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‘IBC resumption to lead to uptick in cases, pre-packs need of the hour’

The Central government had last year suspended the initiation of insolvency for any defaults occurring post March 24, 2020 for one year as part of a Covid relief package, leading to a sharp fall in new insolvency cases.

Written by Karunjit Singh | New Delhi |
Updated: March 24, 2021 6:18:21 am
Pre-packs allow for the management of a distressed firm to retain control while creditors negotiate a resolution plan with either existing promoters or a third party.

The lifting of the suspension on new insolvency proceedings under the Insolvency and Bankruptcy Code (IBC) on March 25 is set to lead to a large uptick in insolvency cases according to experts who have noted that the prompt inclusion of a pre-pack mechanism would help reduce the increased burden on insolvency courts. The central government had last year suspended the initiation of insolvency for any defaults occurring post March 24, 2020 for a period of one year as part of a Covid relief package leading to a sharp fall in new insolvency cases with only 161 cases being admitted in the first half of the fiscal. The government had also increased the default threshold for insolvency initiation from Rs 1 lakh to Rs 1 crore to prevent smaller firms from having to go through insolvency proceedings.

“Recovery in stock market and revival in Indian economy post government measures, gives lot of confidence to creditors that they will be able to attract suitors for distressed assets. The scenario was uncertain in September 2020 and creditors were not sure of finding resolution for stressed cases,” said Rajiv Chandak, partner, Deloitte India. The government had initially suspended insolvency initiation for six months starting March 25 but extended the suspension by three months each both in September and December 2020.

Chandak noted that the banks prefer IBC as a resolution mechanism over loan restructuring as the process provides a corporate debtor with a clean slate.

“Limited number of companies have come out of stress with mere financial restructuring of balance sheet by prolonging interest and principal payments,” said Chandak noting that the Corporate Insolvency Resolution Process (CIRP) under the IBC provides a fresh start by resolving financial, operational and government dues, resulting in better recoveries for stakeholders.

Experts also noted that public sector banks in particular preferred IBC as it is a binding market-based mechanism because they were wary of restructuring decisions accepting haircuts being subjected to susbequent scrutiny by government agencies.

Manoj Kumar, partner at law firm Corporate Professionals said that the increased threshold of Rs 1 crore would likely give smaller firms more time before their defaults reach the threshold level by which time the government may introduce a pre-pack insolvency scheme for MSMEs.

“Most MSMEs have small-sized loans and payouts on a quarterly basis and it may take two-three quarters for them to hit the threshold,” said Kumar noting that this could be why the government chose to lift the suspension in the absence of a special insolvency framework for MSME. The government is set to introduce provisions to introduce pre-pack under the IBC in which creditors would be able to seek faster resolution by agreeing to a resolution plan before approaching the courts. The mechanism which would allow the debtor to remain in control is largely aimed at providing promoters an opportunity to restructure their liabilities.

Chandak, quoted above also noted that the introduction of pre-packs would allow quicker insolvency resolution as well help reduce the case burden on National Company Law Tribunals.

Misha, partner at law firm Shardul Amarchand Mangaldas & Co. said that banks would be prudent about initiating insolvency post the end of the suspension taking into account adverse economic conditions.

“I think banks are quite prudent about using IBC and will not rush to initiate CIRP at the first default post lifting of the suspension. Operational creditors may however use IBC as a way to exert pressure on debtors.“

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