Without Promoter Accountability, Insolvency And Bankruptcy Code Allows Truant Debtors Escape Losses 

It took four years for the insolvency resolution plan. The settlement will be done and RCIL assets will be taken over by the Mukesh Ambani-owned Reliance Projects and Property Management Services Limited. Incidentally, Insolvency and Bankruptcy Board of India (IBBI) data show that RCIL is not a defunct company. 

This representative insolvency case succinctly depicts the current state of affairs regarding the Insolvency and Bankruptcy Code (IBC) 2016.

Credit is the most important ingredient to build a successful business. Sometimes, a business may struggle to manage its debt and turn insolvent. That is why the resolution of insolvency, rather than liquidation, is so crucial in an economy’s growth story. Mismanagement in handling the credit channel can choke the credit supply. 

When banks and financial institutions, particularly nationalised banks, lose their investment in large companies due to insolvency, they accumulate bad loans on their balance sheets. This ends up drying the credit supply for future investments of other financially sound companies.

The IBC has been in force for almost eight years. Earlier, insolvency used to be dealt with a highly fragmented legal framework that resulted in protracted and inefficient handling. Different laws and regulations co-existed, creating complexities, overlaps and frequent contradictions in resolutions.

The IBC was brought to usher in a unified and time-bound resolution process. Adjudicatory authorities like the NCLT and the National Company Law Appellate Tribunal (NCLAT), and regulatory body IBBI were to be the supporting legal infrastructure. The provision of allied necessary formations such as a Committee of Creditors (CoC) was to facilitate a more streamlined and transparent corporate insolvency resolution or a structured liquidation process, if resolution cannot be reached in a specified time period.

Insolvency Resolution Still A Problem

Despite the original intention of making the Insolvency Code a resolution framework as opposed to a mere debt recovery one, 43.8 per cent of the total closed cases till the end of 2023 resulted in commencement of liquidation.

Even compared to the total 7,325 admitted cases, the ratio of liquidation stood at 32.4 per cent. This is clearly not what the IBC was brought in for.

About 25.9 per cent of the total admitted cases at the end of 2023 are still going on. Some 68 per cent of these have been pending for more than 270 days. The IBC, however, had stipulated completing the corporate insolvency resolution process within 180 days from the date of admission of the application.

Routine Violation Of Original Time Frames For Resolution 

There is a provision in the Act for an extension of time, if 75 per cent of the CoC vote for that and the Adjudicating Authority is convinced the resolution should take more time. But the law also strictly denies granting extension more than once. The stipulated maximum time limit for completion of the resolution plan is 330 days.

But if we look at the average time taken for beginning liquidation within all closed cases, it is 486 days. The average time for approval of a resolution plan takes even longer at 670 days. The data between April and December 2023 shows that an order for liquidation took 661 days on an average, and average time for approval of a resolution plan was 858 days – well beyond two years. It demonstrates that the cases are piling up faster in recent times. 

Debt Recovery In Liquidations Abysmal

A quick look at the data for 830 liquidations, where final reports are submitted, reveals that more than 20,000 creditors filed for around Rs 1.83 lakh crore worth of claims that were admitted. The total liquidation value of these cases, as percentage of total admitted claims, stood at a mere 4.7 per cent. Actual amount realised, as percentage of total admitted claims, came out to be a shockingly low 4.0 per cent. This implies more than 95 per cent loss for creditors in these cases.

Therefore, the eight-year report card on the IBC’s implementation shows little or no improvement in the time taken for resolution, along with an abysmal record of debt recovery – particularly in liquidation cases. 

The intended objective of shifting from a “debtor in possession” to a “creditor in control” model is in serious jeopardy. This partly explains the substantial amount of withdrawal and out of court settlement in the closed cases at NCLT, possibly to avoid at least the delays.

Manufacturing Putting In More Insolvency Applications

The sectoral composition of applications admitted for insolvency resolution throws up interesting facts. Manufacturing companies lead the list at 38 per cent of total admitted applications, followed by real estate at 21 per cent and construction at 12 per cent. 

Real estate and construction together seem to be one of the problem areas, where finances remain badly managed and laden with corrupt practices. This is in spite of the Real Estate (Regulation and Development) Act coming into effect in 2016, the same year as the IBC. 

Within manufacturing, sectors with sizeable number of applications for insolvency resolution include textiles, leather and apparel products, basic metals, food, beverages and tobacco, wood, rubber, plastic and paper products, and machinery and equipment. 

This may be a symptom of chronic growth problems faced by the country’s manufacturing sector. However, this is definitely a marker for the absence of “due financial diligence” in the credit supply chain in manufacturing. Lack of due diligence by banks and financial institutions equally applies to the real estate and construction sector.

If a promoter is not individually bankrupt but the venture is, and the law provides an easy way out, then it may create moral hazard issues. In simple words, without individual financial accountability of the promoter incorporated in the framework, any insolvency may incentivise the promoter to apply for liquidation, rather than a restructuring plan. Then the entire loss is borne by the creditors. 

Chapter 11 of the Federal Bankruptcy Code of the United States of America has detailed provisions, encouraging the debtor to propose a reorganisation plan while keeping control of the company. Maybe, it is time India took a leaf out of the US book and made suitable amendments to the IBC.