Arbitration of Insolvency-Related Contract Claims

Introduction : The intersection of arbitration and insolvency presents a complex area of commercial dispute in the midst of financial distress. Arbitration is founded on the parties agreement to have their dispute resolved through adjudicatory mechanism, while insolvency proceedings operate through collective framework addressing financial distress of a corporate body. The commencement of insolvency proceedings can alter how contractual disputes are pursued. This becomes significant when there are underlying contractual claims arising from arbitral awards. It affects treatment of contractual claims, and extent to which rights arising from such disputes be pursued.

Legal Provisions

The Insolvency and Bankruptcy Code, 2016

1. Section 14 

Section 14 prohibits the institution or continuation of proceedings against the corporate debtor during the moratorium, including proceedings before an arbitral panel and execution of judgments, decrees or orders. The moratorium continues until completion of the CIRP, approval of a resolution plan, or an order of liquidation, as applicable.

2. Section 14(3)(b) 

Section 14(3)(b) expressly provides that the moratorium under Section 14(1) does not apply to a surety in a contract of guarantee to the corporate debtor. Thus, proceedings against such a surety are treated separately from proceedings against the corporate debtor.

3. Section 18 

Section 18 requires the Interim Resolution Professional to receive, collate and verify claims submitted by creditors and undertake the functions necessary for the conduct of the CIRP. This provision is relevant where a contractual claim cannot proceed through arbitration because of the moratorium.

Legal Analysis

1. Effect of Section 14 on Arbitration Against the Corporate Debtor

   
   

Section 14 of Insolvency and Bankruptcy Code, 2016 (“hereinafter referred as IBC”) imposes a moratorium once CIRP begins, restraining institution or continuation of proceedings against corporate debtors, including execution of judgments, decrees or orders. Its purpose is to preserve the corporate debtor’s assets and ensure that individual creditors do not pursue independent remedies independently of the collective insolvency process. Where an arbitration concerns a monetary or other claim against a corporate debtor, the commencement or continuation of the arbitral proceedings may be affected once the moratorium comes into operation. Arbitral proceedings against a corporate debtor cannot be instituted during moratorium as section14 expressly prohibits proceeding before an arbitration panel. Where a corporate debtor is the respondent, an arbitral claimant cannot use arbitration or resulting award to obtain individual recovery from corporate debtor in disregard of CIRP. The underlying contractual claim is not extinguished merely because the arbitral process is barred, it may be submitted for consideration within CIRP. Section 14 restricts adjudication and enforcement against the corporate debtor to protect the insolvency estate.

2. How is the Underlying Contractual Claim Dealt with During CIRP?

   
   

Once CIRP begins, the creditor’s underlying contractual claim against the corporate debtor does not cease to exist merely because arbitration cannot be instituted or continued during moratorium. The creditor may submit its claim to the Resolution Professional in accordance with IBC and CIRP regulations. The RP is required to receive, verify and collate such claims for the purposes of the CIRP. RP performs an administrative, rather than adjudicatory function and cannot determine the disputed questions of contractual liability or quantify unadjudicated damages. The submission and verification of claim within CIRP must be distinguished from final adjudication of underlying contractual dispute. Distinction between the verification and treatment of a claim for insolvency purposes and final adjudication of underlying contractual dispute exists. 

3. Arbitral Awards and Claims Against Separate Entities

   
   

An arbitral award rendered against a corporate debtor does not permit individual enforcement once CIRP begins. Although the award may finally determine contractual liability, its execution against the corporate debtor is prohibited during moratorium. The award holder must therefore have award-based claim dealt with, within the insolvency process rather than pursue individual execution against the corporate debtor. The moratorium affects the enforcement of awards without extinguishing the underlying claim. The existence of an award determines the liability, the manner in which that liability is ultimately dealt with is governed by the insolvency framework. The position differs where relief is sought against a separate legal entity, particularly a guarantor. Section 14 (3)(b) expressly excludes a surety in contract of guarantee to corporate debtor from moratorium. The commencement of CIRP against corporate debtors does not, by itself, bar proceedings against guarantors. Moratorium applies where the surety seeks to initiate proceedings against a corporate debtor.

Practical Implications

In practice, the first step is to determine who the claim is actually being pursued against, and at what stage the dispute stands. This determines whether arbitration can continue, whether an award can be enforced, whether the claim must instead be dealt with through CIRP, determine whether CIRP has commenced, ascertain the stage of the Arbitration or award, then the appropriate action.

Where CIRP has commenced, once the corporate debtor enters CIRP, the creditor must account for the moratorium before taking any actions further through arbitration. If the dispute is against the corporate debtor, arbitration cannot be initiated or continued during the moratorium, individual recovery cannot be enforced. The creditors must ensure that the underlying contractual claim is submitted in the CIRP. When CIRP has not commenced application of section 14 may not arise in anticipation of insolvency. The parties may ordinarily pursue the remedies available under the agreement and applicable law. Where an arbitral award has been already passed, the existence of the award does not permit the award-holder to bypass the insolvency proceedings and pursue individual execution against the corporate debtor during moratorium. Guarantor is a distinct legal entity and is considered separately and proceedings against him are not prevented. At the same time section 14(3) states clearly that a guarantor cannot initiate or continue proceedings against a corporate debtor.

Relevant Case Laws

SSMP Industries Ltd. v. Perkan Food Processors Pvt. Ltd : Delhi High Court in this case held that counter claim against a corporate debtor would fall within the ambit of Section 14(1)(a) proceedings can’t be continued when it threatens or diminish the corporate debtor’s assets. The Court also distinguished that where the corporate debtor is pursuing the proceeding for his claim section 14 does not apply.

In Alchemist Asset Reconstruction Co. Ltd. v. Hotel Gaudavan (P) Ltd :The Supreme Court held that the commencement of CIRP and the consequent moratorium under section 14 (1)(a) of IBC expressly prohibit institution or continuation of proceedings against corporate debtors. The court held that arbitration instituted after the imposition of the moratorium is non est in law.

In Power Grid Corporation of India Ltd. v. Jyoti Structures Ltd :The Delhi High Court held that moratorium under section 14 of the IBC does not bar every arbitration-related proceeding involving corporate debtors. Its purpose is to protect assets of the corporate debtor or insolvency estate. All proceedings do not mean proceedings that do not adversely impact the corporate debtor. 

Conclusion

The interaction between arbitration and insolvency creates a practical difficulty where a contractual dispute is already pending or an arbitral award has been made when CIRP begins. Section 14 protects the corporate debtor from proceedings that may affect its assets, a blanket interruption of every arbitral proceeding may affect the recovery of assets and maximize the assets. The difficulty lies in determining whether the proceedings are directed against the corporate debtor or benefits of the corporate debtor or concerns the separate entity. Existing judicial approach indicates the effect of moratorium cannot be examined without identifying the party against whom relief is sought, it affects the proceeding on corporate debtor’s assets during CIRP. 

Author: Shrunkhal Dhopte in case of any queries please contact/write back to us via email to content@khuranaandkhurana.com or at  Khurana & Khurana, Advocates and IP Attorney

Endnotes

1. Insolvency and Bankruptcy Code 2016, s 14.

2. Insolvency and Bankruptcy Code 2016, s 14(3).

3. Insolvency and Bankruptcy Code 2016, s 18(1)(f).

4. SSMP Industries Ltd. v. Perkan Food Processors (P) Ltd., 2019 SCC OnLine Del 9339

5. Alchemist Asset Reconstruction Co. Ltd. v. Hotel Gaudavan (P) Ltd., (2018) 16 SCC 94

6. Power Grid Corpn. v. Jyoti Structures Ltd., (2019) 6 Comp Cas-OL 76

7. Arora, D., & Misri, D. (2023, January 1). The intersection between arbitration and insolvency proceedings: An Indian perspective. SCC Online Blog.

8. Mohan, K. N. (2024). An Analysis of the Interplay between Arbitration and Insolvency Proceedings. Issue 6 Int'l JL Mgmt. & Human., 7, 650.