Firms red-flag pitfalls of IBC suspension; law's future unsure, say experts

With the Insolvency and Bankruptcy Code, which was the instrument lenders had to make their borrowers fall in line, suspended for a year, many say this makes uncertain the future of a landmark law

A pension fund is looking for ways of halting its loan repayment. The reason: It had invested in an infrastructure project that is facing stress due to Covid-related factors, affecting the fund’s  income flow.

With the Insolvency and Bankruptcy Code (IBC), which was the instrument lenders had to make their borrowers fall in line, suspended for a year, many say this makes uncertain the future of a landmark law.

“It is most important to allow companies to focus on getting their businesses back on track without the fear of insolvency ... though it would have been good for Section 10 (where promoter can trigger insolvency) to continue, enabling companies to use the IBC as a resolution mechanism,” said Dinkar Venkatasubramanian, partner and leader, restructuring and turnaround services, EY.

While the IBC was not meant to be a recovery tool but a way to resolve insolvency, the fear it put in the minds of promoters and management — of losing the company — led to a settlement of dues in a large number of cases.

Experts said the suspension of the IBC would compel banks and lenders to go back to the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest (SARFAESI) Act to recover dues.

“Leaving out the option of resolution automatically opens the door for recovery and this could be an unintended consequence of the blanket suspension. A binding framework of resolution outside the IBC has found very little success,” said Veena Sivaramakrishnan, partner, Shardul Amarchand Mangaldas & Co.

Private parties and operational creditors will look at alternative remedies such as specific performance, summary suits, civil recovery, arbitration, and debt restructuring.

“Banks would be slow for some time here too as the government’s intentions are clear. Till now the alternative mechanisms have not been very effective and time-consuming but if it works better during this period then the role of the IBC would be limited even after it restarts,” said Manoj Kumar, partner, Corporate Professionals.

According to people in the know, private equity funds and non-banking financial companies (NBFCs) are evaluating their portfolios to figure out the problem areas and then renegotiate terms with the promoters.

“Many would be moving to promoter-driven overseas structures since there is too much uncertainty in India ... Foreign investors feel that laws are being changed constantly and court judgments often add to the uncertainty,” a senior analyst said.

If the IBC intended putting the resources trapped in insolvent companies for better utilisation, it would not be possible this year, experts said.

“Resolution would take a back seat for now,” Kumar added.

While industry lauds the step to exempt “Covid-related debt” from default as a practical measure, the impact of suspending the IBC on genuine defaults is yet to be seen.

“There are instances where lenders could not initiate insolvency in time right before the Covid crisis started ... it is unclear what will happen to them. Lenders will have to bear the brunt of this decision,” an industry expert said.

The Ministry of Corporate Affairs is expected to issue a circular specifying the dates on which debt would qualify as Covid-related. The orders on suspending the IBC are likely to bring clarity.

As for banks, many say large borrowers may put to better use the prescribed pre-IBC restructuring provision according to the June 7, 2019, circular of the Reserve Bank of India and its scope could be expanded to all borrowers even though inter-creditor agreements have not led to much success resolution-wise.

“I would like to see a comprehensive mechanism from the RBI that incentivises banks and businesses to resolve their issues through a debt-restructuring arrangement — quickly and effectively without eroding business value,” Venkatasubramanian added.

He said a piece of learning from the IBC was that it could not be a one-size-fits-all approach and it should keep in mind growth and the earnings capacity of a business, the quality of management, etc.

However, if the IBC is to be kept relevant, it needs to be reinstated soon.