Preference shares issued against receivables were treated as capital, not financial debt, defeating insolvency proceedings.

Cumulative redeemable preference shares allotted in lieu of outstanding receivables were treated as share capital, not financial debt, because the transaction was documented as conversion of an earlier claim into preference share investment. Preference shares under the Companies Act, 2013 do not by themselves create borrowing, and redemption is regulated by section 55, permitting it only from distributable profits or proceeds of a fresh issue. As the corporate debtor had neither declared profits nor issued fresh capital for redemption, the receivable had been converted into capital rather than a debt obligation. On that basis, no default in respect of financial debt was established and a section 7 insolvency application was not maintainable.

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Issues: Whether Cumulative Redeemable Preference Shares allotted in lieu of outstanding receivables constituted a financial debt so as to sustain an application under Section 7 of the Insolvency and Bankruptcy Code, 2016.

Analysis: The transaction was evidenced by written correspondence and corporate resolutions showing allotment of preference shares against the earlier outstanding claim. Preference shares are part of share capital under the Companies Act, 2013, and do not, by themselves, create a debt. Redemption of such shares is controlled by Section 55 of the Companies Act, 2013 and is permissible only out of distributable profits or proceeds of a fresh issue of shares. On the facts, the corporate debtor had neither declared profits nor raised fresh issue proceeds for redemption, and the earlier receivable stood converted into capital. The nature of the transaction, therefore, was investment in preference share capital and not borrowing with the commercial effect of debt.

Conclusion: CRPS did not constitute a financial debt, no default was established, and the Section 7 application was not maintainable.

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