The Insolvency and Bankruptcy Code’s Controversial Sec. 29A: The June Review

This post has been written by Mallika Sen.

An Introduction to the Insolvency and Bankruptcy Code, 2016

The Insolvency and Bank Code, 2016 (IBC) is India’s primary law on bankruptcy and seeks to provide a single, integrated framework and fast-track, time-bound process for resolving insolvency in companies and amongst individuals. In June 2017, RBI directed banks to initiate insolvency proceedings against 12 major defaulters who accounted for nearly 25% of the total non- performing assets (NPAs) held by Indian banks. The implementation of this Act, however, has remained restrained by constant and excessive litigation, and the Government of India has attempted to minimize the same by plugging existing loopholes through amendments. This post looks into two primary issues, first, the impact of the judgement dated June 4th, 2018, delivered by the Mumbai bench of the National Company Law Tribunal (NCLT), holding that Section 29A of the IBC cannot be applied retrospectively, and second, the amendment ordinance promulgated on 6th June 2018, with specific reference to amendments made to Section 29A, dealing with the eligibility of promoters as bidders, as part of special provisions made for micro, small and medium enterprises (MSMEs).

Section 29A of the Insolvency and Bankruptcy Code, 2016

Section 29A was introduced into the code through an amendment published in the Gazette of India in January 2018, deemed to have come into effect from 23rdNovember, 2017. It sought to specifically exclude promoters from bidding for their own companies which are going through the Corporate Insolvency Resolution Process (CIRP) under the IBC.

The purpose behind the introduction of Section 29A was to prevent promoters from re-acquiring their own companies at a discounted rate through the CIRP. In spite of the amendment, some promoters remain determined to retain control of their failing enterprises. The Ruias of the Essar Group is one such example of promoters who have put up a determined fight to retain control of their one- time crown jewel, Essar Steel. One of the bids submitted for Essar Steel was from Numetal Mauritius, which is a consortium led by VTB Bank from Russia, which has been a long- time financier of the Essar Group, along with a trust controlled by a Ruia family member. Although this bid was rejected by the administrator, Numetal appealed the decision and the matter will not be heard until late July. This not only suspends the fate of Section 29A in legal limbo but also stretches the CIRP far beyond the strict 270-day timeline provided for in the IBC, 2016.

The June 4th Judgement of the NCLT in the matter of Wig Associates Pvt. Ltd.

The controversy over Section 29A becomes particularly relevant and exceedingly pressing, in light of a recent judgement of the Mumbai bench of the National Company Law Tribunal (NCLT), in the matter of Wig Associates Pvt. Ltd. Herein, Judicial Member M.K. Shrawat decided in explicit contradiction to the provisions of the IBC, holding that “any amendment to a statute affecting the legal rights of an individual must be presumed to be prospective unless it is made expressly or is impliedly retrospective,” and thus Section 29A, which bans promoters from bidding for their own companies, cannot be applied in cases filed before November 23rd, 2017. This is welcome news for the big 12 defaulters, as, if the Mumbai NCLT ruling is applied generally, promoters like the Ruias and the Singhals stand a chance to recover their financially beleaguered enterprises.

This ruling is in direct contradiction to Section 30(4) of the Code. According to this provision, the Committee of Creditors (CoC) cannot accept a resolution plan submitted before the November 2017 ordinance unless it is in line with the requirements under Section 29A, and if there is no such resolution plan, the resolution professional must invite fresh bids. What is important to note, however, is that Section 29A does not permanently disable promoters from bidding for their companies. They become eligible to submit a resolution plan upon clearing overdue amounts with interest, thus the hard-line stance of the NCLT seems uncalled for.

The Government can counteract the NCLT judgement in two ways, either by appealing the NCLT judgement to the High Court or explicitly providing for retrospectivity through a fresh amendment.  At this crucial juncture, the Government must act quickly, as if the ruling by the Mumbai NCLT bench is applied generally, it will create a major roadblock in the resolution process of companies which may be nearing the end of CIRP, by allowing the bidding process to be reopened upon pressure from promoters.

The June 2018 (Amendment) Ordinance to the IBC, 2016

The President, on 6th June 2018, promulgated the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2018, which has once again, brought in major changes to the law. The most notable amendment has been the inclusion of home-owners within the category of financial creditors, giving them the right to take real-estate companies to Court under the IBC. This amendment has also proved controversial, with parties divided in their opinion, some heralding it as a much-needed recognition of home-owners rights, while others criticising it for effectively undermining authority under the Real Estate (Regulation and Development) Act, 2016 (RERA).

This post, however, deals with the other major amendment in the 2018 amendment ordinance, which relates to special provisions for MSMEs under Section 29A of the IBC. The June amendment has eased the strict disqualifications under Section 29A in the case of MSMEs, by allowing promoters to bid for their own enterprises in cases where the annual turnover of the company is less than Rs. 250 crore. This is, provided that the promoter is not a wilful defaulter and is also not disqualified by other provisions not related to default. The reasons for the same have been clarified by the Ministry of Corporate Affairs through a press release. It stated that, given that MSMEs form the backbone of the Indian economy, being the second largest employer after the agricultural sector, it was necessary to make special provisions for MSMEs. At the same time, the Government has left the option open to introduce a ‘debt threshold’ which must be met in order for MSMEs to qualify for utilizing the exception, so as to disqualify companies which have large amounts of unpaid loans, but a low turnover, preventing misuse of the exception.

This amendment is in consonance with the recommendations made by the Insolvency Law Committee, which had recommended relaxation of disqualifications for MSMEs given that smaller companies would largely attract interest from the promoters themselves, and other companies may not be interested in bidding for insolvent MSMEs, as opposed to larger insolvent companies such as Essar Steel and Bhushan Steel, having a much larger asset pool.

This meets the larger goal of the IBC as a legislation, which is to promote resolution, rather than liquidation. If promoters were to continue to be excluded from the bidding pool for MSMEs, the lack of resolution applicants would result in a situation where businesses would be forced to go into liquidation instead. This would have an adverse impact on national employment, with all of those employed in the enterprise being liquidated, losing their jobs. Thus, this is most certainly a welcome amendment, as it will go a long way in promoting resolution over liquidation in the case of smaller insolvent companies, saving the jobs of many.

Conclusion

On the narrow question of retrospective application addressed in the recent NCLT judgement, it is best that Section 29A be applied retrospectively so that those CIRPs that are near completion are not reopened once again. Moreover, it would be prudent for the Government to explicitly provide for the same through another amendment. The exception carved out for MSMEs is also a smart move by the government to ensure resolution rather than liquidation.

The jury is still out on the larger question of whether or not promoters (of non-MSME companies) should be allowed to bid for their enterprises at all. Section 29A of the IBC remains embroiled in controversy with several industry players criticising it for being too wide, and not taking into account the fact that insolvency may often be on account of market factors such as competition or exchange rates, and thus may not, in any way be attributable to the promoters. Therefore, although Section 29A as it presently stands allows promoters to bid if they clear their outstanding loans, the ideal situation would be one wherein the cause of insolvency and the promoter’s role in it, if any, is assessed on a case- to- case basis before rejecting a bid from a promoter. Although this may result in a slight compromise on efficiency and potentially extend the resolution timeframe, the Government should consider amending the IBC in such a fashion, as for optimum resolution, the CoC should accept the best bid, which may very well in certain cases be from the promoters.

 

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