Compulsorily Convertible Debentures cannot be considered as “Financial Debt” to initiate CIRP

Facts of the Case:

Before Initiation of CIRP

• Appeal is preferred by IFCI Limited (“Appellant”) under Section 61 of the Insolvency and Bankruptcy Code, 2016 (hereinafter referred to as the ‘Code’) against the Impugned Order dated 14/03/2023 passed by the National Company Law Tribunal, Hyderabad Bench – II
• In 2011, IFCI agreed to provide financial assistance to the Corporate Debtor, IVRCL Chengapalli Tollways Ltd. (ICTL), through ‘Compulsorily Convertible Debentures’ (“CCDs”) amounting to Rs. 125,00,00,000/- vide a Debenture Subscription Agreement (DSA) dated 14/10/2011.
• IFCI, IVRCL Ltd (acting as Sponsor) and ICTL entered into a Share Buy Back Agreement, dated 14/10/2011, wherein the terms and conditions of the buyback of CCDs subscribed by the Applicant were detailed. The Applicant by exercising this option agreed to buy back Rs. 12.5 Crore CCDs any time between the end of the 3^rd year and the 6^th year from the date of issue of CCDs and in the event of default on behalf of ICTL, the Applicant would be at liberty to sell the CCDs to a third party.
• In 2014, ICTL sought restructuring of the terms of repayment of the CCDs vide letter dated 21/11/2014 and the Applicant had approved restructuring of the CCD Facility.
• In February 2017, ICTL suggested a ‘One Time Settlement’ (“OTS”) and the Applicant agreed to the same on the condition that the amount of Rs. 135 crores shall be paid by 31/03/2017. On default, IFCI, revoked the Concession granted under restructuring of CCDs and therefore the OTS stood withdrawn. Subsequent to this, Corporate Guarantee of IVRCL was invoked by the Applicant. Subsequently, ‘Corporate Insolvency Resolution Process’ (“CIRP”) was initiated by SBI against IVRCL on 23/02/2018.
• The Applicant had filed its claim for Rs. 663.08 Cores, in relation to IVRCL’s Corporate Guarantee Applications against IFCI’s Facilities provided to ICTL
• Lenders Consortium assigned the debt, amounting to Rs. 1001.47 Crores, including the interest amounting to ‘Asset Care Reconstruction Enterprise Limited’ (ARCE) for a total amount of Rs. 625 Crores on 10/11/2021.

CIRP:

• After initiation of insolvency proceedings against ICTL, in furtherance of the Public Announcement dated 25/04/2022, the Applicant had submitted its claim. However, RP has rejected the claim of the Applicant.
• Challenging the decision of the RP, the Applicant / the Appellant herein preferred IA No. 1465 of 2022, but the Adjudicating Authority has dismissed the same stating that CCD are in the nature of equity and not debt instruments.

Arguments from Appellants side:

Corporate Debtor in its Financial statements for the years FY 2016-17, 2017-18, 2018-19 and 2019-20 has recorded the said CCDs as Debentures under the head ‘Other Financial Liabilities’.

The Corporate Debtor requested for an OTS which is again an Acknowledgement of Debt and the very fact that the OTS was requested by the Corporate Debtor and accepted by the Appellant proves that there was consensus between the Parties to treat the CCDs as a ‘Debt’, repayable to the Appellant.

The conversion of CCDs to ‘Equity’ became impossible due to the Insolvency of IVRCL and by virtue of Clause 8.1 of the DSA. The entire Principal Amount along with interest become due and payable.

It is argued that the RP has neither treated the Appellant as a Share Holder nor as a Financial Creditor, leaving the Applicant herein remedy less.

Arguments on behalf of RP

• It is contended by the Learned Sr. Counsel that all the important contracts executed between the parties have treated the CCDs as `Equity’.
• It is submitted by the Learned Sr. Counsel that the principal payment obligation is that of IVRCL and that the amount does not constitute a `debt’ on part of ICTL.
• Clause 2.11 of the DSA provides that IFCI has a put option on IVRCL for buy-back of the CCDs. The CCDs had matured and were to be automatically converted in terms of the DSA. Admittedly, IFCI did not exercise its put option; that all security was provided by IVRCL under the DSA and no security/collateral has been provided by ICTL on its assets, as is also seen from the filings.
• It is also submitted that the `debt to equity ratio’ for the Project is approved by the NHAI. It is a matter of fact that the CCDs were a part of the `equity’ component of the Project, approved by the NHAI and the Lenders. No approval of the NHAI was sought for recategorization of the CCDs to debt.
• In the present case, the CCDs had already matured on 09.11.2017 and therefore stood automatically converted to equity.
• It was contended by the Learned Counsel that the RP had rejected the claim on 09/08/2022, there was no challenge raised by the Appellant herein, until 30/11/2022, which is more than 3 ½ months after the rejection of the claim. Therefore, the Application filed on 30/11/2022 is nothing but a backdoor attempt in hindering the process of Resolution of the Corporate Debtor.

Assessment:

• It is seen from the record that it was only after four months i.e. on 30/11/2022 that the Appellant herein filed IA No. 1465/2022 challenging the rejection of its ‘Claim’.
• Court relies on the Judgement of the Hon’ble Supreme Court `Narendra Kumar Maheshwari’ (Supra) in the matter of `Sahara India Real Estate Corporation Limited & Ors.’ Vs. `Securities and Exchange Board of India & Anr.’ reported in (2013) 1 SCC 1, wherein it was observed that compulsorily convertible debentures are regarded as ‘equity’ and not as a loan or debt.
• The perusal of the record also shows that the Concession Agreement dated 25/03/2010, the DSA Agreement dated 14/10/2011, the Share Pledge Agreement dated 21/10/2011 and the Share Buy Back Agreement dated 14/10/2011 executed between the Parties clearly treated the CCDs as ‘Equity’.
• Merely because of the fact that interest is payable on the CCDs, by the Sponsor, in the case of a default, it cannot be construed that the CCDs fall with the definition of Section 5(8) of the Code.
• The OTS Proposal which the Learned Senior Counsel Mr. P.S. Raman has relied on, in support of his contention that it is an ‘Acknowledgment of Liability’, cannot be sustained as it is the proposal issued by the Corporate Debtor in 2017 and the Payment obligation is on the ‘Sponsor’ and not on the ‘Corporate Debtor
• This Tribunal is also conscious of the fact that CCDs in the present case have matured before the ‘Admission into CIRP’.
• It is pertinent to mention that `Schedule III’ of the DSA includes CCD amounts as part of the equity component of the Project. `Schedule – II’ `Part – B’ of the `Common Loan Agreement’ recognizes the CCDs as equity. The definition of `equity’ includes any `Compulsory Convertible Debentures by the ICTL.
• The DSA Agreement also clarifies that it is the ‘Sponsor’ and not the ‘Corporate Debtor’ who is liable to pay Coupon interest on the CCD. The Corporate Debtor is not under any obligation to pay the interest on the so called borrowing and therefore the argument of the Learned Senior Counsel that the interest component in the factual matrix of this case signifies the ‘Time value of Money’, cannot be accepted.

Final Decision

Hon’ble Tribunal is of the view that in the facts of the attendant case, the CCDs are in the nature of ‘Equity Instruments’ and do not fall within the definition of ‘Financial Debt’ as defined under Section 5(8) of the Code. We covered a similar case in our May Issue where NCLT has clearly treated CCDs as at best quasi-debt and only a means to for influx of capital without immediate dilution of stake.

Irrespective of whether CCD is debt or not in the present case, liability to pay was of the sponsor and not the corporate debtor, hence it was rightly not treated as debt in the books of corporate debtor.