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Economy

Decoding the Bankruptcy Law That Just Got Passed in Parliament

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Bankruptcy Law

We bring you today a short summary of The Insolvency and Bankruptcy Code, 2016.

The Insolvency and Bankruptcy Code has brought about a breather to the NPA laden banks both public and private. This would not be a breather for the banks and other corporate creditors unless a steady roadmap is built around putting this bill in action (by having a centralized system of wilful defaulters, replicating the fast track system of settlement of insolvency etc.)

The bill has passed Rajya Sabha after a lot of debate at the lower house. We will now have to wait for the President to sign off the bill so that India has a new bankruptcy law.

Jayant Sinha – MoS for finance tweeted “History is written today as Rajya Sabha passes Bankruptcy Bill!”

You can refer The Insolvency and Bankruptcy Code, 2016 here.

It not only replaces the existing bankruptcy laws (we currently have multiple laws which leads to delays in the winding up of a company) but also provides the separate processes to be followed for individuals, companies, limited liability partnerships and partnership firms – a big booster to the Indian economy which is ranked 136 among 189 countries on the parameter of resolving insolvency. Do remember that banks in India have over $120 billion in troubled loans.

Below here are a few salient points or a short summary of the over 100 pages of the code. We only cover the Corporate Debt in this post.

Bankruptcy: Voluntary or Involuntary

The code defines the process for both Corporate Insolvency and Voluntary Liquidation.

A financial creditor [see below] or an operational creditor [see below] or the corporate debtor [see below] itself may initiate corporate insolvency resolution process. This can be done by filing an application with the Adjudicating Authority (AA) and if the AA is satisfied within 14 days that the default has occurred the corporate insolvency resolution process can be started.

The Corporate Debtor (CD) is provided a period of 10 days to repay all dues that is being challenged by the Financial Creditor or the Operational Creditor. If the payment is still outstanding or under dispute then the corporate insolvency process can be initiated further.

The caveat is that the complete process of insolvency has to be completed within a period of 180 days with a top up of 90 days (this is one time only) if the committee of creditors vote for it with a vote of 75% (which means ideally you need to have a minimum of 4 members and in multiples of 4 alone in the committee. The committee would be constituted by the financial creditors of the CD and not the operational creditors).

Economic Affairs secretary Shaktikanta Das tweeted “Bankruptcy code: it’s a big day for economic reforms in India. The country moves ahead towards higher growth”

This means that even if all hell breaks loose, the complete Bankruptcy process needs to be completed within a period of 270 days (currently it takes an avg. of over 4 years to resolve these issues).

This committee then shall appoint an resolution professional who will collect all financial documents, evidences, outstanding dues, taking note all assets and liabilities (this is a whole new ball game now that a new class of insolvency professionals are created).

Note: The actual process is to first appoint an interim one and then make the person permanent.

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The Committee of Creditors would have to submit an approved resolution plan and if the AA is satisfied with the resolution plan then it shall be binding on the corporate debtor and its employees, members, creditors, guarantors and other stakeholders.

Order of Liquidation

Who gets paid first?

A liquidator will be appointed if the corporate debtor or the AA does not accept the resolution plan. The proceeds shall be paid out in the order of workmen’s dues for the period of twenty-four months (this is win-win situation for the employees since their dues are paid immediately after the Insolvency proceeds charges). Then:

  •  debts owed to a secured creditor,
  • wages and any unpaid dues owed to employees,
  • financial debts owed to unsecured creditors,
  • dues to the Central Government, State Government,
  • remaining debts and dues,
  • preference shareholders and finally
  • equity shareholders or partners.

The code has also provided for fast tracking the process which would help creditors liquidate the assets of the corporate debtors in a faster way. The code also penalises the debtor with imprisonment if found with concealment, under/over valuation of assets or if the debtor hinders the process of liquidation.

There are a lot more details – for instance, the company cannot just gift away its assets or sell them at an undervalued price – the liquidator can simply recall them. 

For a Corporate Person who would want to use the Voluntary liquidation channel can do so if there are no outstanding dues to anyone based on the confirmation from the Board (Insolvency and Bankruptcy Board of India, which will regulate insolvency professionals and information companies) and the creditors if any.

Fast-Track Liquidation

This is a 135 day faster process. Only the company can initiate this process, voluntarily, if they have income below a threshold (the actual level is yet to be notified), or with only certain categories of people they owe money to. (For example, non-bank-borrowers might be able to liquidate faster)

Appeal Process

There’s going to be a National Company Law Tribunal. And also, there’s a National Company Law Appellate Tribunal, Anyone unhappy with the liquidation process of a company can appeal to the latter. 

Civil courts do not have jurisdiction over such matters anymore. But obviously, one can appeal to the Supreme Court no matter what, and this might see some interesting cases going ahead.

Notes:

Corporate Debtor means a corporate person who owes a debt to any person

Financial Creditor – any person to whom a financial debt is owed and includes a person to whom such debt has been legally assigned or transferred to.

Operational Creditor – a person to whom an operational debt is owed and includes any person to whom such debt has been legally assigned or transferred.

Our View

How does this impact life? The impact to the process is in only one part: That the liquidation process is cut to 270 days

This is very negative for some banks. Why? Because currently the liquidation process can take months, and that allows them to keep an asset as an “NPA” on the books for a while. This means they don’t need to write off bad loans even if they know that the money is unrecoverable. But in the long term, it’s positive because it creates a faster resolution process even if they do have to take losses.

For corporates, this only helps the corporate discharge its liabilities and liquidate itself. What is now definite is:

  • Once a company declares bankruptcy, it’s just dead. There’s no life for the company beyond that date, largely because the resolution process simply pays off everyone.
  • The liability o
    f any guarantor is beyond the corporate code. If a company takes a loan and it’s guaranteed by the promoter, they still have the right to chase the promoter for any shortfall of money from this liquidation process.
  • Banks are likely to shout fraud for every corporate liquidation or bankruptcy process because that puts criminal liability on to a promoter and board, and they will use it to squeeze the maximum out of the company.
  • Indians are ingenious. They will find ways to use this corporate bankruptcy process to their advantage. Lets see how courts react to it.

Overall this is good news that companies can die gracefully. We’ll have to see how long it takes to appoint the appellate tribunals etc. and run through the process at least once. 

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Disclaimer

Nothing in this newsletter is financial advice and should not be construed as such. Please do not take trading decisions based solely on the matter above; if you do, it is entirely at your own risk without any liability to Capital Mind. This is educational or informational matter only, and is provided as an opinion.

  • DJ says:

    I’m confused to see not much about restructuring process. Ideally, there would be the option of a restructuring after a bankruptcy – in fact, that is the more common case I think. If not, then it looks like very few cases will end up in bankruptcy – only those that are going for liquidation, which is rare. Part of the bankruptcy process or perhaps the main part has to be the freedom to renegotiate contracts and debts, no. How does that fit in? Or, are we going to see banks simply restructure debt on their own, avoid bankruptcy and keep NPAs around forever like they do now?