With the emergence of a fresh insolvency regime in India, the interplay between arbitration and insolvency has gained significant importance in recent times. However, given the limited statutory guidance available on this subject, numerous arbitral proceedings have been brought to a standstill due to the onset of insolvency proceedings. While some jurisdictions have already settled the legal position on this matter, India is still relatively new to this field and has yet to establish a clear framework. With the introduction of the Insolvency and Bankruptcy Code 2016, the distance between arbitration and insolvency widened. Arbitration and insolvency mechanisms are at odds with each other due to their distinct features. Arbitration prioritizes party autonomy and confidentiality, while insolvency requires consolidation of disputes before the Adjudicating Authority and is transparent in nature. This article talks about the friction between these two and the way forward.
The opposite poles
Arbitration and Insolvency are near polar extremes as the bankruptcy policy exerts an inexorable pull towards centralization while arbitration policy advocates a decentralized approach towards dispute resolution[1]. Arbitration and insolvency can conflict due to differing objectives. The aim of insolvency is to provide solutions that respect the interests of the majority of the debtor's stakeholders. The ideal process would maximize returns for stakeholders, optimizing the value of the debtor and its assets and encourage collective action with a stay on individual enforcement. This would ensure fair and rational distribution while preserving the interests of lower-ranking stakeholders. The objective is achieved by providing a stay on all the legal proceedings relating to the debtor (moratorium) while inviting claims of the creditors. After the claims are submitted, the next step is to distribute the assets of the debtor among the creditors in a fair and rational manner, considering the interests of all stakeholders.
On the contrary, the essence of arbitration law lies in the idea of empowering parties with the ability to resolve disputes through a private and alternative tool. This approach is often simpler, faster, and more cost-effective than seeking justice through the traditional court system. The ultimate goal of arbitration is to enable parties to maintain control over their dealings and disputes, with the role of courts limited to enforcing the arbitration agreement. In accordance with the arbitration policy, any disputes that fall within the purview of the arbitration agreement must be referred to arbitration, whereby the jurisdiction of courts is expressly excluded.
This collision will always result in the insolvency proceedings prevailing over the arbitration proceedings through the application of moratorium or stay provisions under the insolvency law. These provisions are designed to temporarily halt all legal proceedings against the debtor, including arbitration, while insolvency proceedings take place. This is done to ensure that the policy objectives of insolvency law, which aim to protect the interests of all stakeholders, particularly the creditors, are not compromised by continuing with arbitration. The priority given to insolvency law is based on its potential impact on the recovery that can be made by other creditors in the insolvency process. Therefore, the implementation of moratorium or stay provisions under insolvency law is seen as a necessary measure to prevent any adverse effects on the insolvency proceedings and ensure a fair distribution of the debtor's assets among all stakeholders.
Moratorium and Arbitration
Moratorium under section 14 of the IBC is the restriction of the institution of any suits as well as the continuation of any pending suits or proceedings against the corporate debtor. The purpose of the moratorium is to provide a “calm period” during the insolvency resolution process, allowing the Corporate Debtor to continue operations and maximize its value. The question arises when an arbitration suit arises:
a) Pre-Insolvency Process Stage
b) During the Corporate Insolvency Resolution Process (CIRP)
c) Post-Insolvency Process Stage i.e., arbitration proceedings pending even after CIRP.
Arbitration commenced prior to CIRP.
From the definition of moratorium under section 14 of the IBC it is clear that on the initiation of insolvency proceedings, the institution as well as the continuation of any pending suits is specifically barred in relation to the corporate debtor (CD). However, it's possible for a debtor to initiate arbitration before the commencement of CIRP as the claimant in the proceedings. Even if a moratorium is in place, which may pause ongoing legal cases, Section 14 specifies that this only applies to proceedings against the corporate debtor. The provision does not prohibit proceedings initiated by the corporate debtor, which could actually help maximize asset value. According to Section 25 under IBC the resolution professional shall represent the CD and continue proceedings that have the potential to maximize the asset value of the CD which also includes arbitration. This section denotes the importance of the continuation of proceedings which will benefit the CD. Only those proceedings that will decrease, endanger, or affect the assets owned by the CD will come under the definition of moratorium. The intent here is clear that the primary aim of the whole insolvency proceeding and moratorium is to maximize the asset value of the CD which will help in its resolution or revival. Those proceedings which doesn’t affect the assets of the CD will in turn serve the purpose of moratorium[2]. It is possible for certain arbitrations to continue without negatively affecting the insolvency process of the corporate debtor. In fact, any financial gain resulting from a money claim or affirmation of asset rights in these arbitrations can improve the financial position of the corporate debtor and increase the likelihood of successful revival. Provided further that if the arbitration proceeding initiated by the CD involves a counterclaim by the opposite party and there is a chance that the award will not be in favor of the CD then such proceedings will be barred under section 14 of the code. Another exception in this scenario is when such counterclaim by the opposite party in the same arbitration proceeding will allow to determine the claim of the CD, in those scenarios such counterclaims are allowed even during the initiation of insolvency proceedings[3].
Arbitration proceedings during CIRP
Commencement of a fresh arbitration proceeding during an insolvency process depends on whether it will benefit the CD in maximizing its asset value or not as mentioned above. The resolution professional has the duty to enter into contracts on behalf of the corporate debtor or to amend or modify the contracts or transactions which were entered into before the commencement of CRIP[4]. The corporate debtor can enter into contracts, including arbitration, and act through the resolution professional during insolvency. Thus, the parties to an agreement of a corporate debtor are permitted to initiate and pursue arbitration proceedings if the agreement stipulates that disputes must be resolved through arbitration, even if a dispute arises prior to or during the insolvency process provided that the ultimate result of that agreement will lead to maximization of asset value of the CD as stated earlier.
Continuation of arbitration proceedings after the CIRP
When the insolvency proceedings are over the outcome will be either one of the below:
a) Successful revival of the entity
b) Liquidation
The effect of the commencement of arbitration in each of the above cases is different. In case of a successful insolvency proceeding moratorium will be lifted. In such situations, all pending cases relating to CD that were not mentioned in the resolution plan will be extinguished[5]. On the other hand, if the arbitration proceedings were referred to in the resolution plan, the plan would have the power to bind the parties to the agreement. The agreement would either continue to be in effect or come to an end, depending on the terms of the resolution plan. But usually, most of the resolution plan nowadays has a clause that sets all the pending and contingent claims as NIL. This is done to give a fresh start for the new management after the successful insolvency process.
When the CIRP is not successful then the entity will go to liquidation and the situation changes regarding the pending suits of the CD. When a company goes into liquidation and a liquidator is appointed, a legal bar is imposed which prevents any lawsuit or legal proceedings from being initiated by or against the company in question during the liquidation proceedings. However, it is possible for the liquidator to initiate a lawsuit or other legal proceedings on behalf of the company but only with prior approval from the NCLT[6]. This provision aligns IBC with section 41 of the Arbitration Act[7]. Just like resolution professionals in CIRP, a liquidator also has the authority to institute a suit or any other legal proceeding or defend any suit or any other legal proceeding (including arbitration) pending against the CD[8]. The ultimate deciding factor of the position of an arbitration proceeding against a CD is whether it would benefit the CD in any way or whether it will make the process of insolvency/liquidation more complex.
India is in a growing state with respect to both arbitration as well as insolvency. The arbitration act which was enacted in the year 1996, has been amended numerous times in order to keep up with the change in the societal as well as legal changes in the country. IBC which was enacted in the year 2016 has brought a new dimension in insolvency cases providing direct procedures in the revival of CD and acting in accordance with the interests of shareholders. As both arbitration and insolvency are special laws, the recently enacted law will always prevail over the other. In such a case the interest or validity of the arbitration agreement with respect to the CD will be in affected. As India is trying to be an arbitration-friendly nation, a special form of arbitration (insolvency arbitration) just like other forms of arbitration such as sports arbitration, maritime arbitration, etc. has to be formed as a niche of its own. The interests of both i.e., parties to the arbitration as well as the CD should be equalized. Express legislative provisions governing arbitration and insolvency will enhance clarity and predictability.
Adv. Niketh Vinod Legal Trainee, Artis Law House
References
3. https://www.cyrilshroff.com/wp-content/uploads/2020/09/Crossroads-of-Insolvency-and-Arbitration.pdf
[1] Re United Stated Lines Inc. 197 F.3d 631 (2nd Cir. 1999)
[2] Power Grid Corporation of India v. Jyoti Structures Ltd., Delhi High Court (2018) 246 DLT 485
[3] Jharkhand Bijli Vitran Nigam Ltd. v. IVRCL Limited & Anr, Company Appeal (AT) (Insolvency) No. 285 of 2018
[4] Section 20(2)(b) of Insolvency and Bankruptcy Code, 2016.
[5]Ghanashyam Mishra and Sons Private Limited v. Edelweiss Asset Reconstruction Company Limited, Supreme Court of India, Civil Appeal No. 8129 of 2019.
[6] Section 33(5) of IBC, 2016.
[7] Section 41. Provisions in case of insolvency. — (1) Where it is provided by a term in a contract to which an insolvent is a party that any dispute arising thereout or in connection therewith shall be submitted to arbitration, the said term shall, if the receiver adopts the contract, be enforceable by or against him so far as it relates to any such dispute. (2) Where a person who has been adjudged an insolvent had, before the commencement of the insolvency proceedings, become a party to an arbitration agreement, and any matter to which the agreement applies is required to be determined in connection with, or for the purposes of, the insolvency proceedings, then, if the case is one to which sub-section (1) does not apply, any other party or the receiver may apply to the judicial authority having jurisdiction in the insolvency proceedings for an order directing that the matter in question shall be submitted to arbitration in accordance with the arbitration agreement, and the judicial authority may, if it is of opinion that, having regard to all the circumstances of the case, the matter ought to be determined by arbitration, make an order accordingly. (3) In this section the expression “receiver” includes an Official Assignee. [8] Section 35(1)(k) of IBC, 2016.