Five years of the insolvency and bankruptcy code: what has changed?

The institutional structure for achieving a resolution of the troubling problem of troubled firms is the subject of a more comprehensive investigation after a series of deals that gave creditor banks an insignificant amount, typically less than 10% of the total. outstanding amounts owed to them and let new organizations walk away with valuable assets.

This sums up the purpose of the Insolvency and Bankruptcy Code (IBC) which was passed in 2016 as a framework law to recognize bad loans and shift resources and assets from delinquent owners to competent hands.

Modeled on the UK system, the IBC substituted a group of overlapping rules and arbitration forums which proved to be incompetent and ineffective, especially in terms of rapid recovery, restructuring of defaulting assets which created a excessive pressure on the banking system.

The new legal structure, which involved the National Company Law Tribunal (NCLT), initially looked like reviving companies and defunct lenders who got a decent share of their tough loans. In a bankruptcy resolution, for example, a global steel giant acquired a struggling Indian company in a deal that gave lending banks more than 90% of their loans owed.

Changed features

Even in the earlier form, under the Corporate debt restructuring (CDR), the returns were around 87 percent. Similar agreements, guaranteeing a fair share to the banks which had granted loans to the ailing company, however disappeared. Instead, the table has turned the other way around.

One of the main reasons is the delay. First, banks normally arrive too late to notice the clues. Second, proceedings drag on due to lawsuits and create further depreciation in value.

At the end of July 2020, up to 19,845 cases were pending before the NCLT, including around 12,440 cases under the IBC. According to a prominent consulting firm, it could take six years to eliminate the heap of outstanding business.

“Of the 278 cases settled in the NCLTs in September 2020, the average resolution time, including litigation time, was 440 days. If we add up the time taken at the admission and post-approval stage of the resolution plan, it takes around 12-36 months to complete the resolution process,”The consulting firm cited in a report.

The report also pointed out that, significantly, with the increase in resolution time, the recovery percentages also dropped to 15-25 percent. In addition, the normal recovery observed for cases settled for financial creditors was 41 percent in September of last year.

Bankruptcy has probably increased. As observed, in the 11 insolvency cases that were settled in the recent past, the banks suffered a hefty haircut of over 90%. The new buyers hold the assets by working calmly to liquidate the value of the company in question.

No wonder this toxic trend has been criticized by experts. A few weeks ago, the Chennai NCLT court asked pointed questions in a lawsuit over a resolution that gave banks less than 10 percent of the amounts at stake. Witness to this kind of haircut sets a bad example, the court wondered how the lenders’ advice would authorize such write-offs.

Without a doubt, this widespread application cannot be approved as the hard knocks lenders take can weaken our banking system. Insolvency administrations should promote the rescue of viable businesses and the effective liquidation of non-viable businesses. They should relieve the troubled parts and not put more strain on the system.

What all of this must include

The IBC and NCLT need to step up and personalize their policies and processes. Since time is the key, quick decision making and proper decisions and regulations are essential to manage the erosion of value from a struggling business and return it to a healthy, profitable business. The nation can hardly ensure that the IBC, hailed as a bad debt remedy and viable alternatives for businesses, becomes a channel for incredible takeover kings at the expense of lenders and other investors.

Professionals are aware of the problem. The IBC has been revised five times and there will certainly be further adjustments in due course. In April, the central government issued an order to launch pre-defined insolvency resolution solutions for micro, small and medium enterprises (MSME).

The design of the prepackage is almost similar to that of previous governments for restructuring where the required direction remains in charge. It allows lenders and debtors to work on an unconventional plan, which can then be presented for approval.

The world’s soundest practice in such regimes allows debtor companies to retain possession, rather than lenders under the control of a resolution professional, which is a vital distinction. This allows for a fairer and faster settlement. As part of the IBC, the promoters are usually at the forefront of the lawsuit, creating obstacles to resolution.

Given the expected benefits, why should the prepackage program not be extended to large struggling companies is a question worth considering.

About the Insolvency and Bankruptcy Code

The Insolvency and Bankruptcy Code (IBC) 2016 was implemented by an act of Parliament. It obtained presidential approval in May 2016. The Center launched the IBC in 2016 to settle claims involving bankrupt companies.

The bankruptcy code is a one-time answer to solving the distress, which was previously a long process that did not allow for an economically viable deal. The law intends to protect the interests of small investors and make the way of doing business less unmanageable. The IBC contains 255 sections and 11 appendices.

IBC was designed to tackle bad debt difficulties that affected the banking system.

The IBC method has developed the debtor-creditor relationship. Several important cases have been settled in two years, while some cases are at an advanced stage of resolution.

IBC provides a time-limited method of settling insolvency. When a delay in repayment occurs, lenders take control of the debtor’s assets and must take steps to resolve the issue. Under the IBC, the borrower and the lender can both initiate “collection” operations against each other.

Companies must complete the entire insolvency exercise within 180 days under the IBC. The deadline can be extended if the lenders do not raise objections to the extension. For small businesses, including startups with an annual turnover of Rs 1 crore, the full insolvency exercise must be completed in 90 days and the deadline can be extended by 45 days. If the debt resolution does not take place, the company opts for liquidation.