Critical Analysis of Supreme Court Judgment in Greater Noida Industrial Development Authority v. Prabhjit Singh Soni

Recently, the Supreme Court in Greater Noida Industrial Development Authority v. Prabhjit Singh Soni¹, has recognised Greater Noida Industrial Development Authority as a secured operational creditor, on the strength of security created by operation of Sections 13, 13-A and 14 of the U.P. Industrial Area Development Act, 1976² (UPIDA). While the said judgment has clarified the law on three different questions, the finding regarding Greater Noida Industrial Development Authority (GNIDA) as a secured creditor is perhaps the one with the most far-reaching and potentially precarious ramifications on the corporate insolvency resolution process. This article proposes to critically analyse the judgment in line with the consequences that it would have on matters pertaining to resolution of corporate debtors engaged in real estate projects.

A. Brief summary of the judgment

In Prabhjit Singh Soni case³, the Supreme Court was faced with an appeal arising out of an order for rejecting applications filed by the appellant to recall the plan approval order and questioning the decision of the resolution professional (RP) in treating appellant as an operational creditor. Accordingly, the court dealt with four issues as enumerated in para 39 of this judgment.

On the issue of whether the adjudicating authority can recall an order of approval passed under Section 30(1)⁴, and whether such application was time barred, the court reiterated the findings in Union Bank of India v. Dinkar T. Venkatasubramanian⁵, National Company Law Appellate Tribunal (NCLAT) as upheld by the Supreme Court in Union Bank of India v. Financial Creditors of Amtek Auto Ltd.⁶, where the Court upheld powers of recall as being inherent powers of the Tribunal. It is important to note that the Supreme Court found this to be a fit case for recall of order approving the resolution plan considering inter alia the fact that the plan did not fulfil the conditions laid down in Section 30(2) i.e. by not giving appellant its minimum entitlement as a secured creditor. Thus, while deciding the third issue i.e. meeting requirement of Section 30(2), the Supreme Court noted as under:

54. In our view the resolution plan did not meet the requirements of Section 30(2) of the Insolvency and Bankruptcy Code (IBC) read with Regulations 37 and 38 of the Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Corporate Persons) Regulations, 2016⁷ (CIRP Regulations), for the following reasons:

(a) …

(b) The resolution plan did not specifically place the appellant in the category of a secured creditor even though, by virtue of Section 13-A of the U.P. Industrial Area Development Act, 1976, in respect of the amount payable to it, a charge was created on the assets of the corporate debtor (CD). As per Regulation 37 of the CIRP Regulations, 2016, a resolution plan must provide for the measures, as may be necessary, for insolvency resolution of the CD for maximisation of value of its assets, including, but not limited to, satisfaction or modification of any security interest. Further, as per Explanation 1, distribution under clause (b) of sub-section (2) of Section 30 must be fair and equitable to each class of creditors. Non-placement of the appellant in the class of secured creditors did affect its interest. However, neither National Company Law Tribunal (NCLT) nor NCLAT noticed this anomaly in the plan, which vitiates their order….

Thus, without canvassing a discussion on the “extent of security” or the applicability of Section 13-A of the UPIDA, the Court declared that GNIDA will be a secured creditor. It is imperative to note that this judgment will not only be applicable to GNIDA, but also to New Okhla Industrial Development Authority (NOIDA) and Yamuna Expressway Industrial Development Authority (YEIDA) directly, which also derive their powers from UPIDA. Furthermore, many other statutory authorities having similar provisions will also accordingly be treated as secured creditors.

B. Applicability of Sections 13 and 13-A of the U.P. Industrial Area Development Act, 1976

It is the view of the authors that the classification of GNIDA as a secured creditor in all matters, simpliciter on the strength of Sections 13 and 13-A of the U.P. Industrial Area Development Act, 1976 is not legally tenable, because of two reasons:

(a) There are conflicting judgments of concurrent Benches of the Supreme Court on the question of whether security can be created by operation of law i.e. in State Tax Officer v. Rainbow Papers Ltd.⁸, and Paschimanchal Vidyut Vitran Nigam Ltd. v. Raman Ispat (P) Ltd.⁹, which restricted rainbow papers to the facts of its case, both comprising of two-Judge Bench.

(b) Even if security can be created by operation of law, considering that the present Prabhjit Singh Soni case¹⁰, is delivered by a higher Bench of 3 Judges, it is not clarified whether the scope of Sections 13 and 13-A is limited to creation of “charge” for the amount of “penalty” or for the whole amount of dues even if no penalty is levied. This is important because Sections 13 and 13-A only refers to charge arising out of amount levied towards “penalty”.

C. Consequences of Greater Noida/Noida Development Authority to be treated as a secured creditor

In our opinion, the consequences of holding GNIDA, NOIDA or YEIDA as a secured creditor will be adverse ramifications for approval of plans in real estate matters, because generally the claim of these entities is very high with the inclusion of interest and penal charges over the principal amount, and this classification makes their minimum entitlement extremely high. Accordingly, the following two problems will arise:

1. Discrimination in the treatment of secured operational creditors and secured financial creditors

The law as it stands today, provides under Section 30(2) certain minimum entitlements to creditors, to ensure that there is some minimum protection to the creditors. However, while this minimum entitlement is different for operational creditors and financial creditors as has already been upheld by the Supreme Court in Essar Steel (India) Ltd. (CoC) v. Satish Kumar Gupta¹¹, the difference will have a much higher benefit for operational creditors when they are secured as compared to secured financial creditors, thus, discriminating between secured creditors, for which there is no intelligible differentia.

Section 30(2)(b) provides that the minimum entitlement for an operational creditor will be the amount paid to such creditors in the event of liquidation, or the amount that would be paid to such creditor, if the amount under the resolution plan is distributed in the order of priority under Section 53¹², whichever is higher. On the other hand, the minimum entitlement of a dissenting financial creditor will be its entitlement as per Section 53 in the event of liquidation. The effect being that the dissenting financial creditor even if secured will always be at a disadvantage as compared to the dissenting operational creditor. To illustrate the effect of this difference, we can take an example, where the plan value provides around 150% more than the liquidation value i.e. the average in most resolutions. Consider for example, that the plan value is 500 crores, and the liquidation value is 300 crores, and secured operational and secured financial creditors have the same admitted dues.

Even in rare situations, when the liquidation value is higher than the plan value, the minimum entitlement of secured financial creditor and secured operational creditor will be the same, but the former will never get more than the latter.

2. Consequences on approval of plan by the Committee of Creditors

In such a situation, where statutory bodies like GNIDA/NOIDA have such a high entitlement being secured operational creditors, the Committee of Creditors i.e. a body constituting of only financial creditors will now have no incentive to approve resolution plans. This is because generally the plan value contemplates a haircut of at least 50-95% to all creditors, the average value being 70%. In such cases when Section 30(2) requires that the plan value be distributed in accordance with Section 53 to ensure that NOIDA or GNIDA gets its minimum entitlement as a secured creditor, a very low amount may be available for other creditors which might be even less than the minimum liquidation value. Thus, when faced with a choice of either getting less than the minimum liquidation value or get at least the minimum liquidation value as a dissenting financial creditor, the financial creditors are likely to choose the latter. In other words, the scenario of liquidation will, in most cases, be more favourable than that of resolution.

To illustrate this, consider the following scenario where the plan value contemplates a haircut of 70% i.e. the approximate average of resolutions under the Code. So, plan value being 700 for admitted dues of 1000, the following chart will show the probable entitlements in the event of resolution and liquidation:

Now, given this situation, the secured financial creditors will have no incentive to approve the plan. In such an event the unfortunate consequence will be “liquidation”, thus, defeating the purpose of the Code. As such, in our opinion, the legislative intent could not have been to accord such a beneficial treatment based on security begotten by the operation of law.

Conclusion

Thus, in our opinion, there are various ramifications of this judgment on the approval of plan. The minimum entitlement of authorities like GNIDA/NOIDA having very high claims will be so huge that very few resolutions applicant will be able to meet the liability, and even then, the entitlement of secured financial creditors, operational creditors and other unsecured creditors will be reduced to pennies. It is also important to remember that the claims of these statutory authorities who have security by operation of law is often the principal amount increased manifolds due to various interests and penal charges. As such, the brunt of these claims will be borne by the other creditors who will now receive much higher haircuts.

Furthermore, since Supreme Court found this to be a fit case for recall of order approving the resolution plan, this will not only affect future plan approvals, but will become a precedent that will affect previously approved plans in real estate projects. Various review petitions are pending against the said judgment, and it is hoped that the Supreme Court or the legislature will provide some clarity on its effect and operation.