I OVERVIEW OF RESTRUCTURING AND INSOLVENCY ACTIVITY
The key legislation governing insolvency in India is the Insolvency and Bankruptcy Code 2016 (IBC), which deals with insolvency and liquidation of corporate persons (i.e., companies, limited liability partnerships and any other person incorporated with limited liability) and bankruptcy of individuals and partnership firms. In terms of informal work-out arrangements, the Reserve Bank of India (RBI), the banking and foreign exchange regulator, issued a prudential framework for the resolution of stressed assets on 7 June 2019 (the RBI Circular), which contemplates implementation of a resolution plan through an inter-creditor arrangement (ICA) in relation to stressed assets.2
As of March 2019, 1,800 corporate debtors have been admitted to the corporate insolvency resolution process (CIRP) and out of these about 1,143 cases are outstanding. Resolution plans for 94 stressed assets were approved by the National Company Law Tribunal (NCLT) wherein the recovery has been 43 per cent of admitted claims (i.e., about 750 billion rupees have been recovered against claims of 1,750 billion rupees). The IBC states that the CIRP should be completed within a maximum period of 270 days (including an extension of 90 days); however, meeting the prescribed timelines has proven to be a challenge and about 362 cases have exceeded the 270-day period as a result of various issues including legal challenges. The banking sector gross non-performing asset (NPA) has reduced to about 10 per cent.3 The average recovery through the IBC is significantly better than through other recovery and work-out mechanisms.4
As a result of the IBC, the market for pre insolvency work outs and restructuring has also been very active, which has, among others, resulted in increased securitisation and secondary trading of debt. It has been said that over 2,800 billion rupees of debt were addressed even before admission into the IBC, as the borrowers settled the defaulted amounts with the lenders.5
In terms of liquidity, owing to elections and limited government spending there is a higher liquidity deficit than usual. In particular, the non-banking financial sector is witnessing a liquidity crunch because of issues on asset liability mismatch in some large financial entities. However, the government and the RBI are proactively managing the liquidity in the system and dollar swaps may be helpful in this respect.
II GENERAL INTRODUCTION TO THE RESTRUCTURING AND INSOLVENCY LEGAL FRAMEWORK
The IBC, together with the rules and regulations made thereunder, is a complete code that deals with both insolvency resolution and liquidation process. Currently only the rules and regulations dealing with corporate persons are in effect. Compromise and arrangements with creditors is also possible under Section 230 of the Companies Act 2013.
The Insolvency and Bankruptcy Board of India (IBBI) is the regulator established under the IBC for its implementation. The NCLT is the adjudicating authority in respect of CIRP and liquidation.
Some of the key features of the IBC CIRP framework are noted below:
- A creditor (Indian, foreign, secured, unsecured, financial, operational) can trigger the insolvency resolution process in respect of a corporate debtor if the default exceeds 100,000 rupees by filing an application with relevant NCLT establishing default and proposing an interim resolution professional (IRP). A corporate debtor can also make an application for initiation of insolvency resolution process against itself, provided that relevant corporate compliances, including a shareholders resolution has been passed by requisite majority.
- Once admitted, a moratorium (including in relation to suits, transfer of assets and enforcement of security) comes into effect in respect of the corporate debtor from the insolvency commencement date.
- The board of directors is suspended and the IRP takes control of the corporate debtor and its assets. It also invites creditors to submit proof of claims in the prescribed format through a public notice.
- Based on verification of proof of claims, the committee of creditors (COC) consisting of financial creditors is constituted by the IRP.6 Certain decisions require COC approval by majority or 66 per cent super majority (such as approval of a resolution plan and confirmation of the IRP as resolution professional (RP)).
- In addition to running the day-to-day operation of the corporate debtor, conducting COC meetings and filing the progress reports with NCLT, the RP also appoints a registered valuer to assess liquidation and fair market value of the corporate debtor, engages various consultants to (1) conduct a transaction audit in respect of antecedent transactions; (2) advise on the resolution process; and (3) ascertain if the resolution applicants are ineligible to submit a bid under the IBC.
- RP publishes an invitation for expression of interest and persons who meet the criteria are invited to submit a resolution plan.
- Certain persons are not eligible to submit a resolution plan or to participate in liquidation of the corporate debtor. The ineligibility conditions are fairly detailed and include items such as (1) a wilful defaulter; (2) where an account of a corporate debtor under the management of control of such person or where such person is a promoter is classified as an NPA for at least one year (unless all amounts are paid before submission of the resolution plan); (3) the person is disqualified to act as director under the Companies Act 2013; and (4) has a 'connected person'7 who is not eligible to submit a resolution plan. There are certain exemptions for financial entities.
- A legally compliant resolution plan approved by the COC with requisite majority is filed with the relevant NCLT for approval.
- If no resolution plan is received or if a resolution plan is not approved by COC, the corporate debtor automatically goes into liquidation.
IBC deals with both voluntary liquidations and those pursuant to insolvency. Some of the key features of the liquidation framework pursuant to insolvency under the IBC are noted below.
- Pursuant to the liquidation order by the NCLT, the COC is dissolved and a liquidator is appointed by the NCLT, who acts in a quasi-judicial capacity and reports to the NCLT.
- The liquidator is responsible for (1) verifying claims of all creditors; (2) taking custody and control of all assets of the corporate debtor; (3) preparing an asset memorandum in relation to liquidation estate; and (4) appointing two registered valuers for valuation of assets.
- The liquidator may sell the assets of the corporate debtor collectively or on a standalone basis or in parcels or by slump sale. He may also sell the corporate debtor (or any of its business) as a going concern. Sale is typically through auction.
- The liquidator has to file a quarterly progress report; upon sale of an asset, an asset sale report; and a final report prior to dissolution with the NCLT.
- The liquidation process has to be completed in two years (Regulation 44).
IBC provides for a claw-back period of two years from the insolvency commencement date if the transactions are entered into with related parties, or a period of one year in all other cases. If any transactions are found to be preferential, undervalued, extortionate or undertaken to defraud creditors, the resolution professional or liquidator should file an avoidance application before the NCLT for appropriate relief, including for the transaction to be set aside.8
Directors of companies act in a fiduciary capacity and have a duty to exercise due and reasonable care and exercise independent judgement. The IBC also deals with wrongful and fraudulent trading. In such cases, the NCLT may, upon application by RP, order a director to make contributions to the assets of the corporate debtor if such director knew or ought to have known that there was no reasonable prospect of avoiding commencement of CIRP in respect of the corporate debtor and did not exercise due diligence to minimise potential loss to the creditors of the corporate debtor.9
The IBC provides for stringent penalties (imprisonment or fines) for breach of its provisions. In relation to certain offences committed by an officer of the corporate debtor, the penalty prescribed10 is imprisonment for a term of not less than three years and up to five years, or with fine not less than 100,000 rupees and up to 10 million rupees or both. Further, (1) where an officer of the corporate debtor enters into any transaction for defrauding creditors (within a period of five years from the insolvency commencement date); or (2) where any corporate debtor, its officers or creditor or any person on whom the resolution plan is binding, knowingly and wilfully contravenes any term of the resolution plan (or abets such contravention) such person shall be liable for imprisonment for a term of not less than one year and up to five years, or with a fine of not less than 100,000 rupees and up to 10 million rupees or both. Any person who destroys, mutilates, alters or falsifies any books or records of the corporate debtor with the intent to defraud any person is punishable with imprisonment for a term of not less than three years and up to five years, or with fine of not less than 100,000 rupees and up to 10 million rupees or both.
The government and the regulators (RBI, IBBI, Securities and Exchange Board of India (SEBI)) have been very proactive in addressing various issues through changes to IBC and relevant regulations. In the context of listed companies, various exemptions have been provided by SEBI to a resolution applicant under applicable regulations. These include the following:
- exemption from making an open offer under the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations 2011;
- exemption under pricing guidelines in relation to preferential allotment under SEBI (Issue of Capital and Disclosure Requirement) Regulations 2011;
- shareholders' consent is not required for reclassification of promoter, related party transactions and certain transactions involving material subsidiaries under SEBI (Listing Obligations and Disclosure Requirements) Regulations 2015; and
- SEBI (Delisting of Equity Shares) Regulations 2009 have also been simplified, relaxing the approval requirement and allowing relisting.
RBI has also permitted:
- any entity which is under restructuring scheme/ corporate insolvency resolution process under the IBC to raise external commercial borrowing (ECBs) if specifically permitted under the resolution plan.
- raising ECBs from recognised lenders (except branches / overseas subsidiaries of Indian banks) under the approval route for repayment of rupee term loans of such entities (which is otherwise a restricted end-use under the current ECB regime in India).
In terms of informal work-out arrangements, the banks have been given broad powers under the RBI Circular to restructure the account; seek a change in ownership; sell exposure to other entities or investors; or to regularise the account through payment of all overdue amounts by the borrower. Lenders are required to undertake a review of the account within 30 days of default (the review period) and decide on a resolution strategy. The ICA has to be entered into within the review period. Any decision agreed to by lenders representing 75 per cent by value of total outstanding credit facilities and 60 per cent of lenders by number is binding on all lenders. The resolution plan must provide for payment of no less than the liquidation value11 due to the dissenting lenders. The resolution plan should be implemented within 180 days from the end of review period. In the event a viable resolution plan is not implemented within (1) 180 days from the end of the review period, an additional provision of 20 per cent of the outstanding total will be required; and (2) 365 days from the commencement of the review period, additional provision of 15 per cent of the outstanding total is required (i.e., an additional 35 per cent). These additional provisioning requirements are in addition to provisions already held or required as per asset classification status of the borrower, whichever is higher. The additional provisioning may be reversed, among others, when (1) a resolution plan that involves restructuring or change in ownership outside the IBC is implemented; and (2) when the resolution is pursued under the IBC, half may be reversed on filing of the application and the rest upon admission of the borrower into the CIRP.
Creation and enforcement of security is governed by various pieces of legislation depending on the nature of the security, secured asset and the borrower and lender, including the Companies Act 2013, the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act 2002 (the SARFAESI Act), the Recovery of Debts due to Banks and Financial Institutions Act 1993 (the DRT Act) and the Transfer of Property Act 1882. Security by any company will require filing of prescribed forms with the Registrar of Companies (RoC) and in case of a mortgage of immovable property, registration with the sub-registrar of assurances of the jurisdiction where the property is located. Banks and financial institutions are also required to register certain securities with Central Registry of Securitisation Asset Reconstruction and Security Interest of India.
III RECENT LEGAL DEVELOPMENTS
Some of the key amendments to the IBC include (1) deemed approval of shareholders for implementation of actions under a resolution plan (explanation to Section 30); (2) introduction of provisions relating to ineligibility of certain persons from participating in the CIRP or liquidation of a corporate debtor (Sections 29A and 35(1)(f)); (3) inclusion of home-buyers in real estate projects as financial creditors (Section 21 read with the definition of 'financial creditor'); (4) reduction in various voting thresholds of COC (Sections 28, 30 etc.); (5) permitting withdrawal of an application to initiate an insolvency process (Section 12A); and (6) clarification of the scope of a moratorium (Section 14). However, not all issues can be addressed through legislation and some necessarily end up in courts and are settled through case law.
The insolvency process in India has seen a significant challenge in terms of litigation. The constitutionality of various provisions of the IBC has been challenged. There has also been litigation in respect of individual cases on various grounds and issues such as reference to IBC (Visa Steel and Jaiprakash Associates Limited), the scope of the moratorium, value maximisation and process (in the case of Binani Cement), ineligibility of resolution applicants (in the case of Essar Steel), treatment of operational and other creditors (in the cases of Essar Steel, Jyoti Structures and Maharashtra Seamless) and withdrawal (in the case of Brilliant Alloys and Sterling Biotech).
The first key issue arose in the context of balance between value maximisation and sanctity of the process. In certain cases (such as Bhushan Power and Steel) the resolution plans were submitted after the date set out for submission of the resolution in the request for resolution plan document (RFRP).12 In the case of Binani13 it was upheld that value maximisation is a stated objective of the IBC. Subject to certain exceptions, the COC is bound to consider the plan which offers a higher value even if it is submitted after the date set out in the RFRP.14
In Swiss Ribbons Private Limited & Anr. v. Union of India,15 the constitutional validity of various provisions of IBC was upheld by the Supreme Court. It was noted that Section 29A is not restricted to people who are malfeasant (such as undischarged insolvent) and the Supreme Court read down the wide definition of 'relative' and 'related party' to persons having a business connection with the resolution applicant. IBC is a beneficial legislation with primary focus on revival and continuation of the corporate debtor rather than a recovery mechanism for the creditors. The Supreme Court upheld the differential treatment of operational and financial creditors under the IBC and noted that there are inherent differences between operational and financial creditors and their contractual arrangements with the corporate debtor. The latter often engage in restructuring and are better placed to assess the viability of the corporate debtor; therefore, there is no constitutional infirmity in only financial creditors being part of COC.
It has been held that liquidation waterfall set out in Section 53 of the IBC does not apply in the context of a resolution plan under the CIRP process.16 Further, it has also been held that the allocation of amounts among the creditors cannot be discriminatory and some recent judgments have refused to take into account the security structure prior to insolvency.17 In the matter of Padmanabhan Venkatesh v. Shri V.Venkatachalam & Ors18 the NCLAT on 8 April 2019 rejected an approved plan of the committee of creditors proposed by Maharashtra Seamless Limited as it was below the liquidation value and was therefore discriminatory to the operational creditors. Further, in Essar Steel, NCLAT has queried the distribution of monies under the resolution plan approved by the COC and has asked the COC to reconsider allocating a higher amount to operational creditors. The allocation has also been challenged by Standard Chartered Bank, a secured financial creditor, as discriminatory. The final order in the matter is awaited.
In the case of Dharani Sugar Mills,19 the Supreme Court set aside the RBI circular dated 28 February 2018 including any references to IBC under Section 7 solely on account of the circular. It observed that the RBI can direct banks to refer cases to the IBC only in respect of specific defaults and a direction for reference in respect of a class of debtors is not permitted under Section 35AA of the Banking Regulation Act 1949. This has provided significant relief to certain sectors such as power and textiles.
Originally under the IBC, once an application filed under the IBC was admitted, it could either lead to a successful resolution or liquidation but a withdrawal was not permitted except pursuant to exercise of inherent powers by the courts.20 Pursuant to an amendment, Section 12A was introduced in the IBC that allows for the withdrawal of a CIRP if 90 per cent of the COC approves such an application for withdrawal. Though the CIRP Regulations provide a time limit (prior to invitation for expression of interest); however, courts have held the time limit to be directory in nature.21 However, the withdrawal is not automatic and courts may examine the merits of withdrawal.22
As observed above, the primary purpose of the IBC has been held to be revival, hence courts have in certain cases asked the COC to reconsider the resolution plans even if they have been rejected and the company should have been liquidated under the IBC.23 Courts have sought to revive the corporate debtor by directing its 'liquidation as a going concern'.24 The IBBI has also introduced corresponding changes in the IBBI (Liquidation Process) Regulations 2016.25
IV SIGNIFICANT TRANSACTIONS, KEY DEVELOPMENTS AND MOST ACTIVE INDUSTRIES
The government had amended the Banking Regulation Act 1949 in 2017 through the Banking Regulation (Amendment) Ordinance 2017 (now Amendment Act), which introduced Sections 35AA and 35AB. The government of India issued a notification on 5 May 201726 to empower the RBI to issue directions to banks to initiate corporate insolvency resolution process in respect of a default, under the IBC.
In the first list issued by the RBI on 15 June 2017, 12 large defaulters constituting approximately 25 per cent of the total non-performing loans in India (the cumulative outstanding financial debt amounted to 1,977.69 billion rupees)27 were referred for insolvency resolution under the IBC. Thereafter, a second set of 29 accounts with total outstanding financial debt of 1,358.46 billion rupees were referred for insolvency resolution under the IBC in 2018. There have been litigations in relation to the accounts referred pursuant to the above lists. However, a majority of them are now admitted into the IBC and in some cases the insolvency resolution process has been completed (such as Bhushan Steel) or is near completion (such as Essar Steel, Monnet Ispat and Power, Bhushan Power and Steel, Uttam Value). In certain cases, the company has been referred to liquidation (such as ABG Shipyard).
In addition to the above, the RBI had also issued a circular for reference of large accounts aggregating more than 20 billion rupees to the IBC within a prescribed time frame, which was recently set aside by the Supreme Court.28
The RBI has now issued the RBI Circular (see Section I). The stressed assets in the power and steel sector have attracted significant interest. Other sectors such as telecoms, fertilizer, shipyards and infrastructure are also under stress. There were about 34 stressed power assets aggregating 40,130MW with a debt exposure of over 1744.68 billion rupees. Studies and committee reports29 have attributed the stress in the power sector to various factors including policy changes, non-payment of dues by offtakers, cancellation of coal block licences, fuel linkage issues and delay in the execution of long-term power purchase agreements.
Among recent informal work-outs of large accounts outside of the IBC, Prayagaraj Thermal Power and SKS Power are notable.
A sector-specific breakdown of insolvency cases as in March 2019 is set out below.
|Sector||No. of CIRPs|
|Food, beverages and tobacco products||30||63||92|
|Chemicals and chemical products||30||45||75|
|Electrical machinery and apparatus||27||43||70|
|Fabricated metal product||23||27||50|
|Machinery and equipment||38||45||83|
|Textile, lather and apparel products||52||75||127|
|Wood, rubber, plastics and paper products||33||47||80|
|Real estate, renting and business activities||128||231||359|
|Wholesale and retail trade||81||99||180|
|Hotels and restaurant||19||33||52|
|Electricity and others||12||35||47|
|Transport, storage and communications||20||30||50|
The report of the Banking Law Reforms Committee formed the basis for the IBC. It was of the view that cross-border insolvency should be deliberated upon later once the domestic legislation is in place, though it recommended inclusion of a reciprocity provision in the IBC. Sections 234 and 235 of the IBC deal with cross-border insolvency. They envisage bilateral reciprocal arrangements with other countries to enforce the provisions of the IBC.
The Insolvency Law Committee, which has been reconstituted as a standing committee to examine the implementation of the IBC, has examined the issues relating to cross-border insolvency. It observed that there was a need to reassess the cross-border insolvency since the current framework is fragmented and not aligned with global practices.30 Its report on cross-border insolvency31 was issued on 16 October 2019. It includes a draft chapter on cross-border insolvency (part Z) which is largely modelled on the UNCITRAL Model Law with necessary tweaks to align it with the IBC. It is expected that the enabling legislative framework for cross-border insolvency will be enacted soon.
VI FUTURE DEVELOPMENTS
Some of the key changes on the anvil are noted below.
A draft chapter relating to cross-border insolvency has been proposed by the Insolvency Law Committee.
The Ministry of Corporate Affairs in the government of India had invited public comments on 16 April 2019 on proposed changes to the IBC for the consideration of the Insolvency Law Committee. The last date for submission of comments was 7 May 2019 and the comments will be examined by the Insolvency Law Committee, which will then propose suitable changes to the IBC. Among the comments sought, prepacks and group insolvency were specifically identified as areas of interest.
The government is also debating whether the provisions of the IBC relating to personal bankruptcy (for individuals and partnerships) should be notified. It is likely that the provisions may be notified in stages.
A working group under the chairmanship of Mr UK Sinha has also been constituted to consider group insolvency framework. The NCLT had admitted the insolvency plea against Videocon (the parent company) in June 2018. Thereafter the lenders had moved separate insolvency petitions against various subsidiaries of the parent group. To ensure a uniformity of process in respect of the insolvency of the group, NCLT in exercise of its inherent powers has directed the transfer of all insolvency petitions related to Videocon group to a single bench.
The data available so far shows unambiguously that the implementation of the IBC has been a success story. Both lenders and operational creditors have benefitted immensely from the resolutions, far in excess of our experience with any restructuring, enforcement or liquidation. The government and the regulators have been very actively involved in rectifying and strengthening the insolvency framework in light of issues faced during the implementation of the IBC. The judiciary has also played a very supportive role. As very aptly observed by Justice Nariman – 'The defaulter's paradise is lost. In its place, the economy's rightful position has been regained.'
1 Piyush Mishra is a partner at AZB & Partners. The author would like to acknowledge the contribution of Ms Nikita Sinha, a senior associate, and Ms Karishma Singh, an associate, at AZB & Partners.
2 The RBI circular dated 12 February 2018 also provided for mandatory reference to insolvency in the event of failure to restructure within a stipulated time line for certain large accounts. However, the circular was set aside by the Supreme Court in the Dharani Sugars Mills case (Civil Original/Appellate Jurisdiction Transferred Case (Civil) No. 66 of 2018 in Transfer Petition (Civil) No. 1399 of 2018, judgment dated 2 April 2019).
3 For data in this paragraph please see, Insolvency and Bankruptcy Board of India, Insolvency and Bankruptcy News, Vol 10, p. 13 (January–March 2019); CRISIL and ASSOCHAM, Strengthening the Code, p. 7 (May 2019).
4 RBI, Report on Trend and Progress of Banking in India, 2017-18 dated 28 December 2018.
6 In certain instances where a corporate debtor has no financial debt or where all financial creditors are related parties of the corporate debtor, the COC will consist of operational creditors and representatives of workmen and employees.
7 'Connected person' is defined under Section 29A of the IBC, and includes a person who is a promoter or is in management or control of the resolution applicant or corporate debtor (during implementation of the resolution plan) or is a related party of such person.
8 In IDBI Bank Ltd. v. Jaypee Infratech Ltd, C.A. No. 26 of 2018 certain securities were set aside pursuant to the relevant provisions of IBC.
9 Section 166 of Companies Act and Section 66 of IBC.
10 Concealment of property (Section 68), misconduct in the course of CIRP (Section 70), wilful or material omissions from statements relating to affairs of the corporate debtor (Section 72), false representations to creditors (Section 73), violation of moratorium (Section 74).
11 Estimated realisable value of the assets of the borrower if the borrower was to be liquidated on the date of commencement of the review period.
12 Punjab National Bank v. Bhushan Power & Steel Limited, C.A. No. 152 (PB)/2018 in C.P. (IB) – 202(PB)/2017.
13 Binani Industries Limited v. Bank of Baroda & Anr., Company Appeal (AT) (Insolvency) No. 82 of 2018.
14 ICICI Bank Limited v. Unimark Remedies, MA No. 1529 of 2018 in CP No. 197 of 2018.
15 WP (Civil) No. 99/2018.
16 Binani, above note 8.
17 Sharad Sanghi v. Vandana Garg & Ors., Company Appeal (AT) (Insolvency) No. 461 of 2018.
18 Company Appeal (AT) (Insolvency) No. 128 of 2019 & I.A. No. 675 of 2019.
19 Civil Original/Appellate Jurisdiction Transferred Case (Civil) No. 66 Of 2018 in Transfer Petition (Civil) No. 1399 of 2018, judgment dated 2 April 2019.
20 Uttara Foods v. Monapharma Chem, Civil Appeal No. 18520 of 2017 (SC).
21 Brilliant Alloys Pvt. Ltd. v. S. Rajagopal, Special Leave to Appeal No(s). 31557/2018; see also Essar Steel Asia Holdings Ltd. v. Satish Kumar Gupta IA 430 of 2018 in C.P. (I.B) No. 39 & 40/NCLT/AHM/2017 where the court observed that the creditors have to approve such withdrawal.
22 Andhra Bank v. Sterling Biotech Limited and Ors, MA No. 951/2019, MA 1519/2019 in CP. (IB) 490 (MB) 2018.
23 In the matter of M/s. Orchid Pharmaceuticals Limited, MA/575 &576/2018 and MA/146/2019 in CP/540/IB/CB/2017.
24 In the matter of Gujarat NRE Coke Limited, C.P.(I.B.) No. 182/KB/2017; Sterling Biotech, above note 13.
25 Regulation 32.
26 S.O. 1435 (E), Ministry of Finance, government of India issued under Section 35AA.
27 RBI, Press Release dated 13 June 2017; Dharani Sugars, Supra note 1.
28 Dharani Sugars, above note 1.
29 Parliamentary Standing Committee on Energy – 37th Report on Stressed/Non- Performing Assets in the Electricity Sector dated 07 March 2018, 40th Report on Impact of RBI Circular on Revised Framework for Resolution of Stressed Assets on NPAs in the Electricity Sector dated 7 August 2018, 42nd Report on Stressed/Non-Performing Assets in Gas Based Power Plants 4 January 2019; Report of the High Level Empowered Committee to Address the Issues of Stressed Thermal Power Projects dated 12 November 2018.
30 Report of Insolvency Law Committee, 26 March 2018, p. 5.
31 Report of Insolvency Law Committee on Cross-border Insolvency, 16 October 2018.