Under IBC, Operational Creditor Includes Those Who Receive Goods Or Services From The Corporate Debtor

In M/s Consolidated Construction Consortium Limited v. M/s Hitro Energy Solutions Private Limited, the Supreme Court decided on a very interesting point of law apropos the Insolvency and Bankruptcy Code 2016 (IBC). The appeal was filed by the Operational Creditor against the judgment of the NCLAT. One of the questions before the Supreme Court was whether the appellant is an operational creditor under the IBC even though it was a purchaser.

Background 

The Appellants had entered into a contract with the Hitro Energy Solutions (HES) a Proprietary Concern, for supply of light fittings for a project they were executing with Chennai Metro Rail Limited (CMRL). For this upon request of HES and the Appellants,  CMRL paid Rs. 50 lakhs as advance to  HES who encashed it. Meanwhile, the Respondent company was incorporated on the basis of an MOA. Under the MOA, one of the four main objects of the respondent was to take over the Proprietary Concern. Subsequently, the project being cancelled, CMRL demanded refund of the Rs. 50 lakhs, which the Appellants paid. In turn when the Appellants requested the refund from HES, they refused under various reasons and arguments. Subsquently, the Appellants following the IBC filed an application as Operational Creditor under Section 9 of IBC. It should be noted that till then all communications of the Appellant had been with Hitro Energy Solutions (HES) a Proprietary Concern, but the Section 9 application was filed against M/s Hitro Energy Solutions Private Limited, ostensibly due to the said MOA.  The NCLT allowed the application which on appeal was stayed by the NLCAT holding interalia that the 'Purchase Orders', which makes it clear that 'M/s. Consolidated Construction Consortium Limited' is a 'Purchaser' and do not come within the meaning of 'Operational Creditor' having not supplied any goods nor given any services to M/s. Hitro Energy Solutions Private Limited'. The Appellants went to the Supreme Court.

The Appellants argued that the appellant is an operational creditor within the framework of the IBC since the purchase orders for light fittings were in relation to the operational requirements of the appellant while the Respondents said that the appellant is not an operational creditor becausethe appellant did not provide any goods or services to the respondent, but only availed of goods or services from the Proprietary Concern. Hence, the appellant will not be an operational creditor within the meaning of Section 5(20) of the IBC.

Judgment

The SC first looking into the various relevant sections of the IBC observed that unlike other foreign jurisdictions, which usually differentiate between secured and unsecured creditors only, the IBC is unique because it provides for two different classes of creditors: operational creditors and financial creditors. 

Section 5(20) of the IBC defines operational creditor in the following terms: (20) operational creditor means a person to whom an operational debt is owed and includes any person to whom such debt has been legally assigned or transferred; 

Section 5(21) defines the meaning of operational debt. Section 5(21), as it stood at the relevant time, was as follows: (21) operational debt means a claim in respect of the provision of goods or services including employment or a debt in respect of the re-payment of dues arising under any law for the time being in force and payable to the Central Government, any State Government or any local authority

Rule 5 of the 2016 Application Rules provides the manner in which the demand notice under Section 8(1) has to be delivered. It provides thus: 5. Demand notice by operational creditor.—(1) An operational creditor shall deliver to the corporate debtor, the following documents, namely.- (a) a demand notice in Form 3; or (b) a copy of an invoice attached with a notice in Form 4. 

The SC held that to understand the position of the former within the framework of the IBC, it is important to understand the distinction between these two classes.

The SC also referred to the Volume I of the Report of the Bankruptcy Law Reforms Committee (BLRC Report) wherein it has been explained that Liabilities fall into two broad sets: liabilities based on financial contracts, and liabilities based on operational contracts. Financial contracts involve an exchange of funds between the entity and a counterparty which is a financial firm or intermediary. This can cover a broad array of types of liabilities: loan contracts secured by physical assets that can be centrally registered; loan contracts secured by floating charge on operational cash flows; loan contracts that are unsecured; debt securities that are secured by physical assets, cash flow or are unsecured. Operational contracts typically involve an exchange of goods and services for cash, the SC held that it is thus clear that operational creditors are those whose debt arises from operational transactions, i.e., transactions which are undertaken in relation to the operation of an enterprise. As the examples in the BLRC Report suggest, these generally include transactions involving goods or services which are considered necessary for the operational functioning of an entity.

The SC further referring to the Joint Parliamentary Committee Report on the IBC observed that it clear that another point of difference between financial and operational creditors would be in the nature of their role in the Committee of Creditors (CoC), because it is assumed the operational creditors will be unwilling to take the risk of restructuring their debts in order to make the corporate debtor a going concern. Thus, their debt is not seen as a long-term investment in the going concern status of the corporate debtor, which would incentivize them to restructure it, but merely as a one-off transaction with the corporate debtor for certain goods or services.

Finally referring to judgments in Swiss Ribbons (P) Ltd. v. Union of India (2019) 4 SCC 17 (Swiss Ribbons), Pioneer Urban Land and Infrastructure Ltd. v. Union of India (2019) 8 SCC 416 (Pioneer Urban), Innoventive Industries Ltd. v. ICICI Bank (2018) 1 SCC 407, Mobilox Innovations (P) Ltd. v. Kirusa Software (P) Ltd. (2018) 1 SCC 353, Kay Bouvet Engg. Ltd. v. Overseas Infrastructure Alliance (India) (P) Ltd. (2021) 10 SCC 483 (Kay Bouvet), held that the respondents submission, which was accepted by the NCLAT, seeks to narrowly define operational debt and operational creditors under the IBC to only include those who supply goods or services to a corporate debtor and exclude those who receive goods or services from the corporate debtor. For reasons which shall follow, we reject this argument. 

First, Section 5(21) defines operational debt as a claim in respect of the provision of goods or services. The operative requirement is that the claim must bear some nexus with a provision of goods or services, without specifying who is to be the supplier or receiver. Such an interpretation is also supported by the observations in the BLRC Report, which specifies that operational debt is in relation to operational requirements of an entity. Second, Section 8(1) of the IBC read with Rule 5(1) and Form 3 of the 2016 Application Rules makes it abundantly clear that an operational creditor can issue a notice in relation to an operational debt either through a demand notice or an invoice. As such, the presence of an invoice (for having supplied goods or services) is not a sine qua non, since a demand notice can also be issued on the basis of other documents which prove the existence of the debt. This is made even more clear by Regulation 7(2)(b)(i) and (ii) of the CIRP Regulations 2016 which provides an operational creditor, seeking to claim an operational debt in a CIRP, an option between relying on a contract for the supply of goods and services with the corporate debtor or an invoice demanding payment for the goods and services supplied to the corporate debtor. While the latter indicates that the operational creditor should have supplied goods or services to the corporate debtor, the former is broad enough to include all forms of contracts for the supply of goods and services between the operational creditor and corporate debtor, including ones where the operational creditor may have been the receiver of goods or services from the corporate debtor. Finally, the judgment of this Court in Pioneer Urban (supra), in comparing allottees in real estate projects to operational creditors, has noted that the latter do not receive any time value for their money as consideration but only provide it in exchange for goods or services. Indeed, the decision notes that [e]xamples given of advance payments being made for turnkey projects and capital goods, where customisation and uniqueness of such goods are important by reason of which advance payments are made, are wholly inapposite as examples vis-à-vis advance payments made by allottees. Hence, this leaves no doubt that a debt which arises out of advance payment made to a corporate debtor for supply of goods or services would be considered as an operational debt.