The Supreme Court of India ("SC") recently in the case of BRS Ventures Investments Limited v. SREI Infrastructure Finance Limited (Civil Appeal No. 4565 of 2021. Decided on July 23, 2024) reinforced the principle that, insolvency proceedings against a corporate guarantor do not preclude creditors from initiating separate or simultaneous insolvency proceedings against the corporate debtor.

Brief Facts:

In the present case, SREI Infrastructure Finance Limited (financial creditor) had granted a loan of Rs. 100 crores (one hundred crores) to Gujarat Hydrocarbon and Power of SEZ Limited (corporate debtor) for setting up a SEZ project. The loan was secured by guarantee by the holding company of the corporate debtor, namely, Messrs. Assam Company India Limited (ACIL). When the corporate debtor committed a default on the repayment of the final loan amount, the guarantee against ACIL (guarantor) was invoked by the financial creditor. Subsequently, the non-payment of the guaranteed amount led to the filing of an application under Section 7 of the Insolvency and Bankruptcy Code (“IBC”), 2016 against the guarantor to initiate corporate insolvency resolution process (“CIRP”). On completion of the CIRP against the guarantor, the resolution plan submitted by the appellant (BRS Ventures Investments Ltd.) was approved by the Committee of Creditors (“CoC”). Pursuant to the resolution plan, Rs. 38.87 crores were paid to the financial creditor, after haircut, against its claim amount of Rs. 241.27 crores, as had been originally admitted by the Resolution Professional. Subsequently, the financial creditor filed an application under Section 7 of IBC against the corporate debtor to claim the payment of the balance amount under the loan facility. This application was admitted by the Adjudicating Authority, and the admission of the application was challenged by the appellant before the NCLAT. However, the NCLAT dismissed the appeal, giving rise to the present appeal before the Supreme Court.

Issues:

(a) Whether the application filed under Section 7 of IBC against the corporate debtor is maintainable in light of CIRP against the guarantor already been concluded and the financial creditor having been paid an amount in full and final settlement of all its dues?

(b) Whether the assets of the corporate debtor form a part of CIRP against the guarantor?

(c) Whether the right of subrogation under Section 140 of the Indian Contract Act, 1872 (“Contract Act”) allows the guarantor to claim the entire claim amount from the corporate debtor, pursuant to a full and final payment made to the financial creditor?

Contentions of the Parties and Decision of the Court:

Issue-1: Assessing the Maintainability of Section 7 IBC Application against a Corporate Debtor Post-Settlement by Guarantor:

Arguments of the Parties:

The appellant argued that upon receipt of Rs. 38.87 crores from the guarantor, the debt repayable to the financial creditor had been fully discharged. It relied on Section 63 of the Contract Act, which allows the promisee to dispense with or remit, wholly or in part, the performance of the promises made to it, or accept instead of it any satisfaction as deemed fit. This was read alongside Section 41 of the Contract Act which states that if a promisee accepts the performance of a promise by a third party, it cannot afterwards seek performance from the original promisor. Based on these provisions, the appellant stated that the financial creditor was estopped from enforcing the remaining portion of the debt from the corporate debtor. The financial creditor had voluntarily granted a concession to the promisor under Section 63 of the Contract Act by accepting a reduced amount as full and final settlement against the originally accepted claim. Due to Section 41 of the Contract Act, the promisee cannot afterwards seek performance against the original promisor, i.e., the corporate debtor by seeking the balance payment, as it had accepted the performance from the guarantor.

However, on the other hand, the respondent, financial creditor relied on Section 128 of the Contract Act which states that the liability of the guarantor and the debtor is co-extensive, and nothing bars the creditor from proceeding against both for the same claim. Reliance was placed on the case of Lalit Kumar Jain v. Union of India, (2021) 9 SCC 321, where it was held that approval of resolution plan of the corporate debtor does not ipso-facto discharge the guarantors of their liability under the contract of guarantee. This is based on the rationale that the involuntary process due to insolvency or liquidation does not absolve the liability of the guarantors which arises out of an independent contract. It was argued that given that the full outstanding amount of the corporate debtor was not recovered from the guarantor, the financial creditor could proceed against the corporate debtor for the balance amount in accordance with the principle set out in Section 128 of the Contract Act. 

Decision of the Court:

The Court agreed with the principles relied on by the respondent, financial creditor. It recognized the independence of contracts with the surety and the principal borrower and stated that if the creditor recovers the part of the amount guaranteed by the surety and agrees not to proceed against the surety, that will not extinguish the remaining debt payable by the principal borrower. Similarly, if a compromise or settlement is entered into between the surety and the creditor to which the principal borrower is not the party, the liability of such borrower towards the creditor shall remain unaffected.  

Issue 2: Determining the Inclusion of Subsidiary’s Assets in the CIRP of a Holding Company:

Arguments of the Parties:

The financial creditor pointed out that the main grievance of the appellant was that the institution of CIRP had been upheld against the corporate debtor for the assets that were a part of the CIRP of the guarantor which is the holding company of the corporate debtor. However, Section 36(4)(d) of the IBC which provides for the duty of the liquidator to form an estate of the assets of the corporate debtor for the benefit of the creditors, expressly excludes the assets of any Indian or foreign subsidiary of the corporate debtor. Further, Section 18 of IBC which enlists the duties of the Interim Resolution Professionals, including taking control and custody of ‘assets’ of the corporate debtor also excludes the assets of any Indian or foreign subsidiary of such corporate debtor from the ambit of such ‘assets.’

On the other hand, the appellant responded by putting their reliance on the information memorandum indicating the inclusion of certain assets of the corporate debtor in the insolvency plan of the guarantor. They relied on Clause 3 of the information memorandum which mentioned that the guarantor (ACIL) had acquired through its subsidiary (corporate debtor), 296 hectares of land for setting up the SEZ and that the entire project was also financed by the guarantor through equity and unsecured loans.

Decision of the Court:

The Court agreed with the contentions of the financial creditor and stated that even based on the information memorandum, the resolution plan only takes care of the investments made by the guarantor in the subsidiaries and not the assets of the subsidiaries. Considering Section 18 and 36 of the IBC, assets of the subsidiaries cannot form a part of the resolution plan of the holding company. This is based on the well settled principle laid down in the case of Vodafone International Holdings BV v. Union of India (Civil Appeal No. 4565 of 2021), that the subsidiary company is also a separate legal entity and even when the holding company holds its shares, it does not own the assets of its subsidiary. When the subsidiary is wound up, its assets do not belong to the holding company but to the liquidator.

Issue 3: Determining if the Guarantor is Eligible to Obtain the Right of Subrogation: 

Arguments of the Parties:

The appellant argued that on payment being made to the financial creditor in pursuance of the guarantee, Section 140 of the Contract Act would squarely apply to allow the guarantor to step into the shoes of the creditor against the corporate debtor. Therefore, it argued that it will have the right of subrogation in respect of its dues as well the security of mortgage provided to the financial creditor in respect of the SEZ land. The appellant also placed reliance on Shib Charan Das v. Muqaddam, AIR 1936 ALL 62 to state that even a partial payment made in final settlement of the dues by the guarantor is sufficient to trigger the application of principle of subrogation. 

On the other hand, the financial creditor relied on the case of Economic Transport Organization, Delhi v. Charan Spinning Mills Private Limited, (2010) 4 SCC 114 which holds that the principle of subrogation is a creature of equity and shall be interpreted based on equitable principles. Given that Section 140 of the Contract Act itself mentions that the doctrine kicks in favour of the guarantor “upon payment or performance of all that he is liable for,” the same cannot be ignored for the purpose of the interpretation of the Section.

Decision of the Court:

The Court agreed with the contentions of financial creditor and stated that Section 140 of the Contract Act provides the remedy to the guarantor to recover the amount paid to the creditor from the principal debtor and if the guarantor pays only a part of the amount, the equitable right with respect to the guarantee would also be limited to such debt cleared. Further, notwithstanding this right of subrogation, the right of the financial creditor to recover the balance amount will not be prejudiced on any ground.

Analysis:

The Court upheld the right of the creditor to proceed against the principal debtor for the balance amount. This supports the rationale that when the approval of resolution plan of the principal borrower does not discharge the guarantor due to the existence of co-extensive liability under Section 140 of the Contract Act, the approval of resolution plan of the guarantor shall not discharge the liability of the principal borrower. Further, the full and final payment made by the guarantor only extinguishes its liability from making any further payment pertaining to such claim and does not automatically constitute a full and final payment against the principal borrower.

The ruling on the issue of assets of the subsidiary not being a part of the resolution plan of the holding company upholds the principle that although the shareholders of the company have the power to determine the administration of the company and participate in the profits by way of receiving dividends, they have no right over the property of the company by virtue of the separate legal existence of such corporate entity.

Further, the clarification provided by the court with respect to the right of subrogation of the guarantor vis-à-vis the right of the financial creditor to recover the balance amount would ensure against the practice of “double-dipping.” The decision also permits guarantors to step in the shoes of the financial creditor and submit their claims during the CIRP of the corporate debtor. However, it has to be kept in mind, that by virtue of previous decision of the Supreme court in Committee of Creditors of Essar Steel India Limited v. Satish Kumar Gupta, 2019 SCC Online SC 1478, once the resolution plan for the corporate debtor is approved, any right of subrogation in favour of a guarantor shall stand extinguished to avoid defeating the purpose of the CIRP by restarting the process of default and non-payment.

Please find a copy of the Judgement, here.

This update has been contributed by Armaan Patkar (Partner) and Vishakha Somani (Associate).

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