"Essential" supply under the IBC: A non-essential provision in the COVID-19 era

The overbroad approach to ‘essential’ supply is counter-productive as it would even include within ‘essential’ suppliers small businesses that operate on the basis of regular payments and MSMEs.

NCLT

Published on:

24 Jun 2020, 9:44 am

4 min read

Imagine having to supply goods and services for a year or so without any payment being made to you. Now, imagine doing this in the era of the pandemic when you are already low on cashflow and financing.

This imagination has now become a fearful reality for ‘essential’ goods or service suppliers due to the ‘essential’ supply provision under Section 14(2) of the Insolvency and Bankruptcy Code (IBC).

On admission of an insolvency application against a corporate debtor, the National Company Law Tribunal (NCLT) declares a ‘moratorium’ to provide breathing space to the corporate debtor. During this ‘moratorium period’, an uninterrupted supply of ‘essential goods or services’ to the corporate debtor is to be maintained as per Section 14(2) IBC.

Although, Regulation 32 of the IBBI (Insolvency Resolution for Corporate Persons) Regulations, 2016 [CIRP Regulations], limits this ‘essential’ supply to mean only electricity, water, telecommunications and information technology, in recent times, the legislature as well as the NCLT have adopted an overbroad approach to ‘essential’ supply, resultantly capturing even suppliers such as Micro, Small and Medium Enterprises (MSMEs) within its ambit.

Overbroad ambit of ‘essential’ supply

In Deccan Chronicle Holdings Limited, supply of printing ink, printing plates, printing blanket, solvents, etc. were held by the National Company Law Appellate Tribunal (NCLAT) to be ‘essential’ supply for a corporate debtor involved in the publishing business. This overbroad approach, clearly in the teeth of Regulation 32, has become more pronounced with time, with the NCLT including even supplies such as cloud storage services, and leasehold office premises to be ‘essential’ supply which cannot be interrupted during the moratorium.

Further, through the 2020 Amendment to the IBC, Section 14(2A) has been inserted, wherein a discretion has been given to the Resolution Professional (RP) to decide goods and services, the supply of which he deems critical to "protect and preserve the value of the corporate debtor and manage its operations as a going concern". Supply of these goods and services, as decided by the RP, cannot to be terminated or interrupted during the moratorium period. It is but natural that the RP's discretion would result in an inclusion of a wide array of suppliers inevitably including MSMEs, that would be required to provide uninterrupted supply of goods and services.

Problem of payments

The overbroad approach to ‘essential’ supply is both counter-productive and downright unfair as it would even include within ‘essential’ suppliers small businesses that operate on the basis of regular payments as well as MSMEs. The impact on such suppliers is even more drastic in times of the pandemic, as it is difficult for them to function without a regular cash flow.

First, suppliers are to continue uninterrupted supply to a client, whose past payments are due and who have thus been dragged into insolvency. The NCLT Chennai, in a recent case, while holding that cloud storage services were an ‘essential’ supply, held that even assuming that certain past payments were due, these cloud storage services could not have been terminated or suspended by the supplier and uninterrupted supply is to be maintained during the period of insolvency proceedings. To claim these past payments, suppliers would have to wait to file claims as operational creditors when the interim RP so announces. They would have to further wait for the completion of the whole CIRP process and approval of the resolution plan to receive their dues under the resolution plan (or liquidation mechanism).

The average time for completion of CIRP thus far is a long 374 days. Not to forget, this wait is now further extended on account of COVID-19 as the Insolvency and Bankruptcy Board of India (IBBI) has excluded the period of the nationwide lockdown from the IBC stipulated timeline. Even the amount that they ultimately receive after this long wait would be subjected to a haircut, as is usually the case under resolution plans.

Second, suppliers have to continue to supply even if current payments are not being made to them. The NCLAT has held that even if current payments for an essentials (electricity in that case) are not made, the essential supplier could not disconnect the electricity in violation of Section 14(2) and was to maintain uninterrupted supply. The supplier’s remedy is to move the NCLT for payment of current dues, but it could not be allowed to terminate or suspend the ‘essential’ supply. Thus, suppliers cannot interrupt this supply due to non-payment, they can only request the IRP/RP for payment of current dues and even if the RP does not pay, they are still mandated to continue supply and apply for current payments to the NCLT.

Thus, suppliers are not only forced to supply even without payment of current or past dues, they might also need to incur additional legal costs in approaching the NCLT to raise their claims.

Conclusion: Don’t give grants, just give them what they’re due

Suppliers such as small businesses, start-ups and MSMEs are cash-strapped and operating on disrupted supply chains, high costs and low labour availability due to the COVID-19 pandemic. The IBC Amendment Ordinance 2020, introduced on June 5, by not exempting MSMEs from essential supply provisions under Section 14(2), has failed to foresee that while supplying to corporate debtors in these trying times of the pandemic, such suppliers, might themselves end up going insolvent.