“Some operational creditors could be in trouble if they are not paid for goods and services but have no legal recourse,” experts said.
The proposed suspension of insolvency proceedings for six months will hit both financial and operational creditors, experts said. However, the breather might allow several companies unable to service their debt to ward off the threat of being dragged to the insolvency courts for another short period. In fact, a section of experts believes that a six-month breather from the Insolvency and Bankruptcy Code (IBC) may not be adequate, given the growing uncertainties about an economic recovery and the ability of the companies concerned to service debt anytime soon.
While banks will see a spike in capital provisions and would be unable to move to look for a new buyer for the stressed company, it could take a much long time for operational creditors to recover their dues in the absence of legal recourse. “Some operational creditors could be in trouble if they are not paid for goods and services but have no legal recourse,” experts said.
The Cabinet is likely to consider, at its next meeting, an Ordinance to amend the IBC to hold off proceedings in the insolvency courts.
Even before the pandemic, the slowdown in the economy had caused a deterioration in credit quality. For instance, SMA-2 loans – those where repayments are delayed by 61-90 days – increased by about 143% between March 2019 and September 2019, Reserve Bank of India (RBI) data cautioned. Any repayment default post 90-days, sees the exposure slip into a non-performing asset (NPA) and banks need to make bigger capital provisions.
Finance minister Nirmala Sitharaman had said on March 24, the government may suspend sections 7, 9 and 10 of the IBC for six months. Moreover, with a view to giving the cash-strapped MSME sector some relief, the threshold default level, for triggering insolvency, was immediately raised to Rs 1 crore from Rs 1 lakh. While Reserve Bank of India (RBI) has allowed borrowers a three-month repayment holiday for term loans, keeping insolvency proceedings in abeyance would be an additional breather for borrowers who may default on loan repayments thereafter.
Section 7 of the code allows a financial creditor, either by itself or jointly, to make an application for initiating the corporate insolvency resolution process against a corporate debtor. Section 9 of IBC gives power to the operational creditors to initiate the corporate insolvency resolution process after default. Under Section 10 of the IBC, a defaulting company has the right to approach the adjudicating authority to declare it insolvent, giving protection from creditors.
Already, in a bid to insulate small businesses from being dragged to the NCLT, the default threshold for triggering insolvency has recently been raised to Rs 1 crore from just Rs 1 lakh earlier.