Supreme Court rules pre-existing disputes under IBC not equal to principle of preponderance of probability

Supreme Court rules pre-existing disputes under IBC not equal to principle of preponderance of probability

Holds the findings of the National Company Law Appellate Tribunal flawed

The Supreme Court has held that the standard with reference to which a case of a pre-existing dispute under the Insolvency and Bankruptcy Code (IBC), 2016 is employed, cannot be equated with the principle of preponderance of probability, which guides a civil court at the stage of the judicial decision.

The bench comprising Justice KM Joseph and Justice Hrishikesh Roy made the observation while adjudicating an appeal in the Rajratan Babulal Agarwal vs Solartex India Pvt. Ltd case.

Respondent No.1 (the operational creditor) Solartex India Pvt. Ltd. and respondent No.2 (corporate debtor) Honest Derivatives Pvt. Ltd. entered into an agreement for supplying coal to be used in boilers that manufacture starch and allied products.

After some time, the corporate debtor directed the operational creditor to discontinue the supply of coal, as the product did not conform to the terms of the purchase order.

In February 2018, the operational creditor issued a demand notice to the corporate debtor under IBC, raising a claim of Rs.21,57,700.38, inclusive of interest.

While responding to the notice, the corporate debtor, in turn, demanded Rs.4.44 crores from the operational creditor as damages towards the supplied coal for not being of the promised quality. It too filed a civil suit against the operational creditor claiming the damages.

The operational creditor filed a petition under IBC seeking initiation of the Corporate Insolvency Resolution Process (CIRP) against the corporate debtor before the National Company Law Tribunal (NCLT).

In May 2020, NCLT initiated CIRP proceedings against the corporate debtor on the premise that there was no pre-existing dispute. When the corporate debtor, appealed before the National Company Law Appellate Tribunal (NCLAT) contending there was a 'pre-existing dispute', the appeal was dismissed.

Thereafter, the corporate debtor appealed before the Supreme Court.

The corporate debtor argued that in a contract of sale of goods, a term may be a condition or a warranty. It treated the condition relating to the quality of the goods as a warranty.

On the other hand, the operational creditor contended that the corporate debtor had written merely three emails before issuing the demand notice and none of those raised any dispute. Also, the corporate debtor continued to deal in the supplied goods even after the alleged deficiency.

The Supreme Court bench relied on the judgment in Mobilox Innovations Private Limited vs Kirusa Software Pvt. Ltd case. It observed that IBC did not enable the operational creditor to put the corporate debtor into the insolvency resolution process prematurely over small amounts of default. It is for this reason that it is enough that a dispute existed between the two parties.

The apex court observed that in October 2016 an email was sent to the operational creditor by Solartex, sister-concern of the corporate debtor, making an express reference to the corporate debtor. The email raised the issues relating to the quality of the coal and pictures were attached for reference.

The bench stated that the NCLAT erred in not considering the email while determining the dispute.

The court ruled, "The standard with reference to which a case of a pre-existing dispute under IBC must be employed cannot be equated with the principle of preponderance of probability, which guides a civil court at the stage of finally decreeing a suit. Once this subtle distinction is not overlooked, we would think that NCLAT clearly erred in finding there was no dispute within the meaning of the IBC."

The bench further observed that overlooking the boundaries of the jurisdiction could cause a serious miscarriage of justice, besides ignoring IBC. It allowed the appeal, setting aside the judgment of NCLAT.