India: Five Years Of IBC: A Promising Journey

The genesis of the law

At a time when India was struck with piling defaults in debt and the debt recovery laws were failing badly, it was realised that mere debt recovery would not address the damage being inflicted by the non-performing assets (NPAs). There was a pressing need for a pragmatic and long-lasting solution to address the NPA problem and ensure a healthy credit flow within the economy.

It was in this background that a new law namely the Insolvency and Bankruptcy Code, 2016 (IBC) was enacted on 28 May 2016. The object of IBC is to establish a consolidated framework for insolvency resolution of corporations, partnership firms and individuals in a time bound manner. The IBC is not yet another debt recovery law in disguise. With the IBC, the incidence of failure of debts is sought to be tackled in two ways. Firstly, a behavioural change on part of the debtors to ensure sound business decision-making and preventing business failures is encouraged. Secondly, the IBC envisages a process through which financially ailing corporate entities are put through a rehabilitation process and brought back up on their feet.

The new regime and fast settling jurisprudence

Under the IBC, the Indian insolvency regime drifted away from the debtor-in-possession regime to the creditor-in-control regime. The creditor-in-control model essentially hands the control of the debtor to its creditors and relies upon the managerial skills of a newly appointed management to take over an ailing company and ensure continuance of business. The Apex Court in Swiss Ribbons v. Union of India, has held that the core objective of the IBC is to ensure revival and continuation of the corporate debtor. Thus, the IBC has a larger public-welfare consideration in play. In a country where it is common to find pre-colonial laws which are more than a century old, the IBC even in its infancy has been subject of discussion in many judicial pronouncements.

The IBC sets out three classes of persons who can trigger the corporate insolvency resolution process (CIRP), i.e., the financial creditors, operational creditors and the corporate debtors. For an operational debtor, the Apex Court in Mobilox Innovations v. Kirusa Software observed that the operational debt should be free from any pre-existing dispute which cannot be dealt with summarily in insolvency proceedings. In terms of liability, in Lalit Kumar Jain v. Union of India, the Supreme Court clarified that the liability of a guarantor was co-extensive with that of the principal debtor. Accordingly, parallel proceedings could be initiated against the guarantors. Perhaps the most important aspect under the IBC is the timeliness of insolvency resolution. The Supreme Court in Kridhan Infrastructure v. Venketesan Sankaranarayan, observed that the insolvency resolution should not suffer from an indefinite delay in complete abeyance of the timelines fixed under the IBC.

Once an insolvency petition is admitted, a moratorium is introduced. The Apex Court in P. Mohanraj v. Shah Brothers Ispat held that a moratorium prohibits the institution and continuation any proceedings against the corporate debtor during the CIRP. The object of introducing a moratorium is to prevent further depletion of corporate debtor's assets. Hence, a moratorium acts as a shield against any pecuniary attacks against the corporate debtor. However, a moratorium does not protect the key managerial personnel of the corporate debtor who were responsible for the insolvency of the corporate debtor.

A successful CIRP is central to the revival of the corporate debtor. Hence, the IBC bars certain individuals from submitting a resolution plan or participating in the insolvency resolution process. The Supreme Court in Chitra Sharma v. Union of India held that the purpose behind the bar against certain individuals is to ensure that persons responsible for insolvency of the corporate debtor do not participate in the CIRP by means of a backdoor entry. Similarly, the in Phoenix ARC v. Spade Financial Services, it was observed that the IBC provides that any related party of the corporate debtor does not have the right to be part of a committee of creditors (CoC). The object of such provision is to prevent the decisions of the CoC being sabotaged by related parties of the corporate debtor.

Apart from the powers to undertake insolvency resolution proceedings, the NCLT is endowed with broad residuary jurisdiction under the IBC to decide upon all questions which arise out of or in relation to the insolvency and liquidation of corporate debtor. However, in the adjudicatory process concerning a resolution plan, the Apex Court in Jaypee Kensington case held that there was no scope for interference with the commercial wisdom of the CoC. If an adjudicating authority found any shortcomings in the resolution plan, then the same would only be sent back to the CoC for re-submission.

A positive impact

The IBC has reformed the Indian insolvency law landscape to a great extent. It has contributed to development of disciplined borrowing amongst companies. Promoters are fearful of losing the control of their enterprises in the event of a default. A whopping 18,629 applications seeking more than Rs. 5,29,000 crores are noted to have been resolved even prior to being admitted. Post the implementation of IBC, as per the World Bank's report, India's rank in resolving insolvency went from 136 in 2017 to 52 in 2020.

Key concerns

The recovery rates under the IBC are low. There are matters where haircuts of as much as 95% are being granted during insolvency resolution. In the five years of IBC regime, the lenders took an average of 61% haircut on claims. Adding to the problem is the pendency of insolvency matters. Around 71% of the cases are pending for more than 180 days which is a marked deviation from the intent of swiftly resolving insolvency. As far as staffing is concerned, in September 2021, the NCLTs were functioning without a President and were short of 34 members out of a total sanctioned strength of 62 members.

Another important challenge is the digitization of the IBC ecosystem. The lack of digitization has led to the insolvency process being stymied with long delays much beyond the statutory limits. Often, the admission of cases in NCLT has proven to be a task. A special parliamentary committee in its report opined that the NCLTs and the NCLATs should be completely digitized. There should be provision for virtual hearings to get through the backlog and deal with the pending cases swiftly.

The way forward

It is important for the key stakeholders to make their best endeavours to ensure that the bite power of the IBC does not diminish. The goal must be to fill the voids that are discovered and move towards a more complex legal system over time. Statistics indicate that a majority of the liquidation happens in matters where the debtor's assets erode over time during a prolonged insolvency process. Hence, timeliness of insolvency resolution is key. The government needs to cater appropriate budgetary allocations to upskilling of insolvency professionals, improvement of tribunal infrastructure and digitization of the insolvency resolution process.

The IBC has undoubtedly revived India's insolvency regime. Not only has it been successful in combating the growing threat of NPAs, but it has also benefited the economy in a variety of nuanced ways, including improving credit discipline. As per reports, a total of Rs. 2.5 lakh crores has been introduced back into the banking system from 2016 upon resolution of insolvencies under IBC. However, like any other law, IBC also has areas which can witness remarkable improvement. There is a long way ahead for Indian insolvency regime to meet standards of other mature global jurisdictions.

This article was originally published in the Business Line.

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