Indus Biotech Private Limited v Kotak India Venture (offshore) Fund & Ors.: Can A Dispute Under IBC Be Arbitrable?

*Aritra Mitra

Introduction

The Supreme Court, vide its judgment dated 26.03.2021 in Indus Biotech Private Limited v. Kotak India Venture (Offshore) Fund and Others [Arbitration Petition No.48 of 2019 with Civil Appeal No.1070/2021 arising out of SLP (C) NO. 8120 OF 2020], held that application for reference to arbitration under Section 8 of the Arbitration and Conciliation Act, 1996 [the Act] shall not be maintained if the application happens to be filed under Section 7 (Initiation of corporate insolvency resolution process by financial creditor) of the Insolvency and Bankruptcy Code, 2016 (“IBC”).

Factual Matrix

The petitioner, Indus Biotech had filed a petition under Section 11 of the Act, in the Supreme Court of India asking for an arbitral tribunal to be appointed in order to adjudicate its disputes with the Respondents (1-4). Respondent 1 is Kotak India Venture (Offshore) Fund, an offshore company based in Mauritius. The other respondents are ventures of Respondent No. 1 and are based in India.

The dispute between the parties arose based on different share subscriptions and shareholders’ agreements and was referred to arbitration to resolve the dispute. The dispute was primarily because the Respondents looked for conversion of their preference shares, which they held in Indus Biotech into equity shares. The conversion formula that was supposed to be applied was in dispute between the parties, and thus Indus Biotech decided on not to pay the redemption amount to the Respondents. Respondent No.2 termed the payment as the default action and decided to file a petition under the provisions of Section 7 of IBC before the NCLT. Indus Biotech on the other hand believed that the subject matter of arbitration was same, even if under different agreements, hence asked for the arbitration to be conducted by a single tribunal. The Petitioner filed an application under Section 8 of the Act, and asked for a direction from the apex court to refer the parties to the arbitration.

The NCLT, vide its order, dismissed the petition under Section 7 of IBC and allowed the application under Section 8 of the Act. The Supreme Court, while hearing the matter under Section 11 of the Act, also heard the connected Special Leave Petition challenging the NCLT’s order.

Issues

• Whether there was an error made by NCLT in passing an order under Section 8 of the Act against a petition under Section 7 of IBC, 2016?

• Whether it is possible to appoint a single arbitral tribunal, when there are separate agreements of arbitration and also one of the respondents is company established in a foreign country?

Judgment

NCLT Order Under Section 8 Of The Act

The Supreme Court made it clear that usually when the NCLT passes an order under Section 7 of IBC, it gets consigned to the National Company Law Appellate Tribunal. However, in this case since the petition under Section 11 of the Act was already pending before the court when the NCLT passed its order, so the Supreme Court decided to hear the matter upon its merits.

Deciding upon the first issue, the apex court observed that a petition filed under the ambit of Section 7 of the IBC only becomes a proceeding in rem only when the adjudicating authority has recorded a finding of default and admitted the petition, and from this point onwards the matter would not be arbitrable. The Court also held that simply filing of a petition before admission cannot be considered as proceedings in rem, as was the case in the instant proceedings, because a third-party right is created on admission in favour of all creditors of the corporate debtor.In order to reach upon this conclusion, the Court also relied upon the case of Vidya Drolia v. Durga Trading Corporation.

The apex court also clarified that an application filed under Section 8 of the Act would be allowed only if it is filed after a petition under Section 7 of IBC. Additionally, the Court also clarified a situation wherein an application under Section 8 of the Act is filed before a petition under Section 7 is admitted. In this situation the petition will be heard first and the application would be kept along only for consideration, because the decision in the Section 7 petition would have a direct impact on the Section 8 application. The conclusion was that even if the application under the Act was allowed by the NCLT, it would be subjected to the petition filed under Section 11 of the Act.

The Court held also observed that the dismissal of the Section 7 petition of IBC to be correct. The petition filed under Section 11 of the Act was maintainable because without it the parties would have no remedy if the arbitral process is not started.

Appointment of Single Arbitration Tribunal

Deciding upon the possibility of a single tribunal, the court held it was not feasible as there were separate arbitration agreements between the parties. But considering the appellant’s contention that the disputes were of similar nature, the apex court directed that the members comprising the tribunal will be the same for all the arbitrations, but each tribunal would be separately constituted in respect of each agreement. The Court also directed that the tribunals should club the domestic disputes together and separate from the international dispute.

Analysis

The Supreme Court contended that if there is a dismissal of a petition under Section 7 of IBC, then there shall be no existence of any proceedings in rem and therefore no application shall lie under Section 8 of the Act. The court also gave its justification for not relegating the issue to NCLAT and invoking its inherent powers. The important part that still needs to be cleared is whether the decision will have any effect on the filing of an application under Section 8 of the Act once a company is dragged to court under the IBC.

But this judgment is important in the sense that it saves parties from engaging in unnecessary years of litigation and cause delay. The Court has perfectly chosen to follow Vidya Drolia and not the ambiguous path laid down in Booz Allen and Hamilton Inc. v. SBI Home Finance Ltd., as lacks a definite differentiation between involvement of right in rem and erga omnes effect of such rights. Furthermore, acknowledging that the parties had separate arbitration agreements and that the substance of the issues was identical, the Court rightly followed the decision in Duro Felguera, SA v. Gangavaram Port Ltd. and established separate tribunals, although with the same members.

Instead of making blanket observations, the Court has clarified when third party rights will be created by insolvency proceedings, thus making it in rem in nature.

The Court also held that only upon admission can insolvency proceedings become in rem. Through this clarification the Court has put in place a system that would prevent made up claims of relief in insolvency disputes. A financial/operational creditor would no longer be able to evade or wriggle out of the arbitration clause by merely filing an Insolvency Application.

Here the Court had the opportunity to decide on whether Section 11 could be used by a party who did not have the authority to appoint an arbitrator under the agreement. However,there has been no ruling on this topic that the author is aware of. Furthermore, such appointment of Arbitral Tribunal is contrary to the established position of law that the procedure for appointment must be followed and appointment which is not in accordance with the procedure is void.

Another issue that becomes evident is that the Court designated a single Arbitral Tribunal with the same members but separately constituted every agreement, and left it to the Tribunal to work out the procedures and merging the remaining domestic arbitrations. The Supreme Court should have taken this opportunity to clarify whether there shall be a composite arbitral procedure which will result in 1 award or 4 arbitrations under 4 agreements with 4 separate awards. Due to the absence of clarity Kotak is likely to seek 4 separate awards from the Tribunal and Indus will seek a composite common award.

It can only be hoped that the rulings by the Supreme Court and NCLT do not set precedent in regards to the interpretation of provisions relating to investor’s exit rights and price protections under the ambit of investment documents. These make an important component to the investment thesis and future dilution might lead to an effect on India’s position as a domestic and foreign capital. The NCLT and the Supreme Court failed to elaborate on the manner the interpretation of the wordings of the agreement needs to be done.

One of the key takeaways of the judgment was that the procedural provisions of investment documents should align with the commercial requirements of investors and allow them the choice of similar rights available in the document. It is significant that the parties are subjected to accurate timelines. Also, there should be adequate flexibility in order to assure investors of a favourable exit.

It was also observed that an alternative mechanism can be created to review the valuation methodology adopted by the parties and to deliver a final valuation to the parties, which number shall be final and binding. This mechanism might involve a neutral valuation expert. And there should be a presence of illustrations and examples in the investment documents in order to reduce the chances of conflicting interpretations, which would lead to confusion in commercial terms.

Conclusion

Through this judgment the Supreme Court has accurately observed that if any proceeding which was pending before the NCLT under Section 7 of the IBC, then an application under Section 8 of the Act made thereafter will not be maintainable, since the proceedings would be in rem and would establish third party rights.

If a situation arises where the petition under section 7 of the IBC is still pending and, in such proceedings, if an application under Section 8 of the Act was filed, then the NCLT is obligated to firstly decide the application under Section 7 of the IBC, here the application under Section 8 of the Act can be kept along for consideration. In this case, the natural consequence of the consideration made under Section 7 would lie on the application under Section 8 of the Act.

*The author is a second-year student at National Law University, Odisha.