2025 (12) TMI 236 - AT - IBC

Factoring Deemed Financial Debt: Section 7 IBC Admission Upheld Where Corporate Debtor Gave Full Recourse Undertaking

The NCLAT upheld admission of a Section 7 IBC application against the corporate debtor, holding that the receivable purchase/factoring arrangement ... Admission of section 7 application - Receivable Purchase/Factoring by the respondent on non-recourse basis - financial debt within meaning of Section 5(8)(e) of the IBC or not - HELD THAT:- The corporate debtor has clearly undertook to make the payment by 30.07.2023. The deed of undertaking by the corporate debtor reinforces our conclusion that corporate debtor was well aware that purchase of receivables and discounting of invoices by respondent was on recourse basis. Had the transaction was on non-recourse basis, there was no occasion for client/corporate debtor to admit its liability to make payment to the respondent. The fact of executing deed of undertaking at the relevant time clearly proves that transaction was on recourse basis, due to which the corporate debtor undertook to make the payment of invoices. There are no substance in the submission of the appellant that transaction between the parties relating to 6 invoices were on non-recourse basis. The contemporaneous correspondence between the parties and sequence of the event indicate that discounting of the invoices was on recourse basis. Learned counsel for the appellant has also referring to the definition of remedy event clause (c) submits that the contingency factor is not paid in full is with respect to a commercial dispute or because of any injunction stock order or other court which is not attracted in the present case - on looking into clause C there are two independent circumstances that is factor is not paid in full or factor is required to reimburse any person for monies received by it from any person as a result of the commercial dispute. Thus, the second clause which begins afterward or is referred to commercial dispute, which has nothing to do with the first contingency i.e., “factor is not paid in full”. The present is also a case where collaterals were handed over to the factor and thus transaction was with recourse basis there being collateral. It is also relevant to notice the letter dated 04.04.2019 written by the corporate debtor on “Ref: irrevocable undertaking for with recourse factoring of receivables”, where the corporate debtor expressly and irrevocably agreed and undertook with the factor that purchase receivables or outstanding receivables were referred as recourse receivables shall be on full recourse basis. All documents executed between the parties and the relevant correspondence between the parties which took place contemporaneously indicates that corporate debtor throughout conducted itself treating it the transaction to be on full recourse basis and it is only in reply to Section 7 application and submissions made before us the argument is sought to be developed that transaction was on non-recourse basis, which submission have no legs to stand and clearly incorrect and afterthought. Thus, no grounds have been made out to interfere with the order passed by the adjudicating authority admitting Section 7 application. There is no merit in the appeal - appeal dismissed. 1. ISSUES PRESENTED AND CONSIDERED (1) Whether the receivables purchased/discounted under the Master Receivable Purchase Factoring Agreement and related documents, in respect of six invoices issued to CapRock Grain, were on a recourse or non-recourse basis, and consequently whether the claim constituted a 'financial debt' under Section 5(8)(e) of the Insolvency and Bankruptcy Code, 2016. 2. ISSUE-WISE DETAILED ANALYSIS Issue (1): Character of the factoring arrangement (recourse vs non-recourse) and existence of 'financial debt' under Section 5(8)(e) of the Insolvency and Bankruptcy Code, 2016 (a) Legal framework (as discussed by the Tribunal) Section 5(8)(e) of the Insolvency and Bankruptcy Code, 2016 defines 'financial debt' to include 'receivables sold or discounted other than any receivables sold on non-recourse basis'. The Tribunal noted that only receivables sold/discounted on a recourse basis fall within the ambit of 'financial debt', while receivables sold/discounted on a non-recourse basis are expressly excluded. (b) Contractual framework and documents considered (i) The Tribunal examined the Master Receivable Purchase Factoring Agreement dated 04.04.2019 (Master Agreement), including: - Definition of 'Debtor Limit' as the maximum amount of outstanding receivables owing by a debtor to the factor as specified in Schedule 2. - Clause 7 ('Non-Payment by Debtor'), particularly: * Clause 7.1: Factor shall have no recourse to the client in case of debtor's failure to pay due to debtor becoming insolvent or occurrence of protracted default. * Clause 7.2: The client is responsible to the factor for a debtor's failure to pay a purchased receivable if a 'Remedy Event' occurs, upon which the factor may demand immediate payment of the amount of the relevant purchased receivable and other amounts payable by the client. - Definition of 'Remedy Event', including clause (c), which covers circumstances where 'Factor is not paid in full or Factor is required to reimburse any person ... as a result of a Commercial Dispute ... or because of any injunction, stop order or other court order'. The Tribunal interpreted this as comprising two independent contingencies, the first being 'Factor is not paid in full'. (ii) The Tribunal considered the irrevocable undertaking dated 04.04.2019 titled 'Ref: irrevocable undertaking for with recourse factoring of receivables' and the accompanying 'Recourse Terms', including: - The client's express and irrevocable agreement that certain 'Purchased Receivables or Outstanding Receivables' ('Recourse Receivables') shall be on full recourse basis to the client. - The categories of 'Recourse Receivables', including: 1. All purchased receivables of any approved debtor exceeding the respective debtor's limit on the date of such purchase by the factor. 2. The amounts by which the aggregate of the purchased receivables of any debtor exceed the respective debtor limit. 3. Any purchased receivables for which a collateral is provided by the client. 4. Such other purchased receivables as specified. - Clause 1.4 of the Recourse Terms: for recourse receivables, the Recourse Terms and the Undertaking are constituent parts of the Master Agreement and all terms of the Master Agreement are deemed incorporated in the Recourse Terms, 'except Clause 7.1 of the Master Agreement'. - Clause 1.5 of the Recourse Terms: in the event of contradictions between the Recourse Terms and the Master Agreement, the Recourse Terms prevail, followed by the Undertaking, then the Master Agreement. (iii) The Tribunal examined Schedule 2 (Debtor Details) effective from 04.04.2019: - For Debtor 2 (USA), the 'Debtor Limit' column was left blank. - Schedule 2 also provided that any purchased receivables of any approved debtor exceeding the debtor's limit, or any receivables for which collateral is provided, shall be on full recourse basis. (iv) The Tribunal considered specific transaction documents and conduct: - The 'Purchase Request cum Deed of Assignment' for six invoices issued to CapRock Grain, under which the factor paid an aggregate amount of USD 842,520 to the corporate debtor. - The pledge/handing over of original Bills of Lading as collateral to the factor in respect of these invoices. - The Deed of Undertaking dated 20.06.2023 executed by the corporate debtor, acknowledging the outstanding amount of USD 691,318, undertaking to send the Bills of Lading to the buyer, and unequivocally undertaking to pay the entire outstanding amount, with interest, fees and charges, in case the buyer failed to pay, and accepting the factor's right to initiate legal proceedings against the corporate debtor. - Part payments of USD 474,920 made by the corporate debtor to the factor after default by the debtor. - Continuous email correspondence and responses, in which the corporate debtor did not assert that the transactions were on a non-recourse basis, but instead acknowledged liability and made part payments. (c) Interpretation and reasoning (i) Harmonious reading of Clause 7.1 and 7.2: - The Tribunal held that Clause 7.1 (no recourse where the debtor is insolvent or there is protracted default) must be read together with Clause 7.2, which imposes liability on the client upon occurrence of a 'Remedy Event'. - The definition of 'Remedy Event' is wide and covers, inter alia, the situation where the factor 'is not paid in full', irrespective of whether this arises from a commercial dispute, injunction or otherwise. - Therefore, the no-recourse protection under Clause 7.1 is not absolute; when a Remedy Event occurs (including non-payment in full), the client's recourse liability to the factor is triggered under Clause 7.2. (ii) Effect of Recourse Terms and hierarchy of documents: - By Clause 1.4 of the Recourse Terms, Clause 7.1 of the Master Agreement (which grants non-recourse in limited events) is expressly excluded for recourse receivables. - Clause 1.5 expressly provides that, in case of any contradiction, the Recourse Terms prevail over the Master Agreement. - Thus, for receivables categorised as 'Recourse Receivables' (including any purchased receivables for which collateral is provided), the recourse regime in the Recourse Terms governs, and any inconsistent non-recourse protection in Clause 7.1 is overridden. (iii) Absence of Debtor Limit in Schedule 2: - The appellant argued that because the 'Debtor Limit' column for the relevant debtor in Schedule 2 was blank, the entire exposure operated as non-recourse within an undefined debtor limit. - The Tribunal rejected this, holding that where the parties intentionally left the debtor limit blank, the clear implication is that no debtor limit was contemplated. - Consequently, no slab of transactions could be treated as within a non-recourse 'limit'; coupled with the contemporaneously executed recourse undertaking and Recourse Terms (with overriding effect), the factoring arrangement in practice operated on a recourse basis. (iv) Collateral and categorisation as 'Recourse Receivables': - Under the irrevocable undertaking and Recourse Terms, any purchased receivables for which collateral is provided by the client are expressly treated as 'Recourse Receivables' on full recourse basis. - In the present case, the corporate debtor had deposited original Bills of Lading with the factor in respect of the six invoices; these constituted collateral. - On that basis alone, the Tribunal held that the six invoices clearly fell within the category of 'Recourse Receivables' and were, by contract, on full recourse basis. (v) Construction of 'Remedy Event' clause (c): - The appellant argued that the contingency 'factor is not paid in full' in clause (c) was limited to non-payment arising out of a commercial dispute, injunction, stop order or court order. - The Tribunal held that clause (c) contains two distinct limbs: (1) where 'Factor is not paid in full'; and (2) where 'Factor is required to reimburse any person ... as a result of a Commercial Dispute ... or because of' an order. The second limb, introduced by 'or', is tied to commercial dispute/ court order, not the first. - Non-payment in full simpliciter is thus a stand-alone 'Remedy Event', attracting the client's liability under Clause 7.2. (vi) Conduct of the parties and contemporaneous documents: - The Tribunal noted that when CapRock Grain defaulted, the corporate debtor: * Requested release of the Bills of Lading. * Executed the Deed of Undertaking dated 20.06.2023, expressly acknowledging liability and undertaking to pay the outstanding amount and accepting the factor's right to sue. * Made substantial part payments (USD 474,920) towards the outstanding. - At no stage during contemporaneous correspondence did the corporate debtor assert that the factoring was on a non-recourse basis; such a plea was raised only in the reply to the Section 7 application and before the Tribunal in appeal. - The Tribunal treated the contemporaneous conduct, acknowledgements and part payments as reinforcing the conclusion that both parties understood and treated the transactions as being on a recourse basis. (vii) Rejection of the 'non-recourse' and RBI guideline arguments: - The Tribunal held that, in view of the contractual terms giving overriding effect to recourse factoring and the categorisation of receivables with collateral as recourse receivables, the plea that the transactions were non-recourse had 'no legs to stand' and was an afterthought. - Arguments based on RBI guidelines and MSME protections were not accepted, as the contractual documentation and conduct clearly established recourse factoring, bringing the debt within Section 5(8)(e). The Tribunal's focus remained on the statutory definition and the actual contract between the parties. (d) Conclusions (i) The receivables under the six invoices issued to CapRock Grain, purchased/discounted by the factor, were on full recourse basis, inter alia because: - The irrevocable undertaking and Recourse Terms of 04.04.2019 designated any receivables backed by collateral as 'Recourse Receivables' on full recourse basis. - Original Bills of Lading were deposited as collateral in respect of these invoices. - Clause 7.1 of the Master Agreement was excluded for recourse receivables and, in case of conflict, the Recourse Terms prevailed. - Non-payment by the debtor triggered a 'Remedy Event', giving rise to liability of the corporate debtor to the factor. - The corporate debtor's Deed of Undertaking dated 20.06.2023 and subsequent part payments reflected clear acknowledgment of recourse liability. (ii) Since the receivables were not sold on a non-recourse basis, they fell within Section 5(8)(e) of the Insolvency and Bankruptcy Code, 2016 as 'financial debt'. (iii) There being an admitted outstanding amount (after part payments) and default in payment, the ingredients of 'financial debt' and 'default' under the Code stood satisfied. (iv) No ground was made out to interfere with the Adjudicating Authority's order admitting the application under Section 7 of the Insolvency and Bankruptcy Code, 2016. The appeal was dismissed.