Acknowledgement of Debt by Inclusion in Balance Sheet ��� Part 2

Background

In the case of V. Padmakumar vs. Stressed Assets Stabilization Fund (SASF) & Anr.[1] (“Padmakumar”), four out of five members held, inter alia, that entries reflected in the balance sheet of a company do not amount to acknowledgement of debt under the Limitation Act, 1963 (“Limitation Act”). Subsequently, in September 2020, a three-member bench of the National Company Law Tribunal (“NCLAT”) had the occasion to consider the applicability of Padmakumar in the case of Bishal Jaiswal vs. Asset Reconstruction Company (India) Limited. & Anr[2]. (“Referral Order”). The bench made a reference to a larger bench to reconsider the majority opinion in Padmakumar.

In December 2020, a five-member bench of the NCLAT rejected the Referral Order and held[3] (“Rejection Order”) that (a) in disagreeing with the ratio in Padmakumar, the three-member bench did not follow judicial discipline, and (b) The decision in Padmakumar was passed after consideration of precedents with respect to acknowledgement of debt, therefore, reflecting debt in a balance sheet does not amount to acknowledgement of debt for the purpose of the Insolvency and Bankruptcy Code, 2016 (“IBC”). This article attempts to analyse the reasons given by the NCLAT while rejecting the Referral Order.

Rejection of the Referral Order

Judicial Discipline

The bench that passed the Rejection Order came down heavily on the Referral Order for the reason that the three-member bench ought not to have referred the decision of a five-member bench (Padmakumar) for reconsideration and should have observed judicial discipline. Law of precedents mandates that the decision of a larger bench is binding on a bench of lesser quorum . In Union of India vs. Raghubir Singh[4], the Supreme Court (“SC”) held that ‘There is no constitutional or statutory prescription in the matter, and the point is governed entirely by the practice in India of the Courts sanctified by repeated affirmation over a century of time.’ The practice in question has certain exceptions too.

In the case of Central Board of Dawoodi Bohra Community and Others vs. State of Maharashtra and Others[5], the SC, inter alia, held as follows: “A Bench of lesser quorum cannot doubt the correctness of the view of the law taken by a Bench of larger quorum. In case of doubt all that the Bench of lesser quorum can do is to invite the attention of the Chief Justice and request for the matter being placed for hearing before a Bench of larger quorum than the Bench whose decision has come up for consideration. It will be open only for a Bench of coequal strength to express an opinion doubting the correctness of the view taken by the earlier Bench of coequal strength, whereupon the matter may be placed for hearing before a Bench consisting of a quorum larger than the one which pronounced the decision laying down the law the correctness of which is doubted.” The said position is in line with the earlier decisions of the SC in Pradip Chandra Parija and Others vs. Pramod Chandra Patnaik and Others[6] and Chandra Prakash and Others vs. State of Uttar Pradesh[7].

From the above, it is evident there is an exception which permits a bench of lesser quorum to respectfully disagree with a larger bench and refer the matter to a bench of strength equal to the said larger bench for consideration. Thereafter, if the latter larger bench believes that the decision of the former larger bench deserves reconsideration, it may refer the matter to an even larger bench to decide on the disagreement among the benches. The Referral Order was passed by a three-member bench, disagreeing with the order of a five-member bench. In line with the above exception to the law of precedents, it put up the matter for reconsideration by a bench of co-equal strength, i.e., consisting of five members.

In light of the above, it is surprising that the Rejection Order outrightly disagreed with the very act of reference, calling it an act of judicial indiscipline. The Referral Order is well within its bounds and did not deserve the flak it received in form of the Rejection Order. 

Acknowledgement of Debt

While reiterating the ratio laid down in Padmakumar and the judicial precedents discussed therein, the Rejection Order states that entries of debts in the balance sheets of a corporate debtor cannot be considered to be acknowledgement of debt. In doing so, the Rejection Order relies on the decision of the SC in Babulal Vardharji Gurjar vs. Veer Gurjar Aluminium Industries Private Limited and Others[8] (“Babulal Case”). The Rejection Order further observes that disclosure of debt in balance sheets, being mandatory in nature under the Companies Act, 2013, cannot be considered to be valid acknowledgement.

Firstly, the Babubal Case is distinguishable from the facts of the case the Referral Order was borne out of. In the former, the financial creditors never took the stand of acknowledgement of debt in balance sheets before the National Company Law Tribunal. It was brought to the notice of the NCLAT only at the stage of appeal. For this reason alone, the SC held that Section 18 of the Limitation Act would not be applicable in the Babulal Case. It appears that that Rejection Order has extrapolated the Babulal Case to mean that Section 18 of the Limitation Act is not applicable to the IBC. In this regard, the Referral Order had expressly and adequately distinguished itself from the Babulal Case. 

Secondly, the observation that preparation and filing of balance sheets is a mandatory requirement under the Companies Act, 2013 and must not fasten a liability on a corporate debtor may not hold water. Filing of balance sheets is undoubtedly a mandatory requirement. But the disclosure of debts thereunder is purely a decision borne out of prescribed accounting standards. A liability is disclosed in the balance sheet when a company has a present obligation, the settlement of which will result in outflow of resources embodying economic benefits.[9] If an entity does not acknowledge an obligation to settle a liability, the question of disclosure in the balance sheet does not arise.

Despite the issue with respect to entries of debts in balance sheets being referred for reconsideration in the Referral Order, the stand of the NCLAT  does not give a convincing finality to the issue.

Conclusion

The concerns raised in the Referral Order with respect to acknowledgement of debt due by inclusion of the said debt in balance sheets of a corporate debtor is valid. Whether a case aims to recover money or wind up a corporate entity, the essence of ‘debt’ remains the same. Therefore, it is necessary that there is consensus among adjudicating authorities regarding debts reflecting in balance sheets and their impact on the limitation period. Presently, the Rejection Order has been challenged before the SC[10]. Consequently, the proceedings before the NCLAT in Bishal Jaiswal vs. Asset Reconstruction Company (India) Limited. & Anr. have been stayed. It will be interesting to see how the SC deals with the discrepancies in the legal position on this issue, specifically in the context of IBC.

The views and opinions expressed in this article belong solely to the author and do not reflect the position of Tatva Legal, Hyderabad.

[1] NCLAT judgment dated 12.03.2020 in Company Appeal (AT) (Insolvency) No. 57 of 2020

[2] NCLAT judgment dated 25.09.2020 in Company Appeal (AT) (Insolvency) No. 385 of 2020

[3] Bishal Jaiswal v. Asset Reconstruction Company (India) Limited and Others [2021] 224 CompCas 166

[4] 1989 (2) SCC 754

[5] (2005) 2 SCC 673

[6] (2002) 1 SCC 1

[7] (2003) SCC (LS) 827

[8] AIR 2020 SC 4668

[9] Indian Accounting Standard notified by the Ministry of Corporate Affairs vide GSR 111 (E) dated 16.02.2015

[10] Civil Appeal No. 323 of 2021