The conflict between the sanctity of the insolvency resolution process and maximising value must be sorted out
The Parliamentary Standing Committee on Finance has come down heavily on the Insolvency and Bankruptcy Code (IBC), stating that it has fallen short of the objectives it was intended to meet; it has alluded to poor recovery rates for lenders, delays in the resolution process and the rising incidence of liquidation as opposed to a sale of the assets. There is, no doubt, some truth in these charges, and the IBC needs to be amended to make the process more efficient. However, even the most die-hard critic must concede that it is a piece of legislation that has completely changed the equation between banks and defaulting borrowers. For all the weaknesses it has, the IBC has left bankers in a much stronger position than they were in the SARFAESI or the DRT environment.
Among the biggest problems has been the tardiness of the National Company Law Tribunal (NCLT) and the appellate tribunals and the shortage of judges who have been too lenient. To be fair, the legislation was a new one and, therefore, susceptible to challenges and litigation in the higher courts. Nonetheless, within their jurisdiction, the judges should have speeded up the process and been less tolerant of diversionary tactics. Too often were late and unsolicited bids allowed; even today the benches are allowing late applications and entertaining appeals or proposals from wilful defaulters. The law should be firm on this, leaving absolutely no room for ambiguity that can be exploited.
It is critical that the resolution process is quick, so as to be able to preserve the value of the asset; over time, this depletes since the business may run short of working capital or other lines of credit. Perhaps the process of resolution and liquidation should be initiated simultaneously so that the asset retains value even at the stage of liquidation. That the share of liquidation is relatively high must be seen in the context that most businesses are defunct when brought before the courts.
There are some who argue that Section 29(A), which prevented wilful defaulters from buying back their own companies, has served its usefulness and should be removed. Such an approach would be sacrilege and go against everything the late finance minister Arun Jaitley worked for. No number of safeguards would be enough.
Recall how the Ruias magically came up with a proposal for Essar Steel at the eleventh hour, how Kapil Wadhawan refuses to accept the verdict of Committee of Creditors (CoC) on the sale of DHFL to the Piramal Group, and how Venugopal Dhoot has approached the appellate tribunal with a financial offer for Twin Star Technologies after the sale to Vedanta has gone through. Promoters, who are wilful defaulters, cannot be allowed to get back their businesses; that would amount to moral hazard of the highest order.
It is true the number of cases resolved by liquidation appears high—1,277 versus 348 resolved until March 2021. As the Insolvency and Bankruptcy Board of India (IBBI) chief, MS Sahoo, has pointed out, as many as 19,000 cases were closed either before or even after being admitted to the NCLT, but ahead of the full process being completed; and only 1,600 cases actually reached the finishing line. Seen against this backdrop, the share of liquidations would be way smaller. Having said that, it should be possible to reduce the number of liquidations by amending the process to encourage more buyers; buyers are put off by the tribunals allowing late applications, by the interference of the tax authorities and other state agencies.
If haircuts have been very high—some at 95%—it has partly to do with the fact that many companies that went bankrupt were not in good shape financially. This was partly due the banks red-flagging the stress too late in the day and allowing a part of the value to get depleted. As the IBBI chief pointed out in an interview to this paper, the average debt of troubled firms going through the corporate insolvency resolution process (CIRP) was about five times the value of the assets, which means lenders were staring at a haircut of 78% to begin with. Against that, the average recovery rate is around is 61%. That said, the haircuts taken by lenders for some of the companies has been very steep, because while the indebtedness may have been high, the haircut would be determined by the intrinsic value in the company. Without implying there has been malfeasance, the process certainly needs a lot more scrutiny. The Mumbai NCLT bench, for instance, recently alerted the National Company Law Appellate Tribunal that the price that Vedanta paid for Twin Star was uncannily close to the liquidation value. Some checks and balances are clearly needed.
Also, the conflict between the sanctity of the process and maximising value must be sorted out. One appreciates how hard it must be for the lenders to not accept a better bid even if the rules are being broken, but the process must be followed; else, buyers will lose faith in it. The process could be changed. So, a late bid—within a specified deadline—can be entertained if it is, say, 25% more than the bids put in within the deadline. We must cash in on the significant interest from buyers overseas.
Again, businesses need not be sold in one piece if there are buyers for separate parts and value is maximised. With some changes, the IBC could be an even better law without becoming too prescriptive. The pre-packs are a good idea and should facilitate quick resolution and ensure the value of the business is not eroded.