Insolvency and Bankruptcy Code 2016 - A New Shot in the Armor of Banks

The government of India with a view to consolidate and amend the laws relating to corporate, partnership firm and individual and to resolve the matters of insolvency in a time bound manner on 28/06/2016 notified the Insolvency And  Bankruptcy Code 2016 (Code). The other object of the Code is to take the services of insolvency professional to balance the interest of all stake holders.

The code provides that subsequent to introduction of this Code The Board for Industrial and Financial Reconstruction will stop functioning and all matters of insolvency resolution, rehabilitation and liquidation shall be dealt with by National Company Law Board (NCLT).

The court further provides that in all matters where the minimum amount of default by a corporate debtor is more than one Lakh only NCLT will be the adjudicating authority to decide the matters of insolvency resolution and liquidation of corporate bodies’ i.e. Company and limited Liability Partnership .In matters pertaining to partnership firm and individuals Debt Recovery Tribunal shall be the Adjudicating Authority.

Any financial creditor (secured or un secured) or any operational creditor (including workmen) or the corporate debtor himself may file an application before adjudicating authority for initiating a insolvency resolution process. The adjudicating authority will on the recommendation / approval of Insolvency and Bankruptcy Board of Indi (IBBI) shall appoint a qualified resolution professional to carry out the resolution process. The resolution process is to be carried out within a period of 180 days. Adjudicating Authority on the application of Resolution Professional may extend the time by 90 days.

The resolution professional shall invite claims from all creditors of the corporate debtors by publishing a notice in two leading newspapers, one in vernacular newspaper and other in an English newspaper having wide circulation. Only those claims received and verified in the given time frame in the code shall be taken into consideration while preparing resolution plan. The resolution plan may be prepared by corporate debtor or by financial creditor. The plan is to be approved by a committee of creditors consisting of financial creditors. The operational creditor and erstwhile may remain present in the meeting but may not vote. If the committee does not approve resolution plan the company is referred to liquidation.

The provisions relating to individual and partnership firm are also almost similar.

The Code states that it aims at balancing the rights of all stakeholders in a business entity but the question is whether the scheme provided in the Code really do so?

In any business entity first stakeholder is/are the person/persons who started the business or the share holders who invested in the business. They do not have any say in the matter in the adjudication of insolvency application, decision taken by committee of creditors on resolution plan, of at the time o final stage of adjudication of insolvency application and distribution of assets. The right of corporate debtor came into discussion in the very first insolvency resolution application filed by ICICI bank Vs Innovative Industries ltd before NCLT Bombay. The bank served a copy of application to corporate debtor and the corporate debtor made an appearance opposing the application on certain legal grounds. The NCLT turned down the pleas of the corporate debtor and held it was not provided in the Code to hear the corporate debtor before adjudicating the application moved by financial creditor. Innovative Industries filed a writ before Bombay High court challenging vires of the code. But before the writ could be decided by High Court the company moved an appeal before Appellate Tribunal under the Code hence the writ was dismissed by High Court. The matter is still pending before Appellate Tribunal. In the scheme provided in the Code as it stands now the promoters of the business entity are mere spectators. Their entire past and future is at stake in these proceedings and they have no say.

Other parties are workmen employed by corporate debtor and their vendors who supplied goods and services to the on credit. The financial creditors have got security against their loans but an unpaid seller who has supplied goods /services loses its ownership on them once these are delivered. Though these are categorized as unsecured creditors in the balance sheet but sometime may have a large quantum of amount in total liabilities of business. Since these are operational creditors their interest is in keeping the business of corporate debtor going. They may agree to grant additional credit, waive loan or may grant longer moratorium period which may ease repayment of loan by debtor. Similarly, the workmen, since their livelihood is at stake may agree to work for few extra hours without charging anything extra. But these stakeholders have no say in deciding the resolution plan.

The secured creditor or the financial creditor as the Code call them are banks and the financial institution. These banks have no professional competence to gauge the real problem of a business venture. The venture may suffer because of change of government policies, technical obsoleteness periodical slump in market demand, and sometime due to managerial incompetence of promoters. A resolution plan prepared by bank (financial creditor) ought first find out the cause of failure of business and then proceed to find out the cure of the failure. All this requires in depth study of business, its financial health, management of the environment in which it works, comparing its strength and weaknesses with the other player in the same segment, facilities the secured and unsecured creditors and operational creditors are willing to offer etc. only after making a thorough study and gathering all the relevant information a resolution plan may be prepared.  By merely relying upon some financial equations resolution plan of a sick unit may not be prepared. Are banks competent enough for this? Do they have enough expertise in doing this exercise? Does their bureaucratic system allow them to think positively?

I have a personal experience in dealing with some large public sector banks that have a resolution department with them. They day a loan account is assigned to them they start looking for buyers of the secured assets. No study for resolution of account is made.

Some may argue that a resolution professional is a well qualified professional having high qualification of Chartered Accountant, Company Secretary, lawyer and have vast experience   of business. I beg to disagree. With all these qualifications he may not necessarily have business acumen and entrepreneurship quality. They have not run a true business or managed a company. The role of a resolution professional in the meeting of creditors is more like that of a moderator in a TV debate though he manages the show but has no power to check participant. Similarly the decision is to be taken by financial creditors and resolution professional has no right to express opinion. If resolution professional do not agree to the proposal financial creditors may got him removed. The adjudicating authority is bound by the recommendation of financial creditors.

The object of the Code is to maximize the value of asset of corporate debtor, Promote entrepreneurship and ability of credit. But the present Code is heavily loaded in favour of financial creditor or secured creditor. There is no obligation on them to accept resolution plan prepared by any operational creditor or corporate debtor. There is no appellate authority where the decision of the creditors’ committee may be challenged.   Once the committee of creditors decides not to accept resolution plan the Adjudicating Authority has no option but to refer the corporate debtor for liquidation. The corporate debtor may go for appeal but no stay will be granted by By Appellate Authority.

The secured creditor was already having power to realize the loan in a time bound manner under the provisions of Recovery of Debt due to Bank and Financial institution Act 1993 (Now named as Recovery of Dues and Bankruptcy Act) and The Securitization and Reconstruction of Financial Assets &Enforcement of Security Interest Act,2002.Similar rights have been conferred upon the banks through a circumvenious route. The code is nothing but a new shot in the armor of banks. The Code neither fails to provide any platform to a corporate debtor for restructuring its sick business nor takes into consideration the interest of operational creditor.

PS

While I was going to post this a very interesting case came to my knowledge. NCLT Calcutta has allowed the resolution application of an operational creditor Sri Surndra Kumar Joshi filed against M/S REI Agro Ltd. The company is facing a CBI inquiry for committing a fraud worth Rs 5264Cr.Consortium of banks has filed application before DRT And UCO Bank has filed liquidation petition against company before HC Calcutta. The order of Adjudicating Authority gives umbrella protection to company during moratorium period of 180 days