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This article has been written by Bhavit Baxi, a 3rd year B.L.S. L.L.B. student from M.K.E.S College of Law, Mumbai.

The full bench of the Hon’ble Supreme Court on 9^th Aug, 2019 in Pioneer Urban Land Infrastructure & Ors vs Union of India & Ors. [1], has upheld the constitutional validity of the Second Amendment of IBC Act, 2016, wherein “Real-estate Allottees” as defined under Section 2(d) of the Real Estate (Regulation & Development) ‘RERA’ Act, 2016 were brought within the scope of financial creditors under the Insolvency & Bankruptcy Code, 2016 [2]. This will enable the home buyers and other allottees to invoke Section 7 of IBC (which allows financial creditor(s) (either individually or jointly) to file an application in National Company Law Tribunal ‘NCLT’ for initiating corporate insolvency resolution process against a defaulting company) against defaulting promoters.

 The judgment can be analyzed briefly as follows:

1. Home-Buyers are within the Scope of Financial Creditors

Under Section 5(7) of the Insolvency & Bankruptcy Code, 2016 [3] (hereinafter referred to as the “IBC”), financial creditor means any person to whom a ‘financial debt’ is owed and includes a person to whom such debt has been legally assigned or transferred to. The Full Bench of the Supreme Court of India relied heavily on the report made by Insolvency Law Committee and observed that home buyers finance real estate projects by paying sssamounts in advance to the developers for construction of the project. Therefore, like banks and financial institutions, home buyers are rightly identified as financial creditors.

2. Supremacy of the IBC & Several Remedies

The Judgment expressly clarifies that Home Buyers as per their choice can initiate proceedings against the Developers/Promoters under RERA and Consumer Protection laws and seek appropriate remedies. Remedies under the RERA and the Code are entirely distinct & independent from each other, however in case of any conflict the Code will prevail. Thus, this Judgment places heavy weightage to the Code and modern Jurisprudence.

3. Defence Available with the Promoters/Developers Opposing the Admission of the Insolvency Petition       

The Court also recognized that the delay in delivery of possession by the developers may occur, in certain cases, due to factors not attributable to the developers. Some instances of defenses which the developer may plead before the NCLT are: 

• The home buyer is itself a defaulter; 
• The insolvency resolution process has been invoked fraudulently, or for purposes other than of resolution of insolvency; 
• The home buyer is a speculative investor and not a person who is genuinely interested in purchasing a flat; 
• In a deteriorating real estate market, the home buyer, does not, in fact, want to go ahead with its obligation to take possession under RERA but wants to use coercive measures to get back the money already paid by it.

4. Right to Vote on Resolution Plans

The Court upheld the right of home buyers to vote on resolution plans as members of the Committee of Creditors ‘CoC’ And under the Insolvency and Bankruptcy Code (Amendment) Bill, 2019, the home buyers can through their common authorized representative, cast votes only in two ways – either to approve or disapprove a resolution plan. Any decision taken by a vote of more than 50% of the voting share is binding on the group.

5. Operative Part

• States/Union Territories shall appoint permanent adjudicating officers, a Real Estate Regulatory Authority and Appellate Tribunal within a period of three months from the date of the judgment, if they have not yet appointed. 
• The NCLT and the NCLAT shall be manned with sufficient members to deal with litigation that may arise under the Code generally, and from the real estate sector in particular, by the second week of January, 2020.
• Stay orders granted shall continue until the NCLT takes up each application filed by an allottee/ home buyer to decide the same in light of this judgment.

More Problems For Real-Estate Developers & Promoters

Multiplicity of Proceedings: In cases where a single large project of the corporate debtor i.e. Developer has various association of persons for separate buildings or phases registered separately with RERA, there might be chances of multiple proceedings initiated simultaneously by the home buyers against the same developer under RERA, Consumer Protection Act and IBC which can put the developers in to extreme position of difficulty.

Conclusion

The Hon’ble Supreme Court through this judgment has given heavy weightage to IBC and modern jurisprudence and has also opened the third and fastest route for homebuyers to achieve quality justice in commercial disputes.

This judgment comes as a complete relief favoring the Home Buyers in every aspect. The issue highlighted above which the Developers might face in the coming times will be Prima- Facie Settled by the NCLT  while admitting Section 7 Petition.   

Lastly, In the cosmopolitan cities like Mumbai/Delhi where the RERA courts are overloaded with Dockets of litigation the IBC Practice at NCLT will flourish in the disputes between Real Estate Developers and Home Buyers, as more home buyers wanting to drag the developers under the IBC and face the music at the NCLT.

ENDNOTES

[1] Pioneer Urban Land Infrastructure & Ors vs Union of India & Ors. Writ Petition (Civil).  No 43 of 2019, https://sci.gov.in/supremecourt/2019/1348/1348_2019_5_1501_15816_Judgement_09-Aug-2019.pdf

[2] The Insolvency and Bankruptcy code (second amendment) Act, 2018, No. 26 of 2018, https://ibbi.gov.in/webadmin/pdf/whatsnew/2018/Aug/The%20Insolvency%20and%20Bankruptcy%20Code%20(Second%20Amendment)%20Act,%202018_2018-08-18%2018:42:09.pdf

[3] The Insolvency And Bankruptcy Code, 2016 No. 31 Of 2016, http://www.mca.gov.in/Ministry/pdf/TheInsolvencyandBankruptcyofIndia.pdf

This article has been written by Pranjal Pranshu, a 5th year B.B.A. LL.B. student at KIIT Law School, Bhubaneswar.

Predatory Pricing [1] can be broadly considered as a technique used by the dominant [2] business to sell their products or services at a price drastically lower than its competitors. Such a price is at loss making levels for that business entity in an attempt at stifling its competition. The underlying understanding is that when such competitor is considered sufficiently disciplined, the business entity would raise the price that it had previously lowered, which would lead to tremendous profits, as the consumers would essentially be forced to purchase its products or services at the price it quotes. This attempt to be become a true monopoly, is often a failure as in most cases the competitors would be resilient, or a new competitor with sufficient financial backing will enter the market. Even if the intention was to remove the competitors, it does not necessarily lead to extinction of its competitors. The competitors can correspondingly lower the prices too. Rather, it becomes a scenario of big businesses fighting it out by offering exceptionally lowered price to the consumers. Though no business can sustain such price for long as the constant loss suffered will remove the incentive to lower the prices to such critical levels.

This can be easily ascertained that providing the service and product at substantially low price that threatens competition, even if the entity holds a considerable market share is not predatory but can rather be beneficial. The example of Reliance Jio Telecom is perhaps an essential case that can demonstrate the same. When Jio entered the market it adopted a unique strategy to gain a consumer base. Initially, its services were available to only a limited base of consumers at no price, which later expanded to cover all the consumers. Then it started charging a fraction of the charges charged by the competitors for the same services. Of course, all this led to mass adoption of Jio leading to it gaining substantial market share, and the competitors were left scrambling for a solution. Jio thus gained a substantial share in the market, which led to its competitors engaging in restructuring and many merged to form new entities. Also the competitors lowered the price to the levels similar to Jio to provide an effective competition. They now tried to and even succeeded in matching it in every step of the way and stem its growth. This shows that a low price, even at loss making stages is not a demonstration of market disruption, but rather can be a catalyst that promotes competition with the competitors trying to one-up each other. This has led to faster adoption of technology among the people, and has also incentivized the entities to aim for maximum efficiency so that they may provide the services at minimal cost. The ultimate beneficiaries are the consumers, who enjoy the lowering of prices.

Historically, there are certain economic tests that have been put in place to see whether the price is predatory. One such says that the price should be deemed predatory if it is below the dominant firms Average Variable Costs. [3] The test is popularly known as Areeda Turner Test [4] where the Average Variable Cost is the Total Variable Cost divided by the Total Output [5]. Also, the test mandates that the predatory pricing should only be alleged when the entity so accused is shown to be able to recover from the lowering of prices. In fact, the Courts of United States have made this is one of the necessary criteria [6] in the offence of predatory pricing. 

While this test is widely used, there are certain issues with the test. A question that arises is whether costing products and services in relation to the exact value of the Average Variable Cost should be a strictly defined rule, where variable costs can sometimes show considerable variations thus affecting the justness of such an average cost. A better model would seem to encourage a range to be followed even when the price is below the Average Variable Cost, in consideration to the circumstances of that particular business entity. Recoupment as an indicator cannot be trusted as the ability of the firm to recover from losses lies too much on the market conditions to be considered as solely in its control.

In recent times, Areeda Turner test has been majorly replaced outside the U.S. by the test devised in the EU case of AKZO Chemie BV v. Commission of the European Communities [7] where it was held that while pricing below the Average Variable Cost is prima facie abusive, also pricing above the Average Variable Cost and below the Average Total Cost can be considered as abusive if such pricing was intended to eliminate the competition. The Average Total Cost in this case is the sum of all production cost divided by the total output. One prominent issue that arises with alleging predatory pricing is the usage of intention of the business entity as a factor for considering predation. There are difficulties in concretely asserting that the intention of the entity is to unfairly eliminate competitor as it can be presumed that every entity in the market wishes to win, and thereby wishes for the competitor to lose [8]. Only if one can figure out via the evidence that the entities conduct was for the sole purpose of the elimination of the competition; though the same is at best assumable, and not certain.

Though these tests do ascertain a way to determine if any entity has priced its products or services at prices considered to be lower than the cost of providing such products or services, but they fail to account the dynamics of marketing. Firstly, if a dominant entity reduces the price to such critical levels, then it would suffer more losses than what a non-dominant competitor loses for similar reduction in prices. Secondly, even if the entity is pricing the product to eliminate the competition, one has to keep in mind that in the types of markets present in most countries that are mainly Monopolistic and Oligopoly, sufficient competition exists to make the lower price by one entity is challenged by rival prices of other entities. In other words, if the alleged predator is lowering the price, so can the elusive prey. There is no good reason that smaller entities cannot raise funds. Unequal access to resources, while existing is still mitigatable with multiple financing options available here. Even presuming that the competition was driven out, if the market is such that it can accommodate more than one player, then another competitor can arise, while the erstwhile predator has now priced its products and services at profit making rates. Such a competitor will have equal efficiency, or may even have acquired the assets of the former prey. And this competitor would have little incentive to increase the prices too much, unlike the erstwhile predator which is attempting to recover from losses now. This a scenario can easily lead to the predator becoming the prey. Thus, a thing like predatory pricing is comparatively immaterial in the long run. Thus, it has wrongly been accepted by the courts that selling at prices below the Average Variable Price would always be abusive and predatory. As already demonstrated above by the example of Jio in India, aggressive pricing should not be considered as predatory [9], in fact, the term is inherently flawed in a diverse market.

Thus we can see that this concept is maligned and has increasingly little significance in the globalized world. Even considering the apprehension that the predating business entities may later raise the prices after eliminating the competition is true to some extent, but the same would not be sustainable for long as it would simply highlight a gap in the industry or space where other entities can diversify to start providing products and services. In fact most markets abhor a vacuum, and if the in a particular industry, the service and/or product provider increases the prices to immense level, a competitor is bound to rise up who would give more fair prices according to the production costs, so that it may earn profits as well capitalize on the opportunity, making the earlier predation pointless.

ENDNOTES

[1] https://marketbusinessnews.com/financial-glossary/predatory-pricing-definition-meaning/

[2] https://indiankanoon.org/doc/189150347/

[3] US v AMR Corporation 335 F 3d 1109 (10^th Cir 2003), https://law.resource.org/pub/us/case/reporter/F3/335/335.F3d.1109.01-3202.html

[4] https://definitions.uslegal.com/a/areeda-turner-test/

[5] Areeda and Turner, ‘Predatory Pricing and Related Practices under Section 2 of the Sherman Act’ (1975) 88 Harvard Law Review 698.

[6] https://link.springer.com/chapter/10.1007/978-981-13-1232-8_11

[7] https://eur-lex.europa.eu/resource.html?uri=cellar:4905ac67-5a02-44a0-ae93-7724be6073b0.0002.06/DOC_1&format=PDF

[8] Barry Wright Corporation v. ITT Grinnell Corporation 724 F. 2d 227 (1^st Cir 1983), https://law.resource.org/pub/us/case/reporter/F2/724/724.F2d.227.83-1292.html

[9] France Telecom v Commission, Case C-202/07 [2009] ECR I-2369, https://eur-lex.europa.eu/legal-content/EN/TXT/HTML/?uri=CELEX:62007CJ0202&from=EN

This article has been written by Nidhisha Garg, a 4th year B.A. LL.B. (Hons.) student at National Law Institute University, Bhopal.

Introduction

A “Block Deal”, as has been defined by the SEBI circular dated 2^nd September 2005 is, “A trade, with a minimum quantity of 5,00,000 shares or minimum value of Rs. 5 crores executed through a single transaction on this separate window of the stock exchange will constitute a block deal.” [1]

Often, it is only high net worth individuals with deep pockets who indulge in block deals. Based on the recommendations given by the Secondary Markets Advisory Committee, the Securities and Exchange Board of India (SEBI) has issued a revised framework on 26^th October, 2017, which became effect on 1^st October, 2018. However, despite it being a more than a year since the introduction of the revised framework, there seems to be no significant increase in the number of investors who opt for Block Deals. This is probably indicative of the fact that even the revised framework lacked provisions which incentivize investors to opt for block deals. Also, the current framework is quite succinct. The lack of an elaborate framework might also be one of the factors contributing toward uncertainty and scope for legal lacunae. Therefore, this blog seeks to suggest certain recommendations based on the legal framework for block deals in foreign jurisdictions, which, if incorporated in India, might have a positive impact on the sorry state of affairs with respect to block deals in India currently. 

Current Legal Framework in India

The 2005 SEBI circular, was one of the first circulars to be issued in respect of block deals. However, the same does not stand valid post the 2017 circular, which brought about the following changes:

Increase in the Minimum Threshold Value- The minimum threshold for block deals has been increased from 5 crores to 10 crores. 

Replacing two time slots for one- The 2005 framework only provided for a single 35 minute window for trading in block deals in the initial hour post the commencement of trading day, that is, from 9:15 a.m. to 9:50 a.m. However, the current framework provides for two windows:

Morning Window- The window opens for 15 minutes before the commencement of business hours from 8:45 to 9:00 a.m. The reference/benchmark price for this window shall be the closing price for that particular security on the previous business days.  . Resultantly, the Circular dated 23rd October’09 has been impliedly amended, as it provided that business hours shall be from 9 a.m. to 5 p.m. Now, the same shall be from 8:45 a.m. to 5 p.m.

Afternoon Window-This window opens from 2:05 p.m. till 2:20 p.m. and may use as reference

price, the Weighted Average Price (WAP)of that security from 1:45 to 2:00 p.m. and the time from 2:00 p.m.to 2:05 p.m. may be used for the calculation of this WAP.

The transaction value of the block deal may be within 1% range of the reference price and the deal must necessarily result in full-delivery, that is, squaring off has not been permitted by the rules.

Comparative Analysis with Foreign Jurisdictions

1. UK

Block Deals are known as Large-in-Scale (LIS) deals in UK. The Rulebook of the London Stock Exchange defines large in scale trades as an order which is equal to or larger than the minimum size of orders provided for in Markets in Financial Instruments Regulation (MiFIR) and reflected in the parameters.” [2]

The MiFIR, which in turn is based on the regulations made by the European Securities Markets Authority (ESMA), and the EU Regulation No. 600 of 2014 provides for the threshold for Large in Scale Deals. [3]

Stocks with an Average Daily Volume (ADV) of up to 1,00,000 Euros, have an LIS threshold of 15,000 Euros, those with an ADV ranging between 1,00,000 Euros to 5,00,000 Euros have a threshold of 30,000 Euros, and those that trade at 100 million Euros or more per day have a minimum threshold of 6,50,000 Euros to qualify as a LIS deal.

2. US

Rule 526 of the Market regulation Advisory Notice, which came into effect on 1^st October, 2019, provides for an elaborate mechanism to govern Block Trades. It defines Block Trades as, “privately negotiated futures, options or combination transactions that meet certain quantity thresholds which are permitted to be executed apart from the public auction market. [4] The price for such trades must be fair and reasonable. 

3. Australia

The Australian Securities and Investment Commission (ASIC), published its latest guidelines concerning Block Trading on 6^th September 2019 [5] and which became effective on 4^th October 2019. It provides for a tiered structure for block trading, depending upon the type of equity market products. The minimum threshold for such transactions is $ 1 million for tier-1 equity market products, $ 5,00,000 for tier-2 equity market products and $ 200000 for tier-3 equity market products. Rule 6.2.1 of the same provides that block trades are exempted from, pre-trade information and reporting requirements.

4. Hong Kong

The Hong Kong Exchange (HKEX) provides for a Block Trade Facility.  It defines a Block Trade as, “large buy and sell orders privately negotiated apart from public auction market”. [6] The permissible price range and the Minimum Volume Thresholds (MTV) vary based on the equity product, for example, whether it is a ‘future’ or an ‘options’ contract.

Provisions of Foreign Jurisdictions Which May be Incorporated in India

In Honk Kong, unlike in India, instead of specifying the minimum threshold for the number of shares or their value, Minimum Volume Threshold (MVT) has been specified and instead of the exact price value, a price range has been specified which also varies for various products in the equity market, for example, depending on whether it is a ‘future’ contract or an ‘options’ contract. Moreover, the Hong King Stock Exchange (HKEX) provides for a clearance procedure before an applicant can enter into a block deal. If the Clearing House does not issue any oral or written Notice regarding disqualification on any ground within 30 minutes of the execution of the block trade, it shall be deemed that the block trade has been duly registered with the Exchange. The facility also empowers the Exchange to delete a particular block trade if it is intimated at any time by the Clearing House that the said Block Trade is invalid or the participant is ineligible. Such an elaborate yet speedy clearance mechanism is lacking in India. 

In U.K., Large-in-Scale transactions have been given some exemptions from pre-trade reporting requirements and post trade reporting requirements pertaining to publishing of volume, price, nature, time of transaction etc. may also be deferred. Exemptions from certain disclosure requirements could be considered for India. Even Australia exempts block trades from pre-trade information publishing mandates.

The DVP procedures handbook in Singapore, provides for a time-bound schedule, both for the applicant as well as for the Settlement and Clearing agency. A timeline for the procedure is lacking in India. The Indian framework only provides for two 15 minute windows during a business day. A structured time line would provide more certainty and predictability for the investors seeking to invest in block deals. 

In Australia, the regulations provide for a tiered structure of thresholds for block trades ass compared to a single “one size fits all” definitions provided for in the SEBI circular. 

As opposed to the two 15 minute block trade windows in India, in U.S.A, block trades may be entered into at any time, including any time after the closing hours, except for certain restrictions pertaining to trades entered into apart from Regular Trading Hours (RTH), that is, either during the Asian Trading Hours (ATH) or during the European Trading Hours (ETH). This is a salutary provision and extending the window of block deals to even the remaining business hours in India would do no harm. Also, unlike U.S.A, there is no provision in the Indian framework for safeguarding the fairness and reasonability of the prices. 

Conclusion

Despite efforts on the part of SEBI, the prospects of block deals have continued to remain bleak in the Indian securities market. Therefore, it is advised that the current framework be replaced by a new, more elaborate framework, also incorporating those provisions of the foreign frameworks, which are best suited for the Indian legal scenario. The framework still being in the nascent stages, this seems to be the appropriate time for incorporation of the above mentioned changes and in this regard, it is suggested that the SEBI at least issue draft guidelines for the purpose of consultation from industry stakeholders. 

Endnotes

[1] https://www.sebi.gov.in/legal/circulars/sep-2005/guidelines-for-execution-of-block-deals-on-the-stock-exchanges_8382.html. 

[2] https://www.londonstockexchange.com/traders-and-brokers/rules-regulations/rules-lse.pdf.  

[3] https://www.esma.europa.eu/databases-library/interactive-single-rulebook/mifr. 

[4] https://www.cmegroup.com/rulebook/files/cme-group-Rule-526.pdf.

[5] https://asic.gov.au/regulatory-resources/markets/market-structure block-trade-tiers/. 

[6] https://www.khex.com.hk/Services/Trading/Derivatives/Overview/Trading-Mechanism/Block-Trade-Facility?sc_lang=en. 

This article has been written by Saket Agarwal, a 4th year B.B.A. LL.B. (Hons.) student at National Law University, Jodhpur.

The latest ease of doing business rankings brought laurels for India where it reached to the 77^th spot. This position reflects the stable business environment for corporate houses. Does this ranking also ensure an inclusive growth where the interests of the last person of the society are also taken into consideration? The answer is in negative. This led to the advent of Corporate Social Responsibility [“CSR”].  The purpose of this research is to consider the various facets of CSR under various legislations including the latest Companies Amendment Act, 2019 [“2019 Act”].

INTRODUCTION

The idea of CSR was first suggested by Mr. Sachin Pilot, the then Minister of Corporate Affairs in 2013.[1] It was then incorporated into the Companies Act, 2013 [“Act”] under section 135. India then became the first country having such a provision under its Act. The Voluntary Guidelines on CSR, 2009 is considered to be the key motivation for inserting the provision of CSR under the Act. The principle VIII of the guidelines which is ‘support inclusive growth and equitable development’ is the basis of CSR.[2] Under CSR, the corporates were entrusted with the job of including the excluded sections of the society in the development of the nation. Moreover, a schedule VII was also provided under the same Act to provide the clarification with regard to the kind of activities which can be undertaken by the companies.[3] A very essential feature of section 135 was that it did not contain any penal provision in case of non-compliance by the companies. The intent behind this arrangement was to motivate the companies to voluntarily contribute towards the development of the society. The sum was not going to be extracted as a compulsory payment like a tax.

Anil Baijal Committee Report on CSR

Some of the key recommendations of the committee are as follows:

• The purpose of law is to not to force the companies to do CSR. Rather the motive is to provide and environment to the corporates to voluntarily contribute towards the development of the society.
• The committee also clarified that the aim of CSR is not extract money like any other tax/cess. The whole aim of CSR is to use the resources, expertise, skills, innovation etc. of the corporates to ensure the overall growth of the society.
• The committee recommended for keeping the CSR as a comply-or-explain only with no penal provision.
• The committee also suggested to the government to keep the schedule VII open-ended. The reason being any limitation in terms of interpretation of schedule VII activities will only adversely affect the public good as there might be certain activities which becomes essential for societal benefit in the future.
• The committee was aware of the importance of CSR for the deprived section of society. Hence, it suggested that there should be specific CSR committees within the companies which can review the CSR programme undertaken by the company.      

ANALYSIS

From comply-or-explain to comply-or-else

Comply-or-else concept is based on the notion of ‘one size fits for all’. This approach advocates for a strict punishment by the regulator in case of non-compliance of the relevant provisions.[4] On the other hand, comply-or-explain approach gives greater leeway to the shareholders to decide upon the wrongful actions committed by the company on the basis of the explanation offered by the person in question. A conjoint reading of section 135 and section 134 provides that the companies are required to disclose the reason for not spending the amount of CSR. This is nothing but an example of comply-or-explain approach. However, the Act of 2019 has transformed CSR from comply-or-explain to comply-or-else. This happened because of the provision of the penalty and imprisonment inserted for not fulfilling the duties under CSR.[5] This move has killed the basic essence of CSR i.e. to involve the corporates voluntarily and not to extract payments from them like a tax.

Clarity with respect to new companies

Section 135(5) maintains that ‘…the company spends in every financial year, at least two percent of the average net profits of the company made during the three immediately preceding financial years…’ Thus, the provision demands that three previous financial years have to be taken into consideration for computing the amount on CSR. What if a company has started its operations one or two years back? Can it be brought within the ambit of the section? The amendment has finally resolved this enigma. The condition ‘three preceding financial years’ has been replaced with ‘such immediately preceding financial years’.[6]

Calculation of net profit: A double edged sword

Companies with a net profit of Rs 5 crore or more comes within the ambit of section 135.[7] Therefore, the determination of net profit becomes very essential in this regard. The calculation of net profit is provided under section 198 of the Act. Section 198(5) clearly specifies that ‘for the computation of net profit; income tax shall not be deducted’.[8] The problem with this approach is that companies are burdened with not only the CSR amount but also with the income tax both of which are required to be spent on the original amount of profit. Not only this, the companies which ideally could have escaped from the ambit of CSR obligations are deliberately brought within the coverage of this provision. 

Example– Assuming a company ‘A’ having a net profit of Rs 5,10,00,000 where the prevailing rate of income tax and CSR is 20% and 2%. Therefore, the company will be required to pay income tax of Rs 1,02,00,000 (20% of 5,10,00,000) and incur the CSR expenditure of Rs 10,20,000 (2% of 5,10,00,000). 

Had the income tax been taken into consideration for the purpose of calculation of CSR, the company ‘A’ would not have come within the ambit of CSR. In that case, CSR would be equivalent to the difference between the Net Profit and Income Tax i.e. (5,10,00,000 – 1,02,00,000) which would be Rs 4,08,00,000. Here, the net profit of company ‘A’ is less than 5 crores. Therefore, ‘A’ is not required to do CSR activities as the law mandates a minimum of Rs 5 crores as net profit for doing CSR.

The hue and cry over penal provisions under CSR

The provision which got the maximum attention and discussion among all the provisions of the Amendment Act was the punishment imposed for not adhering to the norms of CSR. The Amendment provides that ‘…the company shall be punishable with fine which shall not be less than fifty thousand rupees but which may extend to twenty-five lakh rupees and every officer of such company who is in default shall be punishable with imprisonment for a term which may extend to three years or with fine which shall not be less than fifty thousand rupees but which may extend to five lakh rupees, or with both.’ However, the author opines that such kind of penalty existed even prior to the amendment. Under section 134(3)(o), the directors are required to give a report of the policies implemented by the company in furtherance of CSR.[9] Moreover, clause 8 of the same section prescribes the penalty for such a violation. An interesting point here is that the penalty specified for the company as well as the directors in clause 8 is exactly of the same quantum as provided under the amendment. 

‘Unspent CSR Account’: A source of income out of expenditure?

The Amendment necessitates for the companies to transfer the unspent CSR amount of three years to a special account names as ‘unspent CSR account’ which is required to be opened by the companies. Further, the provision also requires the companies to transfer the amount from that account to funds specified in schedule VII such as Prime Minister’s National Relief Fund (PMNRF) in case the money remains unspent. However, the author suggests that there are two problems in this approach. The first one being that ‘unspent CSR account’ will necessarily be like any other bank account which will generate interest on the amount kept in such account. The provision does not provide for the treatment of interest earned on such a sum. In absence of any direction, a company will deliberately not disburse the amount on CSR and will definitely keep it for three years. After three years, even if it has to transfer the CSR amount, the company will earn a good interest on such a sum. Moreover, if a company undertakes any CSR activity; it has to ensure that it is working within the regulatory frameworks for which some additional cost might be required to be spent. However, if it will keep the money and transfer it from ‘unspent CSR account’ to funds like PMNRF, it will not be required to take care of such compliances. This will save the valuable time and money of the companies. This double benefit will persuade the companies not to spend the amount in undertaking the CSR activities.              

CONCLUSION

The inception of CSR was really commendable which recognized the duty of the companies to return the society for the resources they are using. But the means of enforcing such duty was never intended to be through punishment. The companies were expected to behave as a socially responsible corporate. However, the recent amendment has distorted the concept entirely. However, the amendment cannot be criticized entirely as there are lacunae which are there from the very beginning. A serious consideration is required to be done on this pious concept which is a victim of bad implementation.      

Endnotes

[1] Corporate social responsibility a leap of faith for the government, https://economictimes.india times.com/opinion/interviews/corporate-social-responsibility-a-leap-of-faith-for-the-government -sachin-pilot-minister-corporate-affairs/articleshow/17685080.cms?from=mdr.

[2] Principle VIII, Voluntary Guidelines on CSR, 2009.

[3] Schedule VII, The Companies Act, 2013.

[4] Subrata Sarkar, The Comply-or-Explain Approach for Enforcing Governance Norms, http://w ww.igidr.ac.in/pdf/publication/WP-2015-022.pdf.

[5] Section 21(b), The Companies (Amendment) Act, 2019.

[6] Section 21(a), The Companies Amendment Act, 2019.

[7] Section 135(1), The Companies Act, 2013.

[8] Section 198(5), The Companies Act, 2013.

[9] Section 134(3)(o), The Companies Act, 2013.

This article has been written by Tanvi Prabhu and Saumya Agarwal, 4th year B.A. LL.B. students at National Law Institute University, Bhopal.

In the last four years, India has jumped up sixty-five positions in the Ease of Doing Business rankings and a major contributor to this has been the overhaul of legal framework affecting businesses including Insolvency and Bankruptcy Code, 2016, Goods and Services Tax Act, 2015, amendment to Specific Relief Act, 1934 and Companies Act, 2013 as amended in 2017, among others. This blog analyses the latest addition to this list, The Companies (Amendment) Act, 2019 which came into effect this 31^st July. In the present scenario of bearish market sentiments, failing businesses, struggling entrepreneurs, slowdown of growth and eroding consumer confidence, it needs to be seen whether these amendments will lend a helping hand to bolster companies and their management’s business survival endeavours.

Clampdown on Shell Companies 

Earlier in the year 2018, nearly 4 lakh companies had been automatically deregistered due to non compliances and inactivity. In furtherance of which this amendment directly targets prospective shell companies via insertion of section 10A and Section 12(9) which require newly incorporated companies to file declaration of payment of share capital along with verification of their registered office with RoC within 180 days. The registrar has also been granted power to initiate action for the removal of the name of the company from register of companies after having done physical verification of its registered office due to belief of reasonable cause that the company is not carrying on any business or operations. Undoubtedly, this innovative move of physical checks on a company’s registered office will deter the menace of shell companies. However, it should be noted that a proper regulatory mechanism should be provided for keeping a check on the officials carrying out such verification, failing which a possibility of a nexus being developed between companies and registrar exists.

Increasing power of the Central Government 

The amended Section 14 transfers powers of Tribunal to Central Government for approval of conversion of a public company to a private company, which now requires approval by order of Central Government as is also needed for any alteration henceforth in Articles of Association. Keeping in mind the possibility of insolvency, under first proviso to Section 77(1)(b)the time duration for registration of charges created has been made 1/5^th of the previously provided 300 days i.e. reduced to sixty days which can be extended by another 60 days upon payment of ad valorem fees. Also, under Sections 86(2) and 87(2) criminal liability has been imposed upon any person who wilfully furnishes any false or incorrect information or knowingly suppresses any material information but if such misinformation were accidental or due to inadvertence or some other sufficient cause, without adversely affecting creditors or shareholders power has been given to the Central Government which may extend the time period to allow rectification.

A major amendment has been made by inserting provisions in section 241 which effectively gives power to the central government to initiate disqualification of a person as not ‘fit and proper’ person to hold any office of management of any company. While the earlier provision only provided for an application for relief to the tribunal in case of conduct prejudicial to public interest; the present insertion lays down four broad circumstances where the central government may refer the principal bench of tribunal to inquire and record a decision to disqualify the person from holding office of conduct and management of any company for period of five years. 

The first and fourth circumstantial triggers wherein the person maybe guilty of fraud, misfeasance, persistent negligence or default or has conducted business with intent to defraud its creditor, members or any other persons or for fraudulent or unlawful purposes are objectively determinable and legitimately require punitive action, the other two criteria seem dangerously subjective. The second trigger states that the conduct and management by person must be with sound business principles or prudent commercial practices and the third trigger is also a blanket clause that requires conduct to not cause or be likely to cause serious injury or damage to the interest of trade, industry or business pertaining to the company. Undeniably, the above two criteria are too broad and practically unachievable. What may be a correct business decision for a company’s promoter may seem a risk to the investor and be a wrong decision in the opinion of an industry expert and yet running a business requires taking tough decisions that may not always be considered prudent by all stakeholders. Also, a company’s decision though not intended to cause harm may through unexpected circumstances be detrimental to dependent businesses, competitors, or to the sector itself in which the company operates. The lack of the requirement of intention to cause such harm is a major lacunae as it is unrealistic to expect any entrepreneur or person to take decisions keeping in mind not just his own business concern but also even the possibility of harming the interest of trade, business and industry as well making sure that the decision is commercially sound in opinion of all stakeholders. Often times decisions beneficial to a company are detrimental to other businesses and expecting an altruistic attitude from company management is impractical. 

The authors are of the opinion that such a wide subjective ambit without a proper definition of a ‘fit and proper’ person can be blatantly used by the central government to further its own capitalist agenda. The provision under section 243 which allows a disqualified person to hold office by permission of central government and leave of tribunal indicates that being in the good graces of those in political power may help regain one’s position. Though, these steps require a tribunal approval, since the statute itself is broad ranging, it is doubtful whether an overburdened tribunal is a strong enough check on the will of the executive. Under the garb of reducing the burden on tribunals whose main purpose is to neutrally address issues faced by companies, the central government seems to be trying to extend its reach to control running of companies that may be used to further its agenda. Needless to say, with changing governments having opposing views and sentiments, this provision can be misused as a backdoor to favour or prejudice companies.

Reclassification of Civil – Criminal Liabilities 

The amendment has reclassified certain criminal offences as civil defaults, viz., offence of default in issuance of shares at discount (Section 53), default in filing of annual return (Section 92(5)) and financial statement (Section 137). Additionally, debarment by National Financial Reporting Authority from Indian Chartered Accountants Institute under section 132 has been removed and diluted to limited form of debarment from certain auditing functions; to prevent extreme repercussions to livelihood of auditors. However, in light of IL&FS credit rating and accounting lapses along with increasing insolvency such leniency in financial compliances will only erode confidence and trust. 

Alternatively, under certain amended sections, higher fines have been imposed in the form of further penalty for continuing failures, viz., filing of annual return (Section 92(5)), failure in filing resolution and agreements (Section 117(2)), failure in filing annual general meeting report (Section 121(3)), default in filing of financial statement (Section 137(3)(b)), failure in filing statement in event of resignation by the auditor 140(3), failure in furnishing the Director Identification Number (Section 157(2)), Section 159, surpassing limit of directorship (Section 165(6)) and failure in complying with provisions related to appointment of Key Managerial Personnel (Section 203(5)). Further to enhance efficient discharge of functions, under Section 132 the National Financial Reporting Authority shall perform its functions through prescribed divisions with each division being presided over by a Chairperson or full time member. 

Stringency of Corporate Social Responsibility (CSR)

CSR, introduced in the 2013 Act, with the intention of Gandhian trusteeship from the business communities, imposes the  obligation on eligible companies to spend minimum 2% of its average net profits made during the three immediately preceding financial years in activities indicated in Schedule VII. Through an extremely positive insertion to Section 135, any unspent CSR amount not related to any ongoing project shall be transferred to a Fund specified in Schedule VII, within a period of six months of the expiry of the financial year. 

Similarly, Section 90(9) has been amended to direct transfer of interest of Significant Beneficial Owner(SBO) after time period of 1 year of suspension of such interest to the Investor Education and Protection Fund along with Central Government being given power to make rules with respect to such SBOs under Sub-section 9(A). While any unspent CSR Amount relating to ongoing project shall be transferred by the company within a period of thirty days from the end of the financial year to an Unspent Corporate Social Responsibility Account to be spent for such purpose within a period of three financial years from the date of such transfer, failing which, the company shall transfer the same to a Fund specified in Schedule VII, within a period of thirty days from the date of completion of the third financial year. A major amendment under Section 135(7), has made contravention of CSR a penal offence punishable with imprisonment up to three years or fine or both. However, under Section 135(8) the Central Government has the discretion to give general or special directions to a company or class of companies which would be bound to comply with such directions to ensure CSR compliance. It cannot be ignored that a joint reading of Sub Sections (7) and (8) provides a tool that can be misused by the Central Government to threaten companies with imprisonment of its officers, reduction in goodwill due to nature of offence and other resulting repercussions. Also, it has not been recognised that CSR needs responsible, ethical spending and not forced compliance by corporates, motivated by tax concerns and prevention of penal consequences.

Conclusion

The following general observations can be drawn from the above-made analysis:

• The intention behind the shift of power between Tribunal to Central Government is stated to lessen the burden on Tribunal. However, it seems to leave the Tribunal toothless and facilitate encroachment of Judiciary by Executive hence disrupting separation of power and in turn over burdening Centre and bringing in the possibility of biased manifesto.

• The substitution of words ‘punishable with fine’ by ‘liable to a penalty’ can be seen to portray the civil nature of default rather than criminal. However, one should not fail to notice the increase in certain criminal liabilities especially in matters related to Corporate Social Responsibility. However, the shift from criminal to civil has taken place in matters centric to financials and internal functioning of a company which ideally should not have been treated as minor offences.

• Additionally, under section 212(14A), director, key managerial personnel, other officer or any other person shall be held personally liable without any limitation of liability. Such unlimited liability seems to be extremely harsh. Under certain provisions, in addition to the company, liability has been extended to its officers and any other person as case may be. The provisions related to repeat offenders and non-compoundable offences have also been made stringent.

While a lot of positive changes have been made, the balance of the statute in respect of powers between Central Government and Tribunals as well as between defaults classified as civil or criminal has been disturbed. The actual benefits and repercussions of these amendments will only be known through the passage of time.

ENDNOTES

http://www.mca.gov.in/Ministry/pdf/CompaniesAct2013.pdf.

https://www.livelaw.in/pdf_upload/pdf_upload-362698.pdf.

This article has been written by Nikhil Singh, a 3rd year B.A. LL.B. (Hons.) student at WBNUJS Kolkata.

Recently, a three-judge bench of the National Company law Appellate Tribunal, in Excel Metal Processor Ltd v Benteler Trading International GMBH & Anr (Excel case), held that an exclusive jurisdiction clause in the contract would not bar either party to initiate an insolvency proceeding before the NCLT. The tribunal further held that an insolvency proceeding is different from an 

Facts

In the Excel case, Benteler Trading International GMBH i.e. the foreign creditor, and Excel Metal Processor Ltd i.e. Corporate debtor having principal office in Bombay, had entered into a contract. The contract had an exclusive jurisdiction clause as per which all disputes were to be decided by courts in Germany. On 27^th March 2016, the Appellant committed a default in making payments to the tune of $1,258,219.42. After serving notice to the Appellant, the Respondent, i.e. foreign creditor, approached the Mumbai bench of the NCLT and submitted an application under Section 9 to initiate an insolvency proceeding against the appellant. The Mumbai bench of the NCLT admitted the application. 

However, the Appellant moved to the appellate tribunal challenging this admission of application. It argued that as per the agreement between the parties and as the Respondent’s office was located in Germany, only German courts had jurisdiction to hear disputes between them, including initiation of insolvency proceedings. Thus, a jurisdictional challenge was raised before the appellate tribunal by the Appellant.

Issue

The issue before the court was whether the exclusive jurisdiction clause in the contract barred initiation of insolvency proceedings under section 9 before the NCLT?

Judgement and Analysis

The appellate tribunal, while dismissing the claim of the Appellant, sought to make a distinction between a litigation suit and a Corporate Insolvency Resolution Process. In doing so, it referred to the judgement of the appellate tribunal in the case of Binani Industries Ltd v. Bank of Baroda & Anr. In that case, it was held that an insolvency proceeding is not a ‘suit’ or a ‘money claim’. It is neither a sale, nor an auction but a resolution of the corporate debtor as a going concern. It was pointed out that the objective of an insolvency proceeding is just to get a resolution so that the corporate debtor does not default on its dues. 

The appellate tribunal noted that as per Section 60(1) of the I&B Code, the adjudicating authority with respect to insolvency resolution and liquidation of corporate person is the NCLT bench having territorial jurisdiction over the area in which the registered office of the corporate person is located. In the Excel case, since the registered office of the Appellant was within the territorial jurisdiction of the Mumbai bench of the NCLT, the appellate tribunal held that the Mumbai bench of NCLT will have territorial jurisdiction over the Appellant. Thus, the order of the Mumbai bench of NCLT admitting the section 9 application was upheld.

The enactment of the Insolvency and Bankruptcy Code, 2016 was itself aimed at addressing the problem of sick units in a time bound manner by reorganising and achieving a resolution. Several insolvency laws and statutes were consolidated into a single. The intention was to strive for restructuring the corporate firm in case of insolvency through resolution. Thus, the code provided for creation of a committee comprising the creditors of the firm who would then work out a resolution plan. This is why it is argued that an insolvency proceeding is more of a settlement among the creditors as opposed to a dispute in a court of law. 

While the legislation indeed came as a ray of hope and helped resolve a number of cases, there are still several lacunae in the code that remain unaddressed. The consequence is practical impediments faced by parties leading to unforeseen delay in the process. This is precisely the reason that several corporate insolvency proceedings take years to conclude despite the strict timeline that the code provides. 

Often these issues are addressed by the court though judicial interpretation of the provisions in the code. Previously, the legal framework governing corporate insolvency, i.e. I&B Code, did not even recognise foreign creditors as having a right to approach the NCLT to initiate a corporate insolvency proceeding. However, the supreme court in the Macquairie Bank Limited v Shilpi Cable Technologies Ltd. explained the meaning of the word ‘person’ in the code to include person residing outside India. As a result, now foreign creditors also have the same right to initiate or participate in an insolvency proceeding as is available to a domestic creditor. While this was one such example, similar issues have been raised in different cases. Judicial pronouncement on these issues, along with the suggestions provided by the Insolvency Law Committee, have paved way for the various amendment that the code has seen in its short life span.

Amidst all the existing problem surrounding the I&B Code, the judgement of the Appellate tribunal in the Excel case comes as a relief to the creditors who can now initiate an insolvency application even when there is an exclusive jurisdiction clause in the contract. The judgement is also important as it marks a distinction between an insolvency proceeding and a litigation suit.

This article has been written by Prasad Hegde, a 4th year B.B.A. LL.B. (Hons.) student at Gujarat National law University, Gandhinagar.

Introduction:

The insolvency regime in India is still in its inceptive stage as it has not been too long since the Bankruptcy Law Reforms Committee submitted its  the foundation of the Insolvency and Bankruptcy Code, 2016 (Hereinafter “The Code”). The Code was formulated with the primary aim to facilitate and expedite the process of insolvency and bankruptcy and at the same time allow continuous and effective negotiations between the corporate debtor and the corporate creditor in order to come to an effective resolution plan. The enactment of the Code showed the desperateness in India to have a robust system to deal with insolvent companies although there already existed provisions for winding up in the Companies Act, 2013. 

The reason why the Indian economy demanded a robust law to deal with insolvent companies was because around 2015-16 Non-Performing Assets in Indian economy were on an all time high and the amount of money which the government was using in revamping Public sector banks were also exorbitant. Hence, this was the reason which led to the formulation of a comprehensive code to revive the stressed and NPA’s. The code was formulated with a dual intention of helping the corporate creditor to recover the loan and at the same time help the stressed corporate debtor in finding a way out through a resolution plan. 

IBC Amendment Act, 2017 & Section 29A

Originally when the code was enacted a “Resolution Applicant” was defined as “Any Person who submits a resolution plan to a resolution professional. Hence, a Resolution Applicant could technically be anyone i.e., a creditor, investor etc… Since the Section did not prohibit anyone from filing a resolution plan, it thereby led to promoters and related parties of the corporate debtor also filing a resolution plan. Hence, this shortfall in the law prompted for the insertion of Section 29A by way of an Amendment in 2017. 

Since, the introduction of Section 29A, the provision has disqualified persons from being resolution applicants who by their acts have contributed to the financial distress of the corporate debtor or who are undesirable due to various kinds of incapacities or is a “related party to any of the defaulting party. Roughly 10 categories of persons who are falling under the ambit of Section 29A of the code are disqualified in order to prevent them from making a lateral entry and at the same time protecting the interests of the corporate creditor from unscrupulous entities who try to benefit from the Corporate insolvency process thereby undermining the very objective of the code. 

2018 Amendment to Section 29A:

The 2018 Amendment to the code, has added more misery to prospective resolution applicants by defining the term “related party”. The definition of related party is very extensive with relation to individuals thereby bringing a large number of persons within the ineligibility criteria (Even spouses of defaulting promoters have been disqualified). Additionally as a welcome move “financial entities” have been excluded from the ineligibility criteria and limited exemptions have been given to “MSME’s” provided they are not wilful defaulters. 

Instances of Section 29A hindering the CIRP:

Bhushan Steel’s CIRP: In the famous Bhushan Steel insolvency case the promoters of Bhushan steel contested that Tata Steel UK, a foreign subsidiary of Tata Steel was fined by English Court in February 2018 under UK Act. The charging section [Section 33(1)(a)] had a provision of imprisonment for a term not exceeding twelve months, or a fine, or both. The Promoters tried to equate section 29A (d) of IBC, which deals with eligibility, stipulates has been convicted for any offence punishable with imprisonment for two years or more, with Section 33(1)(a) of the U.K Act. NCLAT held that Tata Steel UK, which is a separate legal entity from that of Tata Steel Ltd, does not attract the disability under Section 29A of the Code and for the said reason, Tata Steel Limited was eligible to file the Resolution Plan.

In the aforementioned case it can be seen that there was no real merit in invoking Section 29A. Perhaps, if Tata Steel was charged with some offence then it would have been a different case altogether. But here, Bhushan steel tried to apply the provision on a foreign entity which was in no way related to the filing of a Resolution plan by Tata Steel. Furthermore, Section 29A (d) prohibits the person who has been convicted and not the associate or subsidiary companies. The very basic Company law rule i.e., “Solomon Rule or the Separate legal entity rule” prohibits associate or subsidiary companies from falling within the ambit of Section 29A (d). Therefore, the action brought by Bhushan steel was merely to stretch the process for no good reason because if Tata Steel’s bid was to be accepted without any delay or litigation then it would have been better for Bhushan steel to come out of such a stressful position quickly. 

Electrosteel’s CIRP: In the Electrosteels case, Vedanta’s (which was one of the bidder) resolution plan was challenged on the ground that one of Vedanta’s affiliates in Zambia which was a unit of Vedanta’s UK-based parent Vedanta Resources Plc had been found guilty of violating certain environmental laws, punishable with two or more years in jail. This contention was later rejected by the NCLT and it approved Vedanta’s Rs 53.20 billion resolution plan. 

As seen in the case of Bhushan Steel, here Renaissance Steel (Another bidder of Electrosteel) failed to see that under Section 29A (d) of the Code, it had to be seen if a “Natural Person” was punished or not. But in the present case none of the Directors of Vedanta Ltd. or Vedanta Resources Plc were punished. Hence, even here it was a clear case where Renaissance Steel tried to stall the CIRP for no good reason despite already having a precedent in the form of “Bhushan Steel” which had cleared the air with regard to Section 29A (d).  

The UK Approach

The Graham Review into Pre-pack Administration (Report) in 2014 recommended the introduction of pre-pack pools. Under the Pre-Pack Pool system the assets of the corporate debtor/insolvent company would be purchased by the promoters or connected parties of the corporate debtor/insolvent company in secrecy. As the word ‘pre’ suggests, the ground work for preparing the resolution plan is carried out well before formal administration of the plan and carries with it certain limited benefit, such as preservation of jobs. This scheme would also increase transparency and ensure accountability when the assets of the corporate debtor are sought to be purchased by the defaulters themselves. 

Conclusion 

With regard to the Procedural aspects as seen in the above instances the invocation of section 29A makes the CIRP more complex, cumbersome and lengthy due to additional responsibilities vested on the RP to determine eligibility of applicants. This will have a material economic impact and will affect the recovery mechanism of the financial creditors by bringing down the ultimate financial and economic value of the plan. 

With regard to the substantive aspects, this provision has the potential to hinder innocent applicants who may be declared ineligible. In several instances when this provision was invoked liquidation was merely reduced to a probability. Hence, this provision impacts the very heart and soul of the code by having a negative impact on the CIRP because at the end of the day it is important to have a solution to both the stressed debtor as well as the creditor, so if there is anything which hinders such solution then such a provision of law has to be closely scrutinized. Even SBI Chairman Rajnish Kumar went on to say that Section 29A has been stretched too far and most of the litigation is because of this provision.

Further it is an accepted principal that all failures in business firms do not happen because of mismanagement or fraud and it can never be assumed that always it is the promoters or the top management who are involved in the business failure. There are certain external environmental factors which contribute to failure of business. Thus, it is essential to differentiate between wilful defaulters and those who have only defaulted because of certain circumstances which were not within their control. Therefore, there is an urgent need to bring necessary changes for the betterment of the CIRP.

ENDNOTES

[i] Section 5(25) of The Insolvency and Bankruptcy Code, 2016, http://www.mca.gov.in/Ministry/pdf/TheInsolvencyandBankruptcyofIndia.pdf. 

[iii] State Bank of India v. Electrosteel Steel Limited, CP No. (IB) 361 NCLT Kolkata (2017), http://164.100.158.181/interim_orders/kolkata/21.07.2017/1.pdf. 

[iv] Insolvency under Section 29A: Pre-Pack Pools and Independent review of Connected Party Sales, IndiaCorpLaw (April 3^rd, 2018), https://indiacorplaw.in/2018/04/insolvency-section-29a-pre-pack-pools-independent-review-connected-party-sales.html

[v] Dr Sandra Frisby, ‘A preliminary analysis of pre-packaged administrations’ 44 Nottingham University Law Review 1, 31 (2007), https://www.iiiglobal.org/sites/default/files/sandrafrisbyprelim.pdf

[vi] IBC Section 29A needs more clarity, says SBI’s Rajnish Kumar, Livemint (Jan. 20, 2019), https://www.livemint.com/Companies/k26KgtfptaJImEdVZCx13L/SBI-chairman-says-interpretation-of-Section-29A-of-IBC-stret.html 

This article has been written by Amiya Krishna Upadhyay, a 2nd year student of National Law University, Odisha.

Last year, the Union Ministry of Law and Justice introduced a bill in the Lok Sabha known as the Arbitration and Conciliation (Amendment) bill 2018, with an aim to amend the Arbitration and Conciliation Act of 1996.The minister of Law and Justice, Dr. Ravi Shankar Prasad requested the house to pass the bill unanimously and said that the bill was a momentous legislation in the history of law in India. “We want India to become an important hub for domestic and international arbitration. We are taking a giant leap in favor of institutional arbitration. Unless we have a strong element of the institution, of judges, regulatory mechanism, arbitration will not take place at its peak.”– he said. He also said that the goal of this bill was to end the imperialism and monopolization of arbitration proceedings globally by countries like Britain and Singapore.

Recommended in the Sri Krishna Committee Report, this bill aims to establish a self-acting body known as the ACI (Arbitration Council of India), which will give suggestions and guidelines for developing institutional arbitration in India. Extensively, this report suggested the constitution of the council inter alia to (i) make policies regarding the grading of the arbitral institutions and reviewing those policies on a periodic basis (ii) provide the accreditation of arbitrators in those arbitral institutions (iii) bring legislative amendments in the government to promote and strengthen arbitral institutions in India (iv) the additional function of the ACI includes ensuring satisfactory level of arbitration and conciliation by establishing uniform professional norms in respect to matters related to it.

The report suggested that the ACI should be an autonomous body with least governmental intervention. It also suggested that the council should authorize professional institutes such as Chartered Institute of Arbitrators who would be responsible for the accreditation of arbitrators. However, all these suggestions were dropped by the central government. The bill hands over the power of grading of the arbitrators to the council which creates an issue of conflict of interest. Now, the question arises that whether the council could also make the accreditation of arbitrators?

 In arbitration, parties are free to appoint the arbitrator, who will settle the dispute. However, there are situations when a party to the agreement doesn’t participate in the appointment of the arbitrator. Hence, in such a scenario, the other party will have to approach an impartial body, i.e. court under Section 11 of the Arbitration and Conciliation Act and the concerned court will appoint the arbitrator. Post this bill, the parties failing to designate the arbitrator consensually will have to approach the arbitral institutions, designated for this purpose by the High Court and the Supreme Court, instead of approaching these courts directly. This is a significant step in empowering arbitral institution and decreasing the burden on court and result into speedy appointment of arbitrator. In Sun Pharma Industries Ltd vs. Falma Organics, the Supreme Court directed Mumbai Centre of International Arbitration to designate an arbitrator in an international commercial dispute.

The pool of arbitrator of an arbitral institution will be decided by Arbitration Council of India. The main problem or lacuna with the bill is the composition of ACI under Section 43C of the Arbitration and Conciliation Act. The council would consist of seven members, all of which would be designated directly by the central government itself, which means that in any dispute between two parties in which the government itself is a party, there’s a possibility that the decision made can be biased and in favor of the government. The main loophole in the bill is the accreditation or authorization of the arbitrators by the council. There’s a possibility that the council could appoint arbitrators of their own choice, who would in return work in the best interests of the government because the council itself, has been appointed by the central government. 

However, the impartiality of the arbitrators could not be challenged merely on the ground of apprehension of biasness. If an arbitrator had been appointed by the central government then it cannot be surely concluded that the arbitrator will be biased towards it. The ground is a mere suspicion of bias. It becomes a very complex process to prove the actual biasness. It is difficult to criticize the arbitrators for being partial merely on the ground that they had been appointed by the central government. Although, there is a chance that the appointed arbitrator, in exchange of his appointment might favor the government in future, since the government is the biggest litigant in arbitration. Because of such discrepancies and ambiguous, anomalous and irrelevant details, individuals and private bodies may not prefer opting for arbitration as a mode of dispute redressal.

In some cases government has to take the consultation of the CJI but that advice is not mandatory to adhere to. The ACI is comprised of:

1) Central government nominated arbitration practitioner who has knowledge and experience in domestic and international institutional arbitration.

2) On the non-binding advice of the chairperson, central government appointed academician having teaching experience in ADR laws.

3) Secretary or his representative equal or above the rank of Joint Secretary in the Department of Legal Affairs, Ministry of Law and Justice.

4) The Secretary to the Government of India in the Finance Ministry’s Expenditure department or a representative of him who is not below the rank of Joint Secretary.

5) One delegate from Ministry of commerce and industry, chosen on rotational premise by the Central Government.

6) Chief Executive Officer who is also appointed by the central government.

7) an individual, who has been, a Judge of the Supreme Court or, Chief Justice of a High Court or, a Judge of a High Court or an eminent person, having unique information and insight into the conduct or administration of arbitration who is also delegated by the central government in counsel with the Chief justice of India, again, whose advice will not be binding upon the central government. 

The above mentioned seven council members are appointed by the Central government. Hence, it is reasonable to infer that if the council had been appointed by a specific body then it would accredit the arbitrators who it thinks, would work in the best interests of that body i.e. the central government. The general norms mentioned in the schedule 8 of the Arbitration act includes, that the arbitrator should be neutral and impartial and refrain from indulging into any kind of monetary business or any other relations that might compromise impartiality. Going against the recommendations of the report, ACI only consists of people nominated by the government which again raised an issue of conflict of interest and the independence of arbitral institutions and arbitrators. In short, ACI has been given much wider powers to frame policies and regulations and have been given an implied control over arbitrators which totally goes against the basic provision of arbitration, i.e. party sovereignty.

Section 12 of the 1996 Arbitration Act lay down the norms on which an arbitrator can be confronted or questioned. Under this provision, the arbitrator has to reveal the situations which can question his or her impartiality. It specifically sets forth the independence of arbitrator as a ground for challenging the arbitrators, in addition to qualification of the arbitrators as agreed to by the parties. In addition to this, the Arbitration and Conciliation (Amendment) Act, 2015 brought certain significant amendments in the “grounds for challenge” of an arbitrator by amending section 12 and adding Schedule 5 and Schedule 7. These provision when read together provides certain grounds on which the impartiality and independence of the arbitrator could be checked. The Arbitration Bill 2018, on the other hand, although mentions that the arbitrator should be neutral and impartial but fails to mention any guidelines on which neutrality and impartiality can be guided. 

CONCLUSION

This bill was introduced and passed with an aim to form India into a hub for international and domestic arbitration and strengthen its inclination towards it, bringing an end to the monopolization of arbitration globally. But, a few provisions of the bill are definitely against the principle of arbitration and the government intends to use those provisions for their own benefit. Having government intervention and influence in a body where people come for justice, is totally wrong and is an abridgement of fundamental right to equality. This issue, however, becomes very complex in nature, since there could not be any proof of ‘actual biasness’ on the arbitrator’s end. A possible way of solving this problem is to delegate the power of appointment to an independent and unbiased third party i.e. the judiciary. If the judiciary is given control of the appointment of the arbitrators and the council, then there could not be any scope of biasness on their part because they don’t have any inclination towards the government profits. The legislation anyway needs further refinement and lucidity with respect to the designation of the arbitrators and the appointment of the members of the ACI (Arbitration Council of India).

This article has been written by Shiphali Patel, a 4th year B.A. LL.B (Hons.) student at Dr. Ram Manohar Lohiya National Law University, Lucknow.

BACKGROUND
A strong banking sector is an important prerequisite for a strong economy. The Indian banking sector has been crushing under the Non-Performing Assets (“NPA”), a disastrous problem in India. In order to tackle the burgeoning problem of the NPAs, the government has on several occasions infused capital to the Public Sector Banks using taxpayers’ money. However, it is all more important to keep these banks stable so that the growth of the economy is not negatively hampered. Therefore the RBI and the Government have taken some correctional steps like SARFESI Act and Corporate Debt Restructuring, to improve it but the results have always reflected a very unsatisfactory story. Instead of plunging, NPAs are surging at an alarming level. High-profile cases like that of Vijay Mallaya and Nirav Modi acted like a spark to this gunpowder for RBI to release a circular on 12^th Feb 2018 (“Previous Circular”) which included Insolvency and Bankruptcy Code (“IBC”) in the resolution process of the stressed assets. Under the section 35 AA of the Banking Regulation Act, 1949 RBI directed banks to declare accounts as NPA if they are in default even by one day and to initiate insolvency proceeding against the borrowers if a Resolution Plan (“RP”) is not implemented within 180 days after the declaration. The circular came out as very stringent and arbitrary. It was declared ultra-vires the power of RBI under sec 35 AA by the Supreme Court (“SC”) in the case of Dharani Sugars and Chemicals Ltd. v. UOI.[1] RBI issued the revised framework on 7^th June 2019 (“Revised Framework”) which filled in the loopholes of the Previous Circular yet maintaining its spirit. 

INTRODUCTION

The Previous Circular was a general circular, applicable to all defaults of loans above INR 2000 crore, without going into the different nuances of each individual case or sector, following a one-size-fits-all approach. It applied a 180-day limit to all sectors of the economy without going into the special problems faced by each sector hence, treating un-equals equally. For example, the Previous Circular would treat a Cement Factory and a Thermal Power Plant in the same way. If applied mechanically, the Previous Circular would have pushed diverse projects further into trouble without any hope of recovery. All these issues were discussed first by the Allahabad High Court in the case of Independent Power Producers Association of India v. UOI [2] and then finally the SC in the case of Dharani Sugars [3] declared the Previous Circular arbitrary and ultra-vires. RBI took the suggestions made by the courts and the banks and released the Revised Framework. In this background the author has attempted to compare the two set of RBI guidelines and bring out how the shortcomings of the Previous Circular have been eliminated by the RBI in their Revised Framework. 

COMMENT

One of the salient features of the Previous Circular was that an account had to be declared an NPA from the very first day of its default. This feature was done away with in the Revised Framework giving the lenders as well as the borrowers some breathing space. The Revised Framework has also included the Term Financial Institution, Small Finance Banks, systematically important non-deposit and deposit-taking Non- Banking Financial Companies therefore, streamlining the process of resolution. The other reason for seeing the previous circular as arbitrary was largely because of its 180-day timeline. It said that the only way of resolving a stressed asset outside IBC was if the RP for that asset is implemented within 180 days. The 40^th Parliamentary Standing Committee Report observed that a 180-day period is too less and it would doom all the borrowers to National Company Law Tribunal (“NCLT”). The Revised Framework came up with a 30 day Review Period as a solution to this problem. It said that once an account has been declared an NPA, the lenders need to review the borrowers account for 30 days. In this time they can strategize the RP or can even choose to initiate insolvency proceeding. 

The other loophole the previous circular had was that a resolution without IBC could have happened only if the RP was agreed by all the lenders i.e, 100% concurrence. Hence, a lender whose stake is as miniscule as 1 per cent can also thwart a resolution process taking place without an insolvency code. This stringent and arbitrary action was removed in the Revised Framework by introducing the Inter-Creditor Agreement (ICA) that all creditors will have to enter into during the Review Period. This agreement would give ground rules for the implementation of the RP on both the borrowers and the lenders. It said that any decision agreed by the lenders representing either 75% of the total outstanding debt or 60% in number would be binding upon all the lenders. Any dissenting lenders under the RP would be paid at least the amount which they would receive on liquidation. 

While working on the Revised Framework, RBI kept in mind the reason why the Previous Circular was declared ultra-vires. The SC pointed out that under the section 35AA of The Banking Regulation Act, 1949 RBI cannot give a general instruction to the banks, as was given in the Previous Circular, to initiate the insolvency proceeding. Therefore, in the Revised Framework, RBI introduced an incentive-disincentive system. In this system, if an RP is not implemented within 180 days after the Review Period then the bank would be dis-incentivised through additional provisioning of 20 per cent after 180 days and 35 per cent after 365 days in the interim. Meanwhile, if the insolvency proceedings have been initiated then the banks can return the additional provision, half of it once the insolvency proceeding is initiated and another half once they are admitted. This improvisation gave flexibility to the lenders rather than following a universal diktat of sending all stressed assets to the NCLT after six months. It is noteworthy that after the SC judgement the RBI at the time of issuance of the Revised Framework also issued a press release clarifying that the RBI has reserved its power to issue specific directions to banks/financial institutions to refer a defaulting borrower to the resolution process under IBC in terms of Section 35AA of the Banking Regulation Act 1949.

CONCLUSION

It can be clearly seen that the RBI has kept in mind the shortcomings mentioned by the banks, institutions and the SC regarding the Previous Circular. The Revised Framework came out to be more pragmatic as it gives banks a fair choice between the resolution of the stressed assets either by requisite majority or through NCLT. The one-day-default-NPA declaration plus the 180-day tight timeline, both these features of the Previous Circular created a lot of chaos and led almost every borrower to the gates of NCLT. The 30 day Review Period gives banks the headroom where they can take important decisions like whether or not they want to initiate insolvency proceedings against a particular borrower. Hence, RBI finally treats banks like adults and allows them to decide what is best for them. 

Though RBI is giving banks the space to make their own decisions, its Revised Framework makes sure that these decisions are efficient and quick. Hence, though it did not directly give a universal instruction to the banks it did come up with an incentive-disincentive recommendation regarding the initiation of the insolvency proceeding. RBI makes it work in the classical way of stick and carrot where the additional provisions are the stick and their return on the initiation of the insolvency proceedings is the carrot. The only problem which appears in this pragmatic Revised Framework is that how will it deal with a situation where a dissenting lender files an insolvency proceeding during the 180-day implementation period. Perhaps, the solution would come up via judges as we can expect litigation on this issue. 

Overall the Revised Framework strikes a balance between the freedom of banks and the authority of RBI. This move has been welcomed by the lenders as it provides room for resolution of stressed assets outside IBC without compromising upon its efficiency. It saves time and prevents value erosion of assets which can happen in an obligatory insolvency process.

ENDNOTES

[1] (2019) 5 SCC 480.

[2] 2018 SCC OnLine All 4611.

[3] Dharani Sugars and Chemicals Ltd. v. UOI, (2019) 5 SCC 480.

This article has been written by Gautami Govindrajan, a 4th year student at National Law University, Jodhpur.

The Bombay High Court rendered a judgement clarifying the law regarding option contracts on 27 March, 2019. [1] The judgement could have long-term implications in terms investments in India, as well as commercial contracts. This article discusses the judgement and analyses its impact. 

Introduction

The Securities Contracts (Regulation) Act, 1956 (‘SCRA’) initially prohibited options in securities, as the SEBI felt that they were too speculative in nature. While this ban was removed by the Central Government in 2005, the route taken by the SEBI has been different. The tide began to turn in 2013, when the SEBI released a circular which permitted options in shareholder’s agreements and articles of association of companies and bodies corporate, subject to certain conditions. [2] The SEBI clarified that such option contracts would have to be in compliance with the Foreign Exchange Management Act, 1999 and RBI regulations. The clarification that the given circular would not validate or affect any contracts entered into prior to the date of the circular indicated that such contracts were impermissible prior to the notification. The unclear position of law has led to considerable confusion, particularly with regard to foreign investors. 

Factual Matrix of the Case

The petition arose before the Bombay High Court against the award of a single arbitrator regarding a dispute arising out of a share purchase agreement (“SPA”).  The Petitioner, which ran a business of financial services, entered into an agreement with the Respondents, whereby the Petitioner purchased 2,28,374 shares of Respondent No. 2 held by Respondent No. 1 for a total consideration of Rs. 20 crores. Respondent No. 1 and 2 collectively form the Percept Group; wherein Respondent No. 1 was a private company and one of the promoters of Respondent No. 2, a public company. One of the conditions under the SPA was that Respondent No. 1 had to accomplish the restructuring of the entire Percept Group by not later than 31 December 2007, andhad to provide the Petitioner documents proving such restructuring had been completed. However, the Respondent failed to do so within the original period in the agreement, and even after extensions agreed upon by the parties. As per clause 8.5 of the SPA, on account of non-fulfilment of this condition, the Petitioner had an option to re-sell the shares it held to Respondent No. 1 at a price which would give it an internal rate of return of 10% on the original price; or to continue as a shareholder subject to some undertakings from Respondent No. 1. When Respondent No. 1 refused to comply with the Petitioner in its exercise of the option, the latter invoked the arbitration agreement in the SPA. The Petitioner claimed that the Respondent had breached its obligations under the SPA, and thus it was entitled to invoke the option enshrined in clause 8.5 of the Agreement. However, while the arbitrator held that the Respondent was indeed in breach of its obligations, he held that the transaction of share purchase options was illegal on account of contravening the SCRA. Thereafter, the Petitioner presented a petition to the High Court to adjudicate on the dispute.

Contentions of the Parties

The Petitioner argued against the arbitrator’s finding that the share purchase option was illegal on account of being a forward contract prohibited by Section 16 of SCRA. The Petitioner contended that such a finding was completely contrary to the law as stated in the case of MCX Stock Exchange Ltd. v. SEBI(“MCX case”) [3]. It was also submitted that the contract between the parties could not be a contract in derivatives as prohibited under S. 18-A of the SCRA, and was thus valid.

The Respondent contended that the option in the contract was in contravention of the law as it was a contract in derivatives not fulfilling the conditions of S. 18-A of the SCRA. S. 18-A requires that a contract in derivatives should be traded on a recognized stock exchange or settled on the clearing house of any recognized stock exchange or between parties and on terms specified by the Central Government by notification in the official gazette, in accordance with rules and bye-laws of any recognized stock exchange, to be valid in law. Since these conditions were not fulfilled, it was argued that the option fell foul of the prohibition in S. 18-A. Further, the Respondents contended that the law in the MCXcase would not apply as the facts thereof were clearly distinguishable from the facts of the dispute. It was argued that since the present contract contained a postponement of purchase of the shares after the option was exercised, it did not constitute a spot delivery and was thus illegal. 

Findings of the Court

The Court relied on the law as laid down in the MCX case to hold that the arbitrator’s finding that the present contract constituted a forward contract was “an impossible view.” In the MCX case, the court relied on the case of Jethalal C. Thakkar v. R.N. Kapur, [4] wherein two situations were drawn out. The first is where there is a present obligation under a contract, but the performance of the obligation is postponed to a later date. The second is where the obligation arises only upon the fulfilment of some obligation or the occurrence of some contingency, therefore giving rise to an obligation only in the future. An option contract, the court in MCX held, fell in the second situation, and there was no obligation present until the contingency arose. Similarly, in the present dispute, the Court held that there was no contract until the condition stipulated arose, and the Petitioner exercised its option accordingly. Only when both these conditions were fulfilled would the contract arise.Therefore, it could not be said that the option contract was a forward contract. The Court thus distinguished option contracts from forward contracts. It also dismissed the argument of the Respondents that the present contract did not constitute spot delivery, as there was nothing to suggest that there would be any time gap between the payment of the price, and the delivery of shares. It could not be claimed that spot delivery was not being done simply because the option to complete repurchase of securities is given till a particular date.

The court then discussed the validity of option contracts as under S. 18-A of the SCRA. [5] The court observed that S.18-A by itself could not have the effect of making a contract invalid or illegal, as it is by nature a non-obstante clause.While an option contract could technically fall under the ambit of derivatives as under S.18-A, the court held, that by itself would not render it impermissible or illegal. The prohibition under law is not on entering into an option contract itself. It is on the trading or dealing in an option as a security. The embargo under S.18-A is attracted only when the option is traded or dealt with as a security. Moreover, a contract cannot be said to be a contract in derivatives simply because it contains an option to buy or sell securities. Therefore, option contracts are valid under the law.Entering into a contract which is merely an option that may or may not be exercised would not amount to making a contract in derivative, and is not prohibited.

Long-term Implications: Analysing the effect of the judgement

The Bombay High Court through this judgement does away with a lot of the ambiguity surrounding option contracts. There has been some controversy about the validity of option contracts due to claims that it is a contract in derivatives. Conflicting interpretations of the provisions of the SCRA and SEBI circulars have muddied the waters regarding these contracts. By upholding the validity of option contracts, the Bombay High Court has settled this question of law. Significantly, the Court has also brought out the difference between forward contracts and option contracts. By analysing the difference between the two on a conceptual level, the Court has prevented any more confusion on this front.The Court has chosen not to deviate from settled judicial precedent by relying on the MCX case, which applies squarely to the factual matrix of the dispute in Edelweiss. The analysis followed by the court is consistent with that in the MCX case, and leads to a clearer picture as to the validity of option contracts.By clarifying the true import and effect of Section 18-A of the SCRA, this judgement eliminates any other interpretations that could raise further uncertainty regarding the issue.

The judgement also is a welcome one for investors, as put and call options are popular exit mechanisms for investors in India. Option contracts are used very often by investors, and offer several advantages such as cost effectiveness, risk management and flexibility. With the upholding the validity of options contracts, investors can heave a sigh of relief and continue to enjoy the flexibility of options.

ENDNOTES

[1] Edelweiss Financial Services Ltd. v. Percept Finserve Pvt. Ltd. and Ors., Arbitration Petition No. 220 of 2014: 2019 SCC OnLine Bom 732, https://bombayhighcourt.nic.in/generatenewauth.php?auth=cGF0aD0uL2RhdGEvanVkZ2VtZW50cy8yMDE5LyZmbmFtZT1PU0FSQlAxNDgxMTMucGRmJnNtZmxhZz1OJnJqdWRkYXRlPSZ1cGxvYWRkdD0wMi8wNC8yMDE5JnNwYXNzcGhyYXNlPTE2MDYxOTExNDYzMg==. 

[2] Notification No. LAD-NRO/GN/2013-14/26/6667 dated October 3, 2013, https://www.sebi.gov.in/sebi_data/attachdocs/1380791858733.pdf. 

[3] MCX Stock Exchange Limited v. Securities & Exchange Board of India, (2012) 114 Bom LR 1002: (2012)2 Comp LJ 473(Bom), https://bombayhighcourt.nic.in/generatenewauth.php?auth=cGF0aD0uL2RhdGEvanVkZ2VtZW50cy8yMDEyLyZmbmFtZT1PU1dQMjUxOTEwLnBkZiZzbWZsYWc9TiZyanVkZGF0ZT0mdXBsb2FkZHQ9JnNwYXNzcGhyYXNlPTE2MDYxOTExNTEzOA==. 

[4] Jethalal C. Thakkar v. R.N. Kapur, AIR 1956 Bom 74, https://indiankanoon.org/doc/350630/.

[5] The text of the Section is as follows-

“18-A: Contracts in derivative.-Notwithstanding anything contained in any other law for the time being in force, contracts in derivative shall be legal and valid if such contracts are(a) traded on a recognized stock exchange; (b) settled on the clearing house of the recognized stock exchange; or (c) between such parties and on such terms as the Central Government may, by notification in the Official Gazette, specify, in accordance with the rules and bye-laws of such stock exchange.”