Banks, NBFCs not bound to take revival measures for MSME before declaring it NPA: Bombay High Court

The Bombay High Court recently dismissed a clutch of petitions filed by nineteen Micro, Small and Medium Enterprises (MSMEs) challenging the decision of banks and non-banking financial companies (NBFCs) to declare them as Non-Performing Assets (NPAs) [A Navinchandra Steels Pvt. Ltd. V. Union of India & Ors and connected petitions]..In doing so, division bench of Justices BP Colabawalla and MM Sathaye rejected an argument by the MSMEs that the banks/NBFCs should have first adopted revival and rehabilitation measures referred to in a 2015 notification issued under the Micro, Small and Medium Enterprises Development Act, 2006 (MSMED Act) before declaring the MSMEs as NPAs.The High Court concluded that the MSMEs had to submit an application to the banks or NBFCs to initiate such a process under the said notification. In other words, the banks or NBFCs are not required to initiate such a rehabilitation or restructuring process on their own. "A conjoint reading of Clause 1(1) and Clause 1(3) of the said Notification, leads to an indisputable interpretation that the said Notification can be pressed into service only and only after the MSME [such as the Petitioners] approaches the Banks/NBFCs with an appropriate application supported by an affidavit of the authorized person," the Court held..The Court added that without any such intimation, it would be difficult for the banks or NBFCs to identify MSMEs which are under stress of repayment since thousands of MSMEs received loans.“How a particular borrower is performing in its business and whether any such business is undergoing or beginning to feel stress on its financial capacity, is within the knowledge of the said borrower running its business. Unless such knowledge of incipient stress on the financial condition of MSME is brought to the notice of the Bank, it is next to impossible, in our opinion, to be identified on its own by the Banks or NBFCs”, the January 11 order reads..The notification in focus was dated May 29, 2015 and was issued under Section 9 of the MSMED Act.The notification provided for the formation of a committee consisting of bank officers and independent experts on MSMEs to implement a corrective action plan for MSMEs facing financial stress.This notification provided for the categorisation of MSMEs into various kinds of Special Mention Accounts (SMA)..The MSMEs before the High Court argued that since this procedure had not been complied with first in their case, the NPA declarations issued under Section 13(2) of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act of 2002 (SARFAESI Act) were invalid. Advocate Mathews Nedumpara, appearing for the MSMEs, argued that no committee had ever been constituted. Therefore, no recovery proceedings could have been initiated, he asserted. For the Central government, advocate Advait Sethna contended that the notification only offered an option to the MSMEs to initiate restructuring proceedings. Such a procedure would not place fetters on recovery proceedings under the SARFAESI Act, the government counsel added. .The High Court ultimately dismissed the petition on concluding that the MSMEs had to submit an application to the banks or NBFCs to initiate the process under the 2015 notification.Since no such application was filed by the MSMEs in this case, the Court dismissed their challenge to the actions taken by the banks and NBFCs. The Court granted liberty to the banks and NBFCs to continue with the SARFAESI proceedings. However, it stayed the order for two weeks to allow the MSMEs to file an appeal, if they wished to. .[Read order]