The IBC conundrum

Two years after the much-touted Insolvency and Bankruptcy Code 2016 (IBC) was implemented, slow progress of cases is becoming a cause for concern. High profile, large accounts such as that of Essar Steel, which has been undergoing resolution for over 600 days, bring to the fore the grave issue of excessive delays in the process.

Many banks had factored in substantial recoveries from accounts filed for insolvency under IBC in the March 2019 quarter. Resolution of many of these cases have now been pushed into fiscal 2020.

What is leading to the undue delays in the IBC process? Can the Code, having evolved over the past two years, start delivering time-bound resolution, as expected at the outset?

We break down the IBC conundrum into several parts to give you the big picture. Importantly, we analyse key rulings under IBC that give you a sense of the reasons for delays in the resolution process.

According to data put out by the Insolvency and Bankruptcy Board of India (IBBI), as of December 2018, about 1,484 companies have been admitted under the Corporate Insolvency and Resolution Process (CIRP) since the implementation of the IBC. Of these, the resolution plans of only 79 have been approved. Undue delays in the IBC process is starting to hurt banks, already weighed down by steep provisioning and litigation costs. The fact that about half the number of cases under CIRP has crossed the 180-day timeline, is worrying.

Then there is the issue of haircuts.

 

 

In the June 2018 quarter, two of the big 12 cases — Electrosteel Steels and Bhushan Steel — referred to the NCLT under the RBI’s directive in June 2017, saw resolution. Tata Steel’s ₹35,000-odd crore resolution plan to take over Bhushan Steel’s assets saw little over 60 per cent of lenders’ (financial creditors) claims being settled. The resolution plan, submitted by Vedanta for Electrosteel, saw a recovery of about 40 per cent for lenders.

But many of the subsequent resolutions have been at a much lower recovery rate. In the September 2018 quarter, for instance, Monnet Ispat and Amtek Auto — also among the 12 big defaulters — saw recovery of 26-34 per cent of their total claim amounts. In the December quarter, barring the full recovery on the Binani Cements account, most others have seen 30-40 per cent recovery rate.

The RBI also came out with the second list of 29 defaulters — amounting to around ₹2-lakh crore — to be referred to the IBC. Of this, only one account — Uttam Galva — was resolved, that too because lenders had withdrawn the insolvency petition after ArcelorMittal cleared outstanding dues of the company (in which it had substantial holding) to become eligible to bid for Essar Steel.

Aside from the cases referred by the RBI, banks have also filed other cases on their own under NCLT (see table).

 

 

It is true that the IBC has been a game-changer. Earlier, bankers had little ability to threaten promoters. But now, fear of losing control of the company, once it is admitted for insolvency under IBC, is pushing borrowers to settle their dues.

But the undue delay in the IBC process is worrying. Under IBC, after the case is approved by the NCLT for insolvency, the resolution must happen within the stipulated time (180 days with 90 days extension). If resolution fails, the company goes into liquidation (something lenders and other stakeholders don’t desire). But the 270-day extended deadline is proving difficult to meet. On an average, cases under the IBC are being dragged for more than 300 days.

To be fair, IBC is a new law that is still evolving and, hence, settling various points of law and removing ambiguities in the Code is leading to long-drawn interim litigations. Given that the time taken for these litigations is excluded from the overall IBC process time, cases have dragged on.

We look at some case rulings to better understand the reasons for such delays.

 

Back and forth in bids

While the intent of the Code is evidently to realise maximum value for all stakeholders, the to and fro in bids in many of the cases is a growing cause for concern. To address this issue, the IBBI in July last year, laid down model timelines for various stages in the resolution process. For instance, the invitation of expression of interest (EoI) must happen within 75 days of commencement of the insolvency process (T+75); submission of EoI should happen within 90 days (T+90) and the receipt of resolution plans 135 days (T+135).

In reality though, meeting these model timelines has been a challenge.

The long-drawn battle between Dalmia Bharat group’s Rajputana Properties and Aditya Birla group-led UltraTech Cement, to acquire Binani Cement, was a case that dragged on owing to ambiguity around late bids. At the heart of the dispute was UltraTech’s presumably late, but higher bid of ₹7,950 crore that came in after the committee of creditors (CoC) had approved Dalmia Bharat’s bid of a lower ₹6,930 crore. This had raised niggling concerns on the position of late bids.

But the 44-page NCLAT order found that the CoC had, in fact, ignored the revised bid by UltraTech (submitted on March 8, 2018) submitted much before the approval of Dalmia’s plan (March 14, 2018). Hence the NCLAT approved UltraTech’s bid for Binani, keeping in mind the intended purpose of resolution — maximisation of value for all stakeholders.

Bhushan Power & Steel, which was first admitted for insolvency proceedings on July 28, 2017, was under IBC for 540-odd days until NCLAT upheld JSW Steel’s bid. Here, over 250 days of litigation was spent on Tata Steel’s appeal that had challenged the order passed by the NCLT on April 23, 2018, wherein the CoC was directed to also consider the resolution plan submitted by Liberty House Group Pte. Tata Steel’s appeal against the order was based on the grounds that Liberty House had failed to participate and provide necessary documents within the time lines.

On August 1, 2018 NCLAT had again allowed submission of revised bids by all three bidders. Tata Steel continued to oppose CoC’s permission for a revised bid.

In its February 4, 2019 order, the NCLAT finally upheld JSW Steel’s bid for Bhushan Power & Steel. It ruled that while the CoC has to ensure a time-bound process, it also has to ascertain that the plan maximises the assets of the debtor.

Bottomline

It is clear that the CoC can call for and consider improved bids, provided the process is completed within the stipulated 180 days (or extended timeline of 270 days). But the time taken for interim litigations arising out of revision of bids, can continue to drag cases. A way to ensure a time-bound process, while maximising value, could be to have a ‘Swiss Challenge’ method under IBC. Here the highest bid in the first round becomes the base price. Other bids can be placed to counter this base bid in subsequent biddings.

 

Challenging the wisdom of CoC

Once a resolution plan is approved by the CoC, can the adjudicating authority (NCLT) question it? This has been another point that has come up in several cases, leading to litigations. The latest Essar Steel matter is a case in point.

Under Section 31 of the Code, the adjudicating authority has in various cases reviewed the resolution plan to see if it does or does not conform to the requirements of the Code. But in several other cases, it was ruled that the commercial wisdom of the CoC is paramount and, hence, their collective decision cannot be challenged by the adjudicating authority.

The ruling of this oft-quoted case covered several aspects of the Code, particularly the commercial wisdom of the CoC and the role of the appellate authority in approving resolution plans. The court ruling, in a nutshell, stated that the legislature has not endowed the adjudicating authority (NCLT) with the power to analyse or evaluate the commercial decision of the CoC, much less to enquire into the justness of the rejection of the resolution plan by the dissenting financial creditors. Besides, the commercial wisdom of the CoC has been given paramount status without any judicial intervention, for ensuring completion of the process within the timelines. Basically, the NCLT has to satisfy itself on whether the approved resolution plan meets the requirement laid down under the Code and it cannot turn down the plan for any other reason.

After a long-drawn legal battle, the Essar Steel case, which was first admitted for insolvency proceedings under IBC over 600 days ago, finally saw some headway, when the NCLT approved ArcelorMittal’s ₹42,000-crore offer to lenders last month. But the Essar Steel saga continues to drag on. The crux of the issue lies in the manner in which the ₹42,000 crore is to be apportioned to financial and operational creditors. The CoC-approved resolution plan sought 92 per cent of dues of financial creditors to be settled. Standard Chartered Bank (an unsecured creditor) was irked, as the resolution plan offered it only 1.7 per cent of its claims. Operational creditors were to get just about ₹200 crore out of their dues of ₹4,900 crore. The NCLT directed CoC to consider sharing 15 per cent of the bid with operational creditors, which has not gone down well with financial creditors. SBI moved the Supreme Court against the order. The Supreme Court has ordered for status quo to be maintained, implying that payment to be made by ArcelorMittal would be stayed. It has asked the NCLAT to decide on the creditors’ appeals expeditiously.

The key question being raised is whether the appellate authority can ask for reconsideration of the distribution of funds after the CoC has taken the decision.

Bottomline

Given that operational creditors do not have a say in the resolution plan, it is up to the financial creditors that form the CoC to ensure that the interest of all stakeholders is safeguarded while approving the resolution plan. But whether the appellate authority can challenge the resolution plan is still unclear. More clarity is needed under Section 30(2) and Section 31 of the Code — which set out the grounds on which the adjudicating authority can question the resolution plan approved by the CoC.

Ineligibility of bidders (Section 29 A)

The other key issue has been the insertion of Section 29A in the Code in 2017. The Section that intended to keep out errant and wilful defaulters from buying back assets, is welcome. But there have been a number of litigations questioning the eligibility of competing bids.

The Essar Steel case has been a classic one where the long-drawn litigations to settle the matter over eligibility of bidders have dragged the insolvency process. The case was originally admitted by the NCLT on August 2, 2017. Both ArcelorMittal and Numetal had submitted the resolution plans on February 12, 2018 — a little over six months after the NCLT admitted the case. However, on March 23, 2018, the resolution professional found both ArcelorMittal and Numetal to be ineligible under Section 29A. Since then, the case had been tangled in various courts and appeals. It was only on October 4, 2018 — over a year after the case was first admitted — that the Supreme Court cleared the air and gave one more opportunity to both resolution applicants to pay off the NPAs of their related corporate debtors and resubmit their resolution plans.

Bottomline

While Section 29 A is imperative to ensure that errant promoters don’t game the system, it will continue to lead to numerous litigations questioning eligibility of bids. Importantly, in some businesses, existing promoters are often best suited to step in as white knights, provided, of course, their intentions are sound and the sorry state of affairs of the business has more to do with external constraints. Hence, easing up the provisions in some cases may help.

Withdrawal of plan under Section 12 A

This Section was inserted in the Code in June 2018 to allow withdrawal of insolvency application by the applicant with the approval of members of CoC with 90 per cent voting share. To put it simply, the Section allows the corporate debtor another chance to make good on the default, and regain control over the company.

According to IBBI data, as of December 2018, of the 1484 cases admitted, 63 were withdrawn under Section 12A. Rapid rise in the number of cases withdrawn under Section 12 A and some rulings are raising concerns over the misuse of this provision.

Andhra Bank had filed a proposal for withdrawal, which was able to garner 90.3 per cent voting share.

But the NCLT refused the proposal to accept a one-time settlement (OTS) offer by the Sandesara group (promoters of Sterling Biotech). It raised doubts about how the proposal submitted by Sandesara Group was accepted by the financial creditors when Sterling Biotech’s promoter/director is an absconder. The NCLT has asked to hear from the Ministry of Corporate Affairs, Income Tax office, Enforcement Directorate, SEBI, CBI and RBI before deciding the case.

Bottomline

Aside from the concerns over misuse of this Section, cases have been testing various points of law under this provision. For instance, while Section 12A of the Code provides that CIRP can be withdrawn if it is approved by 90 per cent voting share of the CoC, regulation 30A of the CIRP Regulations lays down another condition, that such applications should be filed before issue of invitation for EoI. The Supreme Court recently clarified that 30A is only directional in nature — withdrawal can happen even after issue of EoI. More such ambiguities may need to be tackled in future cases