[Shreya Prakash is the Coordinator of the Vidhi Bankruptcy Research Programme]
The Insolvency and Bankruptcy Code (Amendment) Bill, 2019 passed by Parliament last week proposes key amendments to the Code, to reduce uncertainty in the market on issues that go to the heart of the design of the scheme of the Code. While the Bill proposes various amendments to reduce delays in the process, and binds government authorities, arguably the most important amendments proposed in the Bill clarify how distributions may be made in a resolution plan.
While the issue of distributions in a resolution plan has remained contentious since the implementation of the Insolvency and Bankruptcy Code, 2016 (IBC), recently it has come to the forefront following the decision of the National Company Law Appellate Tribunal (NCLAT) in the insolvency resolution process of Essar Steel. Specifically, the rulings of the NCLAT on three issues caused great uncertainty in the market, which is slowly beginning to lose appetite for resolution of insolvency under the IBC. The proposed Bill deals with these issues squarely and clarifies legislative intent to put to rest this uncertainty.
First, the NCLAT held that the committee of creditors is not empowered to take into account the manner of distribution while approving a resolution plan. By holding this, the NCLAT disturbed the previously accepted understanding that the manner of distribution in a resolution plan would be a commercial matter, on which the judgment of the committee of creditors under the IBC would have primacy. Indeed financial creditors were chosen to be part of the committee of creditors precisely because they have the ability and willingness to take haircuts, which is a matter intrinsically linked to the manner of distribution. The Bill now expressly clarifies states that the committee of creditors can look into the manner of distribution in a resolution plan.
Second, in line with the decision rendered by it in the case of Binani Industries, the NCLAT held that National Company Law Tribunal (NCLT) can review the manner of distribution in a resolution plan to ensure that it is “fair and equitable” to all creditors (particularly operational creditors who do not vote on a resolution plan since they are not part of the committee of creditors and financial creditors who do not vote in favour of a plan). The NCLAT’s ruling implied that the distribution proposed in every resolution plan would be subject to the review of the courts which would cause great uncertainty to creditors as well as resolution applicants who would not know the way in which the distributions in a resolution plan would be made until the adjudicating authority gave its approval. This would be contrary to the design of the IBC, which limits the role of the adjudicating authority to reviewing the compliance of the resolution plan and allows the judgment of the committee of creditors regarding commercial matters such as manner of distribution to have primacy. To ensure that the committee of creditors do not abuse their discretion, the IBC also guaranteed protection to operational creditors by mandating that certain minimum payments have to be made. The Bill now enhances the protection to operational creditors, extends its protective requirements to creditors who do not vote in favour of a resolution plan and clarifies that the distribution approved by the committee of creditors would be considered fair and equitable if it meets the protective requirements laid out in the statute. Given this clarification, the NCLT’s discretion to review distributions made in a plan on the ground that they are not fair and equitable would be reduced.
Finally, the NCLAT’s ruling implied that all secured creditors would have to be treated the same in a resolution plan irrespective of the nature and extent of their security interest. This would be contrary to the settled principles of property law (that also apply to the IBC), which clearly acknowledge that a secured creditor would only be secured to the extent of their security interest and certain secured creditors have better rights than other secured creditors. Given that creditors with better security interest would have to be treated similar to creditors with lesser security interests, this would affect the cost and availability of credit and caused great uncertainty in the market. This uncertainty was deepened since it was felt that secured creditors with priority of charge would now prefer to enforce their security interests through laws such as the Securitisation and Reconstruction of Financial Assets and Enforcement of Securities Interest Act, 2002 (SARFAESI), instead of attempting resolution under the IBC, which would effectively reduce the chances for a business turnaround for companies. Given this, the Bill also clarifies that the nature and extent of a creditor’s security interest may be taken into account while making a distribution in a resolution plan. In fact, the Bill also requires that this be taken into account while making minimum payments to financial creditors who do not vote in favour of a resolution plan.
In dealing with each of these issues head-on, the Bill attempts to reinforce the need for commercial decision-making and the need to respect pre-insolvency entitlements. Hopefully, this will ease some of the pain of resolution under the IBC and increase certainty, in light of which market participants, especially foreign investors would continue to feel comfortable investing in the IBC.
– Shreya Prakash