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Explaining the Bankruptcy law — and the need to have one

A draft law on bankruptcy is ready for public comments. It could be an important piece of reform. SHAJI VIKRAMAN explains

Written by Shaji Vikraman | Updated: November 5, 2015 9:12:38 am
Bankruptcy law, Bankruptcy law India, Industrial and Financial Reconstruction, BIFR, Sick Industrial Companies Act, express column The failure of businesses impacts employees, shareholders, lenders, and the broader economy. (Illustration by: C R Sasikumar)

Why does India need a bankruptcy law?

The failure of businesses impacts employees, shareholders, lenders, and the broader economy. In a country like India particularly — because of delays in making decisions on the viability of businesses, tactics employed by company promoters to delay reorganisation or attempts to sell off assets, changes of management, or litigation that goes on and on — the drag on new business units, jobs, income generation and economic growth can be significant. India does have some laws — including one on Securitisation and Enforcement of Security — and other mechanisms, like Corporate Debt Restructuring or CDR, to address the problem of insolvency of firms. But the fact is some of these laws, such as the Sick Industrial Companies Act or SICA, have not worked because of inefficient enforcement and court delays.

So how can a modern law help?

Like in the West, a modern law with a focus on speedy closure will help firms on the brink to be either restructured or sold off with limited pain for all involved. In some cases, if this is done swiftly, assets can be put to good use and the firm can be revived. Delaying a decision on whether to shutter a firm or to try to revive it causes destruction of value for all involved. Indian policymakers have recognised this. For banks or lenders, the money recovered can be lent again, promoting efficient allocation of resources, besides development of financial markets such as a bond market with clarity on repayment for debtors. An efficient and swift insolvency regime ensures greater availability of credit or funds for businesses by freeing up capital, and is thought to boost innovation and productivity.

What is the international experience?

The US has a Bankruptcy Code that provides for fairly quick liquidation or reorganisation of business with what is popularly known as Chapter 7, with cases being filed in bankruptcy courts; Chapter 11, which deals with reorganisation of businesses; and Chapter 15, on cross-border insolvencies. Individual bankruptcies are dealt with separately. In the UK, once cases are filed for bankruptcies, after 12 months, there is either discharge with part of the assets being used to pay off debts, or, in situations where companies can be turned around, court-appointed administrators handle cases. The German insolvency law is applicable to both individuals and firms, with independent court-appointed insolvency practitioners helping in realising assets or reorganising the business.

What is India planning?

A committee headed by former law secretary T K Viswanathan has suggested a timeline of 180 days — extendable by 90 days — to deal with applications for resolving cases of insolvency or bankruptcy. During this period, the management of the distressed firm or debtor could be placed in the hands of a resolution professional — a new class of professionals equipped to deal with such cases, who would be supervised by a proposed new regulator. The proposal also envisages them getting into talks to revive firms, and work out a repayment plan. A Debt Recovery Tribunal will be the adjudicating authority over both individuals and unlimited liability partnership firms. The National Company Law Tribunal will be the adjudicating authority with jurisdiction over companies with limited liability. The law will have to be approved by Parliament.

What about financial sector insolvencies?

The Financial Sector Legislative Reforms Commission (FSLRC) has recommended the creation of a resolution corporation to monitor financial firms, and intervene before they go bust. The aim is to either close firms that can’t be revived, or change their management to protect investors or depositors. This is important because the failure of large banks or institutions imposes costs on taxpayers in the form of bailouts or capital infusion. The proposal is to promote the Deposit Insurance and Credit Guarantee Corporaton (DICGC) as resolution corporation.

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