolvency and Bankruptcy Bill.
Section 5(6) only deals with suits or arbitration proceedings which must “relate to” one of the three sub clauses, either directly or indirectly. A “dispute” is said to exist, so long as there is a real dispute as to payment between the parties that would fall within the inclusive definition contained in Section 5(6).
Based on the correspondence between the parties which was on record and going by the test of “existence of a dispute”, without going into the merits of the dispute, the Court was of the opinion that Mobilox had raised a plausible contention requiring further investigation which was not a patently feeble legal argument or an assertion of facts unsupported by evidence. Mobilox’s defense was not plainly frivolous or vexatious. The Court held that a dispute does truly exist in fact between the parties, which may or may not ultimately succeed, and the NCLAT was wholly incorrect in characterizing the defense as vague, got-up and motivated to evade liability. Accordingly, the Court set aside the judgment of the NCLAT.
Brief Analysis and Comments
The judgement now puts to rest the uncertainty as to what constitutes or does not constitutes an ‘existence of a dispute’ for the purpose of the Code. As expected from the Apex Court of this country, it is commendable that the Supreme Court has thoroughly analysed the extensive legal jurisprudence (including foreign precedents) in connection with the subject in issue.
The judgement shelters the debtors who raise a genuine dispute with the respect of the debt claimed by the creditors but have not initiated legal proceedings and prevents the creditors to initiate insolvency proceedings in such cases. The NCLAT in the same case had held that for a dispute to fall within the scope and ambit of section 8 and 9 of the Code, it should have to be raised in a court of law or authority and proposed to be moved before the court of law or authority. This judgement would have seriously prejudiced the position of those debtors dispute the debts on genuine grounds and in good faith; because, generally, a debtor by itself will not move any Court, till the time a creditor files a suit. The creditor in such a case could have easily initiated the insolvency proceedings.
The Supreme Court has made it clear that,- the NCLT does not have to dig into the merits of the case to see whether or not there is a potentiality of the debtor succeeding in litigation, but, only has to determine whether or not the dispute that has been raised by the debtor is genuine on malafide. Interestingly, as the NCLT starts dealing with cases of disputed debts, there may be a fine line of distinction as to what constitutes a detailed investigation into the merits of the case and what constitutes only a preliminary enquiry and prima facie satisfaction of determination of the genuineness of the debt.