Supreme Court Highlights Concerns Over Small Operational Creditors
The IBC operational creditor claims ruling highlights the challenges faced by small operational creditors under the Insolvency and Bankruptcy Code (IBC). The Supreme Court observed that MSMEs and statutory local bodies remain at the bottom of the repayment waterfall. It urged the Law Commission of India and Parliament to examine whether a fairer repayment mechanism can be introduced without affecting the efficiency and certainty of the insolvency resolution process.
A Bench of Justice Manoj Misra and Justice Manmohan delivered the judgment while deciding appeals arising from the Bhushan Steel insolvency. The Court noted that although Swiss Ribbons Private Limited v. Union of India upheld the distinction between financial and operational creditors, the present framework does not adequately protect small operational creditors. The Bench observed that these entities often struggle to absorb even minor financial losses, leading to prolonged litigation.
Background of the Case
The appeals arose from Tata Steel’s successful resolution of Bhushan Steel Limited.
The Bombay High Court had allowed operational creditor Varsha to continue a recovery suit despite approval of the resolution plan. The Supreme Court also examined arbitration proceedings initiated by Masyc Projects Private Limited.
Before the Corporate Insolvency Resolution Process (CIRP) began, Varsha filed a recovery suit seeking about ₹38.89 lakh. Masyc also initiated arbitration proceedings to recover its dues.
After the insolvency process commenced, both entities submitted claims as operational creditors. The Resolution Professional admitted the disputed claims at a notional value of ₹1 each.
Arguments Before the Court
Tata Steel argued that the approved resolution plan barred all legal proceedings relating to pre-resolution claims.
The company submitted that once the National Company Law Tribunal (NCLT) approved the resolution plan, every stakeholder became bound by it. Allowing pending proceedings to continue would defeat the clean slate principle under the IBC.
Varsha and Masyc disagreed. They argued that the resolution plan preserved disputed claims that remained under adjudication. Therefore, they claimed that the recovery suit and arbitration proceedings could continue.
Supreme Court’s Findings
The Supreme Court rejected the operational creditors’ arguments.
It held that claims not included in the approved resolution plan automatically stand extinguished, withdrawn, or abated. This approach allows the successful resolution applicant to take over the company without facing unknown liabilities.
The Court also found no evidence that Tata Steel had secured approval of the resolution plan through fraud or manipulation.
₹1 Valuation of Claims
The Bench examined the Resolution Professional’s decision to assign a value of ₹1 to the disputed claims.
It observed that the final list of creditors replaced Note 3 with Note 2. This change altered the legal status of the disputed claims.
The Court held that the claims no longer remained pending for future adjudication. Instead, they became quantified claims of ₹1 with finality. Therefore, the ₹1 valuation did not preserve the creditors’ right to continue litigation.
Clean Slate Principle
The Court interpreted the resolution plan as a whole.
It held that the plan extinguished all pending legal proceedings relating to pre-resolution claims, except for payments specifically provided under the Operational Creditors Settlement Amount.
Under the approved plan, Tata Steel earmarked ₹1,200 crore for operational creditors. Of this amount, ₹1,000 crore went to essential and critical operational creditors, while ₹200 crore remained available for other operational creditors.
The Court clarified that only claims approved by the Committee of Creditors on or before March 20, 2018 qualified for payment from the ₹200 crore allocation.
The Bench also explained that allowing uncertain claims to continue indefinitely would undermine the insolvency process. A successful resolution applicant cannot remain exposed to fresh liabilities years after acquiring the company.
Accordingly, the Court ruled that civil suits and arbitration proceedings relating to pre-resolution claims cannot continue if they had not matured into determinable and quantifiable claims before approval of the resolution plan.
Observations on the IBC Framework
The IBC operational creditor claims judgment also addressed broader policy concerns.
The Court observed that many small operational creditors lack the financial capacity to absorb even modest losses. This vulnerability often forces them into prolonged litigation.
Although the Court reaffirmed the constitutional validity of treating financial and operational creditors differently, it noted that the existing framework leaves small operational creditors with very limited practical remedies.
The Bench described this as a matter for legislative consideration. It requested the Law Commission of India and Parliament to examine whether a fairer repayment mechanism could better protect small operational creditors without weakening the insolvency resolution process.
Final Decision
The Supreme Court allowed Tata Steel’s appeals.
It set aside the Bombay High Court’s orders and the trial court’s refusal to dismiss the recovery suit. The Court dismissed Varsha’s recovery suit and Masyc’s arbitration proceedings, holding that both stood extinguished once the NCLT approved the resolution plan.
