Aditya Kashyap and Arnika Dwivedi
(Students, Symbiosis Law School Pune)
The original objective of the Indian Insolvency and Bankruptcy Code, 2016 (IBC) is undermined by systemic problems like exploitation, delays, and collaboration. Operational creditors are frequently denied equitable treatment in spite of legal reforms. Enhancements to insolvency procedures that take inspiration from international best practices may bring efficiency and justice back. Envision a framework that was intended to bring financial equilibrium back, but was taken over by dishonest collaboration and rife with structural flaws. Originally intended to be a lifeline for faltering businesses, the IBC has increasingly been used as a weapon for exploitation. The experts tasked with maintaining equity are involved in a covert plot, transferring resources to enrich a small group of people while leaving operational creditors with nothing. What was once a ray of hope has become a perilous environment where the promise of justice dwindles into a far-off illusion and delays and loopholes prolong resolution deadlines. The issue still stands in the shadow of this collapsing framework: Is the IBC irreparable or can it be saved?
IBC’s Dark Underbelly: Collusion and Delays
The efficiency of the IBC is gradually declining as a result of new systemic problems. The average “haircut” for creditors in FY 24 was a startling 73%, with financial creditors experiencing 68% lower recovery. Only 15% of the 4700 cases that were resolved by Q1 FY24 ended in satisfactory resolutions, while 45% were liquidated. Delays have been made worse by the fact that the average resolution time has doubled to 630 days, which is much longer than the recommended 330-day limit.
Recoveries under the IBC have been pitiful, totalling only Rs. 2.67 lakh crore (32.6% recovery rate) against Rs. 8.18 lakh crore in acknowledged claims. Long-running litigation is mostly to blame for this subpar performance, which shows a departure from the basic aim of the code and growing worries about low recovery rates.
Systemic collusion between Resolution Professionals (RPs), Financial Creditors (FCs), and Corporate Debtors (CDs) is shown by concerning judicial observations. Courts have observed this collusion, using loopholes such as the Clean Slate Principle (Section 32A) and Section 30(2)(b) to transfer liquidation assets disproportionately to FCs, as demonstrated in the case of National Sewing Thread Co. Ltd v. TANGEDCO. Despite being required to guarantee equitable distribution, the RP frequently favours FCs while ignoring Operational Creditors (OCs).
Important problems including the Committee of Creditors’ (CoC) concentration, information memorandums’ lack of transparency, and insufficient protections throughout the RP selection process all increase the possibility of skewed results. These shortcomings continue despite sporadic judicial intervention, turning the IBC into a haven for exploitation rather than an equitable means of resolving disputes.
How the IBC System Betrays Operational Creditors at Every Turn
The fair allocation of liquidation assets is threatened by concerning cases of collaboration between RPs, the CoC, and CD, as evidenced by recent court findings and case law. Operational creditors are frequently given less priority than FCs, whether they are secured or unsecured. Even in cases where there may have been measures to guarantee a more equitable distribution, this pattern leads to the majority of the liquidation, and this pattern leads to the majority of the liquidation estate going to FCs, leaving OCs with nothing.
At first, RPs were only needed to make sure that the resolution plan reflected the minimum liquidation value owing to OCs under Section 53, they were not legally obligated to ensure a fair division of assets. Because of this limited position, the RP, FC, and CD frequently did not take proactive steps to safeguard the interests of OCs. Courts stepped in to address this disparity and give OCs a more equal status in an effort to make things more egalitarian.
However, the judicial system continues to strongly favour FCs. There are still issues even though the Supreme Court maintained the legal distinction between OCs and FCs in decisions like Arcelor Mittal India Pvt. Ltd v. Satish Kumar Gupta and even acknowledged that operational creditors ought to receive equitable treatment under Section 53. The system is still biased in spite of these precautions. RPs have frequently disregarded their legal obligations to provide equitable treatment, which has resulted in large losses for OCs.
IBC was amended in 2019 to make it clear that the distribution must be “fair and equitable”, but this change hasn’t had much of an impact on stopping loophole exploitation. In the Arcelor Mittal Case, for example, operational creditors received only 20% of their money back, whilst finance creditors received over 89%. This glaring discrepancy demonstrates how many in positions of authority continue to abuse the system with little respect for legal requirements.
The disturbing tendencies of collaboration were further highlighted when OCs in another instance, Binani Cemet Ltd, accused the RP of purposefully ignoring their accusations. The RP proceeded to develop resolution plans that disregarded the interests of the OCs and postponed accepting their claims. The RP was chastised by the Adjudicating Authority (AA) for failing to fulfil its statutory obligation under Section 30(2), which requires that liquidation assets be distributed to OCs in accordance with Section 53. Rather, the RP’s actions perpetuated institutional injustice by favoring FCs.
These instances highlight the IBC’s systemic shortcomings, where bias, carelessness and collusion against operational creditors continue in spite of legal protections. This exploitation has serious repercussions since operational creditors are still not receiving their fair share, and the system does not live up to its promises of openness and fairness. The most vulnerable parties involved in the insolvency process are severely disadvantaged because insiders continue to abuse the IBC despite its well-meaning improvements.
Drawing inspiration from global best practices
Drawing guidance from Singapore’s and the United States’ insolvency regimes, the authors suggest that courts should enforce a 30-day mandatory moratorium during which the party submitting the application must submit to the AA for its assessment that a prima facie observation of arbitrability of the dispute has been made out. The CD’s holding company or subsidiaries may also submit this application for a moratorium. The entity that filed the insolvency application is subject to the moratorium imposed under the present Indian Code on insolvency applications by the CD. This arbitration action moratorium will be right in persona rather than right in rem.
Regarding how “Core” and “Non-Core” matters are handled in insolvency procedures, the international arbitration systems provide insightful information. While non-essential issues can be resolved by arbitration, if there is an existing arbitration agreement, “core” concerns such as avoiding transactions under federal bankruptcy law are reserved for court adjudication in the United States. Countries like Singapore, France, and Italy exhibit a similar nuanced division between judicially determined key concerns and non-core matters that are addressed by arbitration. While some jurisdictions like France and Germany, provide arbitration tribunals to consider specific claims involving fraudulent transactions, Singaporean insolvency legislation reserves subjects such as fraudulent or advantageous transactions for court settlement.
Implementing a hybrid insolvency strategy based on Singaporean and UK models could benefit India. When combined with rescue funding, a more flexible, market-driven restructuring model has the potential to greatly improve the insolvency procedure. In restructuring, rescue financing also referred to as DIP financing serves two functions. Depending on how it is set up, it can either simplify the process and lead to positive results or on the other hand, make things more difficult. India might create a consensus-driven strategy that aligns creditor interests with those of the CD by involving pre-insolvency creditors early on, either through the initial credit arrangement or during arbitration processes.
U/s 53, rescue money might be incorporated into India’s insolvency structure with a higher priority for repayment. For instance: Rescue funding could be given priority based on “remaining dues or debts”. The financing may be listed below secured creditors but above unsecured creditors, regardless of whether it is ordinary or non-ordinary. Customized arrangements between the CD & creditors however can improve rescue financing’s standing and guarantee that it draws in the required capital.
Rescue financiers may benefit from this “Super Priority” status, which would enable them to obtain rights over unencumbered assets or a subordinate or equal security interest in assets that are already covered in place. If sufficient safeguards are in place, the Court may in some circumstances give rescue financiers precedence over current secured creditors – a notion taken from the U.S. Bankruptcy Code.
The implementation of Judicial Management could be a smart addition to the insolvency framework. It would enable asset realization in a manner that yields better outcomes than liquidation or offer a window for a negotiated agreement between the business and its creditors. The Court may also issue a judicial management order if doing so serves the public interest. An automatic moratorium prevents attempts to wind up the business or start legal action without the court’s approval when an application is filed. A judicial manager who drafts and submits a restructuring plan for creditor approval would take over. The application would be followed by a meeting of creditors, which would initiate a 30-day moratorium. The business would provide a thorough plan along with supporting documentation for any additional extensions that were required. In a “cram-down” process modelled after Singapore’s creditors would vote on compromises.
India’s framework might establish a standard for business restructuring by fusing local requirements with international best practices.
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