The Insolvency and Bankruptcy Code (IBC) or bankruptcy law, which took off with ruthless efficiency in 2016, is in a shambles today plagued by charges of corruption, fixed deals between corporate houses and lenders. Compounding the problem is a big shortage of qualified people to enforce the law, leading to dubious judgements.
On 22nd July, our columnist V Ranganathan called the Supreme Court (SC) order by the bench comprising justices Indira Banerjee and JK Maheshwari on Vidarbha Industries a 440-Volt shock to the bankruptcy code. For one, it has put the operational creditor on a better footing than the financial creditor. But worse, he says, the order struck at the very core of the bankruptcy process by giving the National Company Law Tribunal (NCLT) the discretion to admit or reject initiation of the insolvency process even when there was a real default!
This means that every company would waste precious time arguing against admission of cases, badly delaying the already flagging timelines of a creaking Act. So, it will be back to the pre-bankruptcy code days for creditors when the mere existence of a default wasn’t enough; creditors needed to establish the default before winding up proceedings could start.
The legal community and the media have taken a month to wake up to the implications which overturn past legal precedents establishing the primacy of the committee of creditors (CoC) comprising secured financial creditors. A review petition may be filed to clarify things; but since Vidarbha Industries is a part of the Anil Dhirubhai Ambani Group (ADAG) the reaction of the legal community is perhaps muted.
At the same tim the government needs to examine and address the problem, if any, of private infrastructure companies, such as Vidarbha Industries, which has claimed that the loan default occured because of pending legal disputes that blocked its ability to pay. This takes us to a stickier ground and opens the doors to a new set of contrived disputes (over tariffs, cost overruns, quality, etc) which would derail the bankruptcy law for infrastructure companies anyway.
Let’s not forget that a large part of the delay in resolving the failed Infrastructure Leasing & Financial Services (IL&FS) is due to claims and counter-claims by different classes of creditors which have remained unresolved in all cases where a dominant equity holder is not available to take over a special purpose vehicle (SPV). It is the same with the real estate sector, where the Supreme Court repeatedly came to the rescue of home-buyers. It is only in June 2022 that the insolvency and bankruptcy board of India (IBBI) invited suggestions to address these issues and ensure expeditious resolution of real estate projects.
Corruption and Fixing
This Vidarbha order is only the latest in a series of blows to the credibility of the bankruptcy process. Allegations of rampant corruption and fixing, that have dogged this legislation, have never been addressed, despite prime minister (PM) Narendra Modi’s promise to crack down on corruption in 2014. Over a year ago, industrialist Harsh Goenka tagged @PMOIndia and tweeted: “Promoters stash away money on the side, take the company to the cleaners, get a 80-90% haircut from bankers/NCLT—that’s the new game in town. A lot of institutions cleansed by the government - NCLT next please @PMOIndia. We can’t have our hard earned public money being stolen!” That was when bankers had willingly accepted haircuts of 90% or more which had led to public outrage. Media reports had suggested that the government was planning a review of the insolvency code. Nothing has happened.
There are only two reported cases of the central bureau of investigation (CBI) having intervened on charges of corruption. The first was in January 2020, where an interim resolution professional (IRP) was arrested for receiving a bribe of Rs3.5 lakh by threatening to file a criminal case against someone. The next was in April 2022 when the CBI laid a trap on arrested an IRP in Pune for demanding Rs20 lakh from a company to ensure that there was no coercive action against it.
As against this, on 11th August, ET Prime published an explosive report about a Rs1,000 crore “cash-for-orders” scam where a resolution professional (RP) has alleged that a recently retired technical member of the NCLT, Chennai, had been delivering crucial orders in favour of the highest bidder. He has sought a CBI investigation into these allegations.
The report says that RPs and even chartered accountants have filed many complaints with the government; but, instead of ordering a detailed investigation, authorities ask them to provide proof to back their charges. Meanwhile, rampant corruption and collusion between lenders and failed businesses with complicit RPs is an open fact. The draconian nature of the law, which was meant to ensure speedy resolution, has left many operational creditors with valid claims (home-owners, depositors and infrastructure project contractors) in the lurch. These remain unaddressed.
Let’s not forget that large corporate defaults only accumulate after years of collusion between banks and borrowers, when banks turn a blind eye to the diversion of funds and ever-greening of accounts. The bankruptcy law now allows the same secured lenders to close these loans with massive write-offs or allow them to be bought cheap through a seemingly-independent front entity.
Vacancy and Competency
While corruption remained untouched, the resolution effort is further hit by a shortage of judicial and technical members. Moneylife reported recently that nearly 50% or 30 posts out of the 63 sanctioned for members of NCLT are vacant. Action to fill up these vacancies is slow and sporadic. There is the curious circular saying NCLT has decided to hear only urgent cases via video conferencing that was hurriedly withdrawn as though to avoid public acknowledgement of a genuine problem.
The issue is not about vacancies alone—the quality of persons appointed to the NCLT, as evident in some of the orders issued, is often a bigger embarrassment. This has not been addressed in the past six years. Earlier, the government did not extend the tenures of NCLT members who had complaints against them, but the next round of appointees will have a mandatory five-year tenure with the potential for bad appointments to do a lot more damage.
Since many NCLT members do not have the requisite knowledge of business, accounts, finance or law, we hear that legal firms prepare orders, which are typed and issued without any change. Some RPs insist that, unless the government works at creating a dedicated cadre of professionals under the IBBI, the results of resolution processes will remain random and patchy.
In the early days of the law, many competent bankers with long experience were keen on participating in the resolution process because they felt that a powerful new law, which was being watched and monitored by the PM himself, would help revive or turnaround many companies under a new management. In less than a year, it was clear that the focus was on six of seven large defaulters. These remain the big show-pieces on which the efficiency of the Act continues to be touted. The reality is that the bankruptcy legislation needs to be quickly amended and fixed because it is already sliding into oblivion like a dozen earlier laws that were passed with the laudable objective of reviving sick businesses.
Earlier this month, it was reported that the government is, indeed, planning to amend and strengthen the IBC and reduce delays. But new orders and new challenges appear to be surfacing faster than the proposed reform. In any case, amendments to a law with far-reaching consequences, like the bankruptcy code, ought not to be done furtively or in haste. It needs wider discussion and comprehensive action or we will end up with patchy fixes.
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