Ashutosh Gupta and Gaurav Rana

MOOT QUESTION III, IS IT MANDATORY TO ISSUE NOTICE FOR DISPUTE IN REPLY TO DEMAND NOTICE FOR RAISING DISPUTE UNDER IBC. 

National Company Law Appellate Tribunal (“NCLAT”), in its recent order dated 24.02.2020 (“Order”) has removed the sword of Corporate Insolvency Resolution Period (“CIRP”) looming on Flipkart India Private Limited (“Flipkart”) in matter titled as Neeraj Jain Versus Cloundwalker Streaming Technologies Pvt. Ltd. Company Appeal (AT) (Insolvency) No. 1354 of 2019. In the Order NCLAT discussed and held various intrinsic facet of order of admission or rejection under Section 9 of Insolvency Bankruptcy Code, 2016 (“IBC” or “Code”) for instance, a. Whether claim in respect of losses or damages or interest be treated as part of Operational Debt under IBC; b. Is it mandatory to issue notice for dispute in reply to demand notice for raising dispute under IBC; c. Whether format provided under Adjudicating Authority Rules, 2016 (“Rules”) like FORM 3 and 4 are mandatory or directory in nature and their usage depends on the nature of transaction or discretion of the Operational Creditor; d. Whether invoice is integral part of Demand Notice and of the petition under Section 9 of the Code; and e. Whether Bank Statement is a crucial document for admission or rejection of a Petition under Section 9 of the IBC.

In this article we would be discussing the third moot question i.e. is it mandatory to issue notice for dispute in reply to demand notice for raising dispute under IBC

Before adverting to finding and rationale of the NCLAT on the Moot Questions, it is relevant to discuss the facts leading to the Order.

Facts of the case:

M/s. Cloudwalker Streaming Technologies Pvt Ltd. (“Operational Creditor”) filed Petition under Section 9 of the Code against the Flipkart claiming default of an amount of INR 26,95,00,000/- towards supply of LED TVs. The Operational Creditor has been importing and supplying LED TVs to the Corporate Debtor. Dealing between parties was crystallised into a Supply Agreement dated 29.12.2016 (“Supply Agreement”).

As per Operational Creditor, Flipkart took delivery first few batches of LED TVs and later on refused to take delivery on the ground of lack of warehouse space. In good gesture Operational Creditor warehoused the LED TVs for a temporary period. For said period Operational Creditor had paid excess custom duties. Flipkart had failed to collect more than 70% of the stock as ordered by them till March, 2018.

On account of the dispute mentioned above and differences between the parties, Operational Creditor invoked Clause 18 of the Supply Agreement and thereby gave notice dated 26.03.2018 to the Corporate Debtor to settle the matter within 30 days, failing which the operational creditor would have proceeded for appointment of an Arbitrator. However later on Operational Creditor withdraw its notice dated 26.03.2018 and proposed to settle the issue amicably. But said issued did not settled.

On 08.06.2019 Operational Creditor had issued demand notice under FORM 3 under Section 8 of the Code. No reply or notice raising dispute was issued by the Flipkart to the demand notice. Later on said Demand Notice culminated into petition under Section 9 of Code. In reply to the Petition, Flipkart stated that it has made all payment in respect PO issued by them from January, 2017 to April, 2018 and nothing is due, payable and defaulted. Further Flipkart contended no invoice or PO is attached with petition in respect to claim amount. Flipkart also stated that it is not liable to indemnify Operational Creditor against any losses, risks or costs incurred by the Operational Creditor in terms of Supply Agreement including custom duty paid. Flipkart also contended that there was deficiency in service of the Operational Creditor therefore INR 42,96,665/- was withheld by the Flipkart.

Adjudicating Authority rejected the contention of the Flipkart as no pre-existing or post existing dispute was produced before Adjudicating Authority. Adjudicating Authority strongly took note of the fact that Flipkart failed to reply to demand notice and even prior to that no dispute whatsoever was raised by the Flipkart. Further Adjudicating Authority relied on catena of order of NCLAT wherein NCLAT categorically held that dispute should have been raised prior to issuance demand notice and not before the Adjudicating Authority directly. Further Adjudicating Authority relied on various emails shared between parties wherein Flipkart admitted that they have space constraint therefore they can not take delivery of stocks. Further no email conversation was placed on record by Flipkart stating dispute qua goods, or their quality, in the light of the same Adjudicating Authority post giving ample opportunity to parties to settle the matter, admitted the petition field by the Operational Creditor.

Submission of the parties :

Operational Creditor submitted that it has issued a demand notice under Form 3 dated 08.06.2019, under Section 8 of the Insolvency and Bankruptcy Code, 2016 which was received by the Flipkart on 13.06.2019. However, there has been no reply to the same. Flipkart has not raised any dispute about the amount outstanding to the Operational Creditor at any point of time. It is further said, in this case, there is no email or any other communication about the quality or quantity of the goods. The onus to show the existence of a dispute is wholly on the Flipkart, which it has failed to discharge

In nutshell operational creditor submitted that, to admit a petition under Section 9 the Code, the Adjudicating Authority had to ascertain existence of Operational Debt exceeding Rs.1,00,000/- (Rupees one lacs only); the debt is due and payable and has not been paid; in the absence of any dispute between the parties; the record of pendency of a suit or arbitration proceeding, before the receipt of demand notice, the petition has to be admitted.

On the other hand Flipkart had contended that there is an existing dispute between the parties, which is to be adjudicated by the Civil Court, upon appreciating the evidence placed on record.  It was further argued that the Operational Creditor withdrew the Arbitration notice for an amicable resolution of the dispute, but it does not mean that dispute ceased to exist.

Flipkart also contented that as per provisions of Section 8(1) of the Code, an Operational Creditor can deliver a demand notice only upon the occurrence of a Default‘, which happens on non-payment of Debt. The word ‘Debt’ has been defined to mean a liability or obligation in respect of the claim, which is due from any person and includes a financial debt and operational debt. Even otherwise, mere failure to reply to the demand notice does not extinguish the rights of the Operational Creditor to show the existence of a pre-existing dispute. If there is no crystallization of the claim, there is no debt due or owed or default which the sine qua non for admission of an application under Section 9 of the Insolvency & Bankruptcy Code, 2016

In contra, Operational Creditor placed reliance on the definition of claim under the I&B Code and argued that since the term claim has been used in the definition of the ‘operational debt‘, thus, even if the claims are disputed, as claimed by the Flipkart, the petition is maintainable.

RATIONALE AND FINDING:

NCLAT perused the document available on record, specifically notice dated 26.03.2008 issued by the Operational Creditor invoking arbitration clause:

Relevant portion of Notice dated 26.03.2018 is reproduced herewith.

“22. We state that you have failed to pick up the aforesaid balance quantity of the product specifically/exclusively imported for you, based on your others and assurances, thereby breached the terms of the agreement between the parties and further violated the arrangement agreed upon between the parties for “delay buy” and have caused losses to our clients. Thus, actions have not only caused losses to our aforesaid client, but you have acted in violation of the terms and agreement dated 29th December 2019 and also violated the agreed arrangement of “deal buy” fir no fault of our aforesaid client resulting in disputes and difference between the parties to be adjudicated by referring the same to the Arbitral Tribunal in terms of Clause 18 of the agreement dated 29.12.2016. 

In view of the Clause 18, before, we proceed to refer the matter to Arbitral Tribunal, we hereby call upon you to come forward and mutually settle the aforesaid dispute within a period of 30 days from date of receipt of this Notice. In the event of your failure, it would be deemed that you are not interested in settlement of disputes amicably and our aforesaid client shall be liberty to proceed further for appointment of an Arbitrator at your cost risk and consequences in terms of the aforesaid clause. 

Copy of this notice is retained for further action.

For Rajiv Garg & Co.

(Ashish Garg) Advocate”

Emphasis supplied

NCLAT noted that, as per notice dated 26.03.2018 there was an existing dispute on said date, i.e. before the initiation of CIRP. It is also apparent that the dispute between the parties was on account of not taking delivery of 21,808 TVs, which were imported by the Operational Creditor, based on the assurance by the Flipkart.

NCLAT held that on perusal of the records, it appears that there is a pre-existing dispute, but the Operational Creditor withdrew the Notice issued by it on the pretext that the corporate debtor would try to settle the dispute amicably. NCLAT also opined that withdrawal of the said Notice does not mean that the dispute ceased to exist. Reason being, after that, the Operational Creditor issued Notice under Section 8(1) of the Code and initiated action against the Corporate Debtor under Section 9 of the Code. Therefore there was dispute between the parties.

Order:

NCLAT held that merely failure to reply to Demand Notice will not disentitle Corporate Debtor to exercise his right and to show the existence of pre-existing dispute. In simple word Corporate Debtor has full right to represent and show the dispute (pre-existing) before Adjudicating Authority even if it has failed to raise said dispute in response to the demand notice,

ANALYSIS OF THE JUDGEMENT

It is relevant to first refer relevant provisions of Code and rules made there under:

Insolvency and Bankruptcy Code 2016

Sec 5(6):

(6) ―dispute includes a suit or arbitration proceedings relating to—

(a) the existence of the amount of debt;

(b) the quality of goods or service; or

(c) the breach of a representation or warranty; 

Sec 8. Insolvency resolution by operational creditor

***

(2) The corporate debtor shall, within a period of ten days of the receipt of the demand notice or copy of the invoice mentioned in sub-section (1), bring to the notice of the operational creditor—

(a) the existence of a dispute, if any, and record of the pendency of the suit or arbitration proceedings filed prior to the receipt of such notice or invoice in relation to such dispute through an information utility or by registered post or courier or by such electronic mode of communication as may be specified;

(b) the repayment of unpaid operational debt—

(i) By sending an attested copy of the record of electronic transfer of the unpaid amount from the bank account of the corporate debtor; or

(ii) By sending an attested copy of record that the operational creditor has encashed a cheque issued by the corporate debtor.  

Explanation.—For the purposes of this section, a ―demand notice means a notice served by an operational creditor to the corporate debtor demanding repayment of the operational debt in respect of which the default has occurred. 

Sec 9. Application for initiation of corporate insolvency resolution process by operational creditor.—

***

(3) The operational creditor shall, along with the application furnish—

(a) a copy of the invoice demanding payment or demand notice delivered by the operational creditor to the corporate debtor;

(b) an affidavit to the effect that there is no notice given by the corporate debtor relating to a dispute of the unpaid operational debt;

(c) a copy of the certificate from the financial institutions maintaining accounts of the operational creditor confirming that there is no payment of an unpaid operational debt by the corporate debtor; and

(d) such other information or as may be specified.

(4) An operational creditor initiating a corporate insolvency resolution process under this section may propose a resolution professional to act as an interim resolution professional. (5) The adjudicating authority shall, within fourteen days of the receipt of the application under sub-section (2), by an order—

(i) admit the application and communicate such decision to the operational creditor and the corporate debtor, if—

(a) the application made under sub-section (2) is complete;

(b) there is no repayment of the unpaid operational debt;

(c) the invoice or notice for payment to the corporate debtor has been delivered by the operational creditor;

(d) no notice of dispute has been received by the operational creditor or there is no record of dispute in the information utility; and

(e) there is no disciplinary proceeding pending against any resolution professional proposed under sub-section (4), if any.

(ii) reject the application and communicate such decision to the operational creditor and the corporate debtor, if—

(a) the application made under sub-section (2) is incomplete;

(b) there has been repayment of the unpaid operational debt;

(c) the creditor has not delivered the invoice or notice for payment to the corporate debtor;

(d) notice of dispute has been received by the operational creditor or there is a record of dispute in the information utility; or

(e) any disciplinary proceeding is pending against any proposed resolution professional:  

From above it is clear that the Corporate Debtor is provided 10 days’ time from the date of receiving of Demand Notice, to reply it and raise dispute (as defined under Section 5 (6)). Further as per Section 5(6) of the Code dispute include a suit or arbitration proceedings relating to the existence of amount of debt, the quality of goods or service or the quality of the goods and service. Though said provision is inclusive in nature but same has to take color from the preceding words, in simple words dispute cannot be in air it has to be related with existence of the amount of debt or the quality of goods or breach of a representation or warranty. Further said dispute must be intimated or conveyed to the Corporates Debtor within due course of time from the date of receiving of demand notice i.e. 10 days. Further said dispute notice, if any, must accompany records of pending suit or arbitration proceedings. Thereafter Section 9 of the IBC

At this juncture it is relevant to note the celebrated judgement i.e. Innovative Industries Ltd. Vs ICICI Bank and Anr. (2018) 1 SCC 407, wherein Hon’ble Supreme Court while explaining the provisions of Section 8 and 9 observed and held:

 

“***The scheme of the Code is to ensure that when a default takes place, in the sense that a debt becomes due and is not paid, the insolvency resolution process begins. Default is defined in Section 3(12) in very wide terms as meaning non-payment of a debt once it becomes due and payable, which includes non-payment of even part thereof or an instalment amount. For the meaning of “debt”, we have to go to Section 3(11), which in turn tells us that a debt means a liability of obligation in respect of a “claim” and for the meaning of “claim” we have to go back to Section 3(6) which defines “claim” to mean a right to payment even if it is disputed. The Code gets triggered the moment default is of rupees one lakh or more (Section 4).

***

  1. The scheme of Section 7 stands in contrast with the scheme under Section 8 where an operational creditor is, on the occurrence of a default, to first deliver a demand notice of the unpaid debt to the operational debtor in the manner provided in Section 8(1) of the Code. Under Section 8(2), the corporate debtor can, within a period of 10 days of receipt of the demand notice or copy of the invoice mentioned in sub-section (1), bring to the notice of the operational creditor the existence of a dispute or the record of the pendency of a suit or arbitration proceedings, which is pre-existing – i.e. before such notice or invoice was received by the corporate debtor. The moment there is existence of such a dispute, the operational creditor gets out of the clutches of the Code.”

It is relevant to note that proceeding under Section 9 of the Code can only be initiated after delivery of the demand notice, upon the Corporate Debtor, under Section 8(1) of the Code, and on the occurrence of the default under Section 3(12) of the Code (to mean non-payment of debt). The debt is defined under Section 3(11) of the Code, means a liability or obligation in respect of the claim, which is due from any person and includes financial debts and Operational debts. Further for the definition of the claim Section 3(6) of the IBC which provide wide definition of “Claim” which also include disputed claim as well, thus even legislature in its wisdom allowed disputed claim to be part of the Operational Creditor subject to limitation provided under Section 9 itself.

Further NCLAT and Hon’ble Supreme Court has held in various cases that for initiation of the CIRP it is condition precedent that demand notice is issued and no notice of dispute or payment of unpaid unsecured creditors. Specifically In Uttam Galva Steels v D.F Deutsche Forfait AG .(2017) 204 Comp cas 511 (NCLAT.),  it was stated that under sub-section (1) of section 8 of the code, an operational creditor on occurrence of a default, is required to deliver the notice of payment of unpaid debt of get a copy of the invoice payment of the defaulted amount served on the corporate debtor. This is the condition precedent under section 8 and 9 of the Code, unlike section 7 before making an application to the Adjudicating Authority under section 9 of the Code. Under section 9 (1) the right to file an application accrues after expiry of ten days from the delivery of demand notice or copy of the invoice, as the case may be. If the operational creditor does not receive payment from the corporate debtor or notice of dispute under sub-section (2) of section 8, the operational creditor thereafter may file an application before the Adjudicating Authority for initiation of corporate insolvency resolution process.

In case of Mobilox Innovations Pvt. Ltd v Kirusa  software P. Ltd Hon’be Supreme Court has held as follows (page 373):

It is clear, therefore, that once the operational creditor has filed an application, which is otherwise complete, the adjudicating authority must reject the application under section 9 (5) (ii) (d) if notice of dispute has been received by the operational creditor or there is a record of dispute in the information utility. It is clear that such notice must bring to the notice of the operational credit the ‘existence’ of a dispute or the fact that a suit or arbitration proceeding relating to a dispute is pending between the parties. Therefore, all the adjudicating authority is to see at this stage is whether there is a plausible contention which requires further investigation and that the ‘dispute’ is not a patently feeble legal argument or an assertion of fact unsupported by evidence. It is important to separate the grain from the chaff and reject a spurious defence which is mere bluster. However, in doing so, the court does not need to be satisfied that defence  is likely to succeed. The Court does not at this stage examine the merits of the dispute except to the extent indicated above. So long as dispute truly exists in fact and is not spurious, hypothetical or illusory, the adjudicating authority has to reject the application’’.

Further, Hon’ble Supreme Court in Innovative Industries Ltd. (supra) held that

51. It is clear, therefore, that once the operational creditor has filed an application, which is otherwise complete, the adjudicating authority must reject the application under Section 9(5)(2)(d) if notice of dispute has been received by the operational creditor or there is a record of dispute in the information utility. It is clear that such notice must bring to the notice of the operational creditor the ―existence‖ of a dispute or the fact that a suit or arbitration proceeding relating to a dispute is pending between the parties. Therefore, all that the adjudicating authority is to see at this stage is whether there is a plausible contention which requires further investigation and that the ―dispute‖ is not a patently feeble legal argument or an assertion of fact unsupported by evidence. It is important to separate the grain from the chaff and to reject a spurious defence which is mere bluster. However, in doing so, the Court does not need to be satisfied that the defence is likely to succeed. The Court does not at this stage examine the merits of the dispute except to the extent indicated above. So long as a dispute truly exists in fact and is not spurious, hypothetical or illusory, the adjudicating authority has to reject the application.”

Thus notice of dispute specifying the dispute in terms of the Section 9(4) read with Section 5(6) of the Code is imperative for raising dispute under Section 9 Petition and leading its dismissal. However in the present case Flipkart failed to serve said notice of dispute within the stipulated time and even thereafter.

However, NCLAT carving out the exception held that merely not serving notice of dispute would not bare the Flipkart from raising the pre-existing dispute. It is interesting to note that NCLAT for holding that there was pre-existing dispute relied on the letter/notice issued by the Operational Creditor only for invoking the arbitration clause.

Authors are advocate at New Delhi and Managing Partner and Partner respectively at Indo Legal Services a boutique law firm in New Delhi.

Author Bio

Qualification: LL.B / Advocate
Company: Indo Legal Services LLP
Location: New Delhi, New Delhi, IN
Member Since: 18 Feb 2020 | Total Posts: 9
MR. GAURAV RANA(Advocate, CS) Mr. Rana, Advocate is a member of Bar Council Association of Delhi High Court, India and an Associate member of Institute of Company Secretaries of India. He has extensive experience in commercial litigation, arbitration and regularly argues at various fora. He advises View Full Profile

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