BackReducing the barriers to exit
The BLRC has consolidated existing laws on insolvency into one legislation
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At an event a few months ago in New Delhi, chief economic adviser Arvind Subramanian described the journey of the Indian economy rather pithily when he said that India moved from “socialism with restricted entry" only to embrace “capitalism without exit". He was simply articulating a long-standing concern on the lack of adequate regulatory apparatus to deal with failed businesses in India. On the parameter of resolving insolvency, India stands at 136 out of 189 countries, according to the Doing Business rankings of the World Bank. While it takes 4.3 years to resolve insolvency in Mumbai with an abysmal recovery rate of 25.7 cents on a dollar, notes the World Bank report, the corresponding figures for OECD (Organisation for Economic Co-operation and Development) high-income countries are 1.7 years and 72.3 cents on a dollar, respectively.
In fact, the much talked-about over-leveraged balance sheets of the Indian corporate sector and banks can be partly attributed to the absence of an effective bankruptcy procedure in India. The need for the same was recognized by finance minister Arun Jaitley in his 2015-16 budget speech. He promised to “bring a comprehensive bankruptcy code in fiscal 2015-16 that will meet global standards and provide necessary judicial capacity". A Bankruptcy Law Reforms Commission (BLRC) set up in August last year has submitted its report and a draft bill, both of which have been put online for feedback till 19 November.
The BLRC has consolidated existing laws related to insolvency dispersed in different legislations into a single legislation. It has prescribed a timeline of 180 days—can be extended by 90 days by the adjudicating authority in exceptional cases—for dealing with applications of insolvency resolution. The BLRC envisages a competitive industry of insolvency professionals, insolvency professional agencies and information utilities. These will be regulated by an insolvency regulator.
During the insolvency resolution period of 180/270 days, the management control passes on to a resolution professional who will come up with an insolvency resolution plan. The plan has to be approved by a majority of 75% of voting share of the creditors, and thereafter be sanctioned by the adjudicating authority. If rejected, the adjudicating authority will order liquidation. The BLRC recommends existing institutions—the Debt Recovery Tribunal and the National Company Law Tribunal—be deployed as the adjudicating authority.
The timelines and provisions for bankruptcy resolution for individuals and unlimited liability partnerships are laid down separately in the draft bill.
Since this is a first-of-its-kind process undertaken in India, the draft bill would require considerable study and review while sticking to the deadline set by the finance minister. In this light, three points need to be highlighted. One, the process of insolvency resolution and the management of the firm during that period is tackled differently across the globe. Chapter 11 of the Bankruptcy Code in the US allows debtors to retain the possession of assets and management of the firm, except in cases where the court may feel necessary to appoint a trustee. The BLRC’s recommendations are more in line with the procedure followed in the UK, where a court-appointed administrator takes control of the assets and management of the firm and prepares resolution proposals. By their inherent structures, the US law encourages continuation over liquidation, while the UK law does the obverse.
Two, the institutional structure proposed by the BLRC will take years to implement and perfect. That does not take away from the merits of the structure proposed. For instance, information asymmetry between creditors and debtors about the financial status of the firm implies inevitability of either some strategic defaults (when managers default in absence of financial distress) or some costly bankruptcies. A functioning competitive industry of information utilities will help minimize such economically inefficient outcomes by bridging the information asymmetry.
Three, lack of capacity of the tribunals that have been accorded the role of adjudicating authority may turn out to be the Achilles’ heel of the entire process. The tribunals are already overburdened with insolvency cases. If no additional capacity is built up, the targeted timeline of 180/270 days can safely be cast aside.
Given the complexity of the subject and lack of a domestic precedence, the BLRC must be hailed for the effort it has put in. It is time for the executive and Parliament to complete the process within the current fiscal year.
Should the government give priority to bankruptcy law in the winter session? Tell us at views@livemint.com
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