Rajratan Babulal Agarwal vs Sonal Trading Company & Ors.

Per: Barun Mitra, Member (Technical)

The present appeal filed under Section 61 of Insolvency and Bankruptcy Code 2016 (‘IBC’ in short) by the Appellant arises out of the Order dated 16.12.2022 (hereinafter referred to as ‘Impugned Order’) passed by the Adjudicating Authority (National Company Law Tribunal, Mumbai Bench-III) in C.P. (IB) No. 2616/MB/2019. By the impugned order, the Adjudicating Authority has admitted Section 9 application filed by the Respondent-Operational Creditor for initiation of CIRP against the Corporate Debtor-Tradco India Private Limited. Aggrieved by the impugned order, the present appeal has been preferred by the Appellant who is the suspended Director of Corporate Debtor.

Coming to the factual matrix of the case at hand, there was a business arrangement between Sonal Trading Company-Operational Creditor and the Corporate Debtor-Tradco India Pvt. Ltd. by which the Operational Creditor supplied maize through two brokering entities to Yashwant Glucose Karkhana (“YGK” in short) on the directions of the Corporate Debtor who in turn got the maize processed to make forward supply of the maize and its derivatives to other end users/customers. As per this business relationship the Corporate Debtor had issued five purchase orders during the period 16.07.2017 to 19.08.2017 to the Operational Creditor for supply of maize and the Operational Creditor had delivered the products to the Corporate Debtor. While it is contended by the Operational Creditor that the Corporate Debtor had accepted the supply without demur or protest on the quality of goods supplied, it is alleged by the Corporate Debtor that the delivery against the fifth supply order was discontinued by them midway as there was a pre-existing dispute between the parties with regard to quality of maize supplied. The Operational Creditor however raised invoices for a total amount of Rs 3.14 Cr. against which payments had been received from the Corporate Debtor of only Rs 2.01 Cr. with an outstanding unpaid amount of Rs 1.13 Cr. Since no payment was forthcoming from the Corporate Debtor despite issue of reminders, Section 8 Demand Notice was issued by the Operational Creditor on 20.06.2019. The Corporate Debtor replied to the Section 8 Demand Notice on 01.07.2019 and in their Notice of Dispute, the Corporate Debtor disputed the invoices; denied the dues claimed and also raised pre-existing disputes. The Operational Creditor thereafter filed the Section 9 application against the Corporate Debtor which was admitted by the Adjudicating Authority vide impugned order dated 16.12.2022 on the ground that debt and default stood proven and that the pre-existing disputes raised by Corporate Debtor being spurious did not merit cognisance.

Making submissions on behalf of the Appellant, Shri Krishnendu Dutta and Shri Abhijeet Sinha, Ld. Senior Counsels belaboured to explain the prevailing industry practice and how the business transaction was structured between the Corporate Debtor; Operational Creditor; intermediaries/brokers and end- users/customers to submit that the Corporate Debtor had purchased the cattle-feed not from the Operational Creditor directly but through two intermediary brokering entities of the Operational Creditor, namely, Dinesh Trading Company (“DTC” in short) and Swastik Corporation (“Swastik” in short). The maize supplied by the agent-DTC was in turn directly sent to Yashwant Glucose Karkhana who in turn manufactured and sold fibre and husk out of the raw maize through a broker, namely M/s Kadam Enterprises and delivered the same to Chitale Dairy. This husk and fibre was utilized by Chitale Dairy for consumption by the cattle in their dairy farm. Several cattle in Chitale Dairy died because the husk and fibre delivered by YGK was contaminated. Due to this mishappening in Chitale Dairy, YGK had issued a debit note to the Appellant-Corporate Debtor. The Corporate Debtor thereafter aborted the fifth purchase order of 500 MT midway and the delivery was limited to 273 MT with further supplies stopped. It was vehemently contended that the very fact that the delivery against the fifth supply order was discontinued by them midway substantiates pre-existing dispute between the parties. Submission was also pressed by the Appellant that due to this defective supply, a debit note had been issued to them by YGK on 25.10.2017 and in turn they had issued a debit note on 31.03.2018 to the Operational Creditor which again clearly signified pre-existing dispute. To further buttress their argument that the debit note had actually been issued, it was added that these debit notes were also reflected in the income tax returns of the Corporate Debtor well before the Section 8 Demand Notice. Reliance was placed on the judgement of the Hon’ble Supreme Court in Mobilox Innovations Vs Kirusa Software Ltd. (2018) 1 SCC 353 to contend that the Adjudicating Authority is only required to see whether a plausible dispute has been raised which requires further investigation and whether the assertion of dispute is supported by evidence or not. The threshold in deciding the admission of a Section 9 application being much below the preponderance of probability, the Adjudicating Authority was not required to evaluate whether the defence raised is likely to succeed or not. However, the Adjudicating Authority while ignoring the notice of dispute raised by them in their reply to the Section 8 Demand Notice ended up wrongfully holding the disputes raised to be spurious and moonshine.

Assertion was also made that the industry practice in this sector was that the operations of the principal are conducted through agents. It was contended by the Appellant that since DTC was the agent of the Operational Creditor and DTC had confirmed the receipt of the debit note, this debit note acknowledgment by DTC implied that the Operational Creditor also had prior knowledge of the debit note. Contending that any action on the part of DTC was binding on the Operational Creditor, reliance has been placed on the judgment of the Hon’ble Delhi High Court in M/s Civtech Engineers Pvt. Ltd. Vs M.N. Securities Pvt. Ltd. 2010 SCC Online Del 2973 and judgement of the Hon’ble High Court of Madras in M. Masilamani Vs M. Veeramani 2017 SCC Online Mad 4978. It was also added that in terms of Section 229 of the Indian Contract Act, the debit notice sent to the DTC being the agent had the same legal consequences as a notice being sent to their Principal which in the present case happened to be the Operational Creditor.

To substantiate that the pre-existing dispute was genuine, attention was also adverted to certain communications exchanged prior to the issue of Section 8 Demand Notice between the Corporate Debtor, their broker and end-user/customer with regard to supply of contaminated goods and that these communications. One such communication was from YGK enclosing a debit note of Rs 2 Cr. against the Corporate Debtor. Another communication was one issued by Chitale Dairy to M/s Kadam Enterprises which had brokered the deal for sale of fibre and husk between YGK and Chitale Dairy. The third communication adverting attention to pre-existing dispute was a letter from Chitale Dairy to YGK wherein it was stated that the cattle faced medical issues because of consumption of contaminated corn husk supplied by them through M/s Kadam Enterprises. Reliance has also been placed on certain notarised affidavits issued by various entities also show that pre-existing disputes existed between the parties. DTC in their affidavit mentions the issue of debit note and settlement talks between the Operational Creditor and the Corporate Debtor. Another affidavit was by a relative of the Operational Creditor, namely, Shri Sanjay Patni which mentions about settlement talks between the Operational Creditor and Corporate Debtor. The third affidavit by an employee of the Corporate Debtor attested that the lab test reports showed contamination of fibre and husk causing sickness of the cattle at Chitale Dairy. Another affidavit by one Mr. Vikas Chowgule testified that the Operational Creditor had visited the factory of YGK and Chitale Dairy alongwith DTC in view of the cattle sickness caused by the supply received. The veracity of the contents of these affidavits would entail the need to forward evidence in a trial in a civil suit which lay beyond the remit of the Adjudicating Authority.

Refuting the contentions made by the Appellant-Corporate Debtor, Shri Aslam Ahmed, Ld. Counsel for Respondent No.1-Operational Creditor submitted that the Operational Creditor had fulfilled the mandate of the purchase orders placed on them and that the goods had been received by the Corporate Debtor without any demur or protest. No contemporaneous communication has been placed on record which points out towards any dispute with regard to quality or quantity of goods delivered to and received by the Corporate Debtor. Nor is there any evidence to show that the damaged stock was returned which would have been the normal recourse taken by any purchaser who is not satisfied with the material supplied. It is the contention of the Respondent that the debit-note purportedly raised by the Appellant was never served upon or e-mailed to the Operational Creditor. Further, the allegations with regard to quality issues raised by Chitale Dairy are also not a relevant ground of dispute since there was no privity of contract between the Operational Creditor and other third-party entities like Chitale Dairy. Further, there is nothing to establish co-relation between the maize which had been supplied to the YGK by the agent of the Operational Creditor and the fibre and husk which was finally delivered to Chitale Dairy by YGK. Hence the debit-note raised by YGK lacked nexus with the maize supplied by the Operational Creditor through DTC. Even the disputes raised by the Corporate Debtor on the basis of affidavits sworn by other third-party entities also have no bearing as these affidavits were filed much after the Section 8 Demand Notice. It was strenuously contended that the debit note raised were an illusionary and spurious defence which did not constitute a pre-existing dispute in terms of the Mobilox judgment supra. The entire narrative of pre-existing dispute has been fabricated by the Corporate Debtor as an afterthought post the issue of Section 8 Demand Notice dated 20.06.2019. Further keeping in mind that the Corporate Debtor made payments to the Operational Creditor even after having raised the issue of disputes including the incidence of cattle-deaths shows that there was no real or genuine dispute existing between the parties. There was no FIR, Lab Report or any expert evidence which linked the cattle deaths to the maize supplied by the Operational Creditor. Thus, the dispute raised with regard to supply of substandard material was clearly an after-thought which lacked credibility. It is therefore contended by the Operational Creditor that the said dispute having been contrived with a view to resist the insolvency resolution proceedings, the Adjudicating Authority for good reasons has admitted the Section 9 application.

We have also heard Shri Sanjiv Sen, Ld. Sr. Counsel for the Intervenor-SBI. It was submitted that the Corporate Debtor was indebted to SBI and that in case the impugned order is upheld, they would like to file their claims before the Resolution Professional and in case the impugned order is set aside, they would like to initiate CIRP proceedings against the Corporate Debtor as they are liable for financial debt qua SBI.

We have duly considered the arguments advanced by the Learned Counsel for the parties and perused the records carefully.

The short question which needs to be answered is whether there was any pre-existing dispute between the parties within the meaning of Sections 8 and 9 of the IBC and whether the Adjudicating Authority had committed any infirmity in passing the impugned order admitting the Section 9 application filed by the Operational Creditor. In this endeavour, we will be guided by the well settled proposition of law laid down by the Hon’ble Supreme Court in Mobilox Innovations (P) Ltd. v. Kirusa Software (P) Ltd. (2018) 1 SCC 353 wherein it is held:

It is the case of the Appellant that merely because goods had been supplied by the Operational Creditor and delivery of part goods had been accepted by the Corporate Debtor in pursuance of the purchase orders placed by them, that did not preclude them from raising claims in relation to breach of conditions. It was contended that that out of the total quantity contracted in the five purchase orders for 2100 MT, only 1873 MT had been delivered and the remainder supply was stopped because of sub-standard and contaminated material supplied by the Operational Creditor. It is also the contention of the Appellant that they had never taken direct physical delivery of the maize from the Operational Creditor. The maize was to be supplied by DTC, an agent of the Operational Creditor with the delivery address of the supply being that of YGK and the invoices clearly depicted this position as placed at pages 89 to 121 of APB. In turn, YGK acting as the agent of the Appellant supplied the maize as cattle feed to Chitale Dairy. Since several cattle in Chitale Dairy had died because the husk and fibre delivered by YGK was contaminated, YGK had issued a debit note to the Appellant-Corporate Debtor and the latter had in turn issued a debit note to the Operational Creditor and also put a stop to the fifth purchase order midway. The fact that the delivery against the fifth supply order was discontinued midway by them besides issue of a debit note clearly evidenced pre-existing dispute between the parties.

Per contra, it is the case of the Operational Creditor that the Corporate Debtor had at no stage controverted the fact that maize was not delivered to them against the purchase order placed by them. Further there is no communication by which any dispute was raised by the Corporate Debtor with the Operational Creditor regarding quality of maize supplied by the Operational Creditor. Besides the absence of any contemporaneous communication about damaged or substandard material having been received, nor is there any evidence to show that any damaged stock was returned by them which ought to have been the normal recourse taken by any dissatisfied purchaser. What was still more baffling is why the Corporate Debtor still made payments to the Operational Creditor as late as on 04.12.2017 even after the purported death of cattle reported by Chitale Dairy. It was therefore asserted that there was no real or genuine dispute existing between the parties. It is the contention of the Operational Creditor that even if it is admitted that a debit note had been raised by YGK to the Corporate Debtor, there is nothing to establish co-relation between that debit note and the maize supplied to the YGK by the Operational Creditor since the Operational Creditor was not the only supplier of maize in the market for YGK. Moreover, the maize which had been received by YGK on behalf of the Corporate Debtor was in turn processed into other forms by Kadam Enterprises and thereafter distributed by them to other entities. Thus, what was consumed by the cattle was the processed form of maize provided by Kadam Enterprises and hence the blame for cattle death cannot be attributed to the Operational Creditor. There is no FIR, Lab Report or any expert evidence which linked the cattle deaths to the maize supplied by the Operational Creditor. Since there was no privity of contract between the Operational Creditor and these third-party entities, the allegations raised by Chitale Dairy or YGK with regard to quality issues are irrelevant and untenable. It is therefore contended by the Operational Creditor that the said dispute has been contrived with a view to resist the insolvency resolution proceedings and the Adjudicating Authority had correctly noticed at para 8 of the impugned order that the conduct of the Corporate Debtor evidenced from making of payments even after cattle deaths in August 2017 demonstrated that there was no dispute between the parties and the subsequent narrative raised with regard to supply of substandard material therefore did not carry credibility.

Coming to our analysis and findings, when we look at the material placed on record, we find that a debit-note had been issued to the Corporate Debtor by YGK on 25.10.2017 as placed at page 193 of Appeal Paper Book (“APB” in short). In turn the Corporate Debtor had issued a debit-note on 31.03.2018 to the Operational Creditor for Rs 2 Cr. which is placed at page 202 of APB. This entry clearly depicts that the amount was debited against the party as “Quality Compensation” deduction. The same is also reflected in the ledger account of the Operational Creditor maintained by the Corporate Debtor as may be seen at pages 233-234 of the APB. That the debit note had actually been issued is also evidenced by the fact that the Corporate Debtor had reflected the debit-note in their income tax returns as is placed at page 209 of the APB. The income tax returns had been filed by the Corporate Debtor on 29.10.2018 which was well before the Section 8 Demand Notice. That the Corporate Debtor paid higher income tax on account of income enhancement as a result of the debit-note also lends credence to the contention of the Corporate Debtor that debit note was not contrived since no Corporate Debtor in its right sense would needlessly subject themselves to higher tax liability. This validates that fact that the debit notes were actually issued prior to Section 8 Demand Notice which thus clearly signified pre-existing dispute between the parties but we do not find the impugned order dealing with the debit-note and this is a critical miss on the part of the Adjudicating Authority.

As regards the contention of the Operational Creditor that payments were made to them by the Appellant even after the alleged debit note, we notice that in their defence, it is clarified by the Appellant that these payments related to purchase order No. 3 which was an entirely separate transaction brokered by a different agent Swastik. In support of their contention, it was submitted that the ledger account of the Operational Creditor as placed at page 207 clearly show that these payments were made for a purchase order which was undisputed. The entire supply had been made by Swastik and their entire payment had been settled. We are inclined to agree with the Appellant that payments made by them in respect of purchase order No.3 was a self-contained transaction insulated from purchase order No.5 payments for which had been disputed and debit notes issued. Further the decision of the Corporate Debtor to put a stop to the supply of goods under the fifth purchase order also evidences clear dispute for which no CIRP can be initiated.

We next shift our focus on certain communications exchanged between the Corporate Debtor; DTC as the broker of the Operational Creditor and Chitale Dairy as end-user/customer. One such relevant communication relied upon by the Appellant is a letter dated 23.09.2017 from Chitale Dairy to YGK wherein it was stated that their cattle faced medical issues because of consumption of contaminated corn husk supplied by YGK. This e-mail is placed at page 187-A of the APB and reads as follows:

A plain reading of the above letter shows that this was a contemporaneous correspondence between Chitale Dairy as the end customer with YGK who was understandably the agent of the Corporate Debtor who had directly received supply of corn husk on behalf of the Corporate Debtor from DTC as the agent of the Operational Creditor. This letter was undisputedly issued prior to the issue of Section 8 Demand Notice. As a sequel, we find that another communication was sent by YGK to the Corporate Debtor dated 25.10.2017 debiting the amount for which bad corn was supplied to them leading to cattle disease and deaths as placed at page 187-A of the APB. In another e-mail dated 29.03.2018 from YGK to the Corporate Debtor, reference is made to the debit note of Rs 2 Cr. as can be seen at page 188 of the APB. Keeping in view the industry practice of employing agents was being followed by both the Corporate Debtor and the Operational Creditor, the communications relating to supply of contaminated goods exchanged between the agents and their principals and consequential issue of debit-notes which all happened prior to issue of Section 8 Demand Notice did constitute critical communications showing pre-existing disputes but these communications have not been dealt by the Adjudicating Authority in the impugned order.

It is also a well settled legal proposition that for pre-existing dispute to be a valid ground to nullify an application under Section 9, the dispute raised must be truly existing at the time of filing a reply to the notice of demand as contemplated by Section 8(2) of IBC or at the time of filing the Section 9 application. In the present case, we notice that reply was furnished on 01.07.2019 by the Corporate Debtor in response to the Section 8 Demand Notice dated 20.06.2019. The relevant excerpts of the said Notice of Dispute are as extracted below:

When we look into the above reply to the Section 8 Demand Notice, the said reply is clearly a notice of dispute sent by the Corporate Debtor. The Corporate Debtor has raised the issue of losses and damages suffered on account of supply of inferior quality of goods supplied causing cattle deaths leading to attendant losses and damages suffered and raising of debit notes besides denial of any outstanding dues. Section 9(5)(ii)(d) of IBC expressly provides that Adjudicating Authority shall reject the Section 9 application if notice of dispute has been received by the Operational Creditor. The above reply to demand notice is clearly a notice of dispute within the meaning of Section 9(5)(ii)(d). The statutory stipulations as contained in Section 9(5)(ii)(d) having been met, the Adjudicating Authority had to reject the application.

For such disputed operational debt, Section 9 proceeding under IBC cannot be initiated at the instance of the Operational Creditor. The legal tenets laid down by the Hon’ble Supreme Court in the Mobilox judgement as reiterated in Kay Bouvet Engineering Ltd. vs. Overseas Infrastructure Alliance (2021) 10 SCC 483 is equally applicable to the present factual matrix:

The Adjudicating Authority has failed to appreciate the facts of the case in its entirety having not examined the due applicability of Section 9(5)(ii)(d) to the facts of the present case and instead proceeded to observe that defence of pre-existing dispute raised by the Corporate Debtor is a spurious defence. If we apply the above-cited test laid down by the Hon’ble Supreme Court to the facts of the present case, it is clear that the defence which was raised by the Corporate Debtor in its reply to Demand Notice as well as in their detailed reply filed in Section 9 application cannot be said to be unsupported by evidence. The defence raised by the Corporate Debtor is prima facie plausible and cannot be outrightly rejected as spurious, hypothetical or illusory. We are satisfied that the Section 9 application filed by the Operational Creditor did not deserve admission and was liable to be rejected as required by Section 9(5)(ii)(d) of the IBC. The Adjudicating Authority committed an error in admitting the Section 9 application and we, therefore, hold that the impugned order passed is unsustainable.

In result, we are of the considered view that the Adjudicating Authority has erroneously admitted the application under Section 9 of the IBC. We allow the Appeal and set aside the impugned order. The orders passed by the Adjudicating Authority initiating CIRP against the Corporate Debtor and appointing Interim Resolution Professional and all other orders pursuant to impugned order are set aside. The Corporate Debtor company is released from the rigours of CIRP and is allowed to function independently through its board of directors with immediate effect. The amount of Rs 2 lakh directed by the Adjudicating Authority to be paid by the Operational Creditor to the Resolution Professional, if not yet paid, be paid within two weeks from the date of this order. We however add that the Appellant can pursue its remedies before an appropriate forum of law. We also observe that it will remain open for the Intervenor-SBI to exercise its liberty to initiate proceedings against the Corporate Debtor under the statutory provisions of IBC. All I.As stand closed. No order as to costs.