CA Prannav Khanna

INSOLVENCY AND BANKRUPTCY CODE (AMENDMENT) ORDINANCE, 2017- DEBARRING PROMOTERS FROM BIDDING FOR THEIR OWN COMPANY

INTRODUCTION

While the Insolvency and the Bankruptcy Code, 2016 (‘Code’) has been in existence for a year, which has been surfaced with certain controversies, nuances and issues and the same were fixed by the NCLT and the Court. So far more than 300 insolvency petitions have already been admitted by various NCLT’s and certain cases are on the final stages disposal. In the meanwhile, on 23rd November, 2017, the President of India has given his assent to the Ordinance to amend certain sections in the code. Thus, the changes brought about through the Ordinance bar willful defaulters from bidding for the assets.

THE NEED OF THE ORDINANCE

The Insolvency and Bankruptcy Code was enacted to fast-track resolution of ailing firms. The Government and Reserve Bank of India (‘RBI’) worked together to nudge banks to move National Company Law Tribunal (‘NCLT’) against companies or its promoters. At present there is a total NPA (non-performing asset) to the tune of 8.4 lakh crore. In order to clean up this mess, the RBI in the first stage finalized a list of 12 companies owing around 2.3 lakh crore of debts to the banks to undergo insolvency proceedings.

The banks (financial creditors) started the insolvency proceedings against these entities. Till date around 400 applications have been admitted by the NCLT (Adjudicating Authority) for the insolvency proceedings.

Unfortunately: In the very first case, the NCLT had to allow a resolution plan submitted by Synergies Castings to acquire Synergies-Dooray Automotive, for Rs 54 crore when the company owed Rs 900 crore to lenders. The company was allowed to pay Rs 20 crore upfront with the rest over five years. The management of the company thus purchased its own asset at a steep discount while the lenders (bankers) had to take a big haircut (loss).

There was a lot of hue and cry prompting the Government to look at ways to plug this loophole. The Code (before the Ordinance) does not put a bar on the ineligible promoters to bid for their stressed asset. The Government thus promulgated the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2017 on 23rd November 2017.

OBJECTIVE OF THE ORDINANCE

The Ordinance seeks to prohibit certain persons from submitting a resolution plan who, on account of their past record, may adversely impact the resolution process. The Ordinance primarily aims to make the promoters and other connected people (such as related parties) ineligible to submit a resolution plan if such person –

  • is an undischarged insolvent ;
  • has been identified as a willful defaulter under RBI Guidelines {willful defaulters are those who deliberately avoid repayment of loans despite having the capacity to repay but have either diverted or siphoned off the funds from the company} ;
  • account has been classified as an NPA under the RBI Guidelines and a period of one year or more has lapsed from the date of such classification and the promoter has still not paid the overdue amount with interest ;
  • has been convicted for an offence punishable with two years or more of imprisonment ;
  • has been disqualified to act as a director under the Companies Act, 2013;
  • has been prohibited by SEBI from trading in securities ;
  • has indulged in preferential or fraudulent transaction ;
  • has executed an enforceable guarantee in favour of creditor, in respect of a corporate debtor undergoing insolvency proceedings under the Code.

GIST OF THE AMENDMENTS BROUGHT THROUGH THE ORDINANCE

An ordinance amending the Insolvency and Bankruptcy Code (IBC) has practically barred promoters of companies undergoing the resolution process from bidding for their own companies when they are auctioned as part of bankruptcy proceedings.

Besides, sister concerns and corporate guarantors will also not be eligible to bid for these companies.

The ordinance, added Section 29A to the Code: “A person shall not be eligible to submit a resolution plan if such person, or any other person acting jointly with such person, or any person who is a promoter or in the management control of such person, is an undischarged insolvent.”

Clause (25) and (26) of Section 5 of the Code which define “resolution applicant” are amended to provide more clarity.

Also, clause (h) of sub section (2) of section 25 of the Code is amended to enable the Resolution Professional, with the approval of the committee of creditors to specify eligibility conditions while inviting resolution plans from prospective resolution applicants keeping in view the scale and complexity of operations of business of the corporate debtor to avoid frivolous complaints.

Also, Clause (e) of section 2 of the Code has been substituted with three clauses. This would facilitate the commencement of Part III of the Code relating to individuals and partnership firms in phases.

RESOLUTION PROCESS

The definition of ‘resolution applicant’ in clause (25) of Section 2 of the code has been amended to permit only persons who submit a resolution plan pursuant to the invitation made by the resolution professional under clause (h) of sub-section (2) of section (25) of the Code.

“resolution applicant” means a person, who individually or jointly with any other person, submits a resolution plan to the resolution professional pursuant to the invitation made under clause (h) of sub-section (2) of section 25;’;

Thus, the latter replaces the otherwise public invitation process by a qualifying criterion laid down by the resolution professional in consultation with the committee of creditors. This decision will have to be made after considering the nature of business, its operations, and complexities of the corporate debtor and also based on other conditions as may be specified by the IBBI.

DISQUALIFICATION

A new section 29A is added by the ordinance which sets out the disqualification criteria for a resolution applicant.

The section provides that if (i) a person; (ii) or any person who is acting jointly with such person; (iii) or a person who is a promoter or is in the management or control of such person; (iv) or a ‘connected person’ is:

  • An undischarged insolvent;
  • A wilful defaulter identified by any bank or financial institutions as per Reserve Bank of India (RBI) guidelines;
  • A person whose account is classified as an NPA for a period of over 1 (one) year and who has failed to make the payment of all NPA related overdue amounts and interest /charged before submission of a resolution plan;
  • A person convicted for any offence punishable with imprisonment for 2 (two) years or more,
  • A person disqualified from acting as a director under Companies Act, 2013;
  • A person prohibited from trading in or accessing the securities markets under any order or directions of the Securities and Exchange Board of India;
  • A person who has indulged in preferential, fraudulent or undervalued transactions with the corporate debtor in the preceding 2 (two) years;
  • A person who has executed an enforceable guarantee in favour of a creditor, in respect of a corporate debtor under CIRP or liquidation proceedings under the Code;
  • A person subject to any of the above disabilities under any law in a jurisdiction outside India;

they will not be eligible to submit a ‘resolution plan’. Addressing the cases where CIRP is already ongoing, Section 30 (4) has been amended to, inter alia, provide that the CoC shall not accept the plans submitted prior to the Ordinance if the resolution applicant is ineligible and in the absence of other plans, the RP shall be required to invite fresh resolution plans.

For this section, a ‘connected person’ has been defined broadly to mean (a) person who is a promoter or in the management or control of the resolution applicant, (b) person who shall be promoter or in management or control of the business of the corporate debtor during the implementation of the resolution plan, or (c) holding company, subsidiary company, associate company and related party of such person.

LIQUIDATION PROCESS IN SELLING OF ASSETS

The Ordinance prescribes that even in the liquidation process; the liquidator will not be permitted to sell any immovable or movable property or actionable claims of the corporate debtor to any of the above disqualified persons. The amendments have set out comprehensive criteria to disqualify not just the willful defaulters or persons with criminal antecedents but also existing promoters/potential resolution applicants who may be in default led NPA situation.

PENALTY

In order to ensure that the provisions of the Code and the Rules and Regulations prescribed there under are enforced effectively without any violation, a new section 235A has been added which provides for punishment for contravention of the provisions where no specific penalty or punishment is provided.

The punishment is fine which shall not be less than Rs. 1lakh but which may extend to Rs. 2 crore.

WHAT WOULD BE THE IMPACT OF THE ORDINANCE

The Ordinance now requires the resolution professional to invite the prospective resolution applicant, who fulfills the criteria as laid down by him with the approval of the committee of the creditors having regard to the complexity and scale of operations of the business of the corporate debtor and such other conditions as may be specified by the Board (IBBI). Henceforth the committee of creditors shall not approve any resolution plan if the resolution applicant (mainly the promoter) is ineligible as per the conditions referred above. In case, as on date of the ordinance, there is no resolution plan except a resolution plan by the ineligible promoter, the resolution professional will have to invite fresh resolution plan. In case the ineligible promoter (owing to NPA over a period of one year) wants to participate in the resolution process, he can convert his NPA into a performing asset by repaying the complete amount of loan and interest before the resolution plan is adopted.

FALLOUT OF THE ORDINANCE

  • What was happening in majority of the cases was that the same promoter who damaged the asset (read the company) and who, over a period of time, was not able to repay the money to the lenders becomes interested to purchase the same asset at a huge discount. If this was allowed to happen, then it would have encouraged the system of first defaulting and then regaining the same asset at a discount. Since the bankers use the public money to fund such assets, it would be the public money on which such promoters would have benefited.
  • There is, however, another side of the argument. There might be a genuine reason of business failure which might have resulted in the default by the promoter(may be owing to the business cycle, global competition, etc.,) on which account the promoter was genuinely not able to service the asset as a result there was a default. Now, the business conditions might have changed and the promoter also has better understanding of the business so he may be given a second chance to start afresh.
  • There is also an apprehension that although this ordinance may be able to curtail the malpractice which was being adopted by the bigger players but in case of smaller companies, since there would not be many interested external bidders the smaller companies would undergo liquidation instead of a Resolution.

CONCLUSION

The Insolvency Code came to clean up the mess created by the defaulters who had taken huge sums of money from the banking and financial system and defaulted in repayment of those loans. The objective got a jolt with the first case of resolution (Synergies Castings) wherein the lenders suffered a huge loss while the borrower through this legal process acquired the asset at a huge discount. The Ordinance has rewritten the rules of the game and has made such defaulting promoters ineligible from participating in the resolution process. This is indeed a commendable step in the right direction. Although the banks would have commercially benefited if the promoters were putting in their bids since their bid would have been on a higher side in comparison to external bidders, this might result in higher losses to the banks. But over a longer period this will give a strong signal to the promoters (big and small) that they will lose their asset if they do not follow the rules of the game.

(The author can be reached at khannaprannav7@gmail.com)

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One response to “Debarring Promoters from Bidding for their own Company under Bankruptcy Law”

  1. Prashant Singh says:

    Congratulations. Very nice

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