Rajiv Choubey explores the evolution of law surrounding insolvency and bankruptcy, and how regulations designed to protect sick companies had been misused until the Insolvency and Bankruptcy Code was enacted

Insolvency and Bankruptcy Code 2016

The enactment of the Insolvency and Bankruptcy Code, 2016 (IBC), was a new dawn for India’s legal system. The code has been a game changer in the way Indian promoters (majority shreholders) and companies function and approach borrowings and debt. The government of India started this reform in the early 1990s, and via the dismantling of the Controller of Capital Issues (CCI) and removal of all kinds of controls and restrictions on pricing, timing and design of capital issues, corporate India subsequently witnessed a rise in fundraising activity.

While many of these companies were doing well, they were reporting losses year after year, leading to an erosion of their net worth. Many of these were industrial companies and in accordance with provisions of the Sick Industrial Companies Act (SICA) had to be mandatorily referred to the Board for Industrial & Financial Reconstruction (BIFR), a quasi-judicial body. Under section 22 of SICA, once a reference was made to BIFR and an inquiry was pending, or any scheme was under implementation, the board was empowered to grant a stay of all legal proceedings, including a proceeding for the winding up, or for execution, distress or the like, against any of the properties of the company or the appointment of a receiver.

Further, no lawsuit for the recovery of money or for the enforcement of any security against such a company, or of any guarantee in respect of any loans or advance granted to the company would proceed, except with the consent of the board.

While many companies suffering genuine industrial weakness were revived, saving jobs and debts due to the creditors, many ingenious promoters misused the protection provided under section 22 of SICA.

Under SICA, despite defaults and delays in payments of interest and loans, the promoter/s and management continued to own the assets and run the business as they wished.

A committee, headed by noted economist Omkar Goswami, was set up to examine and make recommendations regarding the various aspects of industrial sickness and corporate restructuring. It observed in its report: “There are sick companies, sick banks, ailing financial institutions and unpaid workers. But there are hardly any sick promoters. There lies the heart of the matter.”

To address the issue of recovery of money by banks and financial institutions, the government brought in the Recovery of Debts Due to Banks and Financial Institutions Act, 1993, which was then replaced with the Securitization and Reconstruction of Financial Assets & enforcement of Securities Interest Act, 2002. However, it could not address the need for restructuring of loans, non-performing accounts and debt in a timely manner. The Supreme Court, in Swiss Ribbons Pvt Ltd v Union of India, concluded that earlier experiments in terms of legislation had failed – “trial” having led to repeated “errors” – ultimately leading to enactment of the Insolvency and Bankruptcy Code.

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