Corporate rescue is a primary and distinctive characteristic of insolvency resolution, which essentially empowers creditors to reclaim dues with minimum losses from a stressed company of the corporate debtor. Further, it formulates a plan for the debtor to make the business viable again. Moreover, corporate rescue becomes stringent, when a company has inherent stress with inadequate funds to setback its liabilities but inherent stress is seen as an isolated occurrence, which is distinguished from the asset mismatch liability or default in debts repayment.
Consequently, with the enactment of the IBC Code, 2016, India has progressed in resolving the insolvency occurrences. According to the World Bank Group’s Doing Business Report, India has improved its rank in the last three years from 136 to 52.[i] Further, in the “Ease of Resolving Insolvency,” India moved up from 111 in the year 2017 to 47 in 2020.[ii] In order to continue its operation of ‘resolving insolvency’ and ‘ease of doing businesses, the Central Government promulgated IBC (Amendment) Ordinance 2021[iii] on 4th April 2021 and inserted a new Chapter III-A for the commencement of “pre-packages” insolvency process for the corporate debtors, such as Micro Small or Medium Enterprises (MSMEs) with defaults up to Rs. 1 crore[iv]. Also, the ordinance concentrates on reviving the failing status of businesses, financial markets, and companies, which are affected by the force majeure circumstances such as Covid-19 and undergoing liquidation or financial distress.
Last year, the government had taken several measures in resolving the insolvency caused by the Covid-19 crisis, including (Corporate Insolvency Resolution Process) CIRP was allowed on the defaults concerning up to Rs. 1 crore and hold up the filing of the new application of CIRP in association with the defaults arising from 25 March 2020 to 24 March 2021. The IBC (Amendment) Ordinance 2021 has removed this temporary abrogation of insolvency proceeding against Covid-19 related defaults.
WHAT IS THE PRE-PACKAGE INSOLVENCY RESOLUTION PROCESS?
The pre-pack is an out-of-court restructuring plan, which is initiated by the corporate debtor with 66% consent of its financial creditors[v], in value of the financial debt. The resolution plan is proposed prior to the commencement of any event of default/start of insolvency. After the acknowledgment of the plan, it requires formal approval of National Company Law Tribunal (NCLT) to set foot into the insolvency system, thereby giving the resolution plan statutory backing. MSME businesses are extensively controlled by promoters and it takes strenuous efforts to resuscitate the management if it is ousted under the CIRP. Under pre-pack, only eligible promoters are encouraged for participation, with the board of directors continuing in control and corporate debtor proposes a base resolution plan, which then moves to competitive bidding through the Swiss challenge. Ultimately, it provides flexibility to the CD to appear at a best-suited, less disruptive and consensual restructuring plan with creditors and addresses the liability side of the company.
PREPACK VIS-À-VIS CORPORATE INSOLVENCY RESOLUTION PROCESS
The most prominent feature of the pre-pack is that it authorizes the Board of Directors to control the affairs of the corporate debtor unless there is any condition specified. Whereas in CIRP, a resolution professional (RP) manages the affairs of the company in accordance with the financial creditors, and under which creditors can commence the bankruptcy proceeding against MSMEs.
Further, the Pre-pack insolvency resolution process undertakes 90 days for submission and 30 days for approval by the NCLT. Thus, in totality, it requires to complete within the period of 120 days from the date of commencement. But, the completion of CIRP takes a maximum of 270 days.[vi] Given that, MSMEs have finite capital to undergo a lengthy and exhaustive insolvency process, the mitigation in the time limit for resolution provided by Pre-pack comes as protection for insolvent MSME's.
Since the Prepack Insolvency Resolution Process is only stimulated by the debtor with the consent of 66% of its unrelated financial creditors, which reduces the probability of disagreements, and provides faster resolution, better efficiency, and cut costs as compared to the CIRP. Further, it reduces litigation and restricts ineligible promoters from taking control of their firms. It offers help to MSMEs, who face difficulty to cope with the destruction wrought by the Covid-19 crisis.
PROCEDURAL COUNTERPOISES: PRESERVING THE CREDITORS’ RIGHTS
The Pre-pack is based on a debtor-in-possession proposition with 2/3rd consent of financial creditors for both initiation and approval of the base resolution plan, in order to restrain defaulting promoters to misuse the mechanism. Section 29A of the IBC[vii] puts barriers on ineligible promoters from submitting a resolution plan or from participating in the sale of assets of the liquidating company as they contribute to the downfall of the corporate debtor company. If operation creditor claims are impaired, then they can secure their claims by market testing. Further, in the case of fraud or mismanagement, creditors by 66% majority of voting can covert Pre-pack into CIRP through the intervention of Adjudicating authority. Moreover, the Swiss challenge keeps possession of competitive rigidity that promoters put forward the resolution plan with the least damage to rights and claims of creditors.
The scheme is accessible to entities, which have never undergone bankruptcy or have faced liquidation instruction in the preceding three years. Further, this scheme does not help the company whose majority of the shareholder is under insolvency or willful defaulter.
Further, section 67A and 77A[viii] are added to provide strict sanctions for frauds, false information, etc. over the companies of the corporate debtor. This insertion is brought in order to render ameliorated resolution mechanism for the corporate debtors. Also, it protects the interests of creditors from any sort of manipulation.
THE DRAWBACK OF PRE-PACK INSOLVENCY
• Lack of transparency – In Pre-pack, the financial creditors with an investor make an agreement privately to reach the liabilities of the distressed company and not through an open bidding process, which affects the operational creditors’ rights. The plan is evaluated based on the submission made by the creditors and investor. The interest of stakeholders, especially the operational creditors is nullified, raising issues of fair treatment.
• Insufficient marketing – Since the Pre-pack is a contract between financial creditor and debtor. It creates concerns for the creditors to maximize the value of the business & assets, as owing to the inherent feature and limited time of the pre-packs, marketing opportunities are finite. The Insolvency Professional (IP) inspects the market and approaches potential buyers but that does not display the assets of the distressed company for sale in the open market. Instead, the IP depends upon the independent valuations.
FORTHCOMING RESULT OF PRE-PACK
The disposal of a pre-pack application has given preference over CIRP under Section 7, 9, and 10 of the IBC.[ix] In the instance, where CIRP is pending, then adjudicating authority concentrate on disposing of the CIRP before considering the Pre-pack for relevant debtors. Consequently, Pre-pack applications are effective in the future and overriding impact in these regards. This rule follows a hybrid approach with regard to the insolvency resolution of MSMEs stabilizing the creditor’s interest and protects the autonomy of MSMEs. The Pre-pack carefully assess, set and adjust the legislative attempt at buffering the hysterical effects on many MSMEs facing catastrophic transition because of the Covid-19 crisis.
This ordinance is come up as an aspiration for the MSMEs to get rid of their destitution. However, the execution for the same required to be integrated with a better NCLT infrastructure facility. In conclusion, Pre-pack is a much-needed and desired measure at this moment but its actual effects can only be determined in the future. Dissenting financial creditors can obstruct the negotiation process of pre-pack by diverting it from its intended course. A pre-pack negotiation can violently slide the recoveries from creditors under different regulations, which can lead to departure from resolution, liquidating the assets with the least asset value of the debtor’s company under Section 14 of the IBC.[x] With the introduction of Pre-pack, IBC code is developing gradually with a high level of proficiency and efficient mechanism to resolve distress for enterprises. Pre-pack evolve as the best alternative method to realize the value, identify the cause, and carry out the decision of the corporate debtors.
[i] World Bank, Ease of Doing Business Reports for various year, https://www.doingbusiness.org/en/data/exploreeconomies/india
[ii] Report of the Sub-Committee of the Insolvency Law Committee on Pre-packaged Insolvency Resolution Process, Page 1,October 2020 https://www.ibbi.gov.in/uploads/whatsnew/34f5c5b6fb00a97dc4ab752a798d9ce3.pdf
[iv] Neha Dewan, “Centre promulgates IBC amendment ordinance to allow pre-packaged insolvency for MSMEs”, THE ECONOMIC TIMES, 07 April, 2021
[v] FE Bureau, “Pre-pack insolvency scheme takes effect”, FINANCIAL EXPRESS”, 10 April 2021
[vi] InCorp Advisory, “Pre-Packaged Insolvency Resolution Process announced for MSMEs (Amendment) on 4th April 2021”, IN CORP, 14 April 2021
[vii] Megha Mittal and Vinod Kothari, “IBC Se. 29A in Post COVID World- To Stay or Not To Stay”, TAXSUTRA, 24 September, 2020
[viii] IBC LAWS, “Important Provisions of MSME Pre-packaged Insolvency Resolution Process”, IBC LAWS, 06 April, 2021
[ix] See Supra Note 8
[x] See Supra Note 8