Conflict between company law and the SARFAESI Act

By Babu Sivaprakasam, Deep Roy and Megha Agarwal, Economic Laws Practice
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The Indian legal framework for recovery of debt and for dealing with companies in distress is spread across various statutes. Creditors can seek recourse under the provisions of statutes such as the Companies Act, 1956 (as may be replaced from time to time), the Sick Industrial Companies (Special Provisions) Act, 1985, the Recovery of Debt Due to Banks and Financial Institutions Act, 1993, and the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act).

Babu Sivaprakasam, Deep Roy and Megha Agarwal, Economic Laws Practice
Babu Sivaprakasam is a partner, Deep Roy is an associate partner and Megha Agarwal is an associate at Economic Laws Practice. This article is intended for informational purposes and does not constitute a legal opinion or advice.

The enactment of these statutes also led to the establishment of agencies such as the Board for Industrial and Financial Reconstruction, the debt recovery tribunals and the debt recovery appellate tribunals to exercise the powers vested in such agencies. Though each statute was enacted for a distinct purpose and carefully laid down the mechanism and the scenarios in which a creditor can seek redressal, in practice, an overlap between the powers entrusted to the authorities under the respective statutes does occur.

Pegasus case

The Supreme Court dealt with one such conflict in its judgment dated 29 December 2015 in the case of Pegasus Assets Reconstruction Private Limited v M/s Haryana Concast Limited and Another. The case involved a conflict between winding-up proceedings under the Companies Act, 1956 (Companies Act), and enforcement proceedings under the SARFAESI Act. On account of conflicting decisions of Delhi High Court and Punjab and Haryana High Court, the Supreme Court was faced with the question whether, under the provisions of the Companies Act, a court or an official liquidator can place any fetters on the enforcement of a secured asset by a secured creditor under the SARFAESI Act.

Examining the objects of and reasons for the SARFAESI Act, the Supreme Court held in this case that the intent behind enactment of the legislation was to enable a secured creditor to enforce security without the intervention of a court or tribunal. The Supreme Court observed that enabling an official liquidator appointed during the course of winding-up of a company to wield control over the realization of security interest by a secured creditor would result in a conflict of interests and rights granted to the official liquidator and the secured creditor under the respective statues.

As regards workmen’s dues, the Supreme Court observed that the interest of the workmen in respect of the dues payable to them under section 529 and 529A of the Companies Act has been adequately protected by the provisions of section 13(9) of the SARFAESI Act. The SARFAESI Act has specific provisions stipulating how the sale proceeds of secured assets of a company in liquidation have to be distributed in accordance with the provisions of section 529A of the Companies Act. Accordingly, the Supreme Court held the SARFAESI Act is a self-sufficient code and that there is no need for harmonizing the provisions of the SARFAESI Act with those of the Companies Act.

Way forward

Prior to the judgment in the Pegasus case, various high courts had conflicting judgments on the issue. Madras High Court in Bharat Heavy Electricals Limited v Arunachalam Sugar Mills Limited (2011) took the view that the sale of assets of a company in liquidation by a secured creditor would require the consent of the official liquidator. In contrast, Andhra Pradesh High Court in Indian Bank v Sub-Registrar (2014) was of the view that such a sale could take place without the leave of the official liquidator or the relevant court under the Companies Act.

The Supreme Court’s judgment brings much needed clarity on the issue and also helps restore the basic intent of the SARFAESI Act, which is to enable secured creditors to enforce their security interest without the interference of courts or liquidators. Enabling courts or liquidators to interfere in such matters would lengthen the process of recovery for secured creditors.

The decision in Pegasus also assumes importance in light of the proposed reforms to the insolvency and bankruptcy law in India. The draft Insolvency and Bankruptcy Code, 2015, placed before the parliament seeks to amend section 13(9) of the SARFAESI Act by making the procedure set down in that provision subject to the provisions of the code. The draft code further lays down the order of priority of distribution of the proceeds arising from the sale of liquidation assets, explicitly stating that such priority would be followed regardless of anything contained in any other law. Once such provisions are implemented, there will be greater certainty on the subject.

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