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Photo: iStock

The headache of IBC resolution plans wrecked by covid

A plan made unviable by a big shift in circumstances should not be forced into implementation

An intriguing dilemma awaits the Insolvency and Bankruptcy Code (IBC) when it returns to full force in September after a six-month coronavirus-induced suspension.

The pandemic has wreaked havoc on the Indian economy and businesses are stumbling towards insolvency and over-burdened bankruptcy courts. Companies already admitted to this mechanism would have seen their grey-market valuations sink along with the collapse of the commercial premise that attracted offers from resolution applicants in the first place. Should the courts, then, allow resolution applicants to withdraw their plans? The stage is set for precedent-setting legal skirmishes, with significant new investments and jobs at stake.

On one hand, bankers, already accepting haircuts on non-performing loans, are under pressure to close deals and collect what they can. On the other hand, a queue of investors is eager to pick up assets at a discount and access India’s large market.

Should risk-taking applicants who, in agreement with creditors, have built in their plan robust contractual protections, including for pandemics, be allowed to trigger these clauses—known as “force majeure"? This question assumes significance as both foreign and domestic investors view security and sanctity of contracts as their top ask of India for the country to achieve an “ease of doing business" status that can be verified.

Under the IBC process, an applicant for a distressed firm submits a resolution plan—a schedule of debt repayments and a revival strategy. The Committee of Creditors places the best plan before the National Company Law Tribunal (NCLT) for approval. The tribunal’s primary task is to ensure that the plan survives and meets its promise.

But what happens if, after approval but before effective implementation, the plan turns unviable, or the basis of the company’s valuation gets eroded? Should the applicant be permitted to exercise exit clauses because market conditions for a viable implementation of the plan have vanished?

Recent decisions illustrate the pulls and tugs on IBC provisions in this context.

The Mumbai NCLT allowed Deccan Value Investors, a US-based fund, to withdraw its plan for Metalyst Forgings after approval by creditors on account of unviability. This decision was confirmed by the National Company Law Appellate Tribunal (NCLAT) and holds good under the law for now. Similarly, the NCLAT in Tarini Steel’s case permitted the withdrawal of a plan after NCLT approval. More recently, the Ahmedabad NCLT in Digjam’s case allowed modifications on grounds of changed circumstances, post-covid.

In contrast, decisions involving Educomp Solutions (NCLAT) and Astonfield Solar (Delhi NCLT) have set a precarious precedent by refusing a withdrawal or modification, on the basis of “lack of jurisdiction" to grant such permission. These decisions overlooked specific IBC provisions that grant the tribunal “jurisdiction to entertain… any question of law or fact, arising out of or in relation to the insolvency resolution…" and further endow it with “inherent powers".

If, for example, a company’s valuation after the plan’s approval is found to be incorrect, or a “mistake of fact" is revealed about the existence of a major asset, then should the applicant be compelled to pay up?

Take the instance of Jet Airways. What if, after the plan’s approval by creditors but before Jet is effectively placed in the hands of the applicant, the civil aviation regulator revokes Jet’s licence on grounds other than non-payment of dues? Should the applicant be forced to go to insolvency courts again?

If the starting assumption is the premise of free negotiation between creditors and an applicant, it follows that the applicant should be allowed to re-enter a negotiation if conditions change sufficiently to threaten the viability of its plan.

We recall an applicant for a power generation company rushing to the tribunal because an agreement for sale of power no longer existed, throwing into disarray its valuation of it. Similarly, an applicant in Amtek Auto’s case has so far been unsuccessful in convincing the NCLT that the contractual provisions of its bid should be upheld. This is a fundamental aspect of the rule of law that investors rightly demand—will contracts be enforced?

There are myriad scenarios with a single clear effect of compelling an applicant to execute an unviable plan. Such an applicant would be left with no option but to declare itself insolvent and force all stakeholders to re-start the process. The IBC, after all, threatens penal consequences for contravention of an approved plan.

The tribunal is endowed with the responsibility of balancing two seemingly conflicting interests: that of creditors in gaining more value than if the company were to be liquidated, and that of an applicant in acquiring a company capable of revival. Thus, the question of viability acquires high importance. If the interest of creditors is over-emphasized, then the distressed company is likely to run into more treacherous waters after it is taken over by an applicant.

The exercise is also not easy given the limited time frame to complete the process and the legal issues that abound. But the tribunal must still open itself to examining each case on its specific facts and circumstances and according to the terms of each offer. If not, it is unlikely that better candidates or applicants will be willing to step forth without scepticism, defeating the purpose of the IBC.

Prithu Garg and Shailendera Singh are advocates-on-record in the Supreme Court of India and partners at GnS Legal LLP.

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