Before getting deeper into the Topic, let us first understand the meaning of certain concepts:
Liquidation refers to the process of selling off all the assets of a business, it’s typically done when a company is closing down or going bankrupt. The assets are sold to pay off creditors and shareholders, and any remaining funds are distributed to the stakeholders according to their priority in the capital structure. There are different types of liquidation, including voluntary liquidation, which occurs when the company's shareholders decide to voluntarily close down the business, and compulsory liquidation, which is typically initiated by creditors or the court when a company is unable to pay its debts.
During the liquidation process, an appointed liquidator oversees the sale of assets and the distribution of funds. The liquidator is responsible for ensuring that the process is conducted fairly and according to relevant laws and regulations.
It's important to note that liquidation can have significant implications for various stakeholders, including employees, creditors, and shareholders. Employees may lose their jobs, creditors may receive only a portion of the money owed to them, and shareholders may lose their investments entirely.
Secured creditors are lenders or financial institutions that have a legal right to specific assets of a borrower in the event of default. These assets, known as collateral, serve as security for the loan, providing the lender with a way to recoup their investment if the borrower fails to repay the loan as agreed. When a borrower defaults on a loan, secured creditors have the right to seize and sell the specified collateral to recover the outstanding debt. The collateral could be in the form of real estate, equipment, inventory, or other valuable assets that have been pledged as security for the loan. In the context of insolvency or bankruptcy, secured creditors are typically given priority over unsecured creditors in the repayment hierarchy. This means that they have a higher likelihood of recouping their investment compared to unsecured creditors if the borrower's assets are insufficient to cover all debts.
Insolvency Resolution Process (IRP) is a legal process that provides a resolution framework for companies facing financial distress and insolvency. The insolvency resolution process is designed to facilitate the revival of the company as a going concern or to ensure a fair and orderly liquidation to maximize the value of the company's assets.
Section 53 of Insolvency and Bankruptcy Code
Section 53 of the Insolvency and Bankruptcy Code (IBC) 2016 pertains to the distribution of assets in case of liquidation. It essentially outlines the order of priority in which the proceeds from the sale of the liquidated assets of the corporate debtor are to be distributed among the stakeholders. This distribution mechanism is critical as it determines who gets paid first and how much they receive in case of insolvency. The costs related to the insolvency resolution process are given the highest priority and are to be paid in full. These costs include the fees of insolvency professionals and any other expenses incurred during the resolution process.
Secured creditors are given the next priority. They are entitled to receive proceeds from the liquidation of assets up to the value of their security interest. Any remaining claims after this realization are treated as unsecured claims.
Dues to the employees of the company, including wages and other amounts due, are given priority next, subject to a cap and to a limit of 24 months of unpaid dues.
Any remaining debts to financial creditors, including unsecured and secured debts that remain unpaid after the realization of the secured debts, are to be repaid.
Dues to the government such as taxes and other statutory dues come next in the priority list.
Any remaining debts and dues to other unsecured creditors are to be paid off.
In the order of priority, preference shareholders are next in line to receive their share, subject to the terms of the issue of preference shares.
Equity shareholders are at the bottom of the priority list. They will receive a share of the proceeds, if any, only after all other dues and obligations have been paid off.
The purpose of this order of priority is to ensure that in the event of liquidation, the claims of certain stakeholders, particularly those related to the ongoing functioning of the company such as employees' wages and the costs of the resolution process, are given priority over the claims of others, such as shareholders. This ensures a fair and systematic approach to the distribution of assets during insolvency proceedings.
PTC India Financial Services Ltd. Vs. Vikas Prakash Gupta RP
The application is filed by PTC India Financial Services Limited against the Liquidator and SBI, challenging the distribution of proceeds from the sale of the corporate debtor under liquidation. M/s. Indo Unique Flame Limited, the third respondent, has also filed a similar application against the same respondents.
In this context, "challenging the distribution of proceeds from the sale of the corporate debtor under liquidation" refers to the action taken by PTC India Financial Services Limited to dispute or contest the way in which the funds obtained from the sale of assets or property of a company that is undergoing liquidation are being divided or allocated among the creditors and stakeholders involved.
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When a company undergoes liquidation, its assets are typically sold off to generate funds that can be used to repay creditors and fulfill outstanding financial obligations. However, disputes can arise regarding the distribution of these funds among the various parties involved in the liquidation process, such as creditors, shareholders, and other stakeholders. PTC India Financial Services Limited is contesting the manner in which the funds are being distributed, possibly claiming that the distribution is unfair, unlawful, or not in accordance with the established legal procedures. They may be seeking a fairer or more equitable distribution of the proceeds from the sale of the company's assets.
In the stakeholders' meeting dated 28.09.2022, it was decided to distribute the proceeds from the sale of assets of the corporate debtor based on the inter se ranking of charges. Consequently, the liquidator gave the full amount to SBI, the first charge holder among the secured financial creditors. The distribution was to be based on the priority ranking of charges, meaning that the funds would be allocated according to the specific legal priority of the various creditors' claims against the assets.
Consequently, the liquidator responsible for managing the liquidation process proceeded to give the entire amount to the State Bank of India (SBI). This action was taken because SBI was identified as the first charge holder among the secured financial creditors. In insolvency or liquidation scenarios, certain creditors may hold different levels of priority based on the type and timing of the security interest they hold over the assets of the company. The first charge holder, in this case, typically implies that SBI holds the highest priority claim over the assets, making it the first in line to receive payment from the proceeds of the asset sale.
This approach is in line with the usual legal practice of prioritizing the repayment of secured debts, where creditors holding higher-ranking charges are entitled to be repaid in full before the claims of lower-ranking creditors are considered.
PTC India Financial Services Limited alleged that the act of the liquidator contradicts Section 53(1) of the IBC, 2016, as the sale proceeds were distributed to only one secured financial creditor, SBI, without considering other secured creditors, including the applicant.
The applicant argued that Section 53(1) of the IBC does not specify any inter se ranking among secured financial creditors, and all such creditors are considered in one category without any specific hierarchy mentioned. PTC India Financial Services Limited is alleging that the actions of the liquidator were in contradiction to Section 53(1) of the Insolvency and Bankruptcy Code (IBC) of 2016. This section of the IBC pertains to the distribution of assets in case of insolvency or liquidation. PTC India Financial Services Limited is asserting that the distribution of the sale proceeds from the assets was improperly carried out, as it only favored one secured financial creditor, SBI, without considering the interests of other secured creditors, including PTC India Financial Services Limited itself.
The applicant is arguing that Section 53(1) of the IBC does not specify any particular inter se (among themselves) ranking among secured financial creditors. According to their interpretation, all such creditors should be considered within the same category without any specific hierarchy mentioned in the law. Therefore, PTC India Financial Services Limited contends that the liquidator's decision to distribute the entire amount to SBI alone, without considering the interests of other secured creditors, including themselves, goes against the provisions of the IBC.
The applicant relied on the judgment of the Hon’ble NCLAT dated 26.05.2022 in the matter of Oriental Bank of Commerce Vs Anil Anchalia and Anr. (2022) NCLAT. The respondents relied on Section 48 of the Transfer of Property Act, 1882, asserting that the claim of the first charge holder prevails over the claim of the second charge holder.
Decision of the Adjudicating Authority:
The analysis conducted by the Adjudicating Authority reveals a comprehensive examination of the pertinent provisions, particularly Section 53(1) and Section 53(2) of the Insolvency and Bankruptcy Code (IBC). Based on this analysis, the Adjudicating Authority arrived at certain key conclusions that are crucial to the resolution of the dispute at hand.
Firstly, the Adjudicating Authority determined that Section 53(1) of the IBC does not acknowledge or establish any specific hierarchy or ranking of charges among financial creditors that existed before the initiation of the Corporate Insolvency Resolution Process (CIRP) for the purpose of distributing the proceeds from the sale during the liquidation process. This implies that all such creditors are to be treated equally in terms of the distribution of the liquidation proceeds, without any predetermined prioritization based on their charges.
Secondly, the Adjudicating Authority emphasized the significance of Section 53(2), which specifies that the liquidator must disregard any contractual arrangement between recipients under Section 53(1) if such an arrangement disrupts the established order of priority. This implies that any agreements or arrangements between creditors with equal ranking, which could potentially disrupt the prescribed order of priority in the distribution process, should not be considered by the liquidator.
Additionally, the court noted that Section 53(1) of the IBC distinctly defines the different classes and the order of the waterfall mechanism, without providing any provision for the creation of additional subclasses. This reiterates the point that the law doesn't allow for the creation of separate categories or subclasses among the creditors during the distribution process.
Based on this analysis, the court allowed the application and directed the following actions:
The directive from the court for the second respondent, State Bank of India (SBI), to reimburse the amount as per their commitment to the liquidator, as mentioned in the minutes of the Stakeholders' Consultation Committee (SCC) meeting on October 7, 2022, signifies that the court is ordering SBI to return or refund the specific amount they had previously agreed to provide or had already received in the context of the liquidation proceedings.
Additionally, the court has instructed the liquidator to re-evaluate and redistribute the funds to all secured financial creditors, treating them equally without any preference based on the priority of charge. This means that regardless of the order of priority or ranking of the charges, all secured financial creditors should be treated on an equal footing during the distribution process.
Essentially, the Adjudicating Authority has emphasized the principle of equitable treatment among secured financial creditors, underlining that no particular creditor should receive preferential treatment over others solely based on the priority of their charge. This decision underscores the importance of ensuring fairness and impartiality in the distribution of proceeds during the liquidation process, aligning with the principle of equality among the creditors involved.
