In a welcome break from the logjams in the Upper House that have held back crucial economic reforms such as the GST, the Rajya Sabha on Wednesday passed the Insolvency and Bankruptcy Code 2016. It received the Lok Sabha’s nod on May 5. This is a much overdue reform that aims to bring in a modern framework to deal with bankruptcy and insolvency of a variety of economic players. The code will consolidate and amend the laws relating to reorganisation and insolvency resolution of corporate persons, partnership firms and individuals. When it comes to “resolving insolvency”, India ranks an abysmal 136 out of 189 countries according to the Doing Business 2016 report. On average, secured creditors in India recover only 25.7 cents for every dollar of credit from an insolvent firm at the end of insolvency proceedings and the whole process takes 4.3 years to conclude. This contrasts poorly with the OECD countries where creditors recover 72.3 cents within just 1.7 years on average. With the new code in place, it is expected that India will witness a drastic improvement on both parameters.
The trouble is, given the archaic laws governing insolvency — some of them over a century old — creditors are relatively powerless when faced with a default while the promoters are, in the words of RBI Governor Raghuram Rajan, able to “insist on their divine right to stay in control”. This, in turn, has a chilling impact on availability to new businesses. A stated objective of the new law is to promote entrepreneurship, availability of credit, and balance the interests of all stakeholders. Unlike in the past, when an insolvency case dragged on for years on end, under the new code, if a firm defaults, control would shift from the promoters to a committee of creditors, which will have 180 days to evaluate various proposals for resuscitating the company, or else liquidate the assets.
However, enactment of the code is just a beginning. For effective results, the government will have to ensure that its so-called pillars — insolvency professionals, information utilities, a strengthened adjudication mechanism, and a regulator — are institutionalised.