5 Years of IBC: Acquirers laugh their way to banks, haircuts bleed lenders

The institutional framework to find a resolution to the vexed problem of distressed companies is coming under greater scrutiny after a spate of deals that gave creditor banks a piddly amount, often less than 10 per cent of the dues owed to them and allowed new acquirers to walk away with the prized assets for a song. 

This belies the objective of the Insolvency and Bankruptcy Code (IBC) which was enacted in 2016 as an umbrella legislation to stem troubled loans and shift resources and assets from wayward owners into capable hands. 

The IBC, modelled on the UK system, replaced a phalanx of overlapping laws and adjudicating forums that were found inadequate and ineffective, particularly in timely recovery orion, restructuring of defaulted assets that were causing undue strain on the banking system.

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The new legal framework, which included the National Company Law Tribunal (NCLT), appeared, in the beginning, to resuscitate the defunct companies and lenders who received a fair share of their sticky loans. In one insolvency resolution, for instance, a global steel major acquired a troubled Indian company in a deal that gave creditor banks more than 90 per cent of their loans outstanding. 

Even in the earlier avatar, under the Corporate Debt Restructuring (CDR), recoveries were about 87 per cent. Similar deals, ensuring a rightful share to banks who had lent loans to the distressed company, however, have vanished. Instead, the pendulum has swung the other way.

One primary reason is the delay: firstly, banks are usually too late to notice the tell-tale signs and secondly, the proceedings drag on due to litigation and cause further value erosion.   

As many as 19,844 cases were pending before the NCLT, including 12,438 under the IBC, at the end of July 2020, according to one leading consultancy, which may take six years to clear the backlog.

"Of the 277 cases resolved in NCLTs as of September 2020, the average time for resolution including litigation time has been 440 days. If one includes the time taken at the admission stage and post-approval of the resolution plan, it takes close to 12-36 months to close the resolution process," the consultancy said in a report. 
 
"Significantly, as the resolution time increased, the recovery percentages also fell sharply to 15-25 per cent. The average recovery observed for the resolved cases for financial creditors has been 41 per cent as of September 2020," it added. 

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The slippages have probably increased. In 11 insolvency cases that were resolved in the recent past, banks took a massive haircut of more than 90 per cent. The new acquirers held the trump cards, nonchalantly playing on the value destruction of the company at stake. 

Little wonder this unhealthy trend has raised eyebrows. Last week, the Chennai bench of the NCLT raised pointed questions in a case relating to a resolution that gave banks less than 10 per cent of amounts at stake. Observing this sort of haircut sets a bad precedent, the bench wondered how the boards of lenders would approve such write-offs. 

Surely, this rampant practice cannot be condoned as the hard punches that lenders endure can undermine our banking system. Insolvency regimes should facilitate the rescue of viable businesses and the efficient liquidation of non-viable operations. They must smoothen out the rough edges, not put more strain on the system. 

The IBC and the NCLT must rise to the occasion and fine-tune their rules and processes. Quick decision-making and timely rulings and settlements are essential to stem the erosion of value of a troubled company and to nurse it back to health. The country can ill afford to have the IBC, touted as a panacea for bad loans and viable options for businesses, become a conduit for uncanny takeover kings at the cost of lenders and other investors. 

The authorities are aware of the problem. The IBC has been amended five times and obviously, there would be more tweaks in due course. In April, New Delhi came out with an ordinance to introduce pre-packaged insolvency resolution options for micro, small and medium enterprises (MSMEs). 

The pre-pack scheme is a throwback to earlier regimes for restructuring where the incumbent management remains in control. It allows creditors and debtors to work on an informal plan, which can then be submitted for approval. 

The global best practice in such schemes allows corporate debtors to remain in possession, rather than creditors in control under a resolution professional, which is a significant distinction. This enables a fairer and quicker settlement. Under the IBC, promoters are usually at the forefront of litigation, creating roadblocks to a resolution.  

Given the envisaged benefits, why shouldn't the pre-pack scheme be expanded to larger companies in distress is a question worth pondering. 

(The author is Managing Partner, Brescon & Allied Partners LLP.)