Now that the top three lending agencies - scheduled commercial banks (SCBs), non-banking financial companies (NBFCs) and urban co-operative banks (UCBs) - are burdened with non-performing assets (NPAs) leading to a liquidity crunch in the economy, a good deal depends on the efficacy of the Insolvency and Bankruptcy Code of 2016 (IBC) to relieve some stress in the system.
The IBC provides for "institutionalised creditor-in-control mechanism for reorganisation and insolvency resolution" of corporate entities, including corporate debtors (CDs) and personal guarantors thereof, in a time-bound manner for maximising the value of assets of such entities. Thereby, it also seeks to "promote entrepreneurship, availability of credit, while balancing the interests of all the stakeholders".
A perspective paper on the IBC says older legislations like the Sick Industrial Companies (Special Provisions) Act of 1985 did not prove effective in the resolution of stress, either through a revival or closure, "primarily because it was not a market mechanism where stakeholders had the incentive to resolve stress in a time-bound manner". The IBC seeks to address this shortcoming.
The National Company Law Tribunal (NCLT) is the adjudicating authority for insolvency resolution and liquidation of corporate entities and the Insolvency and Bankruptcy Board of India (IBBI) the regulator under the IBC.
Three years down the line, how is the IBC working?
Higher realisation, shorter resolution period
Here is what the IBBI says about the IBC's performance.
"The resolution plans have yielded about 188 per cent of liquidation value for financial creditors FCs). They are realising on an average 43 per cent of their claims (57% haircut) through resolutions plans under a process which takes on average 340 days and entails a cost on average of 0.5 per cent, a far cry from the previous regime which yielded a recovery of 25 per cent (75% haircut) for creditors through a process which took about 5+ years and entailed a cost of 9 per cent."
Thus, the IBC has brought about (a) a marked improvement in credit realisation (b) considerably shortened the resolution process and (c) also reduced the cost.
Insolvency resolutions under IBC
According to the IBBI, between December 2016 and September end of 2019, 2,542 corporate insolvency resolution processes (CIRPs) had commenced. Of these 186 have been closed on appeal or review; 116 withdrawn; 587 ended in order for liquidation - the next stage of the resolution process - and 156 ended in approval for resolution plans.
The insolvency resolution process provides for the restructuring of CD, including by way of merger, amalgamation and demerger, failing which liquidation process is initiated.
Till September 2019, realisation by FCs under the CIRPs had yielded 41.5% of their claims admitted in 38 cases. These resolutions included 8 large companies - Bhushan Steel, Monnet Ispat, Essar Steel, Alok Industries, Jyoti Structures and Bhushan Power and Steel - involving claims of Rs 2.1 lakh crore yielded a 42.7% of it.
Five other large companies - Amtek Auto, Era Infra Engineering, Jaypee Infratech, Lanco Infratech and ABG Shipyard - involving another Rs 1.32 lakh crore - are in the process of liquidation. Taken together, these 12 (large accounts) had outstanding claims of Rs 3.45 lakh crore but a liquidation value of Rs 73,220 crore.
Market intelligence agency Crisil says the next round of the resolution proceedings, involving a debt outstanding of Rs 62,000 crore, however, could see lower recovery because these entities are "smaller assets concentrated in the long integrated, sponge iron and flat-rerolling space".
Liquidation: Forced or Voluntary
By September 2019, 587 CIRPs had yielded orders for liquidation. In 37 of these (involving claims of Rs 9,752 crore) where the liquidation process was completed, 30.2% of claims were realised, while in 354 cases (Rs 3.4 lakh crore) liquidation process was still in process.
Voluntary liquidation is allowed in case there is (a) no debt or not be able to pay debts in full from selling assets under the liquidation process or (b) not being liquidated to defraud a corporate person. By the September end, 498 such cases were initiated.
Most of those who opted for voluntary liquidation were small entities - 289 with paid-up capital of less than Rs 1 crore and 45 exceeding Rs 5 crore. The entities for which data is available shows an aggregate paid-up capital of Rs 2,711 crore with outstanding debt of Rs 861 crore. So far, 64 dissolution orders have been passed. Realisation of assets in some of the cases shows a mere 0.75% (average of 8 cases of voluntary liquidation).
Challenges for effective working of IBC
A major challenge to the resolution process under the IBC is clogging of the 27 NLCT benches functioning around the country. The MoS for Finance and Corporate Affairs Anurag Singh Thakur told the Rajya Sabha recently that 10,860 cases under the IBC were pending before the tribunals. If cases relating to the Companies Act, also adjudicated by these benches, are added, the total number of pending cases goes up to 19,771 (as on September 30).
The reasons for such clogging are obvious: (a) rising financial stress in the economy leading to more cases being filed and (b) a low threshold for the IBC process to set in - the default of Rs 1 lakh - attracting a greater number of cases.
Simone Reis, a merger and acquisition expert with the Nishith Desai Associates, points out that operational creditors (OCs) have been using the platform (NCLT) as a bargaining tool, leading to a lot of frivolous cases being filed. She lists a few other challenges: (i) lack of adequate resolution professionals (ii) information asymmetry as resolution applicants often don't have information which is complete, robust and correct and (c) delays caused by multiple appeals and contradictory verdicts at different levels.
Nirav Shah, litigation partner at the DSK Legal, says in spite of clear apex court ruling that commercial wisdom of the committee of creditors (CoC), which approves resolution plans, is sacrosanct and the challenges should be confined to the limited provisions under the IBC, many resolution plans get stuck due to litigation.
He says erstwhile promoters of corporate debtors, disgruntled OCs or FCs hold up resolution under one pretext or the other, which effectively defeats the purpose of the IBC. "In fact, this uncertainty (of getting stuck in litigation) is one of the reasons which have kept a number of potential buyers out", he observes.
How well has IBC achieved its objectives?
Reis says the IBC's objectives (restructuring of corporate debtors, maximizing value of their assets and balancing interests of all the stakeholders) are ultimately being achieved in cases that have seen successful resolutions. If the systemic inefficiencies could be removed these objectives could be achieved for a larger number of cases.
Shah says a big advantage with the IBC is that corporate defaults "are being sought to be resolved in actual rather than camouflaged structures". But even bigger advantage for him is that the promoters of corporate debtors (CDs) are now genuinely scared of losing control over their company, which is resulting in resolution of disputes even before they are taken to the NCLT.
Ashwin Bishnoi of the corporate law firm Khaitan & Co says that with the IBC in place, there is an expectation of responsible borrowing and lending. "That shift in credit culture has been the real gain from the IBC", he adds.