India: The Insolvency And Bankruptcy Code (Amendment) Act, 2021

The Insolvency and Bankruptcy Code (Amendment) Ordinance, 2021 [“Ordinance”] was promulgated on the 4^th of April, 2021 as an amendment to the Insolvency and Bankruptcy Code, 2016 introducing the novel Pre-packaged Insolvency Resolution Process. This was done in response to a need of the hour, an efficient insolvency resolution process. Soon after, on 26^th of July, 2021, the Insolvency and Bankruptcy Code (Amendment) Bill, 2021 [“Bill”]was tabled in the Lok Sabha, scheduled to be moved for the House's deliberation as a replacement to the Ordinance. On 28^th of July 2021, the Bill was passed by the Lok Sabha, notably, without any discussion from the opposition.¹ On the 3^rd of August, 2021, Rajya Sabha proceeded to pass the Bill after a brief debate and a voice vote.² On the 11^th of August, 2021, the Bill received the assent of the President thus enacting the Insolvency and Bankruptcy (Amendment) Act, 2021 [“Amendment”] deemed to have come into force on the 4^th of April, 2021.³

Over the years, there has been a growing requirement felt of simplifying the process stipulated by the Insolvency and Bankruptcy Code, 2016 [“Code/IBC”]. This necessity has been primarily observed in cases of smaller distressed business, owing to the otherwise considerable amount of time and cost spent in pursuing bankruptcy proceedings. As such, the erstwhile Ordinance sought to tackle this by introducing alternate insolvency resolution process for Micro, Small and Medium Enterprises [“MSMEs”] with defaults up to INR 1 crore.

Major Highlights of the Amendment

The Pre-packaged Insolvency Resolution Process

The Amendment brings forth the ‘Pre-packaged Insolvency Resolution Process' [“PIRP”] as a method of tackling enterprises in duress, effectively serving as an alternative to the ‘Corporate Insolvency Resolution Process' [“CIRP”]. In furtherance of this, the Act introduces Chapter III A in the IBC constituting sections 54A to 54P.

As opposed to CIRP where apart from the corporate debtor itself, it is primarily the creditors of a company that can initiate the insolvency process,⁴ PIRP foresees application of initiation of resolution only by the Corporate Debtor [“CD”].⁵ In the latter, it is the CD that prepares a resolution plan that undergoes a two-layered approval mechanism i.e. first with the Committee of Creditors [“CoC”], and then the Adjudicating Authority.

Ceiling to the Initiation of PIRP

The novel procedure has been introduced with limited application to distressed MSMEs as defined under the MSME Act, 2006. It ought to be noted, there has been a revision in the definition of MSME as a consequence of the Atmanirbhar Bharat Economic Stimulus.

As per the MSME Ministry, an entity may be considered to be a ‘Micro Enterprise' if investment is up to INR 1 crore and turnover does not exceed INR 5 crores. For ‘Small Enterprises', the thresholds are INR 10 crores and INR 50 crores respectively. For ‘Medium Enterprises' the values are INR 50 crores and INR 250 crores respectively. The revised understanding enlarges the coverage of the term to nearly 99% of the businesses registered with the GST.⁶

The Amendment modifies Section 4 of the Code imposing a default “ceiling” of INR 1 crore. This implies, for defaults amounting to any value between INR 1 lakh and INR 1 crore, PIRP is the desired and viable process. However, the Central Government is in a position, by way of notifications in the Official Gazette, to alter the minimum threshold of INR 1 lakh to any amount below the upper limit.

Management of the CD

As opposed to the CIRP, where the obligation of handling the management and affairs of the corporate debtor are vested in the Resolution Professional [“RP”] (Section 17, IBC), in the instance of PIRP, Section 54H stipulates that the management of the corporate debtor's affairs shall continue to vet in the Board of Directors or the partners who shall make their utmost effort to preserve and protect the value of the CD's property as a going concern.

This stipulation is however conditioned. Per Section 67A, if after initiation of PIRP, the NCLT finds that an officer of the CD manages its affairs with an intent to defraud creditors it may penalise the officer anywhere between INR 1 lakh and INR 1 crore.

At any point in time during PIRP, if the Committee of Creditors vote with at least a 66% majority of the voting shares, they may opt to vest the management of the corporate debtor with the RP and he shall make an application in that regard to the NCLT. Additionally, if the NCLT observes there is a fraudulent management or gross mismanagement of the CD's affairs, it shall vest the CD's management with the RP.⁷

It ought to be noted here, the vesting of management with the RP in such an exigency, or the lack thereof, does not affect the PIRP in any manner whatsoever.

The Insolvency Resolution Professional

The RP is duty-bound both before and during the PIRP.  According to Section 54B, the resolution professional is to prepare a report on whether the CD fulfils the eligibility criteria under Section 54A and whether the base plan is statutorily sound. This and other specified duties arise after the date the CoC approves the plan. The RP's second set of responsibilities arising are listed in Section 54F. These include verification of claims, monitoring the CD's management, constituting the CoC and other specified duties. The provision further lays down the RP's powers to ensure a smooth process.

Timeline of the PIRP

To initiate the process, the debtor requires its financial creditors' consent representing 66% of financial debt, to file an application with the NCLT under section 54C. Section 54A further mandates the debtor to supply a base resolution plan to the CoC prior to approval.

As per Section 54C, the application to the Tribunal must have the written consent of a proposed resolution professional and his report on the corporate debtors' eligibility to pursue this alternative.

Once lodged with the NCLT, the Tribunal shall within a time period of 14 days, pass an order of admission or rejection depending on whether the application is complete or not. Prior to passing an order of rejection, the NCLT is duty bound to notify and permit the applicant to rectify the application's defects within 7 days.

It is at this stage; that of admission by the Tribunal, that the PIRP officially commences. The Tribunal thus announces the PIRP initiation and announces a moratorium. The entire process has to conclude within 120 days of commencement.

Within two days of the commencement, the corporate debtor is required to submit the base resolution plan to the RP who then presents it to the CoC. The Committee may, as per Section 54K, either allow the CD to amend the plan, invite competing resolution applicants (Swiss Challenge method), or approve it as is.

On approval of a resolution plan by the CoC, the resolution professional shall submit the same to the NCLT within a period of 90 days from the insolvency commencement date. However, if within this stipulated 90 days, the Committee fails to approve a resolution plan, the resolution professional shall on the expiry of such period, file for the termination of PIRP.

In the event the Committee approves a resolution plan within 90 days and the RP submits the same to the NCLT, the Tribunal is to approve the plan within 30 days of receipt. The order of approval shall have an effect as given under sub-sections (1), (3) and (4) of Section 31. If the Tribunal is not satisfied with the plan, it may terminate the same under Section 54N of the IBC.

At the same time, prior to the Committee's approval of the plan, if the Committee votes by 66% majority of the voting shares, it may have the RP intimate to the NCLT the Committee's intention to terminate the PIRP.

Initiation of Corporate Insolvency Resolution Process

The new Section 11A mandates, where there is a Section 54C application pending before the Tribunal, such application shall be admitted/rejected prior to consideration of any Section 7, 9 or 10 application during the pendency of the Section 54C application regarding the same debtor. Moreover, if the Section 54C application is filed within 14 days of filing of application for CIRP initiation, the former shall be disposed of first.

The CoC, at any point between the commencement date of pre-packaged process and the Committee's approval of the resolution plan, by a vote of 66% of the voting shares, may decide to instead initiate a CIRP if the corporate debtor is so eligible under Chapter II of the IBC.⁸

This vote is communicated to the Tribunal by the RP. The Tribunal within 30 days from such communication may terminate the pre-packaged process, appoint the incumbent RP as the interim resolution professional, and direct that the insolvency resolution costs thus far be included as part of the costs of CIRP.

It may be prudent to observe as per Section 54O, the effect of the NCLT's order is to be the same as a Section 7 application and the CIRP is to commence from the date of such order. As a result, for purposes of Section 43, 46 and 50, the “insolvency commencement date” shall refer to the “pre-packaged insolvency commencement date”.

The Penalty

Section 10 of the Amendment modifies Section 65 of the Code to penalise any person who initiates PIRP fraudulently, with malicious initiation, or with the intent to defraud persons. Anyone who manages the affairs of the CD with an intent to defraud its creditors shall also be liable to be punished.

What the Amendment gets Right

The CIRP

The Code stipulates a total of 330 days for the successful completion of CIRP. The CIRP has been observed to be a time-consuming process, with often a significant burden of costs. In contrast, a pre-packed process serves up noticeably more informal and malleable ways of resolving insolvency. The far lesser duration of 120 days makes PIRP a viable alternative.

Arguably, a major point of distinction from CIRP in favour of the novel PIRP is the requirement of a base plan even prior to the insolvency resolution commencement date. The corporate debtor while filing an application before the NCLT for initiation of PIRP is obligated to have a base resolution plan. If anything, such a mandate only makes the resolution more resilient against failure.

The concept of pre-packaged resolution has been a double-edged sword. While on the one hand it was informal and had no legislative backing, thus making any result devoid of legal sanctity, on the other hand it being informal made the process far more flexible and cost-effective. With the inclusion of first the Ordinance and now the Amendment, surely the process receives legal sanction but it is yet to be seen whether it fulfils its objective of being a cost-effective mechanism.

MSMEs and the Pre-Packaged Process

The MSME sector serves to be a crucial part of the domestic economy owing to its considerable impact when it comes to the national gross domestic product and the immense generation of employment amongst the populace.

The Statement of Objects and Reasons to the Bill mentions that it seeks to specify a minimum threshold of no more than INR 1 crore for initiation of pre-packaged insolvency resolution process as well as provisions for disposal of simultaneous applications for initiation of insolvency resolution process and pre-packaged insolvency resolution process, pending against the same corporate debtor.⁹

The Statement goes on, “It has, therefore, been considered necessary to urgently address the specific requirements of the sector by providing an efficient and alternative framework under the Code for quicker, cost-effective insolvency resolution process that is least disruptive to the businesses, ensuring, among other objectives, job preservation”.

Another crucial provision included by the Amendment is that relating to management of the corporate debtor. Unlike the CIRP's creditor-in-control approach, the management of small businesses continue to have control over the affairs of the business. This addresses a detail absent in bigger businesses that oftentimes the most appropriate decision maker in small businesses are its promoters having a personal touch with the business's operation. Keeping management in-house precludes disruption.

In February 2020, the Vidhi Centre for Legal Policy had released its report on a framework for PIRP¹⁰ where it brought to fore a statement made by the Bankruptcy Law Reforms Committee in 2015, “the most important objective in designing a legal framework for dealing with firm failure is the need for speed.”¹¹

The Present Climate

The Amendment serves as a major addition to the bankruptcy and insolvency legislation since the onslaught of the COVID-19 pandemic. The government has adopted a number of economic reforms in the recent past to make insolvency resolution less aggressive given the dire straits several businesses have found themselves in.

In response, the government of India directed for the suspension of fresh filings of CIRP applications in respect of defaults arising between the 25^th of March, 2020 and 24^th of March, 2021 with the intent to insulate MSMEs from aggravated duress.

In June 2020, the Ministry of Corporate Affairs constituted a Sub-Committee of the Insolvency Law Committee to propose a scheme of pre-pack and pre-arranged insolvency resolution process. The Sub-Committee recognised the efficacy of out-of-courts workouts in faster resolutions. The Sub-Committee finally released its Report in October 2020.¹²

The Report highlights, the availability of resolution applicants, a major player in the CIRP, has suffered a great deal owing to pervasive financial stress. As such, the present pandemic turned out to be a time for experimentation, opting new options of resolution. It further recommended a blend of informality with statutory process so as to preclude a “one size fits all” approach.

The Ordinance is largely taken from the aforesaid Report while including certain modifications.

Pre-Pack's Benefits

The process as a balance between the long-drawn and the informal resolution processes offers certain inherent positives. Some of these are:

1. Quick Resolution - The statutorily mandated period of 120 days ensures that the corporate debtor's value is not eroded. In the UK, such processes have been completed in a matter of hours.¹³ In the USA, pre-pack resolutions have been completed in a duration of two months.¹⁴
2. Cost Effectiveness - As the debtor continues with its own management, it averts any disruption in business. The employments are not interrupted. Further, as the RP does not run the business as a going concern, further costs are saved. It prevents indirect costs from stigma and loss of reputation.
3. Value Boosting - A distressed asset has a life cycle and with an increased duration, it only worsens. It is further adversely affected by an increase in direct or indirect costs. Thus, the PIRP maintains value to a large extent by speeding the process and reducing costs. The effect is felt more in the case of MSMEs.
4. Employment Preservation - The requirement of a base plan much before insolvency commencement facilitates a smooth continuation of employment without any interruptions. This transition may be contrasted with the CIRP which is fraught with risks.
5. Judicial Convenience - Given the largely consensual and flexible nature of the process, there is far lesser time and effort spent before the adjudicating authority. It thrives on minimal interference.

Conclusion

With the introduction of PIRP, the Government seeks to give legal sanction to the process. While the intention is sound and indeed it is the MSMEs who have been facing the brunt of the on-going pandemic, it is yet to be seen whether the Amendment will live up to its aim of a cost-effective method.

The amicable process is indubitably a well-timed remedy to our insolvency regime and has the potential to reduce the caseload faced by the NCLTs.

It may be pertinent to note, there is also a demand in the industry to extend these services to larger enterprises as well. While the scheme has attenuated potential shortcomings of the present resolution methods, the government ought to be wary of such extension.

Footnotes

1 Lok Sabha passes IBC (Amendment) bill without discussion amid Opposition uproar, The Indian Express, ＜ https://indianexpress.com/article/india/lok-sabha-passes-ibc-amendment-bill-without-discussion-amid-opposition-uproar-7426722/＞ (last visited Aug. 23, 2021).

2 Rajya Sabha passes Insolvency and Bankruptcy Code (Amendment) bill amid protest by opposition, The Print, ＜ https://theprint.in/politics/rajya-sabha-passes-insolvency-and-bankruptcy-code-amendment-bill-amid-protest-by-opposition/708510/＞ (last visited Aug. 23, 2021).

3 Ministry of Corporate Affairs, Acts & Rules, ＜ https://www.mca.gov.in/content/mca/global/en/acts-rules/ebooks.html#＞ (last visited Aug. 23, 2021).

4 Section 6, Insolvency and Bankruptcy Code, 2016.

5 Section 54C, IBC (Amendment) Act, 2021.

6 99% businesses in India now in MSME category, The Times of India, ＜ https://timesofindia.indiatimes.com/business/india-business/99-businesses-in-india-now-in-msme-category/articleshow/76844933.cms＞ (last visited Aug. 23, 2021).

7 Section 54J, IBC (Amendment) Act, 2021.

8 Section 54O (1), IBC (Amendment) Act, 2021.

9 Govt Tables Bill in Lok Sabha to Amend Insolvency Law, The Wire, ＜ https://thewire.in/government/govt-tables-bill-in-lok-sabha-to-amend-insolvency-law＞ (last visited Aug. 23, 2021).

10 Oitihjya Sen, Shreya Prakash & Debanshu Mukherjee, Designing a Framework for Pre-Packaged Insolvency Resolution in India: Some Ideas for Reform (February 2020), Vidhi Centre for Legal Policy, ＜ https://vidhilegalpolicy.in/wp-content/uploads/2020/07/Report-on-Pre-Packaged-Insolvency-Resolution.pdf＞ (last visited Aug. 23, 2021).

11 The Report of the Bankruptcy Law Reforms Committee: Volume I: Rationale and Design (November 2015), ＜https://ibbi.gov.in/BLRCReportVol1_04112015.pdf＞ (last visited Aug. 23, 2021).

12 Resources, Insolvency and Bankruptcy Board of India, ＜https://ibbi.gov.in/resources/reports">＞ (last visited Sep 10, 2021).

13 Jo Windsor & Rebecca Jarvis, A guide to “Pre-Pack” Sales (May 2011), Linklaters, ＜https://www.linklaters.com/pdfs/mkt/london/A13446736.pdf＞ (last visited Aug. 23, 2021).

14 Norman N. Kinel, The Ever-Shrinking Chapter 11 Case, Squire Patton Boggs, ＜ https://www.restructuring-globalview.com/2018/08/the-ever-shrinking-chapter-11-case/＞ (last visited Aug. 23, 2021).

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