Think Tank

Insolvency and Bankruptcy Code

The rollout of the Insolvency and Bankruptcy Code (IBC) in 2016 brought a gust of optimism for lenders. Five years later, laments about low recovery rates, high liquidation percentages and lengthy delays are common. The latest data indicate that, as of June 2021, the recovery rate in 396 cases where a resolution plan was approved was just 33%. Out of 2,850 closed cases, 47% went into liquidation. Further, 75% of ongoing cases have crossed the 270-day limit set by the IBC for completing the resolution process. Proponents of the new law, however, continue to believe that things will get better with time. What are some urgent steps that must be taken to strengthen the process? What are some pivotal milestones expected over the next few years? At a recent webinar of the India CFO Forum, we invited V Ranganathan, who serves as an Independent Director in four public companies, and who has over 40 years of variegated experience in corporate governance, to provide a view on these issues.

Conceptually, the IBC was not radically new, but an evolution of existing mechanisms

IBC: Far from radical…

Much before the IBC came into existence, the Companies Act provided ways to resolve corporate insolvencies. In fact, as far back as the 1940s, the courts were ruling on cases related to debt repayment/insolvency. At a conceptual level, therefore, the IBC was not entirely ‘new’, but rather, a more evolved mechanism than what came before it. By design, it takes into consideration previous learnings and pitfalls in the conflict-resolution system, and it is a more ‘shielded’ apparatus. Moreover, running in parallel to the IBC, creditors have continued access to the SARFAESI and DRT provisions. The IBC encompasses all of the attributes of existing debt-resolution mechanisms, and more. Additionally, the legislation around it has continued to evolve in the last 5 years, ensuring that it is both dynamic and sensitive to changing circumstances. For these reasons, it is not incorrect to expect the IBC to eventually supersede all of the older mechanisms.

Shifting the steering wheel from debtor to creditor

…but much needed

Over several decades, India accrued Asia’s highest levels of non-performing assets (NPAs). By 2014, the debt-equity ratio at some Indian companies was as high as 28, and creditors were always at the mercy of debtors to get their money back. This sorry state of affairs created the necessary momentum to push for a new resolution mechanism. When it was launched, the IBC represented a major cultural change, centred around a ‘creditor in control’ approach. Tellingly, the Supreme Court has dealt expeditiously with all cases arriving at its door under the provisions of the IBC.

Early successes

Under the IBC, the recovery rate for NPAs rose to 45.5% in 2019-20 compared to 6.2%, 4.1% and 26.7% rates under Lok Adalat, DRT and SARFAESI, respectively. The average time to achieve resolution under the code is 441 days, and to attain liquidation, 328 days. These timelines are much shorter than under earlier mechanisms. Before its implementation, NPAs were being written-off at a snail’s pace, posing a major risk to the financial sector. However, a GNPA write-off of 11.7% in 2010 was raised to 20.5% in 2021 by the Code.

There have been issues with the Code…

Course-correcting, and the way forward

No law is perfect, and the IBC has had its fair share of lapses:

  • Bids are sometimes too close to the liquidation value.
  • Many bids appear suspect or fake, and several company promoters have made surreptitious offers.
  • In some cases, the resolution professional has been changed mid-way, more than once.
  • Operational creditors’ rights have been subordinated.
  • There have been delays in admissions, capacity/capability issues within the NCLT, non-adherence to time-lines and a general lack of cooperation by promoters.

…which recent amendments have sought to correct

Some of these issues triggered changes to the code that came into effect in September 2021:

  • Only one change of resolution professional is now allowed, compared to multiple changes previously.
  • Last moment bidders can no longer participate, and only the final list submitted to the NCLT will be considered.
  • No further changes are allowed to the timelines established initially by the Committee of Creditors.

On the whole, a big step in the right direction

On net, the IBC has made the debt-resolution system more efficient and better-managed. It has, for instance:

  • Increased clarity on the legal rights of lenders and creditors.
  • Helped create a robust market for trading stressed debt under the new NARCL.
  • Created opportunities for cost-effective acquisitions.
  • Catalysed the creation of new financial instruments that offer greater lender protection.
  • Improved perceptions of India’s overall ‘ease of business’ by strengthening credit appraisals and recovery follow-ups.

While there have been some lapses in its implementation, the benefits offered by a timely and efficient debt-resolution mechanism far outweigh its costs. All indications, both from the financial authorities and from the courts, suggest a positive outlook for the Code, going forward.

THINK TANK