Giving creditors their fair share

By Mahesh Agarwal, Agarwal Law Associates

Protecting the interests of operational creditors is key to IBC’s success, writes Mahesh Agarwal

The preamble of the Insolvency and Bankruptcy Code, 2016 (IBC), lays out the code’s dual objectives of “maximization of value of assets” and to “balance the interests of all the stakeholders”. While maximization of value is achieved by following an open competitive process of selection, the code does not provide clear guidance on how to balance the interests of the stakeholders in the case of a resolution. This has led to conflicts between financial creditors and operational creditors.

Mahesh Agarwal

The success of the code can be seen in the statistics provided by the Insolvency and Bankruptcy Board of India (IBBI). According to March 2019 data, 1800 corporate debtors have been admitted to the corporate insolvency resolution process (CIRP), since the inception of the code. Of these, 152 have been closed on appeal or are under review or have been settled, 91 have been withdrawn, in 94 cases resolution plans have been approved and 378 companies have ended in liquidation. Credit rating agency CRISIL reported that in the fiscal year 2018-19 approximately ₹700 billion (US$10 billion) was recovered from cases resolved under the code, which is twice the amount recovered under previous regimes.

The process

CIRP starts with the admission of a company to the IBC and the appointment of a resolution professional (RP). The Supreme Court has held that the role of the RP is merely administrative and they are not required to perform quasi-judicial functions. The RP invites claims from financial and operational creditors. The resolution plan is required to provide for payment to both types of creditors. The RP then conducts the process and invites resolution plans from eligible interested parties. The approved plan is then placed under section 31 of the code before the adjudicating authority, the National Company Law Tribunal (NCLT), for its approval. Once approved, the resolution plan becomes final and binding on all stakeholders.

The imbalance

The committee of creditors (CoC) comprises financial creditors and operational creditors, whose claims constitute at least 10% of the total debt. Small trade creditors, employees, suspended board of directors, shareholders, etc. do not have any voting right in the CoC. Financial creditors enjoy voting strength and control decision making in the CoC. Interests of financial creditors are in direct conflict with those of operational creditors, and financial creditors would not like to share any sizeable portion of the payout with operational creditors.

Unlike section 53 of the code, which provides a waterfall for consideration of claims during liquidation, there is no provision in the code that sets out the priority between various stakeholders in the case of resolution. Section 30(2)(b) only mandates that payment of operational creditors shall not be less than what they would receive in liquidation, which is usually negligible.

The need for balancing the interests of stakeholders cannot be emphasized enough. The continued support of operational creditors, suppliers of goods and services and employees are essential for the effective revival of a company. The failure to provide a fair and reasonable offer to operational creditors would only multiply insolvencies as they also have debt obligations. The absence of statutory provisions to balance the interests of stakeholders has led to the courts providing direction to the process. In the Binani case, the adjudicating authority (upheld by the National Company Law Appellate Tribunal and the Supreme Court), rejected a plan that was discriminatory to similarly placed creditors. The Supreme Court, in the Swiss Ribbon case, has held that, “the CIRP regulations strengthen the rights of operational creditors by statutorily incorporating the principle of fair and equitable dealing of operational creditors’ rights together with priority in payment over financial creditors”.

In the Mobilox Innovations Ltd v Kirusa Software Ltd case, the Supreme Court cited the Legislative Guide on Insolvency Law of the United Nations Commission on International Trade Law, which states that, “Generally, the mechanism must strike a balance not only between the different interests of these stakeholders but also between these interests and the relevant social, political and other policy considerations that have an impact on the economic and legal goals of insolvency proceedings.”


The NCLAT has repeatedly observed that it is the duty of the CoC to make sure that a reasonable and non-discriminatory treatment is provided to operational creditors. According to an affidavit filed by the IBBI, the ratio of recovery between financial and operational creditors ranges from 69:0 to 100:98, with an average recovery of about 46% to operational creditors. This shows a huge disparity and the only remedy available to an operational creditor is to approach the NCLT raising objections to the distribution and seeking fair and non-discriminatory treatment.

The trend of judicial opinion before the NCLT and the NCLAT has been to safeguard the interests of operational creditors and, hopefully, judicial precedence would develop to ensure a fair balance.


MAHESH AGARWAL is the managing partner at Agarwal Law Associates.
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