Are there concrete signs that IBC (Insolvency and Bankruptcy Code) has brought positive changes?
IBC marks a paradigm shift in the approach to corporate insolvency. Under SICA (Sick Industrial Companies Act) or other resolution avenues available earlier, the borrowers continued to be in management and in control of the corporate debtor. Under IBC, the first major change is that the control shifts to the creditor as soon as the corporate insolvency resolution process (CIRP) begins. The creditor wants early resolution and maximum recovery.
Due to this shift, the entire process has been compressed. It is in the creditor's interest to wind up the process as quickly as possible. In the SICA regime, the debtor wanted to drag the process indefinitely to retain control and delay the discharge of repayment obligations.
IBC is the most successful economic legislation in terms of impacting the behaviour of the target groups - borrowers as well as creditors. Even borrowers are now fully conscious of the fact that if the debt becomes unsustainable, they run the risk of losing the company. And if you are found guilty of mismanagement and fraud, you may lose everything, as the concept of limited liability will no longer be applicable.
How would you rate IBC's success so far?
The most important measures of quality and effectiveness of any new law are whether it is based on international best practices or not, and how effectively it has been implemented. In the past two years, the average time taken, recovery effected and cost of resolution under IBC have seen a marked improvement over the previous (resolution) regime.
As per a World Bank report, for the past many years, the average time taken for resolution was 4.3 years, cost of resolution was 9 per cent and average recovery was 26 per cent. Today, in the 63 resolutions under IBC, the average time taken has been 268 days. Though it is more than the 180-day normal time limit (which can be extended to 270 days), it is still within a year.
The cost of resolution is less than 1 per cent. In fact, our own understanding is that it is around 0.4 per cent. And the recovery so far in the 63 cases - both for operational and financial creditors - is 47-48 per cent.
What are the challenges under IBC?
It is a consolidated law but there are some challenges. We need to look at individual and cross-border insolvency, timely disposal and more cases resolved as opposed to liquidation. Liquidations are far more than resolutions. For about 250 cases going for liquidation, there are only about 63 resolutions. Majority of the cases liquidated, may be 70 per cent-plus, were old BIFR (Board for Industrial and Financial Reconstruction) cases. These are long pending cases and there is no possibility of resolution because the asset value has almost been destroyed. The liquidation value of 250-odd cases is hardly 5-7 per cent of claims. Resolution was not really a possibility.
But now, after the RBI (Reserve Bank of India) brought in the February 12 circular last year (2017), it has become imperative for banks and financial institutions to take timely action. This means that after 180 days of default for big loans, you need to go to IBC if you are not able to put in place a resolution outside IBC.
If cases come without delay to IBC, the problem of value destruction will reduce and chances of resolution will be very high. Behavioural changes will positively impact the borrowing and lending culture, and the twin-balance sheet problem would be addressed to a considerable extent at the company and bank level.
You recently said IBC should not be the only mechanism to address non-performing assets (NPAs)?
That is because you can never have a one-size-fit-all solution. Alternative methods of resolving disputes should always be encouraged. Though it may be a bit too early at this juncture to formally introduce a pre-pack type of arrangement that is prevalent in the US and the UK, it is certainly a medium-term or long-term goal that even before initiating the IBC process, we have a resolution framework with creditors' consent and with due regard to transparency and competitive process.
Doesn't the current law provide for this?
The current law does not talk about pre-IBC resolutions, but within the 180-day time frame that RBI has allowed, banks can consider a pre-IBC kind of resolution, something the recently introduced three-pronged Sashakt scheme aims at. A mention in the law is desirable as that will make it legally binding and bring in certain rigour to the process. It will also legally settle the matter because in the pre-pack (arrangement), they come to court and have the stamp of approval. In Sashakt, you don't come to court, you settle it outside. A pre-pack arrangement is desirable but not without transparency, competition and rigour. If there are related-party settlements, there should be adequate checks. It should not subvert the desired outcome. Maybe we have to wait for a couple of years before we can introduce a pre-pack type of alternative.
In a couple of cases, companies that successfully bid for assets under IBC are not paying creditors. What will you do about them?
The system should be robust enough to not entertain non-serious bidders. With some cases in front of us, it appears some people are trying to game the system. The law has some checks and balances but those cater to extreme situations. For example, the law has a provision of imprisonment as well as monetary penalties for entities that try to fraudulently game the system. But those are extreme situations.
In the CIRP process itself you have to build in rigour in terms of earnest money or security deposits to eliminate non-serious bidders or have - I don't know how easy it would be - some background checks.
How robust is the MCA21 data? How far has the cleaning of inactive accounts reached?
MCA21 has existed for a little over a decade and it is one of the most comprehensive platforms we have, even at an international level. (MCA21 is an e-governance initiative for speedy delivery of services and regulation of corporate compliance using information technology). But there has been a problem of data reliability due to poor quality of reporting. That has been addressed to an extent and is continuously being addressed. We feel that in Version 3 (of MCA21), it will be addressed fully. Version 3 would effectively take two years to become operational. We have hundred per cent reliable data on directors. We had 3.3 million directors on MCA21. After running an exhaustive KYC (process), today we have 1.6 million directors, with complete, verified information on each of them. So, 1.7 million (directors) are now deactivated, which, at the first level of assessment, appears to represent dummy and non-existent directors or directors with some problem.
This data of dummy directors provides an invaluable lead; now we can track the companies in which they are directors and then track the compliance behaviour of those companies. MCA21 is perfectly capable of running this data analytics. We were in the process of running KYC on 1.2 million companies as well. Similarly, we will run KYC on professionals (chartered accountants, cost accountants and company secretaries) who engage with MCA21 on behalf of companies they represent.
What is the status of the investigations into shell companies?
Even in the UK, where there are 10 million companies registered, only 4.5 million are active. We have 1.7 million companies, of which 1.1 million are active. But only around 60 per cent of active companies are compliant with the companies law in terms of reporting obligations. We are removing the names of inactive companies - sometimes we refer to them as shell companies - from the Registrar of Companies. Once removed, for the purpose of the Companies Act, they do not exist, except if there are individual liabilities of directors, in which case proceedings against them will continue.
Almost 500,000 inactive companies have been identified in the process of deregistration. In the first drive, 226,000 were deregistered; in the second drive, 105,000. The process continues.
MCA was investigating companies that had deposited large sums of cash during demonetisation. What has happened to those cases?
Post-demonetisation, it was seen that some companies had deposited abnormally (large sums) and subsequently withdrawn money. Around 68 such companies were identified and put under investigation. The investigation is going on. In some cases, it has come out that there was no wrongdoing. The problem occurred because the company had relocated but the bank account still operated with the original CIN (Corporate Identification Number), which is now a defunct company. So the system alerted that a defunct company was doing so many cash transactions.
Some companies, however, found it difficult to explain how so many transactions had taken place without any overt business activities. Investigations into those companies are going on. In some cases, prosecutions have been launched.
In IL&FS, what were the basic corporate governance issues exposed?
IL&FS failed on all counts. The board, including independent directors, failed in discharging its fiduciary duties; the management failed in managing the company; the statutory auditors failed in auditing properly. Even credit rating agencies were not been able to smell a rat. There were issues with financial regulators too. Anyway, now that the government has stepped in and appointed a new board of directors, as we proceed we will get a picture of the quantum of mismanagement. An SFIO (Serious Fraud Investigation Office) investigation is also under way. But it is established that corporate governance failed and there was total mismanagement.
What is the latest update on IL&FS?
It (the company) is broadly moving as per the roadmap set by the new board which has been shared with NCLT (National Company Law Tribunal) and the government. On monetisation, we have informed NCLT that in the entire group of over 300 companies, there are some that have value, some don't have any value, and some are sticky. So, naturally the ones that are more liquid, more amenable to resolution will be put on sale through a transparent competitive process. With the consent of creditors, we expect that resolution plans will be finalised and placed before the tribunal for approval. We should try and bring some sort of finality in eight months or so. Thereafter, settling residual issues will take a little more time. But whatever value is there, that will be preserved and monetised in the next eight months or so.
Companies had to disclose details of significant beneficial owners. Have those disclosures started coming?
Not yet. Though we had notified the rules, a lot of queries were received, and some ambiguities were pointed out. So, the ministry has kept it in abeyance. Now we are on the verge of putting out the revised rules and forms, maybe in a couple of weeks or so.
Will the threshold remain 10 per cent?
The threshold will remain at 10 per cent. Some issues were raised. Direct and indirect holding, holding versus control? How to determine control, based just on voting power or the number of shares you hold? Or whether control can be exercised even without that? How to report it? How will it come in an e-form? There were also requests for exemptions. As you are aware, we have exempted a few entities such as mutual funds, REITs and InvITs regulated by Sebi (Securities and Exchange Board of India) from such reporting obligations.
Are we equipped to handle anti-competitive practices in a new economy?
The new economy challenges are not peculiar to India, it is a world-wide phenomenon. A competition law review committee has been set up to review the existing law. It is a broad-based committee with law firms, experts, regulators and other eminent persons. The committee has set up different working groups to look at specific issues. One of those relates to challenges thrown up by the new economy - disruptive technology, digital technology challenges, definition of market and relevant market, determining dominance, deep discounts, what is unfair practice? all that is being discussed.
When can we expect individual insolvency cases to be taken up?
Individual insolvency will be taken up soon. In the first phase, personal guarantor to the corporate debtor will be taken up; this should start in the next two months or so. After that, partnership, proprietorship, and other individuals will be taken up.