By Rajnish Kumar
With the Insolvency and Bankruptcy Code (IBC) completing six years, there have been several discussions about what has worked well and what has not. Thus, rather than discuss the pros and cons of the IBC vs other frameworks, I would like to highlight the major issues that cropped up during the resolution process and some common misconceptions about the IBC to foster informed discussions leading to better and more holistic resolutions.
Nearly a year after the introduction of the IBC in May 2016, the Reserve Bank of India sent a list of 12 defaulters against whom it wanted creditors to invoke immediate bankruptcy proceedings. In February 2018, RBI directed banksvia a circular to resolve debts over `2,000 crore within 180 days, failing which the corporate debtor would have to be taken to the National Company Law Tribunal (NCLT) for insolvency action within 15 days. It set the cat among the pigeons as Indian corporates believed in their divine right to the ownership of the business, and that the onus was always on the creditors to keep providing funds without any change in ownership/management. Many companies challenged the reference to NCLT, though, fortunately, their efforts did not succeed. The only limited success was that the powers of RBI to give general directions to the creditors to refer the cases mandatorily to NCLT were held as ultra vires of the Banking Regulation Act. RBI revised the framework for resolution of Stressed Assets in February 2019, which does not mandate reference to IBC, but there is an in-built incentive by way of deferred provisions for loan loss for a reference to NCLT timely. RBI’s faith in IBC played a critical role in its early years.
Section 29A, that came into effect in November 2017, lists the conditions for disqualification of a potential bidder from becoming a resolution applicant. The promoters of accounts deemed non-performing loans (NPL)for more than a year were, inter alia, made ineligible to be a resolution applicant unless they paid the overdue amount. Many promoters tried to circumvent the law by floating entities controlled by related parties, but the courts held these as being ineligible too. One of the most important cases decided by the Supreme Court is Arcelor Mittal India Private Ltd vs Satish Kumar Gupta (Resolution Professional) and others, which settled the issue of eligibility under Section 29A. In case of Essar Steel, with a view to avoid liquidation of a large asset, the SC took a pragmatic view and exercised special powers to give a one-time opportunity to submit a fresh resolution plan to both the resolution applicants after clearing all the overdue of the companies promoted by them that were in default for more than a year. The lenders were able to recover not only the full outstanding debt of Essar Steel, but another `11,000 crore in respect of companies which were in default, and Arcelor Mittal was considered a promoter.
Under section 12A, the insolvency process can be withdrawn with the consent of 90% of the creditors, subject to the approval by the adjudicating authority. The one-time settlement by the lenders of SIVA Industries, led by IDBI Bank drew attention because of the very low settlement amount offered by the promoters. The matter eventually landed in the SC, which, once gain, upheld the supremacy of the commercial wisdom of the Committee of Creditors (CoC). Notwithstanding the legal position, there is a big challenge for the lenders in accepting settlement offer from promoters who are otherwise disqualified to submit a resolution plan, under section 29A. No doubt lenders would be guided by their commercial wisdom, but adverse public perception cannot be completely ignored.
Huge losses for the lenders in many high-profile cases have attracted adverse public opinion—because of the lack of awareness about how the value of an enterprise is determined. There are several factors like availability of tangible assets, location, industry, macro-economic scenario that determine the value of the enterprise as well as the interest of the bidders. Because of the inherent quality of the assets, Binani Cement and Essar Steel led to a bidding war, and there were no losses incurred by the financial creditors. The same was not the case with other steel plants, where the value of the enterprise was determined to be much lower. Power plants, too, attracted different valuations depending upon the location, availability of coal linkages and Power Purchase Agreements (PPAs). The worst enterprise value has been realised for EPC (engineering, procurement and construction ) companies because of the non availability of tangible assets, and huge liabilities under the unfinished contracts.
Another issue attracting adverse public opinion is providing refinance for acquiring an enterprise that has undergone the bankruptcy process. What is not appreciated is that the lenders are extending credit to a new promoter/management team for a successfully resolved business with a clean balance sheet at a market-determined value. Lenders can choose to provide acquisition financing .
The IBC has changed the debtor-creditor relationship forever. There is huge scope for improvement. First, we should remember that the IBC is a “resolution” mechanism, and not merely a “recovery” forum. If creditors participate in the CoC with the sole objective of maximising their individual recovery, the most likely outcome is liquidation and lower recovery for all. The running battle between financial creditors and operational creditors too has led to inevitable delays.
Second, the role of statutory and regulatory bodies needs to be aligned with the IBC process. For instance, the IBC process for listed companies often fails due to the regulatory requirement of a tender offer in case of a change in control. The regulatory framework and treatment has to be different for companies going through IBC for better resolution outcomes. As an example, the Enforcement Directorate would often seek to attach assets of a company undergoing the IBC process, impacting resolution. Ultimately, the Delhi High Court, in Nitin Jain Liquidator PSL Limited v. Enforcement Directorate, held that once the NCLT approves of the resolution or liquidation plan, the ED can no longer attach the debtor’s assets.
Third, infrastructural improvements are needed. Adequate training of Resolution Professionals and CoC members is needed to facilitate collaboration. NCLT tribunals are often racing to keep up with IBC matters. A solution could be dedicated IBC tribunals, under the NCLT. Moreover, mechanisms can be devised wherein the IBC tribunals are not a cost to the exchequer; like how the RPs’ costs are billed to the resolution process, judicial costs can be added to the resolution process.
Finally, early and rapid action is critical. A delay in referring a corporate debtor to IBC can be near fatal for successful resolution. The longer that creditors wait before initiating IBC, the larger the haircut they will need to take. IBC would inevitably lead to liquidation (death), if a stressed company (patient) is referred late for resolution (treatment). IBC is not for patients in the ICU. On balance, the IBC process should be appreciated for its successes at resolving inherently complicated insolvency cases, and for deterring defaults by delinquent promoters. However, to really succeed, all stakeholders must aim for timely diagnosis and rapid treatment.
The writer is former chairman, State Bank of India. Views are personal.