Insolvency regime: Time for pre-packs?

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Published: December 7, 2018 1:43:03 AM

There has been a speculation recently about the introduction of pre-packs in the Indian insolvency regime.

These very financial creditors, when assembled as committee of creditors, can swiftly approve the plan when presented by the insolvency professional under the IBC.

There has been a speculation recently about the introduction of pre-packs in the Indian insolvency regime. Pre-packs is a description for an insolvency regime that involves both formal and informal processes. A plan for restructuring the debtor company is solicited in advance of commencement of formal insolvency. The distressed company and its creditors negotiate and conclude a plan to restructure the debtor company. Advisors or insolvency practitioners are engaged to find investors and assist in consulting creditors, negotiating the plan, and seek the support of major creditors and ensure that the plan is legally compliant. Eventually, the agreed upon plan is approved and implemented through the formal process under the insolvency law.

Pre-packs were first used in the US, often in conjunction with Chapter 11 proceeding under the US Bankruptcy Code, which incorporates provisions to facilitate these alternative mechanisms. Chapter 11 is also now regularly used to effect pre-plan sales of all or a substantial part of the debtor’s assets prior to confirmation of a reorganisation plan. Since the 2002 changes, pre-packs have also become a common occurrence in the UK turnaround and insolvency market place.

If pre-packs were to be introduced in the IBC, it would enable corporate debtors and financial creditors to negotiate and agree on a plan to resolve the insolvency of corporate debtor, with a prospective resolution applicant, without first commencing insolvency resolution process under the IBC. Once the plan is agreed upon by financial creditors holding 66% of the debt of a corporate debtor, insolvency proceedings may be initiated under the IBC to get the resolution plan formally approved by the committee of creditors and confirmed by the NCLT. The plan approved by the NCLT will become binding on creditors, members of the company, guarantors, employees and other stakeholders.

In fact, amendments to the insolvency law (as part of the Companies Act 2013) approved by Parliament were inspired from pre-packs. The amendment required the debtor to file, together with application of commencement of insolvency, an implicitly pre-negotiated plan. If such a pre-negotiated plan was submitted, the debtor was allowed to remain in possession under the oversight of an independent insolvency professional appointed as chairman of the board of directors. This prevented disruption in cases where there was no trust deficit between the creditor and the debtor. If no pre-negotiated plan was submitted, the debtor was to be displaced and make way for an independent insolvency professional who would run the enterprise as a going concern and invite plans from the market. The amendment was not notified by the NDA government and the Bankruptcy Law Reforms Committee (BLRC) was set up. Incidentally, the 2013 amendments were penned by the author of this article.

There are many advantages associated with pre-packs. One of the main is that the restructuring plan can be negotiated and agreed to while the business of debtor continues uninterrupted, thus preventing disruption that may be caused as a result of sudden ouster of management. Other benefits include lower costs, faster approval and implementation of restructuring plan, protection for and retention of employees, maximisation of return to creditors, maximise value realised in sale, minimise risks associated with trading and preservation of value.

In Indian context, pre-packs offer additional benefits. They will enhance the certainty of the resolution process. Often, the resolution process can be unpredictable on account of suspense over availability of prospective resolution applicants, continuation of business of debtor, availability of interim finance, disagreement over valuations, potential litigation and delays. Pre-packs can significantly reduce the time-frame as most ground work involved in negotiating the resolution plan and obtaining approval of financial creditors can be achieved before commencement of insolvency process. Distressed assets investors are more confident negotiating in the shadow of insolvency law. These very financial creditors, when assembled as committee of creditors, can swiftly approve the plan when presented by the insolvency professional under the IBC. To ensure that the plan does not hit a roadblock in the IBC, financial creditors will make sure that the agreed upon plan conforms with the laws currently in force in India, meets the requirement of the IBC and its regulations, and takes care of the interest of stakeholders not privy to negotiations.

The promoter and management of debtor will have greater incentives to cooperate as it will allow them to negotiate directly with creditors and investors to achieve a plan that maximises value of assets of debtor while balancing the interest of all stakeholders and leaving a pound of flesh for the shareholders where a value of equity survives. Where such a plan is pre-agreed, insolvency process can be commenced and a plan formally approved within a period of less than 60 days.

It will be, however, fair to say pre-packs are not free of criticism as they are perceived to be favourable to secured creditors. Operational creditors and statutory dues holders may feel left out of negotiations and advisors may be conflicted. But safeguards can be built to address these concerns by making the process of negotiation inclusive. In reality, there are more advantages than disadvantages of pre-packs. The IBC will need an amendment to make way for pre-packs to provide that a pre-negotiated plan should have been agreed upon by financial creditors holding 66% debt, conform to laws currently in force, and satisfies the provisions of the IBC in relation to the content of the plan.
It is widely believed that introduction of pre-packs was considered by the BLRC but it decided to defer their institution till after the stabilisation of the new insolvency framework. The time is now ripe.

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