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Tuesday, December 22, 2015

New Bankruptcy Code — A Boon for Ailing Indian Banking System

Acknowledging that “the existing framework for insolvency and bankruptcy is inadequate, ineffective and results in undue delay in resolution”, the Finance Minister, Arun Jaitley introduced the Insolvency and Bankruptcy Code 2015 in the Lok Sabha on Monday.

This indeed is a big step towards reforming our outdated business environment in which resolution of an insolvency case can take anywhere from four to fourteen years. The new Bill envisages establishment of an Insolvency and Bankruptcy Fund and an Insolvency and Bankruptcy Board of India.

Once passed, the Code shall facilitate winding up of failed businesses within 180 days—only in exceptional cases it can be extended by 90 days. The Code is applicable to companies, limited liability partnerships, partnerships and individuals. Being on par with global standards, the Bill empowers lenders, operational creditors, and companies to initiate insolvency proceedings.

The proposed Insolvency Code protects the interests of lenders and creditors to a company by enabling them file proceedings with the National Company Law Tribunal—adjudicating authority—along with proof of default. Once the proceedings are filed, the tribunal/ adjudicating agency shall ascertain the default within 14 days. Being satisfied of the default, the Tribunal can admit the application and declare moratorium to protect assets and allow the company to function. Then the tribunal shall appoint interim resolution professional within 14 days from the date of admission to run the company.

A committee of creditors consisting of all the financial creditors of the debtor is then established to draft the resolution plan. The Committee of creditors can confirm the interim resolution professional appointed by the tribunal or appoint a new one to manage the insolvency resolution process. Resolution plan can be submitted by any stakeholder. The Committee of creditors shall approve the plan and present it to the adjudicating authority for its approval. Such approved plan will be binding on all stakeholders.
The adjudicating authority can order liquidation of the company if: resolution plan is not as per rules, no resolution plan is submitted in the given time, committee of creditors asks for liquidation, or debtor company violates the terms of resolution plan. Liquidation will however be on the lines of the guidelines provided by the law.  Importantly, all this shall be completed within 180 days.

As is evident from the foregoing, the Bill is a God-sent gift to the banks, particularly to the Indian public sector banks which are sitting, like lame ducks, on a heap of bad debts—11% of all Indian bank loans across the board are said to be stressed; level of Corporate debt has recently gone up and the disturbing part of it is: good number of companies posted operational losses for the financial year 2014-15 and thus being unable to service even interest payments —for years on. For, the Code would enable them recover a large part of their investment faster by initiating insolvency proceedings against recalcitrant borrowers—either seeking change in management or liquidation of the company. Once the Code becomes effective, banks can file insolvency petition against willful defaulters and recover its assets quickly, well before their value is eroded and recycle the so recovered money towards new businesses.  

The proposed insolvency code will facilitate growth of credit markets by making entrepreneurs behave. Such healthy behaviour of entrepreneurs can not only result in efficient allocation of capital but also low cost of capital.  It is likely that the law might also encourage start-ups by allowing them exit quickly if they fail. Cumulatively, the new Code shall improve ease of doing business in the country, besides paving the way for higher economic growth and overall development.

The importance of this Bill for creditors in general and Public Sector Banks in particular can only be realized from the fact that all the measures such as Sick Industrial Companies Act 1985, Recovery of Debts Due to Banks and Financial Institutions Act, 1993, and the Securitization and Reconstruction of Financial Assets and Enforcement of Security interest Act, 2002 have all failed miserably in making any dent in bad debts of banks. 

Viewing against this backdrop, it must be said that it is highly thoughtful of the Government to introduce it as a money bill so that once passed in the Lok Sabha,  Rajya Sabha—where the present government does not enjoy requisite majority—cannot reject or amend it, the significance of which can only be gazed from the fate of the recently introduced crucial reform, the Goods and Services Tax (GST) Act. 

Let us hope for the good—good of banks and the businesses! 


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