Bank Guarantees Are Not CD’s Assets: NCLT Kolkata Bench Clarifies That Bank Guarantees Can Be Invoked During Moratorium Period

Introduction

In a recent ruling in the case of West Bengal State Electricity Distribution Company Limited (WBSEDCL) v. Punjab National Bank & Others[i], the National Company Law Tribunal, Kolkata Bench (‘NCLT’), addressed the issue of whether a bank guarantee (‘BG’) can be invoked during the moratorium period under the Insolvency and Bankruptcy Code, 2016 (‘IBC’). The case revolved around the invocation of a BG amidst the ongoing corporate insolvency resolution process (‘CIRP’) of the corporate debtor (‘CD’). This decision of the NCLT demonstrates the applicability of s. 14(3)(b) of the IBC, which excludes BGs from the moratorium provisions, thereby reinforcing the autonomy of such financial instruments during insolvency proceedings.

Brief Facts

• WBSEDCL (‘Applicant’) entered into a Memorandum of Agreement (MOA) with the CD on 07.10.2004, wherein a BG of Rs. 3 crores was provided as a security deposit.

• The CD was admitted into CIRP on 22.07.2022, leading to the declaration of a moratorium under s. 14 of the IBC. Additionally, the CD defaulted on electricity payments from February 2022 that constituted statutory dues, prompting the Applicant to disconnect the power supply and issue a notice under s. 56 of the Electricity Act, 2003, invoking the BG on 08.08.2022.

• Punjab National Bank (‘Respondent’) refused to honour the BG's invocation, citing directions from the resolution professional (‘RP’) and the moratorium provisions.

• The RP accepted the Applicant’s claim as an operational creditor for Rs. 3,20,12,379 due to the CD’s defaulted electricity payments vide email dated 22.12.2022. Thereafter, the Applicant again requested the release of the BG, arguing that their claim would automatically reduce if the payment was received from the BG and thus would not amount to dual recovery by the Applicant.

Held

• While allowing the Applicant’s request to release the BG amount, the NCLT rejected the argument that honouring the BG would lead to dual recovery. It held that once the BG is encashed, the admitted claim of the Applicant would be revised accordingly. The NCLT observed that the moratorium under s. 14 of the IBC prohibits any recovery or enforcement actions against the CD and does not apply to BGs. It referenced upon s. 14(3)(b) of the IBC, which expressly states that the moratorium does not extend to a surety in a contract of guarantee to a CD.

• Further, the NCLT analysed the independent nature of the BG, noting that it operates as a contract between the Respondent and the Applicant in this case. The Tribunal held that the encashment of a BG does not involve the CD’s assets and, therefore, cannot be classified as a preferential transaction under s. 43 of the IBC.

• The NCLT referred to the judgment of the Hon’ble National Company Law Appellate Tribunal (NCLAT) in Bhuvan Madan v. Nominated Authority, Ministry of Coal & Anr.[ii], which reaffirms the principle that the moratorium does not extend to BGs as they are independent contracts that must be honoured regardless of the CD’s insolvency status.

Conclusion

The NCLT’s decision, in this case, highlights the independence of BGs as financial instruments that operate outside the direct influence of the CD’s insolvency proceedings, ensuring that such guarantees remain reliable and enforceable. By holding that s. 14(3)(b) of the IBC excludes BGs from the moratorium provisions; the NCLT has clarified a significant legal position that protects the interests of beneficiaries like the Applicant in this case. The decision also helps prevent CDs' potential misuse of moratorium provisions to delay or evade their obligations under BGs.

Furthermore, the NCLT’s reliance on the above-mentioned decision reinforces the established legal principle that BGs, being independent contracts, must be honoured without interference from the underlying disputes or the insolvency status of the CD. This decision will likely have a broad impact, providing much-needed clarity on the treatment of BGs in insolvency scenarios and ensuring that these guarantees continue to serve their intended purpose as secure and enforceable financial assurances. It also provides clarity to financial institutions and creditors regarding their rights during the CIRP.

End Notes

[i] I.A. (I.B.C) No. 699/KB/2023 in C.P.(I.B.) No. 2179/KB/2019, dated: 24.07.2024.

[ii] 2024 SCC OnLine NCLAT 771.

Authored by Jitin Bharadwaj, Advocate at Metalegal Advocates. The views expressed are personal and do not constitute legal opinions.