With the spread of Covid-19, the Government decided that it had to “do something”. A good thumb rule is to always beware the government that has to “do something”. And, sure enough, the Government did something. It announced that fresh proceedings under the IBC would be suspended for a full year. If there has ever been a time when the IBC was needed, surely it is now. The Code was specifically put into place to enable companies with stressed assets to be protected from disruptive recovery actions, and swiftly restructured. Restructuring enables creditors to recover their loans, leading to a redeployment of badly-needed credit to more productive industries. For the IBC to be suspended now makes one wonder if the Government truly understands the purpose of a law that it has itself introduced.
Consider the fallout. Creditors are in the business of recovering their loans. And recover they must. With the IBC being suspended, the next time a debtor defaults on its loan, creditors will initiate actions against it under the Recovery of Debts Due to Banks and Financial Institutions Act and the Securitisation Act. Both give creditors wide-reaching powers, and allow them one hand on the company’s assets. How is a company to function under the circumstances? The only logical outcome is job cuts and a decline in worker’s wages, as the company struggles to keep its head over the rising waters.
Moreover, if creditors are going to suffer lower recovery rates due to the hacking away of one of their most potent remedies, it will lead to only one thing – lesser credit for the rest of the market. Banks will have lesser money to offer companies that really need it, and in any event, they will be reluctant to lend, knowing that defaults will entail time-consuming recovery actions.
With the removal of the IBC factor, promoters who can see the end of the road have every incentive to indulge in “asset stripping” to rob the company of whatever value it might have had. Even without such malfeasance, an insolvent company loses value with each passing day. The Government has essentially allowed such depreciation to carry on for a full year.
One other thing. The IBC makes investors pay for a company’s default by wiping out their equity. If investors don’t pay, who will pay for dishonoured loans, unpaid bills and overdue salaries? Ultimately, the taxpayer will pay.
If the IBC had not been suspended, it is likely that the NCLTs would be swamped with fresh filings. But it is not as if the Government has shielded the tribunals from a flood of IBC proceedings. It has only pushed the deluge to a year from now. Once IBC proceedings resume, already understaffed tribunals will have to contend with applications that would otherwise have been spaced out over the course of the year. The system will be paralysed.
The mindlessness with which the Government has gone about this can be seen from the fact that even applications filed by a company for voluntary restructuring (under Section 10) are to be suspended. Apparently, the Government wants the register of companies to be filled with names of zombies.
An opportunity missed
If anything, the pandemic was an opportunity to double down on the Code. The first step would have been to make it lighter and speedier. Do we really need, and can we afford a provision like Section 29A – a laundry list of disqualifications for bidders for insolvent companies (that wasn’t even there in the original Code), which only reduces the number of potential suitors, reduces bid amounts, and increases litigation manifold? This was the right time to acknowledge that it was a mistake and to move on.
Even in the US, Chapter 11 filings are set to increase. A solution suggested in a recent article by two bankruptcy professors at Columbia University is for an increase in spending on court infrastructure. The same applies to India. This was the time for the Government to have announced a doubling or tripling in allocations towards the NCLTs and NLCATs, that adjudicate upon the IBC.
We can only look dolefully at the US, which, when the 2008 crisis hit the auto market, saw companies of the size and heft of General Motors and Chrysler being restructured and sold under Chapter 11 of their Bankruptcy Code, within a matter of weeks. We will soon see the sight of huge companies defaulting on their debts. The economy will have no recourse.
The pre-emptive action by the Government shows that it has no confidence in a law that it has carefully tended to, like a gardener, for the last four years, repeatedly rushing amendments through Parliament whenever some lacuna was noticed in its functioning. It must ask itself why.
