Registration conundrum under MSMED Act: A puzzle that requires an urgent solution

Micro, small and medium scale enterprises (MSMEs) are an important cog of the Indian economy. According to the annual report of the Ministry of MSME, the contribution of MSMEs is estimated to be 29% of the India’s total GDP for the year 2016-17.

Besides such significant contribution to GDP, MSMEs also play a pivotal role in generation of employment and reduction of regional disparity on account of industrialization in rural areas. Considering their significance, it is imperative that MSMEs are up and running with requisite liquidity to keep economy stimulated.

The Micro Small and Medium Enterprises Development Act, 2006 (MSMED Act) provides a mechanism for speedy recovery of delayed payments. However, this remedy has been the subject of endless debate. According to one view, registration under MSMED Act is mandatory, and according to another view. registration is discretionary for availing remedy under the Act with respect to delayed payments.

Scheme for recovery of delayed payments under MSMED Act

MSMEs are classified based on their business activity and investment in plant and machinery under Section 7 of the Act.

Chapter V of the MSMED Act deals with delayed payments to micro and small enterprises. Moreover, micro and small enterprises must be within the meaning of “suppliers” under Section 2(n) of the MSMED Act, to utilize this remedy.

Section 15 provides that where any supplier, being a micro and small enterprise, supplies any goods or renders any services to any buyer, the buyer is under an obligation to make payment on or before the date agreed in writing. Such agreed date cannot be more than 45 days from the date of acceptance of goods or services. In absence of any agreement in writing, payment shall be made on or before 15 days from the date of acceptance of goods or services.

According to Section 16, where any buyer fails to make payment to any supplier within the time period stipulated under Section 15, notwithstanding anything contained in any agreement between the parties, the buyer is liable to pay compound interest at three times the average bank rate notified by the Reserve Bank of India (RBI) during that period. Section 17 provides that the buyer shall be liable to pay the outstanding amount to supplier with interest thereon, as prescribed under Section 16.

Section 18 starts with a non-obstante clause and provides that notwithstanding anything contained in any law in force, any party to the dispute may, with regard to any amount due under Section 17, make reference to the Micro and Small Enterprise Facilitation Council. The Council is empowered to conciliate the dispute itself, or may refer it to any institution providing ADR services. Every reference made under this provision is to be decided within 90 days. Furthermore, provisions contained in Section 65 to 81 of Arbitration and Conciliation Act, 1996 shall apply to such proceedings.

Section 18(3) provides that in case conciliation is terminated without any amicable resolution, the Council shall either itself take up the dispute for arbitration or refer it to any institution providing ADR services. Again, arbitration will be conducted in accordance with Arbitration Act.

Thus, even if the parties do not have a formal arbitration agreement, by virtue of Section 18 of the MSMED Act, a supplier can enforce arbitration upon a buyer. Moreover, Section 18(4) stipulates that a supplier can file a reference before any Council where the supplier is located. Therefore, the general rule of place of suing under Sections 15 to 21 of the Code of Civil Procedure is not applicable, and the convenience of the micro and small enterprise is given priority.

Section 19 prescribes that an application for setting aside an arbitral award shall be entertained by a court only when the appellant has deposited with it 75% of the amount of the award. Section 23 of the Act provides that interest paid by the buyer to the supplier under Chapter V of MSMED Act shall not be allowed as deduction for the purpose of Income Tax Act, 1961. Section 24 of the Act gives an overriding effect to the provisions contained in Chapter V of MSMED Act over all other laws.

Thus, for micro and small enterprises, remedy under Chapter V of the MSMED Act is swift and effective, as it carries several advantages. Naturally, this mechanism is resorted to on regular basis. However, the issue with respect to registration under the MSMED Act is still hotly contested.

Motion against mandatory registration

The root cause of the controversy is definition of “supplier” under Section 2(n).

Section 2(n) supplier

“supplier” means a micro or small enterprise, which has filed a memorandum with the authority referred to in sub-section (1) of section 8, and includes,

(i) the National Small Industries Corporation;

(ii) the Small Industries Development Corporation of a State or a Union territory, being a company registered under the Companies Act, 1956;

(iii) any company, co-operative society, trust or a body, by whatever name called, registered or constituted under any law for the time being in force and engaged in selling goods produced by micro or small enterprises and rendering services which are provided by such enterprises;

Ordinarily when a definition uses the word “and” to join two phrases, conditions stipulated under both phrases are required to be complied with. However, by virtue of Section 2(n)(i) and (ii), NSIC and Small Industries Development Corporation are considered “suppliers” even without filing a memorandum.

By that analogy, any entity registered under any law and is dealing in goods produced by micro or small enterprises or is rendering services produced by micro and small enterprises, shall be considered "supplier" without filing of memorandum under Section 2(n)(iii).

The said interpretation gets further mileage from a conjoint reading of Section 7 and Section 8. Section 7 does not prescribe any requirement of filing memorandum to become a micro or small enterprise. Likewise, under Section 8(1), for a small and medium enterprise, it is discretionary to file memorandum. Thus, on combined on reading of the second part of Section 2(n) with Section 7 and 8, one can argue that filing of memorandum is discretionary.

One more bone of contention is whether mirco and small enterprises dealing in their own goods or services can claim to be "suppliers" under Section 2(n)(iii) if an entity dealing in goods manufactured or services rendered by micro or small enterprises are considered to be "suppliers" without filing memorandum.

The Allahabad High Court in the case of Hameed Leather Finishers v. Associated Chemical Industries Pvt. Ltd. held that filing of memorandum is not mandatory for the purpose of availing remedy under Chapter V of MSMED Act. The Court also held that the definition of "supplier" under Section 2(n) is an inclusive one that covers entities which have not filed memorandum.

Likewise, the Andhra Pradesh High Court in case of The Indur District Cooperative Marketing Society Ltd. v. Microplex (India), Hyderabad and Ors held that it would be anomalous to interpret the definition to mean that for a micro or small enterprise to be a "supplier", it must mandatorily file memorandum under Section 8(1).

The Delhi High Court, in the case of Ramky Infrastructure Private Limited v. Micro and Small Enterprises Facilitation Council, observed that Section 2(n) is in two parts. The first limb defines a supplier to mean a micro or small enterprise which has filed a memorandum with the authority referred to in Section 8(1) and the second limb refers to, NSIC, etc. The two limbs are joined by the word "and". Usually, this would mean that the conditions as specified in both the limbs must be satisfied. However, it is obvious that the same is not the apposite way to read Section 2(n), because, neither the NSIC - which is a Government of India enterprise - nor the Small Industries Development Corporation is required to file a memorandum under Section 8(1).

The Delhi High Court took a similar view in the case of GE T&D India Limited v. Reliable Engineering Projects and Marketing. The Punjab and Haryana High Court, in the case of Nitesh Estates Ltd. v. MSEFC Haryana, has also followed the aforementioned Andhra Pradesh High Court judgment.

Furthermore, the Development Commissioner, Micro, Small and Medium Scale Enterprises issued a clarification dated March 2018 to a State Council, clarifying that filing of memorandum in not mandatory. However, such clarification is only persuasive in nature and has no binding effect.

Motion in favour of mandatory registration

The other school of thought propagates that filing of memorandum is mandatory to avail benefits under Chapter V of the MSMED Act. This is based on a premise that the first part of the definition of “supplier”, as contained under Section 2(n), makes it mandatory to file memorandum under Section 8. The second part of the definition, which is an inclusive one, must be read in light of the first part.

It is also asserted that an entity cannot declare itself to be a micro or small enterprise. There must be valid recognition of its status as “supplier” by the appropriate authority under the statute at the time of entering into a contract. Without such recognition, a person dealing with such cannot be saddled with the onerous conditions contained in Section 15 to 19 of the MSMED Act on account of any subsequent registration.

The Gujarat High Court, in the case of Niksan Engineering Co. Ltd. v. Easun Reyroller Limited, has held that filing of memorandum is mandatory after taking into consideration the above mentioned aspects. Likewise, the High Court of Bombay, in Scigen Biopharma Pvt. Ltd. v. Jagtap Horticulatuer Pvt. Ltd., also came to the conclusion that a micro or small enterprise cannot qualify as “supplier” under Section 2(n) of the Act, unless they have filed memorandum as required under Section 8.

Thus, the theory that a micro or small enterprise requires registration under MSMED Act to avail remedy under Chapter V is also supported by judgments of at least two High Courts.

Conclusion

On perusal of these conflicting judgments, both interpretations appear to be plausible. With the promotion of remedy under Chapter V of MSMED Act, more and more micro and small enterprises are filing references before the Council. However, the disparity in judgments is creating complex issues, and often, references are terminated, or arbitration awards are set aside.

Therefore, the time is now ripe to have a conclusive opinion from the Apex Court on this issue, on which the fate of thousands of references before various facilitation councils hangs in the balance. Till then, it is advisable for all the micro and small enterprises to file memoranda with the appropriate authorities to distance themselves from this debate.

The author is an advocate practicing at the Gujarat High Court and Founding Partner of Jaimin Dave & Advocates.