NCLAT upholds financial debt classification for raw material payments made on corporate debtor's instructions

NCLAT Principal Bench dismissed appellant's challenge to classification of debt as financial rather than operational. Corporate debtor procured raw materials through payments made by respondent at debtor's instructions. Tribunal held that disbursement need not be directly to corporate debtor - payments made on behalf or at instructions constitute financial debt. Working capital assistance, including raw material payments, cannot be treated as operational debt. Business agreements between promoters, corporate debtor and respondent clearly established financial debt arrangement with debtor's consent, despite appellant's contention of separate promoter-respondent agreement. Adjudicating Authority's order correctly identified financial debt and default.

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Issues Involved:

1. Characterization of the debt as financial or operational.
2. Whether the debt was disbursed to the Corporate Debtor or on its behalf.
3. Applicability of the Business Support Agreement (BSA) and related documents.
4. The role of interest and time value of money in defining financial debt.
5. The liability of the Corporate Debtor and Promoters under the agreements.

Issue-wise Detailed Analysis:

1. Characterization of the Debt as Financial or Operational:

The primary issue was whether the debt extended by the Respondent No. 1 to the Corporate Debtor constituted a financial debt or an operational debt. The Appellant argued that the debt should be classified as operational since it involved payments made by the Respondent No. 1 to suppliers on behalf of the Corporate Debtor for raw materials, which does not fit the definition of financial debt under Section 5(8) of the Insolvency and Bankruptcy Code, 2016. The Respondent No. 1 countered that the debt was financial because it involved the provision of working capital for the Corporate Debtor's operations, which was disbursed at the Corporate Debtor's instructions, thereby meeting the criteria for financial debt.

2. Whether the Debt was Disbursed to the Corporate Debtor or on Its Behalf:

The Appellant contended that no funds were directly disbursed to the Corporate Debtor, and thus, it could not be considered a financial debt. However, the Tribunal found that the disbursal need not be directly to the Corporate Debtor; it could also be on its behalf. The payments made by Respondent No. 1 for raw materials at the Corporate Debtor's instruction were deemed to benefit the Corporate Debtor, thus constituting a financial debt.

3. Applicability of the Business Support Agreement (BSA) and Related Documents:

The Tribunal examined the clauses of the Business Support Agreement (BSA), Share Pledge Agreement (SPA), and the deed of guarantee. The BSA indicated that the amounts spent by Respondent No. 1 were considered unsecured debt extended to the Corporate Debtor. The SPA and the deed of guarantee further established joint and several liabilities for the Corporate Debtor and the Promoters, reinforcing the financial nature of the debt.

4. The Role of Interest and Time Value of Money in Defining Financial Debt:

The Appellant argued that the absence of stipulated interest negated the classification of the debt as financial, as there was no time value of money. The Tribunal clarified that while interest is a factor, it is not a sine qua non for financial debt. The understanding between parties and the commercial nature of the transaction, including the provision of working capital, sufficed to establish the time value of money.

5. The Liability of the Corporate Debtor and Promoters Under the Agreements:

The Appellant claimed that the liability was primarily on the Promoters, not the Corporate Debtor. The Tribunal found that the agreements, including the BSA and SPA, were entered into by both the Promoters and the Corporate Debtor, establishing joint and several liabilities. The Corporate Debtor was a consenting party to these agreements, and the financial arrangements were intended to support its operations, thus binding it to the obligations.

Conclusion:

The Tribunal concluded that the debt was indeed a financial debt, and the defaults by the Corporate Debtor justified the initiation of the Corporate Insolvency Resolution Process (CIRP) under Section 7 of the Code. The appeal was dismissed, affirming the Adjudicating Authority's order, and no costs were awarded. The Tribunal emphasized the clear intent and agreements between the parties, which supported the classification of the debt as financial.

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