Priority Among Secured Creditors in Liquidation – The NCLAT’s Decision in Surana Power

Contributed by: Samvad Partners






In a liquidation scenario, the Insolvency and Bankruptcy Code, 2016 (“IBC”) provides a secured creditor with two options. The secured creditor may either relinquish its security interest to the liquidation estate and allow the secured asset to be sold by the liquidator as part of the liquidation process, or choose to realize its security interest in the manner specified under Section 52 of the IBC. If a secured creditor chooses to realize its security interest, Section 52 (4) further provides that the secured creditor may do so in accordance with “such law as applicable to the security interest being realised and to the secured creditor and apply the proceeds to recover the debts due to it.”


The IBC and the rules and regulations thereunder are, however, silent on how to deal with priority of charges among secured creditors in cases where security over a particular asset is shared among two or more secured creditors. In such a situation, what happens if one of the secured creditors chooses not to relinquish its security interest over a particular asset, while the other secured creditors choose to relinquish their security interest over the same asset? The National Company Law Appellate Tribunal (“NCLAT”) recently considered this question in the liquidation proceedings of Surana Power Limited (“Surana Power”) [Mr. Srikanth Dwarakanath, Liquidator of Surana Powers Limited in Liquidation v. Bharat Heavy Electricals Limited, Company Appeal (AT) (Insolvency) No. 1510 of 2019, decided on June 18, 2020]


In Surana Power, the respondent, Bharat Heavy Electricals Limited (“BHEL”) had obtained an arbitration award in its favour and had, pursuant to the arbitration order, been granted a lien over certain equipment and goods of the corporate debtor. These assets had also been hypothecated in favour of the other secured creditors of the corporate debtor, which were banks and financial institutions. During the liquidation process, BHEL informed the liquidator of its intention to realize its security interest, while the remaining ten secured creditors chose to relinquish their security interests to the common liquidation pool. This had resulted in a stalemate for the liquidator who approached the National Company Law Tribunal, Chennai Bench (“NCLT”), for a direction to proceed with the sale of the secured assets, notwithstanding that BHEL had not relinquished its security interest. The NCLT refused to allow the liquidator’s application, which led to the appeal before the NCLAT.


The NCLAT relied on the provisions of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (“SARFAESI Act”) in holding that the liquidator may proceed with the sale of the secured assets. The NCLAT pointed out that, based on Section 13(9) of the SARFAESI Act, a secured creditor may proceed to realize its security interest for an asset over which it does not have an exclusive charge only with the consent of secured creditors holding at least 60% in value of the secured debt. In the case at hand, secured creditors representing 76.73% in value of the outstanding secured debt had chosen to relinquish their security interest, with only a single creditor holding 26.24% in value choosing to realize its security interest. As 60% in value of the secured creditors had not consented to realization, the NCLAT held that BHEL was not entitled to realize its security interest and the liquidator could proceed with the liquidation and sale of the secured assets.


On the face of it, the NCLAT’s ruling appears to have provided the right result as BHEL’s refusal to relinquish its security interest had placed a significant obstacle to the liquidation process to the detriment of all the creditors. However, it does raise an interesting question of the NCLAT relying on provisions of the SARFAESI Act, particularly as BHEL (not being a financial institution) cannot enforce its security interest pursuant to the SARFAESI Act. The NCLAT has largely drawn an analogy from the SARFAESI Act based on the following logic: As the SARFAESI Act does not allow realization of security without the consent of at least 60% of the secured charge holders, BHEL’s decision not to relinquish its security interest to the liquidation estate under Section 52 of the IBC does not need to be upheld as this would be prejudicial to the liquidation process. As a consequence, the liquidator may proceed with liquidation and sale of those assets.


The concern with the NCLAT’s judgment, apart from importing provisions of the SARFAESI Act to the IBC, is that it does not take into account the priority of charge among secured creditors. When it comes to the relinquishment of security interests over shared security, there are two possible scenarios. All the secured creditors might have a pari passu charge over the asset or one or more secured creditors might have a prior charge and the other secured creditors might have a subordinate charge. While going by the decision of secured creditors holding a certain threshold percentage of the secured debt would be logical in the scenario where there is a pari passu charge, such an approach would not be appropriate if some secured creditors have a prior charge over the secured asset.


The principle that priority of charge among secured creditors should be respected in liquidation has already been set out in the Supreme Court’s decision in ICICI Bank v. SIDCO. In Surana Power, as the charge of the banks and financial institutions had been created prior in time to BHEL’s charge, the NCLAT should have recognized that the banks and financial institutions had the first charge over the secured assets. In fact, this was the view taken by the NCLAT in the case of JM Financial Asset Reconstruction Company Ltd. Vs. Finquest Financial Solutions Pvt. Ltd. and Others (2019 SCC OnLine NCLAT 918), where the tribunal stated that the liquidator should proceed to determine which party had the first charge over the asset in situations where some but not all of the secured creditors had agreed to relinquish their security interest. Adopting such an approach would have provided the same result in Surana Power, but without the need to bring in provisions of the SARFAESI Act into the IBC, and based on a well-established principle of recognizing priorities among secured creditors.


The IBC does not include provisions on inter-se rights of creditors within a particular class, leaving it to the evolving jurisprudence in this area to deal with questions on the relationship among secured creditors. While the decision in Surana Power achieved a helpful result for the liquidation, the precedent it sets of importing provisions of the SARFAESI Act into the IBC and not considering priority of charge among secured creditors could have unintended consequences.


Contributed by Samvad Partners


This article has been authored by Ms. Aparna Ravi (Partner), Samvad Partners, New Delhi.

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