Anil Goel vs Sona Cotsyn Private Limited & Ors.

Per Corum

This application has been filed by the Liquidator of M/s Birla Cotsyn India Limited (hereinafter referred as “Applicant”) seeking certain transactions to be declared as preferential transactions covered under section 43 of the Insolvency and Bankruptcy Code, 2016 (IBC/Code) and consequential directions to the Respondents to contribute the amount of total transactions.

Ms. Prashansha Agrawal, Ld. Counsel for the Applicant made following submissions:-

Respondent No 1 and Respondent No.4 is one and the same entity as Rohstoffe International Pvt. Ltd. was earlier known a Sona Cotsyn Pvt. Ltd.

On the basis of the legal advice, the Applicant has dropped the allegation of Respondents being ‘related party’ resulting in reduction of look back period and consequential reduction in the amount claimed.

Applicant is not pressing prayers against Respondent No. 2 and Respondent No. 6. Therefore, as per the Applicant many of the transactions initially claimed as preferential transactions are excluded from the ambit of section 43 of IBC and only prayers sought are against R-1, R-3 and R-5 which are discussed in subsequent paragraphs.

M/s Birla Cotsyn (India) Limited (hereinafter referred as “Corporate Debtor/CD”) was incorporated under the Companies Act, 1913 on 24.09.1941 and was doing well in the past. But due to unfavorable circumstances, huge losses were incurred during the financial year 2012-13 and consequently all bank accounts of the Corporate Debtor were declared as non-performing asset by the banks, though the Corporate Debtor continued as a going concern.

On an Application filed by Edelweiss Asset Reconstruction Company Limited (“Financial Creditor”) under Section 7 of the Insolvency and Bankruptcy Code, 2016, the Corporate Debtor was admitted to Corporate Insolvency Resolution Process (hereinafter referred as “CIRP”) vide Order dated 20.11.2018 and Ms. Sujata Chattopadhyay was appointed as the Interim Resolution Professional. Thereafter, the Interim Resolution Professional was appointed as the Resolution Professional (“RP”) in the 14th Meeting of Committee of Creditors (‘COC’) on 20.12.2018.

The RP appointed M/s IIRIS Consulting as the Forensic Auditor vide engagement letter dated 20.02.2019 consequent to which the Forensic Auditor had submitted its report dated 15.04.2019 (“Forensic Report”). From the said forensic report, the RP did not form an opinion or determination that the corporate debtor had been subjected to any transaction covered under section 43 as is required under Regulation 35A of the Insolvency and Bankruptcy Board of India (Resolution Process for Corporate Persons), Regulations 2016.

As insolvency resolution of corporate debtor could not be achieved. Resultantly, liquidation process of the Corporate Debtor was initiated on 24.09.2019 and the Applicant was appointed as the Liquidator.

It was at this stage that the liquidator considered the forensic report dated 15.04.2019 and determined that following transactions undertaken by the Corporate Debtor, as mentioned in the application are covered as preferential transactions under Section 43 of the Code,:-

During the hearing, the parties jointly submitted that R-1 and R-4 is one and the same entity because M/s Rohstoffe International Private Limited was earlier known as Sona Cotsyn Private Limited. Therefore, for ease of reference we have referred R-1 to also mean and include R-4.

Ld. Counsel appearing for the Liquidator, candidly submitted that initially the liquidator treated the Respondents as related parties and accordingly moved the present application against them. However, according to a legal advice received, the Applicant admits that the Respondents cannot be treated as related parties. The effect of the same would be that some of the alleged preferential transactions with Respondents are now excluded being beyond the look back period which is now reduced by one year. Therefore, the amounts claimed in the present application would stand reduced.

The main reason why these transactions are considered preferential transactions by the Applicant is that transactions were undertaken during the period when the corporate debtor had defaulted in repayment of the loans to banks but made payments to the Respondents.

The Affidavit in reply was filed by R-1 and R-5 explaining that the alleged transactions were undertaken in the ordinary course of business. Therefore, even if, the alleged transactions fall under sub-section (2) of section 43, they fall in the exception carved out by the sub-section (3) of the section 43 of the Code.

The nature of alleged preferential transactions and submissions of the Applicant and Respondents qua the said transactions are given below against each transaction for ease of reference:-

The Applicant submits that the above narrated transactions are not in the ordinary course of business because the payments have been made to the Respondents when the Corporate Debtor was facing financial difficulties and therefore, it amounts to preference over other creditors of the Corporate Debtor.

The applicant has relied upon the judgments passed by the Hon’ble Supreme Court in the case of Anuj Jain, IRP for Jaypee Infratech Limited Versus Axis Bank Limited and Others and order passed by Hon’ble NCLAT in the case of “Sahyog Infrastructures Pvt. Ltd and Ors. vs. Anju Agarwal, RP of IP Constructions Pvt. Ltd., Company Appeal No.1367 of 2022.

Mr. Gaurav Joshi, Senior Advocate on behalf of R-1 submitted that the requirements of Section 43 of the Code have not been satisfied in the present instance. Section 43(2) defines a preferential transaction as a ‘transfer of property or an interest thereof of the Corporate Debtor’. Thus, the transaction must involve the transfer of property owned by and/or belonging to the Corporate Debtor. Additionally, the transaction must have the effect of placing the creditor and/or surety and/or guarantor to whom property has been transferred in a beneficial position in case of a distribution of assets under Section 53 of the Code. Nothing of this kind has been brought out by the Applicant. According to him, question of a transfer of property to the said Respondent did not arise at all. It was in fact a transfer of property of the Respondent to the Corporate Debtor for the business operations of the Corporate Debtor. The transaction of purchase of cotton bales from the R-1 was in the nature of a supply of raw material, which was utilized by the Corporate Debtor in the manufacture of yarn. This transaction took place on an arms-length basis, and has been corroborated by the Forensic Report itself. The Forensic Auditor appointed by the Resolution Professional had found that the sales in question were reasonable. The Forensic Report did not cast any doubt of suspicion over these transactions.

It is submitted that the Applicant has failed to make out any case establishing how a preference has been given in regards to the transaction in question in terms of the provision of Section 43(2) of the Code. It is clear from the section that in order to classify any transaction as preferential transaction u/s 43, the following ingredients ought to be satisfied:

a. The recipient has to be either a creditor or surety or guarantor

b. There has to be transfer of property or an interest thereof of the corporate debtor.

c. The transfer of asset or money should have placed the creditor in beneficial position as compared to his position u/s 53 of the Code.

He further submitted that even if it were to be assumed that the requirements to attract the applicability of Section 43 of the Code were satisfied in the present instance, the alleged transactions in question are transactions conducted in the ordinary course of business and expressly excluded from its ambit under sub section (3) of section 43.

The Respondent No. 1 relied upon the judgement passed by the Hon’ble Supreme Court in Anuj Jain, IRP for Jaypee Infratech Limited Versus Axis Bank Limited and Others wherein the Hon’ble Supreme Court has held that “the result of discussion in the foregoing paragraphs is that the transfers in question could be considered outside the purview of sub- section (2) of section 43 of the Code only if it could be shown that the same were made in the ordinary course of business or financial affairs”.

Mr. Nauser Kohli appearing on behalf of Respondent No. 5 argued on the same lines and adopted the legal submissions made by Mr. Gaurav Joshi but explained the nature of transactions. He submitted that it is absurd to brand the transactions made in the ordinary course of business as preferential transactions under the mischief of section 43 merely because the entity and its directors are known to the Corporate Debtor. He further submitted that the payments were made to R-5 for current dues towards professional services and not for any past dues and if the current dues are not paid, the professionals are bound to discontinue the services which shall be detrimental to the Corporate Debtor.

Ld. Counsel further submitted that the Respondent has learnt that erstwhile management had provided very detailed response/ clarifications on issues raised in the forensic audit report. The RP being satisfied with the reply by ex-management came to conclusion that no case is made out for filing an application under Section 43 of the IBC. While basing the allegations only on the forensic report, the Applicant did not seek any response from the Respondent in regard to issues concerning the Respondent before drawing adverse inferences against it. The Applicant is guilty of suppression of all relevant facts and therefore, the application ought to be dismissed.

Heard the counsel appearing for the Applicant Liquidator and for Respondent No. 1 and 5 and perused the material on record.

The arguments put forth by the Applicant are that the Respondent No.1, 3 and 5 supplied goods and services to the Corporate Debtor and were therefore owed ‘Antecedent Operational Debt’ by the Corporate Debtor and that it is on account of this Operational Debt of the Respondent No.1, 3 and 5 that the aforesaid amounts were transferred to them by the Corporate Debtor. Being the Operational Creditors, the said Respondents would rank low in the waterfall mechanism as envisaged under Section 53 of the Code and would receive payment only after the Financial Creditors (Secured / Unsecured) and Workmen / Employees are paid off. However, entire payment has been made to the Respondents prior to the commencement of the Corporate Insolvency Resolution Process of the Corporate Debtor before satisfying the Debt of the Financial Creditors thereby, putting them in a better position than they would have been in the event of Distribution as envisaged under Section 53 of the Code.

The nature of the transactions and the submissions of the parties have already been mentioned in para 12 above. We must examine the scope of section 43 which is extracted below :-

Section 43 of IBC is a deeming provision and any transaction covered by sub-section (2) falls within the ambit of preferential transaction. However, sub-section (3) lays down exceptions one of which is when transfer is made in the ordinary course of the business of the Corporate Debtor and the transferee.

Respondents No. 1 and 5 were present and have vehemently asserted that the alleged transactions by the Applicant are made in the ordinary course of business of the CD and the Respondents. None appeared for Respondent No. 3. The moot question in all the transactions to be examined is whether the transactions were undertaken in the ordinary course of business or not. If they are undertaken in the ordinary course of business then they are covered by the exception under 43(3)(a) of the Code.

The term ordinary course of business has not been defined under the Code. According to the Black’s Law Dictionary meaning of ordinary course of business is the normal routine in managing a trade or business.” We get some more clarity from the Guidance Note of related party transaction issued by Institute of Company Secretaries, which is also referred to by the Hon’ble NCLAT in the Judgement of Sahyog Infrastructure Private Limited and Ors. Vs. Anuj Agarwal wherein the Hon’ble NCLAT held that the guidance note has persuasive value though it cannot be read in place of statutory provisions. The guidance notice could be correct in attempting the definition of ordinary course of business.

In view of the above background, let us examine the alleged transactions one by one.

The nature of alleged transactions with R-1 has been explained by the Applicant as purchase of cotton bales by the Corporate Debtor. Since the Applicant has subsequently been advised that Respondent No.1 is not a Related Party. Therefore, the look back period is one year prior to the commencement of the insolvency date (i.e. 20.09.2018), hence, the amount claimed from R-1 is reduced to Rs. 185,53,514/-. The only allegation is that purchases were made within a short span of one month from February 2018 to March 2018.

We have given our thoughtful consideration. We have also perused the ledger account of R-1 in the books of CD which annexed to the application as well as the Annexure K attached to the Forensic Report which gives the observations about the alleged transactions. According to the ledger account, R-1 has supplied cotton bales to the CD for a total amount of Rs. 2.59 odd crores. R-1’s account was debited by approx. Rs. 2 lakhs on account of low parameters and the CD made aggregate payment of Rs. 1.85 odd crores to R-1 leaving a balance of Rs. 72 lakhs.

During the hearing of the case, question was put to the Ld. Counsel for Applicant whether the CD was running as a going concern at the relevant point of time and whether payments were made to other creditors also apart from the Respondents in this application. After seeking some time Ld. Counsel submitted that the CD was running as a going concern at the relevant time and payments were being made to other creditors also.

We tried to examine if any special circumstances existed to give any preference to R-1. We note that the CD is engaged in the business of manufacturing of cotton yarn and the transactions of purchase of cotton bales, being raw material for the finished products of CD, are routine and in furtherance of the business of the CD. It is not the case of the Applicant that R-1 does not deal in the business of cotton bales. In fact, the CD has been purchasing the cotton bales from R-1 in the past also, beyond the look back period. We also note the Observation in the Forensic Report relating to the purchases made from R-1 as “the rates of purchase @ 40,500 and @ 40,300 are reasonable.”. Further it is mentioned in the Forensic Report that Purchases of Raw Material (Cotton) have been done from various parties. During the period from 01.04.2028 to 10.12.208 net purchases of Rs. 45.21 Crores have been made at different prices from vendors. Few suppliers have been mentioned from whom purchases have been made during the period from 01.04.2018 to 10.12.2018. To name a few of them Saraswati Ginning and Pressing Factory, Avantika Ginning Factory, Govardhandas Motilal Bhadeeh Ginning Industries, Jay Cott Fibres. It is not the case of the Applicant that no payments were made to other vendors and only payments were made to R-1. We further observe that there is still outstanding payment of approx. Rs.72 lakhs which has not been paid by the CD and R-1 explained that this was one of the reasons for not supplying the further raw material to the CD after March 2018. From the above mentioned facts, it is clear that CD had been running as a going concern and purchasing raw materials from various vendors including R-1 and was also making payments to the Vendors. The Applicant has not been able to explain how the routine purchase of raw materials is not in the ordinary course of business. Thus, after examining from all angles and considering the facts and circumstances of the transaction, we are of the considered view that the purchase of cotton bales by the CD during the period from February 2018 to March 2018 and the payments made for such purchases to R-1 is in the ordinary course of business and is covered under exception under subsection (3) of the section 43 of IBC.

The alleged transaction is purchase of blazers worth Rs.8,08,250/- in April 2018 from the Respondent No.3 by paying advance of Rs. 3,11,000/- in February 2018 and the remaining Rs.4,97,200/- in May/June 2018.

None appeared for the R-3. However, this Tribunal has perused the ledger annexed to the application and also the relevant pages of the forensic audit report pertaining to the purchase of blazers. It is mentioned in the Forensic Report that advance amounting to Rs. 3,11,000/- is given to Amadeus Retail LLP which is a concern indirectly related to the Corporate Debtor. It is further observed that stock wise details are not maintained in the books of account by the CD i.e. details of quantity of each type of blazer purchase, rate, discount given, details of purchase (input) and details of sale (output) of the blazer and the rate at which the sales have been made. The advance payment was adjusted in form of purchase of blazers. Sale of blazer was done in cash to the tune of Rs. 69,910/-. Total quantity of blazers sold is 31 blazers as compared to 341 blazers purchased. The remaining blazers in stock have been shown as closing stock as on 11.11.2018 at Rs. 675,488/-.

We have given our thoughtful consideration to the said transaction to form an opinion whether sale and purchase of blazers is in ordinary course of business or not. The CD is engaged in the manufacture and sale of fabric and dealing in allied business activities is a routine business decision. Further, though forensic report states that there is no stock in the tally record yet upon reconciliation, the quantity of blazer purchased, sold and in stock are correctly recorded and reflected in the books of account. There is nothing extraordinary to exclude the above transaction from ordinary course of business. The advance payment of Rs. 3,11,000/- in any case cannot be on account of an antecedent operational debt. In the light of above discussions, we are of the considered view that the Applicant has not made out a case for preferential transaction under Section 43 of the Code.

The Applicant had initially sought a relief of contribution of Rs. 1,98,39,000/- from Respondent No.5. At the time of oral submissions and in written submission, the applicant submitted that claim of R-5 being a related party is dropped and therefore, the lookback period for R-5 is one year prior to the commencement of the CIRP. Accordingly, the amount now claimed from the Respondent No.5 has been reduced to Rs. 1,07,84,200/- which was paid against Consultancy Services from 28th November 2017 to 29th October 2018 and invoices indicate consultancy charges for technical improvement in production whereas the CD was facing financial stress.

In its reply and written submission by R-5 it is explained that R-5 is engaged in providing consulting services relating to marketing of finished goods, selection and arrangement of raw materials, daily production plans, coordinating with senior management team etc. The Corporate Debtor was struggling in difficult phase and to ensure product improvement better efficiency, cost saving measures, it appointed R-5 as its consultant vide an appointment letter dated 01.04.2017 which is in the usual course of business.

We have heard the parties and also examined the observations given in the Forensic Report on the basis of which the present application was filed by the Applicant. The Forensic Report has treated the alleged transaction is with potentially related party. It is mentioned that the level of quantum of operations at which CD is operating, the payment of any form of fees needs to be justified as to in what respect such huge consultancy payments have been done. It is further mentioned that the CFO of the CD had informed the forensic auditor that these fee payments were made for consultancy towards amendments and extension of megaproject of the Corporate Debtor.

Considering the entirety of facts and circumstances we note that the CD was struggling with financial losses and to improve efficiency of business operations, it appointed R-5 on monthly consultancy basis. The factum of R-5 being an entity engaged in consultancy services, raising of invoices by R-5 and GST returns of R-5 has not been denied by the Applicant. It is also admitted in the Forensic Report that the CFO of CD informed Forensic auditor that fee payments to R-5 were made for amendments and extension of the project of CD. We note that providing professional services is ordinary business of R-5 and availing such services is in the ordinary course of business of the CD. The services provided by the R-5 to the Corporate Debtor is for improvement in its business operations. Therefore, the said transaction was carried in a usual course of business of the CD. Further services rendered by R-5 have been supported by invoices raised upon the Corporate Debtor in which it has charged GST and paid GST as can be seen from the GST returns. There is nothing to establish that the said transactions were special or extraordinary in nature or beyond the primary objective of the CD especially in view of the fact that payments were made to the R-5 for current dues over the period of time and not in one single shot. In the light of above discussions, we are of the considered view that the Applicant has not made out a case for preferential transaction under Section 43 of the Code.

Now we deal with the cases relied upon by the Applicant. The applicant has relied upon the judgment of Hon’ble Supreme Court in the case of Anuj Jain, IRP for Jaypee Infratech Limited Versus Axis Bank Limited and Others. In this case, the Hon’ble Supreme Court of India was examining the transaction by the Corporate Debtor in mortgaging its assets for the loans advanced to its Holding Company. The Hon’ble Court observed that furnishing a security is a normal business practice but it would become a part of ordinary course of business only if it falls in place as part of “the undistinguished common flow of business done” and is not arising out of “any special or particular situation”. In this case Jaypee Infratech Ltd. (JIL) had mortgaged its property to secure working capital loan of approx. Rs. 30,000 crores provided to the Holding Company (JAL). JAL was also creditors to JIL. By way of such transactions, JAL was a beneficial and at advantageous position by creating security interest over the properties of the Corporate Debtor (JIL) and in the eventuality of distribution of assets under Section 53 of the Code, other creditors of JIL would be at the disadvantageous position. Therefore, the Hon’ble Supreme Court held that where the Corporate Debtor has mortgaged its assets for the benefits of its Holding Company putting its own creditors into disadvantageous position, it would be a preferential transaction under Section 43 of the Code. The facts of Jaypee Infratech Limited (supra) are clearly distinguishable from the facts of the present case in hand. The alleged transactions in the present case i.e. purchase of cotton bales (raw material), purchase of blazers for sale and remaining lying as closing stock, availing consultancy services for improvement of under distress business operations of the Corporate Debtor are falling under “undistinguished common flow of business” of the CD. During the hearing, the Bench repeatedly raised query to the Ld. Counsel for the Applicant to demonstrate how the alleged transactions are not in the ordinary course of business. However, learned Counsel is unable to explain the special nature of the transactions except to point out that by making the payment to the Respondents they were given preference over other creditors. Therefore, the judgment of Anuj Jain, IRP for Jaypee Infratech Limited Versus Axis Bank Limited and Others does not support the case of the Applicant. We have no doubt in arriving at the conclusion that the transactions undertaken in the present case are in the ordinary course of business and covered by the exception provided under 43(3) of the Code.

The Applicant has also relied upon the Judgment of the Hon’ble NCLAT in the matter of “Sahyog Infrastructures Pvt. Ltd and Ors. vs. Anju Agarwal, RP of IP Constructions Pvt. Ltd., Company Appeal No.1367 of 2022”. In this case, Sahyog Infrastructures Pvt. Ltd. had claimed to have booked an Apartment with the Corporate Debtor against Payment of Security Deposit. An amount of Rs. 2.16 crores was repaid by the Corporate Debtor during the look back period to Sahyog Infrastructure Pvt. Ltd. claiming that booking was cancelled and the security deposit held in trust by CD was refunded. However, the repayment of security deposit was considered to be a Preferential Transaction and not in the ‘Ordinary Course of Business’ as no letter or communication of cancellation etc. was placed on record. Further the written agreement between Sahyog Infrastructures Pvt. Ltd and the Corporate Debtor was on Stamp Paper which was purchased from Uttar Pradesh though the Corporate Debtor had registered office at Delhi where e-stamp paper is mandatory. Therefore, the intention of the parties was under suspicion and such agreement was not relied upon. The Court held that payment of amount of Rs. 2.16 crores paid to Sahyog Infrastructure Pvt. Ltd. was not refund of security deposit but it was repayment of unsecured loan to a related party during look back period. Therefore, the facts are distinguishable and this case also does not support the Applicant.

The Applicant next relied upon paras 20 & 21 of the judgment of Royal Courts of Justice Strand, London, WC2A 2LL in the case of Michael Wilson & Partners, Ltd. Vs. John Forster Emmott, to contend that whether or not a payment is made in ordinary course of business will depend on the purpose of the payment and the course of business that must be ordinary. The relevant extract is reproduced below:

We have gone through complete judgment to understand the context. In this case there was freezing order against MWP prohibiting it from making any payment except in the ordinary course of business. It was alleged that in violation of the said freezing injunction order, MWP transferred a huge amount to KHI towards consultancy/legal fee/expenses and towards payment of arrears of office rental, service and maintenance whereas KHI was an entity controlled by the sole director of MWP. The Judge at the first instance decided that there was a breach of the freezing injunction order. However, on an appeal before the Appellate (Civil Division) Queen’s Bench, the three judges unanimously held that a question to determine whether a transaction is in the ordinary course of business or not is highly fact sensitive question. Though the payment made by MWP to its related entity appears to be special transaction, however, considering all the circumstances surrounding the transaction, concluded that the alleged transactions were indeed in the ordinary course of MWP’s business. Though, the judges cautioned that it does not mean that in all circumstances the repayment of indebtedness to associate companies will be regarded as falling within the ordinary course of business. This case also does not support the submissions of the Applicant.

We also find force in the submission of R-5 that after receiving the detailed clarifications on issues raised in the forensic audit report, the RP concluded that no case is made out for filing an application under Section 43. After obtaining the forensic audit report dated 15.04.2019 and after considering the detailed response if the RP formed an opinion that CD has been subjected to avoidance transactions under section 43, then as per Regulation 35A(2) of the Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Corporate Persons) Regulations, 2016, it was obligatory on her part to make a determination on or before the one hundred and fifteenth day of the insolvency commencement date. However, it appears that neither has the Resolution Professional formed any opinion or determination nor has she filed any application under Section 43 of the Code.

We cannot lose the sight of the matter that though in the pleading, the Applicant had initially treated the alleged transactions between Corporate Debtor and the Respondent as related party transactions. However, as already pointed out the allegation of related party has been dropped during the hearing of the matter. It appears the allegation of related party was based on the forensic report which mentioned that these transactions have taken between “potential related parties”. It was the duty of the Applicant to determine whether the respondents are related parties or not. We note that despite forensic audit dated 15.04.2019, the RP did not form any such opinion/ determination.

The Applicant has a duty to establish to the satisfaction of this Tribunal, that the alleged transactions are of special nature and entered into to give any benefit/preference to the Respondents and therefore do not fall under the category of ordinary course of business. During the hearing when query was put to the Ld. Counsel for the Applicant to demonstrate any special circumstances it was admitted that the Corporate Debtor was running as a going concern and payments were made to the other creditors in the ordinary course of business. If that is the case where CD was running as a going concern and payments were being made to creditors and vendors, then we cannot appreciate how the alleged transactions of purchase of cotton bales, purchase and sale of blazers duly supported by closing stock, payment of consultancy for improving business efficiency of corporate debtor are not in the ordinary course of business of CD.

The Applicant has not made out a case of preferential transaction except making sweeping allegations which were earlier premised on the assumption that the alleged transactions were undertaken with a related party and later such allegation was dropped. In view of the above facts and circumstances of the case, we are of the view that the alleged transactions were undertaken in the ordinary course of business, they are covered by the exception under sub-clause (3) of Section 43 and cannot be held as preferential transaction.

We find no merit in the present application which is liable to be rejected. Accordingly, the above application is dismissed and disposed of.