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Lanco Infratech Liquidation: Bankrupt EPC firms under IBC feel heat

Already heavily indebted to lenders during bankruptcy, such firms are left with almost nothing under insolvency process.

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The Lanco Infratech counsel made a similar point as part of argument during the hearings to determine whether the corporate debtor should be admitted for proceedings under IBC.

By Mitali Salian

Lanco Infratech, the flagship company of the Lanco Group and once among the larger private players in the field of power and infrastructure engineering, procurement and construction (EPC), was posted for liquidation by the Hyderabad bench of the National Company Law Tribunal (NCLT) on August 27 last year, a little over a year after the corporate insolvency resolution process (CIRP) was initiated on an application by IDBI Bank. However, the liquidation of Lanco Infratech would come as no surprise to anyone who has been tracking the fate of EPC companies under the Insolvency and Bankruptcy Code, 2016.

Unlike asset-heavy businesses such as power companies or in case of stressed hotels and restaurants where the land is owned or leased by the companies, the value of EPC firms is derived from intangibles like current order book and ongoing infrastructure projects, none of which survive intact once bankruptcy proceedings are initiated, anecdotal evidence suggests.

The Lanco Infratech counsel made a similar point as part of argument during the hearings to determine whether the corporate debtor should be admitted for proceedings under IBC. These arguments are laid out in an order dated Aug 7, 2017, admitting the debt-heavy company for CIRP that reads, “It is contented that the respondent/corporate debtor is the only holding company and EPC contractor for SPVs and others. So, Lanco has little value as it derives majority of its value from the investment it holds in the SPVs and EPC work it undertakes for its SPVs. Therefore, it is contented if under-construction SPVs are themselves stressed, the CIRP of LITL will not yield insolvency resolution, and it would lead to liquidation only.”

As is known, soon after the Reserve Bank of India’s February 12 circular, several of Lanco’s subsidiaries, including Lanco Amarkantak Power, Lanco Anpara Power and Lanco Babandh Power, have since been referred to the NCLT for initiation of insolvency proceedings.

According to a banker at a large state-run bank, “In the case of Lanco Infratech, the only silver lining is that banks expect to get at least the equity value out of Lanco Amarkantak and Lanco Anpara.”
Among major challenges facing EPC firms and their RPs is to keep the company alive as an on-going concern. The firms, already heavily indebted to lenders at the start of the bankruptcy process, have questionable future receivables despite several ongoing or near-completion projects, since payments are usually guaranteed at the completion of specific stages of the projects.

More importantly, given the way several EPC firm contracts are designed, the initiation of CIRP gives the principal employer an opportunity to terminate the contract, disrupting the so-called order book , and in the process making the company less lucrative to prospective future investors. The lack of funds can prove a major road block to well-meaning RPs who take over management of the company. Bidding on fresh projects following the initiation of CIRP is also avoided, further hurting chances of the company with a prospective investor.

The major reason is that there are no major assets available with these EPC companies like other companies. Secondly, it is very difficult for banks to take a huge haircut on the loans. At times, the resolution applicants for the reasons like number of projects available, work in progress are not able to give even the liquidation value because some of the assets more particularly intangible one, won’t fetch any value.

According to a banker at a large state-run bank, “Banks are fairly worse off in case of EPC companies where we have investors invoking guarantees even where projects are almost 90% complete. Banks are bleeding on these companies and someone needs to come up with a solution that can help these companies survive and help banks get a decent recovery out of the same.”
A bank guarantee is a financial instrument and represents a bank’s promise to take on liabilities on behalf of a particular debtor in the event that it fails to meet specified contractual obligations. The bank issues these guarantees for a fee that is a percentage of the amount of the entire contract.

According to Ashish Pyasi, principal associate with Dhir and Dhir associates, invocation of bank guarantees is employed by the principal employer as a means to secure the project and its investments. The bank guarantees, which are largely performance bank guarantee or guarantees that can be invoked even during the moratorium, are utilised to pay vendors and to complete the project by the principal employer.

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He adds, “The bank guarantees are encashed even in cases where the project was completed 90% because after the CIRP, it’s a herculean task for professional to complete the project without paying the previous dues of the vendors. If these vendors withdraw their support, the project cannot be completed. Till date there is no suggestion discussed at the policy or legislation level on a solution to salvage EPC firms during CIRP. But if these companies could go into liquidation as a going concern then the various projects can still be completed by the investors and various licences and experience which is available with the EPC can be utilised by the investor company.”

In a nutshell, as Ajay Shaw, partner at DSK Legal, surmised, the value of the business of EPC firms as a going concern depends on three core assets of technical credentials commonly know as pre-qualifications (PQs), order book and key skilled personnel.

An immediate fallout of an EPC company going under IBC is generally termination and termination-related disputes by the counterparts of underlying project agreements and invocation of performance bank guarantees, depletion of its order book size for various reasons such as EPC companies not bidding for fresh projects during the insolvency period and termination of engagement by the key skilled personnel.
These reasons majorly contribute to value deterioration of the assets of EPC companies under IBC which in turn reduces bidder participation and bidder interest such as in past instances of IVRCL, Unity Infraprojects, Lanco Infratech, etc.

Shaw elaborates, “Therefore, I do not believe the IBC is the best solution for EPC firms if one wishes to salvage the firm with any value and, if not all, in most cases EPC companies going through IBC are being pushed towards liquidation. If no bidders are in sight to acquire EPC companies under bankruptcy law at value required by lenders, as such resolution cannot be achieved. It may thus be advisable to seek a resolution for stressed EPC firms outside the aegis of the IBC by way of formal restructuring being invoked by bankers or under a compromise/arrangement with creditors with the blessing of the NCLT under Section 230 of the Companies Act, 2013, or through the security enforcement mechanism.”

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