India: Insolvency Resolution Process

Last Updated: 8 December 2016
Article by Ernst & Young

Facts of the case:

ABC Limited (the Company), which commenced operations in 2001, is a 100% holding company for four different companies operating in the healthcare sector. The Company has eight operating hospitals across India. In addition, there are two more hospitals under construction, with more than 50% work completed but on hold due to funding challenges. Four of the eight operating hospitals were acquired in the last three years. All the acquired hospitals are run by independent management with overall reporting to the central management team.

Based on the latest consolidated financial information available for the year ended June 2016, the Company had a top-line of INR7,500 million, with EBITDA of INR1,000 million and net loss of INR1,500 million. The Company had:

  • term loans of INR6,000 million,
  • working capital loan of INR1,200 million,
  • unsecured financial debt of INR1,000 million and
  • operational creditors of INR1,200 million (mainly trade and capex suppliers and employee dues).

A term loan of INR1,200 million is due for repayment in the next 12 months. The majority of the debt is in the holding company; however, some of the debt is also in the operating entities.

Total financial debt is provided by a syndicate of six banks with the lead banker holding 37.5% and the balance divided equally among the other banks, with each holding 12.5%.

The Company has around 3,500 employees and workmen, and the employee cost has significantly increased over the last few years. Apart from the employee cost, rental cost is the other significant expense, with 7 of the 10 properties on a long-term lease.

ABC Limited has been breaching covenants for the last few quarters and has defaulted on the repayment of its quarterly instalment for the last three quarters. However, it has managed to make payments on a delayed basis to avoid NPA classification.

The promoter (holding majority shareholding) has proposed a plan with the following key points to deal with the situation: "

  • Disbursal of additional INR500 million to expedite the construction of two hospitals that they believe will be highcash- generating assets, based on a feasibility study report.
  • Additionally, the term loan repayable in the next 24 months should be deferred and a revised repayment schedule should be agreed. A cash flow statement for the next three years has been submitted by the Company to support the proposal.
  • Interest rate should be reduced by 50% for the next six quarters and then reset at a higher rate to cover the loss.
  • Personal guarantee and additional security will be provided on the personal assets of the promoter.
  • Banks can charge a one-time fee of INR75 million to agree to the proposal.
  • To improve the operational cash flow from the business, the promoter would also make changes in headcount and procurement cost.

Options available to banks:

ABC Limited was in a difficult financial position and required a clear strategy and open communication between all the stakeholders for revival. As far as the banks are concerned, they had three options:

a) Do nothing and ask the promoter to infuse capital to revive the Company first

b) Accept the promoter's proposal on debt restructuring (everything else business as usual)

  • The bankers could have accepted the proposal of the promoter. If the plan was successfully implemented, it would have resulted in the recovery of debt in the long term by the banks.
  • However, in case the plan was not successful, it would have deteriorated the value of the asset, possibly facilitated asset-stripping and negligible value would have been realized via delayed liquidation for all external stakeholders including secured creditors, unsecured creditors, employees and suppliers.

c) Act proactively to rescue and revive the business

To choose an option with the objective of maximization of benefit to all stakeholders, the banks had to evaluate deeper and make an independent assessment of business viability. They needed to answer the following questions:

  1. What were the reasons for the current distress in the Company? How much of that could have been changed?
  2. What was the cash flow–generation capability of the Company in the short, medium and long term?
  3. What was the confidence level in the existing management? Were there any indications of diversion of funds or willful default?
  4. What support or restructuring was required to revive the business? How much more money might have been required to revive the Company? What was the possibility of getting additional equity or debt funding from the market?
  5. What could have been the strategy from the other classes of lenders, creditors, management etc.?

Commissioning of IBR to assess viability

Option A was not an option as it would have only delayed the inevitable with a risk of the assets being stripped of any residual value.

To answer the questions noted above, the banks in their core committee (combining the debt of the entire Company) decided to get an independent business review (IBR) done. They expected the IBR to help in assessing the viability of the business and validating the promoter's assertions. In four weeks, the banks received an IBR report. Some of the key facts included in the report were as follows.

(i) On an as is basis, EBITDA from business would only be able to service part of the interest in the next 12–18 months and no principal payment would be possible. Principal repayment could only start after 18 months.

(ii) All the four greenfield hospitals had optimal utilization levels and were cash flow positive; however, margins had been either flat or declining in the last 3 years.

(iii) From the four operating hospitals acquired by the group, two would be free cash flow positive only in 2019 and the other two in 2022.

(iv) The report identified a list of non-core assets, which could be liquidated to realize cash of up to INR500 million. Also, there were assets worth INR500 million that were not yet pledged against any loan and could be provided as additional security against a loan.

(v) There was a benchmarking study done with other hospitals in the same geography and the report identified a few measures to save annual costs in the range of INR200 million to INR300 million. The report also provided details of the potential of consolidating some functions such as finance, procurement and HR into a single unit for all the hospitals.

(vi) The report indicated the potential of improving the working capital cycle by 10 days.

(vii) The expected capex to complete the under-construction hospital was approximately INR1, 000 million.

(viii) An estimate of the liquidation valuation (if put into liquidation today) vs. the going concern valuation (as-is) was provided in the IBR report.

What did the banks do?

Based on the IBR report, the bankers concluded that the business was viable and they wanted to support it. Else, they ran the risk of taking the Company into liquidation, which would result in significant loss of value to all class of creditors. Further, a delayed liquidation would result in further deterioration of value.

However, the banks also recognized the need for operational and financial restructuring along with close monitoring and, therefore, all the stakeholders should cooperate in the turnaround strategy to minimize their losses.

Accordingly, the banks decided to appoint an external agency to perform the role of monitoring the business closely (to prevent loss of value) and develop a comprehensive resolution plan. The resolution plan developed by the external agency suggested the following:

(i) Bank debt be converted to Equity to the extent of 26% (of Equity) – INR 2,000 million

(ii) A financial investor to be brought in to fund the completion of one under-construction project (equity and priority debt)

(iii) A part of the debt (INR 1,000 million) be converted to a long-term instrument carrying a nominal rate of interest with repayment being made over 5 years starting in 2021.

(iv) Two hospitals to be sold at the earliest and timelines to be stipulated for this to bring down debt

(v) An operational turnaround plan to be implemented, including consolidating the back office function, consolidating the supply chain, and rationalizing the employee base

(vi) Key cash flow and profitability covenants agreed on going Forward

The resolution plan was discussed with all the key stakeholders – banks, promoters and potential investors. Based on the comments received, the plan was modified and an in-principle agreement was reached.

Code vs outside the Code

Under the current circumstances, the banks decided to invoke the Code to get an approval on the resolution plan. The following benefits could be realized upon invoking the Code.

  1. There would be a moratorium period of 180 (or 270) days where no proceedings can be started against the Company — a time that can be utilized to refine the resolution plan and seek requisite approvals.
  2. There would be an independent insolvency professional running the process. The IP would be a registered professional with rights and duties defined under the law.
  3. The plan approved by the creditors under the Code will also be approved by NCLT. The transparency of the process would have legal sanctity and would not subject the bankers to scrutiny or investigation.
  4. The plan approved would be binding on all classes of creditors and no further action can be taken for the next 12 months if the plan is implemented as approved. If a plan outside the Code is agreed upon, any financial or operational creditor could still file for insolvency under the Code.
  5. Under Section 14 (2), the supply of essential goods or services shall not be terminated, hence, supporting the going concern of the company till the time a plan is approved.


In summary, the banks could help revive the Company because of the following:

  • The banks acted on a timely basis (rather than postpone the problem) and they based their decision making on an independent business review.
  • They appointed an independent agency to monitor operations (and arrest loss of value) and develop a comprehensive resolution plan.
  • The resolution plan was discussed and modified based on the views of various stakeholders – before triggering the 180-day deadline specified under the Code.
  • The Code was then invoked to benefit from the legal protection available – post which the resolution plan could be approved and implemented.

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