The National Company Law Tribunal, Principal Bench, New Delhi (“NCLT”) has, in its order dated May 12, 2023 (“Order”), in the matter of Mrs. Jesleen Kaur Papneja v. Raheja Developers Limited [Company Petition (IB)/392(PB)/2019], held that an agreement in the nature of a joint development agreement, for sharing of profits in an agreed upon ratio, does not come within the ambit of an operational debt and that the land owners entering into such joint development agreements do not come within the ambit of operational creditors.

Facts

M/s Raheja Developers Limited (“Corporate Debtor”) was a real estate developer company engaged in the development and construction of integrated residential/ commercial plotted colonies/ group housing apartments, etc. Mrs. Jesleen Kaur Papneja (“Applicant”) along with three land owners (collectively, “Land Owners”) and the Corporate Debtor had entered into a collaboration agreement dated August 13, 2012, which was subsequently amended by a supplementary collaboration agreement dated June 25, 2013 (“Collaboration Agreement”), for the development of certain land admeasuring 24.1563 acres (“Total Land”) in which the Land Owners had an undivided share. Out of the Total Land, the Corporate Debtor had procured a license for 12.48675 acres (“Licensed Land”) from the Directorate of Town and Country Planning for the development of a residential group housing project namely ‘Raheja Vanya’ (“Project”). The balance land admeasuring 11.6695 acres remained unlicensed.

A memorandum of understanding dated October 7, 2016 (“MoU”) was entered into between the Corporate Debtor and the Land Owners wherein the Land Owners permitted the Corporate Debtor to construct, develop, maintain, and sell the Land Owners’ share, subject to the terms and conditions of the MoU. Under the MoU, the Land Owners agreed to provide the Corporate Debtor with the following:

• An exclusive right to develop and construct the Licensed Land;
• An exclusive and absolute right to sell the flat units and other saleable area of the Project;
• The right to convey and transfer the title and interest in the Project; and
• Exclusive and irrevocable rights with respect to the development of the Project.

In consideration of the abovementioned rights, the Corporate Debtor had agreed to develop the Project at its own cost and pay certain amounts to the Land Owners under various heads as agreed upon under the terms of the MoU, including ‘revenue sharing’.

Subsequently, an agreement dated October 25, 2016 (“Agreement”) was entered into by and amongst the Corporate Debtor, Mr. Navin M. Raheja (personal guarantor), Raheja SEZs Limited (mortgagor No. 1) and Enkay Buildwell Private Limited (mortgagor No. 2) (collectively, “Raheja Group”) and the Land Owners. Since the Project was given as cross collateral for other project loans, the Raheja Group had, agreed to ensure the payment of the Land Owners’ entitlement under the MoU by providing security/ mortgage/ hypothecation, etc., on a second charge basis certain mortgaged properties and receivables, subject to the terms and conditions of the Agreement. Under the terms of the MoU and the Agreement, the Land Owners were entitled to payments towards the Total Land purchase with development rights by the Corporate Debtor. Further, as per the MoU, the Land Owners were also entitled to 23.5% of the amounts received from the customers of the Project and such amount was to be disbursed by the Corporate Debtor in the manner provided in the MoU and the Agreement.

The total collection from the Project till September 2017 was INR 71.3 Crores, out of which the Land Owners’ share of 23.5% amounted to INR 16.7 Crores. From the total amount of INR 16.7 Crores payable by the Corporate Debtor, a balance of INR 9.10 Crores remained unpaid to the Land Owners.

Consequently, the Applicant served a demand notice dated December 7, 2018, under Section 8 (Insolvency resolution by operational creditor) of the Insolvency and Bankruptcy Code, 2016 (“IBC”) demanding the payment of INR 9.10 Crores (“Demand Notice”) as a share in contravention of Clause 5.5.1 of the MoU. The Applicant had also claimed that the default amount payable by the Corporate Debtor was approximately INR 1,51,70,000/- due as on September 30, 2018.

Owing to the above, the Applicant had filed an application under Section 9 (Application for initiation of corporate insolvency resolution process by operational creditor) of IBC read with Rule 6 (Application by operational creditor) of the Insolvency and Bankruptcy (Application to Adjudicating Authority) Rules, 2016, for initiating corporate insolvency resolution process against the Corporate Debtor (“Application”).

Issue

Whether the dues to land owners entering into joint development agreements for sharing of profits can be treated as ‘operational debt’ within the provisions of the IBC.

Arguments

Contentions of the Applicant:

The Applicant contended that the lender of the Corporate Debtor, namely L&T Financial Services, had by its e-mail dated October 24, 2018 informed the Land Owners for the first time about the total collection from the Project as on September 2017.

The Applicant further submitted that land and construction over that land was the main component for development of any real estate project. The Licensed Land and the development rights over such land were directly related to the units/ product which were being developed, marketed and sold by the Corporate Debtor for its commercial operation/ production. Moreover, real estate companies generally treated land and building as ‘stock in trade’ in their books of accounts. Therefore, the Land Owners of the Licensed Land were ought to be treated as operational creditors of the Corporate Debtor.

Contentions of the Corporate Debtor:

The Corporate Debtor denied all the averments made by the Applicant and submitted that the Application was not maintainable considering that the debt claimed by the Applicant did not fall within the purview of operational debt under the IBC. Moreover, no goods or services were supplied/ rendered to the Corporate Debtor.

The Corporate Debtor contended that the Land Owners had executed a Collaboration Agreement for the development of a residential group housing colony over the Licensed Land, wherein the parties were to make payments towards external development charges and infrastructure development charges in proportion to their respective shares. Hence, the Land Owners and the Corporate Debtor were in joint collaboration. Further, a backup security agreement dated October 25, 2016 had been executed by and amongst the Land Owners and the Corporate Debtor, under the terms of which a net amount of INR 130 Crores was payable to the Land Owners as minimum security, which was inclusive of the amounts previously paid to the Land Owners and the alleged debt of INR 9.10 Crores, that had been claimed by the Applicant in the Demand Notice.

The Corporate Debtor contended that it had made a payment of INR 3 Crores towards pass through charges in compliance with Clause 5.5.1 of the MoU, which specifically provided that the first charge on receivables was towards ‘pass through charges’ and not towards payments to Land Owners. However, the Applicant objected such payment of INR 3 Crores towards pass through charges. Consequently, the Corporate Debtor preferred an application under Section 9 (Interim measures, etc., by Court) of the Arbitration and Conciliation Act, 1996. The Corporate Debtor submitted that the said matter was taken up in arbitration by the Corporate Debtor prior to the Demand Notice. However, the arbitration application was subsequently dismissed by the adjudicating authority.

The Corporate Debtor also submitted that the Demand Notice was an afterthought, despite knowledge of the pre-existing arbitration application. The Applicant, instead of filing her reply to the arbitration application preferred by the Corporate Debtor, chose to send the Demand Notice. Moreover, the claims under the Demand Notice had jeopardised the development of the entire Project.

The Corporate Debtor concluded its arguments by stating that the Land Owners could not claim to be considered as operational creditors as they had neither supplied any goods nor rendered any services to the Corporate Debtor.

Observations of the NCLT

The NCLT observed that upon perusal of the definition of the term ‘operational debt’ under Section 5(21) of the IBC, it was clear that the definition is comprehensive in nature and has to be understood within the four corners of the IBC. Operational debt means a ‘claim in respect of the provision of goods and services’.

The NCLT perused the terms of the Collaboration Agreement, the MoU and the Agreement and observed that the transactions involved in the instant case were in the nature of a joint development agreement wherein the Corporate Debtor, being the developer, was to develop the land and the profits arising therefrom were to be shared amongst the Land Owners and the Corporate Debtor as per the agreed terms of the said Collaboration Agreement, the MoU and the Agreement.

The NCLT observed that it had been reiterated in several cases, both by the NCLT and the National Company Law Appellate Tribunal, that joint development agreements do not come within the ambit of ‘financial debt’ as defined under the IBC, and therefore, the question to be deliberated upon was whether such agreements and claims arising therefrom could be characterised as a ‘operational debt’.

The NCLT observed that the Applicant in her submissions before the NCLT was suggesting that there was a direct nexus between the units sold by the Corporate Debtor and the Licensed Land, the ownership of which belonged to the Land Owners and so, the Land Owners were to come within the ambit of operational creditors. The NCLT further observed that the Applicant was attempting to give a very wide interpretation to Section 5(21) of the IBC which was not the legislative intent of the IBC.

Reasonably, while the Land Owners and the Corporate Debtor had, by way of entering into various agreements, shared a legal and binding relationship with mutual financial obligations towards each other, the transactions were not in the nature of ‘operational debt’. Therefore, the agreements entered into between the Corporate Debtor and the Land Owners could neither be considered within the ambit of ‘operational debt’ under Section 5(21) of the IBC, nor could the Land Owners be treated as ‘operational creditors’ under Section 5(20) of the IBC and thereby under Section 9 of the IBC.

Decision of the NCLT

The NCLT opined that the nature of the agreement entered into between the Corporate Debtor and the Land Owners was that of a joint development agreement for development of the Project with the motive of sharing profits in an agreed upon ratio.

Therefore, the agreements were not to be read in isolation and were rather to be seen collectively as a whole, and since the joint development agreements were entered into with a motive for the development of the Project and sharing of the proceeds therefrom, rather than as a provision of goods or services, there was no case for the Application to be covered and admitted under Section 9 of the IBC. The NCLT did not find any merit in the Application and therefore dismissed the same.

VA View:

It has been observed in several judicial precedents that the rights of land owners under joint development agreements have not been favoured and such land owners have not been regarded as operational or financial creditors within the provisions of the IBC. The NCLT, through this Order has clarified that the legislative intent of the IBC is to safeguard the interests of legitimate third-party creditors who must not be affected by inter-se disputes between the land owners and the developer.

The NCLT has reiterated that in order to be considered as an operational creditor under Section 5(20) of the IBC, one must be entitled to an ‘operational debt’, that is, claims relating to the provision of goods or services. Since a joint development agreement is entered into with the intent of sharing profits and not for the provision of goods or services, land owners who enter into such joint development agreements cannot be considered as operational creditors within the ambit of the IBC.

For any query, please write to Mr. Bomi Daruwala at [email protected]

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