The National Company Law Tribunal, Kolkata (“NCLT”) has in its order dated May 17, 2022 (“Order”) in the matter of Hemant Kanoria v. SREI Infrastructure Finance Limited (Through its Administrator, Mr. Rajneesh Sharma) [IA (IB) No. 75/KB/2021 in CP (IB) No. 295/KB/2021] held that the Insolvency and Bankruptcy Code, 2016 (“IBC”) and guidelines issued by the Reserve Bank of India (“RBI”) are disjoint sets and there is no question of one prevailing over the other.

Facts

SREI Infrastructure Finance Limited (“SIFL”) and SREI Equipment Finance Limited (“SEFL”) are financial service providers undergoing Corporate Insolvency Resolution Process (“CIRP”) envisaged under the provisions of the IBC.

The RBI had issued a circular titled “Master Directions on Frauds – Classification and Reporting by commercial banks and select FIs” on July 1, 2016 (Updated as on June 3, 2017) (“RBI Circular”) directing the banks to report the fraud status of the accounts in default. Clause 8.9.5 of the RBI Circular provides for completion of forensic audit within a period of three months from the date of the Joint Lenders’ Forum (“JLF”) authorizing the audit.

In the present case, two major creditors namely Axis Bank and UCO Bank had convened JLF meeting on March 24, 2021 and appointed KPMG Assurance and Consulting Services LLP (“KPMG”) to conduct the forensic audit. In view of Clause 8.9.5 of the RBI Circular, the forensic audit was supposed to be concluded by June 24, 2021.

Upon a petition filed by the RBI, on October 8, 2021, the NCLT initiated the CIRP of SIFL and SEFL and appointed Mr. Rajneesh Sharma as administrator of both the aforesaid companies. Pursuant to his appointment, the administrator appointed BDO India LLP (“BDO”) to carry out transaction audit of SIFL and SEFL and probe the vulnerable transactions as per the relevant provisions under the IBC.

Thereafter, Mr. Hemant Kanoria (“Applicant”), shareholder of SIFL and SEFL and a member of the suspended board of directors of SIFL preferred an application before the NCLT, inter alia, praying for setting aside the appointment of KPMG and restraining Axis Bank and UCO Bank from conducting and proceeding with the process of audit through KPMG.

Issues

• Whether the NCLT has the jurisdiction to stop an audit commissioned under the RBI Circular.
• Whether the IBC will prevail over the RBI guidelines.

Arguments

Contentions raised by the Applicant:

The Applicant submitted that an audit being conducted at the instance of some bankers cannot be continued after commencement of CIRP, which itself was initiated at the instance of the RBI and thereafter the administrator appointed BDO as transactional auditor to conduct investigation of vulnerable transactions.

The major contentions raised by the Applicant are briefly set out:

• The Applicant is a member of the suspended board of directors of SIFL whose subsidiary is SEFL, and therefore has the locus standi to prefer the present application.
• The KPMG report was completed on December 22, 2021, with a delay of nearly six months, and was therefore not in compliance with the timeline provided as per Clause 8.9.5 of the RBI Circular. In fact, as per Clause 8.9.6 of the RBI Circular, the entire exercise is stipulated to be completed within six months from the date when the first member bank reported the account as fraud.
• KPMG conducted an audit without consulting the erstwhile management. Further, once a transactional auditor has been appointed under the IBC, a previous audit cannot continue. There cannot be a parallel forensic audit without consulting the erstwhile management at the instance of the bankers.
• The IBC is recognized to be complete in itself and has overriding effect over any other legislation or instrument in the event / to the extent of any inconsistency whatsoever.
• Basis perusal of the caveats and limitation to access to data whilst preparing the report as clearly mentioned in the KPMG report, it is evident that KPMG report is incomplete. KPMG has stated that the comments in the report may not be considered as definitive pronouncement.
• If the purpose of the IBC is to revive or ensure continued existence of an enterprise and to maximize its value, it is imperative that the transaction audit being conducted under the IBC should get precedence.
• On the one hand, KPMG conducted audit of SIFL and SEFL at the instance of the banks, whereas on the other hand, the banks were aware of and voted in favour of the administrator appointing a transaction auditor.
• In the event if there is inconsistency between the KPMG report and the BDO report, it will give rise to a conflict situation.
• Under Section 25(2)(j) of the IBC, it is the duty of the resolution professional (administrator in the present case) to file application for avoidance of transactions.
• As the scope of investigation is common, it is the IBC and the report filed as per the provisions of the IBC, which shall prevail.
• Previously there were preliminary reports prior to issuance of final report. This raises a serious apprehension that the contents of the report would have been modified at the behest of the bankers.
• The RBI Circular is a framework laid down under which the banks have to act, and it cannot overhaul the framework of the IBC.
• There is no explanation as to why the audit procedure was not completed by KPMG within the stipulated timeframe.

Contentions raised by Axis Bank and UCO Bank:

The submissions of Axis Bank and UCO Bank are broadly set out hereunder:

• The resolution professional or liquidator who has to form an opinion about avoidance transactions are bound by numerous restrictions. For instance, if Section 43 (Preferential Transactions) of the IBC is referred to, the opinion formed by the resolution professional or liquidator will be restricted to only the limited purpose of that section, and also for a limited duration as stipulated therein.
• The report submitted by auditors appointed by the resolution professional or liquidator under the provisions of the IBC is limited in scope, with limited consequences and to be given in respect of finite time periods.
• The proceedings emanating from KPMG report before other Courts including Criminal Courts are not hit by moratorium under Section 14 of the IBC, as the moratorium pertains to the corporate debtor and not in respect of the erstwhile management or shareholders of the corporate debtor.
• The banks have no role in determination of resolution professional to file applications. This does not preclude the lenders from commissioning a separate audit and taking an action independent of the IBC.
• The Applicant wants the NCLT to assume the jurisdiction to stay the criminal aspects that have been thrown up by the audit commissioned by the lenders, and such a relief cannot be granted within the framework of the IBC. The NCLT has not been given the jurisdiction to look into matters that are beyond the IBC itself.
• The issue of breach of timeline by KPMG in submitting its report lies between the banks and the RBI, and the Applicant cannot take any advantage of the same.
• Forensic audit carried out under the Banking Regulation Act, 1949 and not under the provisions of the IBC cannot be stopped by the NCLT. In this regard, reliance was placed on BV Bhaskar Reddy v. Bank of India and Others [MANU/ND/1394/2021] decided on January 7, 2021 by NCLT, Hyderabad.

Contentions raised by KPMG:

KPMG submitted that the prayer sought by the Applicant asking KPMG to not continue the investigation is infructuous qua KPMG as the report has been submitted.

Observations and decision of the NCLT

Considering the KPMG report being submitted now, the NCLT observed that all other prayers sought by the Applicant have become infructuous and the only Prayer (b) remains to be answered, which is – seeking an Order to set aside the audit process conducted by KPMG in light of initiation of CIRP.

On the issue of jurisdiction of the NCLT, the NCLT observed that basis the powers vested under the IBC, the NCLT lacks the jurisdiction to stop an audit commissioned under the RBI Circular, the intent of which is altogether different.

Further, on the issue of whether the IBC will prevail over the RBI guidelines, the NCLT observed that the RBI circulars work in different fields and are, in a manner of speaking, disjoint sets. The adequacy or otherwise of KPMG’s audit report would no doubt be determined by the lenders. As such, the NCLT held that there is no possibility of conflict between the two and there is no question of one prevailing over the other.

VA View:

The NCLT has rightly observed that the RBI circulars and guidelines operate in a different scope and framework and not necessarily overlap with the provisions of the IBC, in which scenario the question of inconsistency and / or one prevailing over the other does not even arise. Often many applications are filed before the National Company Law Tribunals, pitting some or the other legislation or instrument against the IBC, thereby seeking prayer that the provisions of the IBC shall prevail, in complete ignorance of the fact that there exists no inconsistency in the first place.

Further, the NCLT has correctly held that it is bound by limited powers and functions as envisaged under the IBC and cannot venture into adjudication of issues beyond its jurisdiction and cannot pass orders such as stopping audit process commissioned under the framework of RBI. The implication for the banks is that they are fully entitled to conduct forensic audits of borrowers under resolution process or liquidation and take action against the management responsible for the same without being circumscribed by the strict requirements that avoidance transactions have to be met under IBC.

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

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