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Insolvency Code: Debtors now resolve defaults in early stages

  • IASbaba
  • March 14, 2020
  • 0
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Governance & Economy

Topic: General Studies 3:

  • Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment. 
  • Government policies and interventions for development in various sectors and issues arising out of their design and implementation.

Insolvency Code: Debtors now resolve defaults in early stages

About Insolvency & Bankruptcy

  • Insolvency is the situation where the debtor is not in a position to pay back the creditor. 
  • For a corporate firm, the signs of this could be a slow-down in sales, missing of payment deadlines etc. 
  • Bankruptcy is the legal declaration of Insolvency. 

Need of Insolvency & Bankruptcy Code (IBC)

  • A unified code is essential because earlier the issue was handled under at least 13 different laws.
  • Earlier, if a company defaults, there were at least four different legal routes available to the debtors and creditors – the high courts, the Company Law Board, the Board for Industrial and Financial Reconstruction (BIFR), and the Debt Recovery Tribunals (DRTs)
  • This could lead to multiple negotiations, multiple penalties etc. for the debtor, compounding his plight.
  • The present morass of laws doesn’t help in easing the exit of trouble-prone entities, which made Chief Economic Adviser to GoI to compare the situation to Chakravyuh (where companies can easily enter but difficult to exit)
  • In the background of rising NPAs, the easing of liquidation process can help the banks recover a lot of bad debts

Salient features of the Insolvency and Bankruptcy Code:

  • IBC was thus enacted in 2016 for reorganization and insolvency resolution of corporate persons, partnership firms and individuals in a time bound manner for maximization of the value of assets of such persons
  • IBC Code 2016 covers all individuals, companies, Limited Liability Partnerships (LLPs) and partnership firms.
  • The adjudicating authority is National Company Law Tribunal (NCLT) for companies and LLPs and Debt Recovery Tribunal (DRT) for individuals and partnership firms.
  • Insolvency Professionals: A specialised cadre of licensed professionals is proposed to be created. These professionals will administer the resolution process, manage the assets of the debtor, and provide information for creditors to assist them in decision making.
  • Insolvency and Bankruptcy Board: The Board will regulate insolvency professionals, insolvency professional agencies and information utilities set up under the Code.  The Board will consist of representatives of Reserve Bank of India, and the Ministries of Finance, Corporate Affairs and Law.

Working of IBC

  • 200 companies who cumulatively owed Rs 4 lakh crore to creditors, had been rescued till December 2019 through resolution plans. 
  • However, the realisable value of the assets available with them, when they entered the IBC process, was only Rs 0.8 lakh crore
  • The IBC maximises the value of the existing assets, not of the assets which do not exist. 
  • Under the IBC, the creditors recovered Rs 1.6 lakh crore, about 200 per cent of the realisable value of these companies
  • Despite the recovery of 200% of the realisable value, the financial creditors had to take a haircut of 57 per cent as compared to their claims.
  • As compared to other options, bank are recovering much better through IBC

Criticism of IBC

  • Although the IBC process has rescued 200 companies, it has sent 800 companies for liquidation. 
  • The number of companies getting into liquidation is thus four times that of the companies being rescued. 

Counter Arguments:

  • Recovery is incidental under the IBC. Its primary objective is rescuing companies in distress
  • The companies rescued had assets valued at Rs 0.8 lakh crore, while the companies referred for liquidation had assets valued at Rs 0.2 lakh crore when they entered the IBC process. 
  • Thus, in value terms, assets that have been rescued are four times those sent for liquidation.
  • It is important to note that of the companies rescued, one-third were either defunct or under BIFR, and of the companies sent for liquidation, three-fourths were either defunct or under BIFR.

Real success of IBC

  • The credible threat of the IBC process, that a company may change hands, has changed the behaviour of debtors
  • Thousands of debtors are settling defaults at the early stages of the life cycle of a distressed asset.
  • They are settling when default is imminent, on receipt of a notice for repayment 
  • Only a few companies, who fail to address the distress in any of these stages, reach the liquidation stage
  • At this stage, the value of the company is substantially eroded, and hence some of them would be rescued, while others are liquidated. 

Conclusion

The 25,000 applications filed so far under IBC indicate the value and trust that stakeholders place on the law — the ultimate test of its efficacy.

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