A DISTRESSED FINANCIAL SECTOR’S CALL FOR HELP AND A FAILING RESPONSE MECHANISM
The year was 2002 and the financial sector was crippling. Desperate distress calls for help, answered with the institutionalization of the SICA Act followed by the DRTs had evidently failed. The banks had lost huge amounts of money to willful defaulters and were unable to recover their dues, thanks to a slow redressal mechanism, which saw a huge increase in NPAs and subsequently bad debts, paralyzing the backbone of the economy.
With great hope for a turnaround, the then Finance Minister, Arun Jaitley, introduced the Securitisation and Reconstruction of Financial Assets Enforcement of Security Interest Act, 2002 (SAARFAESI). This seemed promising in its initial stages since it allowed the financial creditors to recover their dues without approaching the courts. However, this could not live up to its expectations as well and did very little to pull the financial sector from its course of distress.
THE BIRTH OF IBC, 2016
With mounting pressure on the government to reform the financial sector and reduce the NPAs, the finance minister, Arun Jaitley, introduced the Insolvency and Bankruptcy Code in 2016. Owing to the overriding powers of this code, SAARFAESI Act was heavily amended so as to bring it in line with the provisions of this code. The essence of the code is to shift the control of the defaulting company from its existing management and shareholders to a management run by a conglomerate of the financial creditors called Committee of Creditors as given by Section 21. The code still in its initial phase appear to be promising and can prove to be a game changer if it does live up to the expectations, pulling India out of its financial woes.
INITIATION OF PROCESS BY FINANCIAL AND OPERATIONAL CREDITORS
This code classifies the creditors into two types:
- Financial Creditors
- Operational Creditors
The code was brought into effect with the purpose of strengthening the financial sectors and therefore they have been given preferences over the operational creditors as evidenced by Section 21.
AN INSIGHT INTO SECTIONS 7, 8 AND 9
Section 7 of the code states the manner in which a financial creditor can apply for initiation of the Corporate Insolvency Resolution Process. As per Section 4, in case of a default of more than 1 crore, a financial creditor can apply to the adjudicating authority and file for the initiation of corporate insolvency resolution process against the corporate debtor. The adjudicating authority, in this case, the NCLT, shall within 15 days either admit or reject the claim. In case the claim is rejected, the applicant is given a time frame of 7 days to rectify the defects in the application and re-apply to the NCLT.
On the other hand, the manner of application of initiation of such process by the operational creditor is laid down in Sections 8 and 9. Section 8 requires the creditor to give a demand notice to the debtor asking for payment. Within 10 days, the debtor has to reply to the notice stating either the existence of a dispute, for instance, the quality of product delivered not being the one which was ordered, or has to show the payment of unpaid operational debt by sending an attested copy of the record of electronic transfer of the unpaid amount from the bank account of the debtor or by sending an attested copy of record that the creditor has encashed the cheque issued by the debtor.
If such a communication is not received by the creditor within 10 days, Section 9 allows the creditor to apply to the NCLT for initiation of CIRP, with documents such as the notice for demand, an affidavit stating the non-receipt of reply within 10 days, the existence of a debt. The NCLT shall within 14 days either admit or reject the claim. If rejected, the creditor will be given a time period of 7 days to rectify the defects in application and re-apply to the NCLT.
CORPORATE INSOLVENCY RESOLUTION PROCESS
Once admitted, the directors and shareholders of the company lose their powers and Section 12 gives a time frame of 180 days subject to an extension of further 90 days to design a resolution plan to revive the company from its financial difficulties under the management of the conglomerate of the financial creditors, through constitution of a Committee of Creditors (COC). An Interim Resolution Professional under Section 16 is appointed by the NCLT, who within 30 days shall call upon the creditors to submit their claims and verify the same and also constitute the COC, conducting their first meeting within 7 days from the date of their constitution. In the meeting conducted under Section 24, they shall decide whether the IRP will continue as the Resolution Professional or should he be replaced. Once this decision is made and a Resolution Professional is appointed, the applicant shall be handed over the Information Memorandum prepared under Section 29 to design a Resolution Plan. This plan is then approved by the Resolution Professional and then sent to the Committee of Creditors. Upon approval of the plan by the COC, it shall be then sent to the NCLT for approval. If the NCLT approves the plan, the company will have to operate as per the guidelines given in the plan, in an attempt to revive the company.
If the plan is rejected by the tribunal, or is not adhered to after approval by NCLT or by a vote of 66% shareholders, the plan is not prepared, NCLT may order for liquidation of the company through the process laid down in Sections 33 to 58.
