“If you want to have a good market where venture capitalists will come and fund the ventures, you need a good legal framework.”
T.K. Viswanathan, Former Law Secretary
Introduction
The Insolvency and Bankruptcy Code is one of the positive steps towards the socio-economy of India. It was presented in Lok Sabha in 2015, the code got assent from the President of India on 28 May 2016. The code aims to do business with ease and to promote entrepreneurship. It provides a process for insolvency which helps the debtor to pay back their debts to the creditor as well as helps the creditor in recovering when their credit is unsecured with any collateral. This will release the debtor from certain liability and obligations. And exit the business with less harm. It provides timely resolution through a proper legal framework for insolvency and bankruptcy.
Any person or organization borrows money, the money borrowed is known as debt. When the person or organization is not in a state to return the money is known as bankruptcy and insolvency. It may sound that insolvency and bankruptcy is the same but -The financial state where the person is unable to pay is insolvency and the legal process of declaring the insolvency is bankruptcy.
There are two types of debt – secured debt and unsecured debt. In secured debt, the debt is secured with some collateral. When anyone is unable to repay the money, the money is gained from the assets that have been deposited as security. Unsecured debt is without any collateral against the credited money.
A key objective behind the enactment of the IBC was the insolvency resolution of corporate persons “in a time-bound manner for maximization of value of assets of such persons”.[1]
Prior to this code, there were few other laws regarding insolvency. The recovery was done through the Recovery of Debts Due to Banks and Financial Institution Act, 1993 or SARFESI Act 2002, SICA 1985 and the other schemes under RBI were SDR, CDR and S4A. The process of winding up of the business or any corporate were covered under the Companies Act.[2] But looking at the history it did not go that well. The process was time-consuming and was futile. Earlier finding out that the company was sick or not was detected after their 51% of erosion of net worth, which is too late to revive the company from winding up.[3] So having a system where a company can file the insolvency can help them revive it.
This process is applicable to companies that are registered under the Companies Act 1956. Creditor plays an important role when it comes to the Insolvency Resolution of a company.
Existing Law for MSMEs.
The finance minister introduced a new amendment that will replace IBC ordinance, which provides a pre-pack resolution scheme for micro, small and medium enterprises (MSMEs). The micro company are who has an investment of less than 1 cr. and turn over not more than 5 cr., Small company are those who have investment not more than 10 cr. And turn over not more than 50 cr. And medium companies are those who have investments not more than 50 cr. And turn over not more than 250 cr.[4]
Pre-pack resolution is a process for only the corporate debtors of MSMEs. The pre-pack insolvency resolution plan is regulated from section 54A – 58 under chapter III (A), part II of IBBI regulation 2021 and insolvency and bankruptcy rule 2021. The minimum default is 10 lakhs, the pre-pack resolution can be initiated on its own or by the approval from the lenders or by the lender having 66 % debt of the business can also initiate. The time limit given for the resolution is 120 days which is drastically less than the corporate insolvency resolution process. And to the new concept of the swiss challenge, the resolution plan is exposed for the value maximization. The new bid ID is given, if it is not significantly better than the promoter of the company. The industry is demanding the pre-pack scheme for the larger companies as well.
Corporate Insolvency Resolution Process
Various institution that facilitates the resolution of insolvency-
Under chapter II of the code, there are two types of creditors operational and financial. The creditor initiates the insolvency process by making an application to the adjudicated body regarding the corporate debtor who has committed the default[5]. In the case of an operational creditor, 10 days prior notice has to be given to the corporate debtor before filing an application to the adjudicating authority. In the said 10 days if the operational creditor does not receive a notice for dispute or any payment, he can file for the insolvency resolution process. There will moratorium on all kinds of legal action against the company debtor.
The adjudicating body has to accept or reject the application within 14 days. If accepted the NCLT appoints an Interim Insolvency Professional for 30 days. Then a publication on public notice mentions the insolvency of the corporate insolvency process and call for claim submissions.
Interim resolution professional will receive the claims by the creditor, in accordance with the public announcement and a committee of creditors will be constituted.
He will receive and collate all the claims submitted by creditors to him, pursuant to the public announcement and constitute a committee of creditors.
An information memorandum will be created by the insolvency professional and the resolution applicant are given access to prepare a resolution plan. The plan is then proposed to the committee of creditors, the play can be approved or rejected by them.
If the insolvency process is accepted the process has to be completed within 180 days. The reason needs to be mentioned to the committee creditor by the resolution professional. If there is a 75 % of vote an application is to be filed to the adjudicating body for the extension, which is only up to 90 days. Even after the extension the decision is pending, there will be no more time extension and the corporate debtor assets shall be liquidated.
To approve the planning committee of creditor ¾ vote is required, if the plan is approved then it is presented before the adjudicating authority. If satisfied with the condition it is approved by the order.
Case Laws
Swiss Ribbon[6]
In the said case there are many different issues raised but the most important was the issue raised on the constitutionality of the unequal treatment given to the financial creditor and operational creditor which is in violation of article 14 of the Indian constitution. It was further said that the maximum power vested in CoC can lead to misuse, as 90% of the voting from CoC is required for the approval of the resolution process.
The SC help that – “classification between financial creditor and operational creditor neither discriminatory, nor arbitrary, nor violative of article 14 of the Constitution Of India” they supported it by stating that the financial creditor has a better understanding in the business as they are generally banks or financial institution who are more involved in the business than the operational creditor. Operational creditor deals with only goods any services and are not into assessing the business
Committee of Creditors of Essar Steel India Limited v. Satish Kumar Gupta [7]
In this case law, Essar Steel owes around 54,000 cr. Combine to both operational creditors and financial creditors. In a bid, ArcelorMittal resolution plan was to do the payment of 42,000 cr. To the financial creditor with an equity infusion of 8,000 cr. And the unsecured financial creditor to be paid 4 % of their admitted claims. Where operational creditor claims less than 1 cr. Will be paid but above 1 cr. Were not to be paid.
When the claim was made by the operational creditor against the resolution plan regarding the unfair and arbitrary distribution of the debt. As the financial creditors were getting 95% of the recovery as compared to operational creditors. The NCLAT held that the operational creditor and the financial creditor should be treated equally with the distribution of funds. Including employees who have less than 1 cr. Claims should be 100% recovered. And the operational creditors above 1 cr. Should have 60.7 % recovery.
This was further challenged in SC. The SC overruled the judgement of NCLAT by stating that the financial creditor must have a greater recovery rate than the operational creditor and in insolvency and bankruptcy the CoC will have the last and final say. The major statement regarding the judgement was that the NCLT or NCLAT will not interfere in the commercial decision of CoC. It has clearly stated that the judicial review will be limited on the ground stated in IBC under section 30(2) in the case of NCLT and section 61(3) in the case of NCLAT.
These were the two major judgement that signifies the importance of the financial creditors in the IBC. In the whole process of resolution, the committee of creditors plays a vital role in making the decision. Their decision can affect the whole process of resolution. First preference is given to the financial creditor in their absence operational creditor will be part of a committee of the creditor.
“in place a code of conduct for CoC that shall elevate accountability and responsibility of CoC to ensure transparency in the functioning of a CoC”[8] This is from the discussion of the IBBI board. The major responsibility of the process lies on CoC as they have to confirm the final plan for the resolution out of all. Given this role, It is important to understand the responsibility and accountability that comes along with it. It is assumed that this being such a responsible work there should be fair and transparent. The importance of CoC has been recognized repeatedly by the Supreme court.
Conclusion
Here we can see that doctrine of equality amongst the equal has been appropriately applied. The difference between the financial creditor and the operational creditors has been appreciated. There is sure some upper hand to the financial creditor as compared to operational creditor. But this act needs to revisit the said part of supremacy given to CoC as the recovery for the financial creditor is going above 90% which can make it difficult for the operational creditor and can be biased.
But despite this, the responsibility given to the CoC cannot be questioned except on some limited grounds because of the commercial wisdom given to them. With the power, there needs to be a practice with transparency. And the IBC process will certainly make it easy for the company to exit.
References:
[1] Sudip Mahapatra And Co-Author, Operational Creditors In Insolvency: A Tale Of Disenfranchisement,[2020], Mondaq, https://www.mondaq.com/india/insolvencybankruptcy/971940/operational-creditors-in-insolvency-a-tale-of-disenfranchisement
[2] Archan Shah And Co-Author, Objective Of Insolvency Law: Resolution Over Liquidation, [2017], Business Today, https://www.businesstoday.in/opinion/story/objective-of-insolvency-and-bankruptcy-law-ibc-resolution-liquidation-87607-2017-12-19
[3] Remya Nair And Anil Padhmananhan, Bankruptcy Code That Will Change How Business is done, [2015] , Livemint, https://www.livemint.com/Politics/y2D3JhMNSPKxxS74p1KZCP/Bankruptcy-code-will-change-how-business-is-done-TK-Viswana.html
[4] https://ibbi.gov.in/uploads/resources/b7dfd3332bc133fde5783cf70b9371a1.pdf
[5] Section 7, CORPORATE INSOLVENCY RESOLUTION PROCESS
[6] Swiss Ribbons Private Limited & Anr. v. Union of India, (2019) SCC OnLine SC 73
[7] Committee of Creditors of Essar Steel India Limited (through authorized signatory) v. Satish Kumar Gupta and Others, (2020) 8 SCC 531.
[8] IBBI, discussion report of 27th August
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