The enactment of a comprehensive insolvency code is one of the most significant achievements of the incumbent government. Keeping with its commitment to improve the country’s ranking in the World Bank’s Ease of Doing Business, the government has already initiated steps for implementation of the Code. The swiftness and speed in notifying certain provisions of the Code, the framing of rules and regulations for corporate insolvency and effecting changes to other laws has surprised many.
The Bankruptcy Law Reforms Committee (BLRC) suggested a malleable law in form of the draft Code. It did not codify the last procedural details in the primary law. As has been made clear by the BLRC, malleability is necessary so that any changes to law, on the basis of the experiences learned and with the evolution of the economy, can be achieved easily without amending the law. Further, the regulator, the Insolvency and Bankruptcy Board of India, has been tasked to detail the processes on the basis of high-level principles provided in the primary law. So, we have a Code which has to be read together with the rules and regulations to understand its import and how it will apply in different situations. One of the key factors in the effective implementation of the Code, therefore, is clarity in attendant rules and regulations. The rules and regulations need to take into account the practical issues that may be faced by the stakeholders, clarify any ambiguities that are present in the primary law and act as an enabler to realise the principles enshrined in the Code.
With the notification of the relevant provisions of the Code applicable to corporate debtors, the repeal of the Sick Industrial Companies Act (SICA) and the changes to the Companies Act, 2013, the landscape in relation to insolvency of corporates has changed. Going forward, there will be no direct initiation of winding up proceedings by the creditors—a tool which was used, and in some instances misused, to bring corporate debtors to the negotiating table. The paradigm shift from the earlier regime of the “debtor in possession” model to the “creditor (read insolvency professional, or IP) in possession” model will instil discipline in corporates. This is because on initiation of insolvency resolution process (IRP), the management and operational control will be vested in the IP. Further, once the process is initiated, it is irreversible and can lead to only two results—the submission of the resolution plan for approval within the 180-day timeline, or failing this, the liquidation of the corporate commences.
In light of the far-reaching changes, the government should have endeavoured to provide a clear and unambiguous regulatory framework for insolvency resolution of corporates. From the review of the corporate insolvency resolution regulations, some of the ambiguities which are evident are:
The methodology for determination of voting share in relation to financial debt in the form of debentures and bonds remains unaddressed. This will present a challenge in the determination of voting share of the committee of creditors where the financial debt is also in the form of debentures or bonds.
The Code requires the creditors’ committee to take decisions on the basis of 75% of the total voting share (instead of members present and voting). The IRP regulations prescribe that IPs may not call for a vote if all members are not present at a meeting. Under the regulations, there is no clarity on the way forward if certain members are absent or abstain from voting. This can lead to the exploitation of the process by certain creditors. To illustrate, a few secured creditors, who are not large enough to constitute 75% of committee, and who would benefit more from liquidation, can come together to frustrate the functioning of the committee by not voting or by being absent. This approach can be used as a tool by them to liquidate the company before any meaningful steps are taken for insolvency resolution and thereby prejudicing interests of other stakeholders involved.
The Code and IRP regulations do not provide for a situation where the insolvency resolution plan fails due to reasons beyond anyone’s control. It is not clear if a creditor can restart the IRP (if there is value to be preserved) or the natural consequence of such failure will be liquidation. It must be noted that the failure of a resolution plan is not a ground for passing a liquidation order under the Code.
No time-limit has been prescribed for approval of the resolution plan by the National Company Law Tribunal (NCLT). Further, the resolution plan can provide for reduction in the amount of debts and modification of security interests created in favour of a creditor. Such wide-ranging powers are liable to result in challenges to the resolution plan by the aggrieved creditors who are crammed down by large creditors. These two factors would result in delays in approval and impact implementation of the resolution plan.
The above is not an exhaustive list and there is a possibility that other ambiguities and practical issues may arise as the Code, and its implementation, gets tested. The first application for insolvency resolution has already been filed in the Mumbai Bench of the NCLT. It is being touted as a test case; let’s hope important learnings are drawn from it by the Board and the government.
There are lot of expectations from the Code—both domestically and internationally. The government has to be mindful that the proof of the pudding ultimately lies in the eating. Therefore, for the effective implementation of the Code, the government and the Board should adopt a dynamic approach in ironing out the creases. It should continuously strive to provide a well-defined and clear regulatory framework for insolvency resolution and liquidation, even if it entails frequent changes to the regulations in the initial days of implementation of the Code.
The author is partner, J Sagar Associates. Views are personal