Author: Pragati Kumari, a 3rd year, BA.LL.B(hons) student at University of Allahabad
Factual Matrix
Between 2019 and 2022, National Merchant Bank Ltd. provided ₹250 crores in term loans and working capital facilities to M/s Riverfront Hospitality Ltd., a Mumbai-based luxury hotel chain that operates three upscale business hotels throughout Maharashtra. A mortgage over the company’s flagship property, “Riverfront Grand,” a charge over receivables from all three hotels, a corporate guarantee from Riverfront Resorts LLP (a group entity), and a personal guarantee from promoter-chairman Mr. Dev Mehra were among the various instruments used to secure these borrowings.
However, the company faced a decline in occupancy rates and increasing operational costs as early as 2024. This resulted in the cash flow issues for the company. Therefore, the company defaulted in its payment obligations towards the loan. After several reminders and unsuccessful attempts at debt restructuring, the financial creditor initiated the process of insolvency under Section 7 of the Insolvency and Bankruptcy Code, 2016 before the National Company Law Tribunal (NCLT), Mumbai Bench¹.
On 5 September 2024, the NCLT admitted the application and initiated the Corporate Insolvency Resolution Process (CIRP). At the same time, a moratorium under Section 14 of the Code was also applied, and an Interim Resolution Professional (IRP) was appointed². The moratorium was meant to safeguard the assets of the corporate debtor and keep the company a going concern³.
Nevertheless, after the initiation of CIRP, various disputes arose regarding the enforcement of security, criminal cases, termination of contracts, and cases against guarantors, which created a complex situation regarding the moratorium⁴.
Legislative Intent and Economic Rationale of Moratorium
The concept of moratorium under Section 14 is the key to the proper working of the insolvency system under the Insolvency and Bankruptcy Code, 2016⁵. The legislative intent behind the insertion of the concept of moratorium was clearly stated in the report of the Bankruptcy Law Reforms Committee (BLRC) Report, 2015⁶. The committee stated the need for providing a “calm period” to assess the financial condition of the corporate debtor without interference by the creditors.
The insolvency regime in India was governed by a variety of laws, such as the SARFAESI Act, the Companies Act, and the Sick Industrial Companies Act, before the IBC was enacted⁷. The regime was so scattered that the creditors could take separate actions at the same time, resulting in the depletion of the assets of the debtor rather
than the revival of the business. The legislative intent of the insertion of Section 14 was to provide a moratorium to temporarily suspend all recovery actions against the corporate debtor, thereby keeping the assets of the debtor intact⁸.
The economic justification of the moratorium is based on the value maximization principle. When all the creditors start taking recovery measures on their own, the assets of the company may be sold in a piecemeal manner, which would reduce the value of the assets to a great extent. However, the moratorium prevents the sale of assets in a piecemeal manner.
The Supreme Court in the case of Swiss Ribbons Pvt Ltd v Union of India has held that the moratorium is to protect the corporate debtor from any coercive action during the insolvency resolution process, which would enable the resolution professional to attempt to revive the company instead of liquidating the assets of the company⁹.
Categorisation of Proceedings During Moratorium
Section 14 clearly identifies several types of actions that must be halted once the moratorium is declared¹⁰. However, judicial interpretation has also clarified that certain proceedings may continue despite the moratorium. Therefore, actions during the moratorium can be categorised into three broad groups.
A. Proceedings that Must Halt During Moratorium
Under Section 14(1), the following are strictly prohibited once the moratorium is initiated¹¹:
Firstly, there should be a suspension of suits or proceedings instituted against the corporate debtor. This includes civil suits, arbitration proceedings, execution proceedings, judicial or quasi-judicial recovery proceedings, etc.
Secondly, creditors are not allowed to transfer, alienate, or dispose of any asset or property of the corporate debtor. This ensures that the assets of the corporate debtor remain intact.
Thirdly, enforcement of security interests is prohibited. This includes initiation or continuation of any action under various enactments like the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002¹².
Fourthly, the recovery of property by its owners or lessors from the possession of the corporate debtor is restricted. This is to ensure that the corporate debtor is allowed to retain possession of leased property or essential facilities required for operation¹³.
Lastly, essential goods and services provided to the corporate debtor should not be terminated or interrupted. Section 14(2) has mandated that essential services such as electricity, water, telecommunications, etc., should continue¹⁴.
B. Proceedings that May Continue Despite Moratorium.
However, the scope of the moratorium is not such that all legal proceedings related to the corporate debtor are frozen.
One such legal proceeding is related to actions against guarantors. The creditors are allowed to enforce their guarantees against both personal and corporate guarantors since their liability is co-extensive and independent of the corporate debtor¹⁵.
Another such legal proceeding is related to criminal actions not related to debt recovery. For instance, actions related to fraud and other crimes¹⁶.
Lastly, legal actions instituted by the corporate debtor can also be continued. The resolution professional can institute actions related to the recovery of claims and litigation to improve the value of the corporate debtor’s assets¹⁷.
C. Grey Areas Requiring Judicial Interpretation
There are certain situations which fall into a grey area of law, which need to be interpreted by judicial decisions. One such area is the termination of commercial contracts during CIRP. The termination of essential services is prohibited, but there is ambiguity regarding other commercial contracts¹⁸.
Another grey area is proceedings related to regulatory actions, including tax recovery proceedings initiated by government authorities. The proceedings had to be interpreted to ascertain if they impacted the objectives of CIRP¹⁹.
Proceedings against directors or officers of the corporate debtor also raise complex issues, especially when they pertain to personal liability under laws such as the Negotiable Instruments Act, 1881²⁰. The grey areas indicate that the scope of moratorium is an evolving concept.
Scope of Protection under Section 14
The moratorium primarily protects the corporate debtor and its assets. However, its protection does not automatically extend to other related entities or individuals²¹.
Corporate Debtor
The corporate debtor receives the most comprehensive protection during the moratorium. All recovery actions, enforcement proceedings, and litigation against the corporate debtor must cease immediately upon the commencement of CIRP²².
Promoters and Directors
Promoters and directors are not protected by the moratorium. Although their management powers are suspended and transferred to the IRP or Resolution Professional, they may still face personal liability for actions undertaken prior to the initiation of CIRP²³.
Guarantors
Creditors are permitted to proceed against guarantors despite the moratorium. The Supreme Court in State Bank of India v V Ramakrishnan clarified that Section 14 applies only to the corporate debtor and does not extend to personal guarantors²⁴.
Group Companies
The moratorium does not automatically extend to group companies or associate entities. Each company is treated as a separate legal entity, and separate insolvency proceedings must be initiated if relief is sought under the IBC²⁵.
Timeline of Landmark Judicial Decisions
Judicial interpretation has played a crucial role in defining the scope of the moratorium. The Supreme Court’s decision in Innoventive Industries Ltd v ICICI Bank Ltd established the supremacy of the IBC over conflicting state laws and confirmed that the moratorium begins automatically upon admission of the insolvency application²⁶. Subsequently, in Alchemist Asset Reconstruction Company Ltd v Hotel Gaudavan Pvt Ltd, the Court held that arbitration proceedings initiated after the declaration of the moratorium are legally invalid²⁷.
The Supreme Court further clarified the position regarding guarantors in State Bank of India v V Ramakrishnan, ruling that the moratorium does not extend to personal guarantors²⁸.
A major development occurred in P Mohanraj v Shah Brothers Ispat Pvt Ltd, where the Court held that cheque dishonour proceedings under Section 138 of the Negotiable Instruments Act are covered by the moratorium when they are initiated against the corporate debtor²⁹.
Finally, in Gujarat Urja Vikas Nigam Ltd v Amit Gupta, the Court recognised the authority of the NCLT to restrain termination of contracts during CIRP when such termination would jeopardise the corporate debtor’s ability to function as a going concern³⁰.
Application to the Present Case
The issues which arise in the case of Riverfront Hospitality need to be interpreted in the light of the aforesaid principles.
Firstly, the continuation of the SARFAESI proceedings by the Western Trade Bank violates Section 14 of the Code as the enforcement of security interests is specifically barred during the moratorium period³¹. The IRP needs to immediately move the NCLT to stay the proceedings.
Secondly, the complaint regarding the cheque dishonor needs to be stayed as far as the corporate debtor is concerned. However, the proceedings may continue against the promoter-chairman if the director is liable³².
Thirdly, the initiation of proceedings against Riverfront Resorts LLP as a corporate guarantor is legally permissible as the moratorium does not apply to the guarantor³³.
Fourthly, the termination of the management contract by LuxStay International may be challenged before the NCLT if the contract is essential to the business of the corporate debtor to operate as a going concern³⁴.
Conclusion
The moratorium under Section 14 acts as an important safeguard in the system of insolvency³⁵. By halting all enforcement actions against the corporate debtor, it allows the process of resolution to occur in an orderly and effective manner.
In the present case, the SARFAESI process, the continuation of recovery procedures, and the termination of key operational contracts are all in violation of the moratorium³⁶. However, the process against the guarantors and directors can continue, as it is not within the purview of Section 14³⁷.
There are some ambiguous areas, particularly with respect to the termination of contracts and regulatory procedures. However, with the changing jurisprudence of the Supreme Court, it is evident that the moratorium is not merely a procedural device but an essential feature of the system of insolvency in India, with the intention of protecting enterprise value and enabling effective corporate resolution³⁸.
Footnotes
- Insolvency and Bankruptcy Code, 2016,7.
- Insolvency and Bankruptcy Code, 2016, 14.
- Bankruptcy Law Reforms Committee, Report of the Bankruptcy Law Reforms Committee: Rationale and Design (2015).
- Swiss Ribbons Pvt Ltd v Union of India, (2019) 4 SCC 17 (explaining the objective of moratorium and preservation of the corporate debtor as a going concern).
- Insolvency and Bankruptcy Code, 2016, 14.
- Bankruptcy Law Reforms Committee, The Report of the Bankruptcy Law Reforms Committee: Rationale and Design (2015).
- See The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002; The Companies Act, 2013; The Sick Industrial Companies (Special Provisions) Act, 1985.
- Insolvency and Bankruptcy Code, 2016, 14(1).
- Swiss Ribbons Pvt Ltd v Union of India, (2019) 4 SCC
- Insolvency and Bankruptcy Code, 2016, 14.
- Insolvency and Bankruptcy Code, 2016, 14(1).
- Insolvency and Bankruptcy Code, 2016, 14(1)(c); see also Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002.
- Insolvency and Bankruptcy Code, 2016, 14(1)(d).
- Insolvency and Bankruptcy Code, 2016, 14(1)(d).
- Insolvency and Bankruptcy Code, 2016, 14(2).
- State Bank of India v V Ramakrishnan, (2018) 17 SCC
- P Mohanraj v Shah Brothers Ispat Pvt Ltd, (2021) 6 SCC
- Insolvency and Bankruptcy Code, 2016, 25 (powers and duties of resolution professional).
- Gujarat Urja Vikas Nigam Ltd v Amit Gupta, (2021) 7 SCC
- Embassy Property Developments Pvt Ltd v State of Karnataka, (2020) 13 SCC
- ²Negotiable Instruments Act, 1881, 138.
- Insolvency and Bankruptcy Code, 2016, 14.
- nsolvency and Bankruptcy Code, 2016, 14(1).
- Insolvency and Bankruptcy Code, 2016, §17–19.
- State Bank of India v V Ramakrishnan, (2018) 17 SCC
- Embassy Property Developments Pvt Ltd v State of Karnataka, (2020) 13 SCC
- Innoventive Industries Ltd v ICICI Bank Ltd, (2018) 1 SCC
- Alchemist Asset Reconstruction Company Ltd v Hotel Gaudavan Pvt Ltd, (2018) 16 SCC
- State Bank of India v V Ramakrishnan, (2018) 17 SCC
- P Mohanraj v Shah Brothers Ispat Pvt Ltd, (2021) 6 SCC
- Gujarat Urja Vikas Nigam Ltd v Amit Gupta, (2021) 7 SCC
- Insolvency and Bankruptcy Code, 2016, 14(1)(c).
- P Mohanraj v Shah Brothers Ispat Pvt Ltd, (2021) 6 SCC
- State Bank of India v V Ramakrishnan, (2018) 17 SCC
- Gujarat Urja Vikas Nigam Ltd v Amit Gupta, (2021) 7 SCC
- Insolvency and Bankruptcy Code, 2016, 14.
- Insolvency and Bankruptcy Code, 2016, 14(1)(c); see also Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002.
- State Bank of India v V Ramakrishnan, (2018) 17 SCC
- Swiss Ribbons Pvt Ltd v Union of India, (2019) 4 SCC
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