Shun rhetoric, appreciate IBC problem

The debate over the presidential ordinance amending the Insolvency and Bankruptcy Code, 2016, (IBC) to insert disqualifications of potential participants in the resolution process of an insolvent has become bipolar and divisive. Television channels are going breathless airing alternative views on alternate days. Columns (including in this paper) have attributed motives and sought to call out “canards” — a classic “Hindu-ho-ke-Musalmaan” type of zeal seen only in “holy wars” claiming righteousness.

The very nature of this fight makes it evident that the ordinance is good politics. However, in the process, the sweep of the real problem posed by the ordinance runs the risk of remaining unaddressed, risking the very effectiveness of the IBC.

The disqualifications introduced should first be noticed. The ordinance lists various categories of persons who would stand disqualified from participating in a resolution plan. In addition, any promoter of such disqualified person, and indeed any “connected person” with such disqualified person also stands disqualified. The term “connected person” includes all “related parties” and “associates” of the disqualified person. In other words, once any person is disqualified, the scope and sweep of the disqualification is expansive.

Now, three categories of disqualification in the list clearly are amenable to the charge of not having been thought through, and will have mindless and unintended consequences.

First, the disqualification of any borrower that has been classified as a “non-performing asset” and has stayed in that status for over a year. At first blush, this would appear logical — obviously an entity that is unable pay its own debts cannot be involved in resolving the problems for another insolvent. However, every “related party” of such entity and every associate too would automatically stand disqualified.

To take just the term “related party”, under the IBC, any company with common shareholding of just 2 per cent would be a related party. The term “associate” would be even more problematic — but the minute detail is not necessary to make this point. Therefore, if a business goes bust for any reason whatsoever, every promoter of that business, and every related party and associate can never participate in any resolution plan for any other insolvent under the IBC. It is not even the case that only the resolution of the disqualified person would be barred. Every resolution of every other insolvent under the IBC would be barred. This is extreme, and can wipe out the supply of authors of resolution plans substantially.

Illustration by Binay Sinha

Second, the disqualification of any guarantor of a debt owed by any insolvent under the IBC. This is an inexplicable disqualification. A guarantor of a company’s debt is someone who believes in that debtor and agreed to guarantee that debtor’s promise. When a resolution plan is sought to be made, the guarantor may be able to provide a more realistic price for assets or valuation for a plan since he would have skin in the game and would understand this better. Keeping out such a person from every other resolution plan under the IBC by reason of his having been a guarantor for an insolvent company banishes him from the resolution market in its entirety. Indeed, every related party and every associate of every such guarantor too stands disqualified from all resolution activity.

Third, the disqualification of any person (and indeed, of every related party and associate of such person) to whom the capital market regulator may have issued directions not to deal in securities or access the securities market. No time frame of the period, for which the direction not to deal in securities was issued, is set out. The capital market regulator is known to have been trigger-happy in the past, issuing such directions, even on an “ex parte” basis (without a hearing). There is no settled science or rationale for the choice of the length of the directions in the law, and courts disturb or uphold such directions on the basis of the human judgement of nature of the cases before them. This disqualification would take out from the resolution market or any insolvent, a wide range of persons (remember, related parties and associates too are out), for no plausible, objective or intelligible rationale.

One can go on other disqualifications too — for example, conviction for a period of two years, without regard to what the conviction was for. So, if one family member has had an unfortunate tragic criminal conviction, every relative would be banned from the resolution plan market. However, the three examples above would suffice to show how the public debate is wrongly focussed on “good vs. evil” terms — without nuance, and with deployment of blunt weapons rather than sharp instruments.

The IBC ordinance is another example of attempting to write a law to solve a problem that is not properly defined at the threshold. If the problem sought to be solved was to keep out those responsible for the cause of insolvency, from the resolution of that insolvent, the ordinance in its terms is not the solution. The very concept of identifying persons responsible for causing insolvency is problematic to define in a one-size-fits-all manner — which is why the IBC clearly envisages a role for professional resolution professionals and bankruptcy professionals.

It is for these professionals to oversee a resolution plan for insolvent companies. A committee of financial creditors has to approve the resolution plan. It is open to the resolution professional and the financial creditors to weed out misfits from participation. If a resolution professional does not perform well, she is subject to regulatory intervention from the Insolvency and Bankruptcy Board of India, the regulator of these professionals. Instead of studying if this profession performs properly, the ordinance has put the IBC at risk, with an air of misplaced righteousness. It is time to cut out the noise and focus on the gravity of the problem.

The author is an advocate and independent counsel; Twitter: @SomasekharS