This article has been written by Pramit Chakraborthy, pursuing a Diploma in US Corporate Law and Paralegal Studies and has been edited by Oishika Banerji (Team Lawsikho). 

It has been published by Rachit Garg.

Introduction 

“You cannot have development in today’s world without partnering with private sector” – Hillary Clinton

It is a known fact that the private sector drives any nation’s economy and as a result every developing and developed nation promotes business friendly infrastructure and policies. The other side of the coin is that many private sector companies fail to achieve their target and often go bankrupt. This phenomenon is present in every industry of the world and is known as industrial sickness and concerned companies are known as sick companies. In India the government brought legislation to regulate and to provide relief to sick companies and look for a permanent solution, bank nationalisation in 1969 was one of such measures to build confidence in the economy but it failed to keep its charm and ultimately lost meaning in the ever changing business landscape of the country. Over time the need for specialised regulations were felt.

Historical background of sick companies and the regulations governing them 

In 1956 the Companies Act was introduced to regulate corporate governance and miscellaneous matters in the country however it proved to be of no use in addressing the sickness problem. The Central Government, Government of West Bengal, RBI, along with other banks at a joint meeting held in July 1970 at Calcutta which resulted in them taking certain basic decisions regarding rehabilitation of sick industrial units and after consideration in April 1971 had set up the Industrial Reconstruction Corporation of India Ltd. with its headquarters at Calcutta to fortify the institutional structure for the provision of reconstruction and rehabilitation to sick and closed industrial units.

A High-Level Committee headed by Shri H. N. Ray in 1976 suggested that ailing but potentially viable units may be merged with sound units and proposed that a scheme may be made by the concerned authorities for implementation of the same vide an enabling legislation and also suggested that amendments be made in the Companies Act,1956.

Finally in 1984 following the recommendations of the Tiwari committee to establish a mechanism that will investigate the viability of a particular venture and help in its rehabilitation, merger, or liquidation in 1985 the Sick Industrial Companies (Special Provisions) Act was enacted to counter industrial sickness and regulate the measures for rejuvenating the viable industries and liquidate the ones which are beyond saving.

Sick Industrial Companies (Special Provisions) Act, 1985 (SICA)

Definition 

The word ‘sick industrial company’ finds its mention in Section 2(o) of the Act and it is defined as “an industrial company (being a company registered for not less than five years) which has at the end of any financial year accumulated losses equal to or exceeding its entire net worth”. 

Features

• The SICA Act, 1985 established two new bodies for handling sick companies and helping in their rehabilitation. These bodies are:

1. Board of Industrial and Financial Reconstruction (BIFR).
2. Appellate Authority for Industrial and Financial Reconstruction ( AAIFR)

• The BIFR was established with a sole objective of rehabilitation and reconstruction of sick companies and release of public funds sunk in those companies into the open market. The Board consisted of a chairman and two to fourteen other members. The Act placed an obligation on the board of the sick industries to report its sickness to the BIFR and the BIFR was given powers to investigate the correctness of such claims.
• If the board found it to be sick it would have given the concerned company a reasonable time to come up with a rehabilitation plan and execute it or it could have taken other measures such as taking over the management of the company, merging sick units with a healthy one or if the company is beyond saving, recommend it’s liquidation.
• An appellate authority was also set up by the name of AAIFR for companies to approach if they were unhappy with the measures or recommendations made by the BIFR.

Problems with BIFR and AAIFR 

• The body though initially successful in dealing with the traffic with a somewhat impressive performance in the 1990s with 1020 registered cases, out of which 954 were heard, 175 were dismissed as not maintainable, and 124 rehabilitation plans were approved and of the other 661 cases, the board sanctioned 182 revival plans and recommended that 120 cases be wound up. As the time progressed the body rather than being an efficient machine unblocking locked funds in failed ventures became a safe haven for the defaulting companies. In the year 2007, BIFR registered 5,471 references with 1,337 being recommended for winding up and only 825 revival schemes sanctioned.
• Section 22 of the Act gave sweeping powers to the BIFR including the power to stop all legal proceedings until further notice. The legislature wanted to protect the companies till the time they became revenue positive, but the promoters used this provision to bypass their legal obligations. Noting this fact, revered economic Journalist Nirmala Ganapathy, once stated that BIFR is nothing, but a graveyard of companies and it only works if the promoters are willing to make it work. Otherwise, it is just a tool for avoiding legal obligations.
• Another problem of BIFR was it didn’t concern itself with Small Scale Industries (SSI) which limited its scope given that small case industries till date commands 33.4% of manufacturing output in India and also contributes 30% to India’s GDP. This lacuna limited the applicability of the Act.
• The fourth major problem with the SICA act was that it dealt exclusively with industries and did not consider companies of other formats which could not be classified as an industry.

Repeal of SICA, 1985

• On realisation that SICA was not delivering its assigned purpose a high level committee was constituted under the chairmanship of Hon’ble Justice V. Balakrishna Eradi, a former judge of the Supreme Court to look into the complaints raised. The Committee in its report titled “Report of High-Level Committee on Law Relating to Insolvency and Winding Up of Companies” suggested the SICA act be repealed, and relevant provisions should be amended into the Companies Act, 1956.
• In 2001, an advisory committee headed by N.L.Mitra suggested that the BIFR and AAIFR be dissolved keeping in mind the problematic working structure and constant delays plaguing the institution
• Accordingly, the government passed the Sick Industrial Companies (Special Provisions) Repeal Act of 2003 which disbanded the BIFR and AAIFR but it was finally gazetted on December 1, 2016 and the relevant provisions of SICA act were structured into the Companies Act, 2013.

Companies Act, 2013

The features that was brought along by the Companies Act, 2013 have been stated hereunder: 

• The relevant provisions of the SICA Act were streamlined into the Companies Act, 2013 under Chapter XIX (Sections 253 to 269). The NCLTs were given sole power to overview the process of rehabilitation, revitalisation, liquidation, winding up etc. Section 253 of the Act provides that when on demand of a creditor having 50% or more of the debt issued to a company, the company:

1. Failed to pay the debt within 30 days from the issuance of notice by the creditors, or,
2. Failed to secure the debt received from the creditors, the company can be determined as sick.

On such determination an application may be made to the NCLT in a prescribed format and a decision may be given by the forum within 60 days from the submission of application. If the company was found to be fit to repay the debts it shall be ordered to do so, otherwise measures such as attachment of assets or winding up may be made.

• The right to approach the NCLT is given to companies also. It has to make an application to the Forum in the prescribed form along with attested copies of audited financial statements of the preceding financial year and a scheme for revival and rehabilitation of the company. After 60 days of such application the NCLT will give a direction on whether the company is sick or not and then it shall proceed with the plan if viable or order for its winding up.
•  Section 261 of the 2013 Act broadly provides for 3 types of options.

1. Financial reconstruction.
2. Change or takeover management.
3. Merger or amalgamation of the sick unit with any other healthy unit either within the same company or different companies.

• A rehabilitation scheme framed within these lines will be filed in the NCLT after its approval by 3/4^th of the secured and unsecured creditors. It is pertinent to mention that Companies Act, 2013 mainly concerns itself with secured creditors and not with all the other stakeholders. The role of unsecured creditors only comes into the picture at the time of approval of the rehabilitation scheme.

After consideration of the scheme submitted the NCLT shall either approve it with or without consideration or reject it. If the Scheme is accepted it shall be communicated to the company administrators, the ROC and in case of merger and amalgamation, to the other company also. However, if no scheme could be formed. The NCLT shall activate Chapter XX and send the company to be wound up.

Criticism surrounding Companies Act, 2013 

• The Companies Act, 2013 though was a step forward from the previous law, the problem of concurrent statues remained. The laws governing the sick industry landscape at the time were: 

1. Presidency Towns Insolvency Act,1909.
2. Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002.
3. The Recovery of Debt Due to Banks and Financial Institutions Act, 1993.
4. The Provincial Insolvency Act, 1920.
5. Companies Act, 1956.

As a result, a time bound efficient process could not be established and the average resolution time frame of a company was anywhere between 4 to 6 years. As such the need for a single structured process arose.

• The legislation was primarily focused on resolving the issues with insolvency and bankruptcy of companies and firms and not of individuals. 

The Ministry of Finance acknowledging the apparent problems on 22^nd August, 2014 created a committee called Bankruptcy Legislative Reforms Commission (BLRC) under the chairmanship of retired Supreme Court Judge, Justice Sri Krishna to draft a new bankruptcy law following the work done by him in his FSLRC (Financial Sector Legislative Reforms Commission). The Committee submitted its report on 4th November 2015 and a draft bill was placed before the Joint Parliamentary Committee (JPC) on 23^rd December 2015 and after the report of the JPC it finally got President’s assent on 28^th May, 2016.

Insolvency and Bankruptcy Code, 2016

The Code repealed the two pre – independence laws that are:

1. Presidency Towns Insolvency Act, 1909, and
2. The Provincial Insolvency Act, 1920,

It also made amendments to 11 laws, including the Companies Act, 2013, the Recovery of Debts Due to Banks and Financial Institutions Act, 1993, and the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002, for proper implementation of the new legislation.

 Features 

• One of the biggest features of this code is that the process of insolvency or bankruptcy can be started by all the stakeholders and not only secured creditors which is an improvement upon the Companies Act, 2013. This process can be started by –

o   Financial Creditor within the meaning of Section 7 of the Code

o   Operational Creditor within the meaning of Section 9 of the Code.

o   Corporate Debtor within the meaning of Section 10 of the Code

• It brings under one roof all companies, Individuals, LLPs, and partnership firms.
• The establishment of the Insolvency Law Committee to take stock of the execution of the new legislation and to make suitable recommendations on a case to case basis.
• The criterion for determining the sickness of the company has been shifted from a gross revenue model to cash flow model which is a better parameter for consideration.
• The Adjudicating authority has been given to two forums, viz

o   The National Companies Law Tribunal (NCLT) for Companies and LLPs

o   The Debt Recovery Tribunals for Individuals and Partnership Firms

• The IBC has Specified its application area via Section 2 of the Act, Viz-

o   Any Company

o   Limited Liability Partnerships

o   Personal Guarantors to Corporate Debtors

o   Partnership and proprietorship firms

o   Individuals other than Personal guarantors

o   Such other body corporate as maybe notified by the central government from time to time

Performance of IBC so far

The most prominent feature of IBC is its time bound resolution process and its proper enforcement. As per Niti Ayog report as on June 2020, 250 companies had been rescued and 955 others referred for liquidation. According to IBBI, the resolution plans yielded about 191% of the realisable value for financial creditors, on average of 380 days, which is a tremendous improvement from the previous regime, which took about 1500 days on average to resolve. As per the latest IBBI Quarterly report of June – September 2022 a total of 5893 cases were admitted under IBC amongst which 3946 have been closed. Of the CIRPs closed, the CD was rescued in 2139 cases, of which 846 have been closed on appeal or review or settled; 740 have been withdrawn; and 553 cases have ended in approval of resolution plans, while 1807 have ended in orders for liquidation

Criticism received by IBC 

The biggest criticism of the IBC has been its enforcement of the timeline provided by the legislation that is 180 days with an extension of 90 days in rare cases. As per the IBBI Quarterly report of January- Marc, 2022, the average time for disposal of cases is 408 days, which is a far cry from the actual time frame fixed in the Act.

The second aspect of this point is the judicial discretion practised in the forums for enforcement of the mandatory Period. It is now a settled position of law that at the time of admission of application under Section 7,9 or 10 of the code, the 14-day period given in the IBC Act is only directory in nature. As such copious amounts of time is taken at the admission stage alone

Current scenario of IBBC

• India has jumped from 130 in 2016 to 63 in 2022 in ease of doing business index and one of the driving forces of this ranking is IBC.
• Proper forums have been established that deal with the enforcement of specific laws. For example, the Debt Recovery Tribunals mainly work with SARFAESI Act, 2002 and the RDBB Act, the National Company Law Tribunals mainly work with Company Law, 1956, 2013 and the insolvency and bankruptcy laws and the civil courts take care of the claims which are less than 10 lakhs in value
• The RBI has introduced many schemes to enable banks to revive an ailing companies and pump the trapped money into the market, the corporate debt restructuring scheme and the strategic debt restructuring scheme (SDRS) is one of them. The SDRC is a successor of the corporate debt restructuring scheme. It is not above criticism as the corporate bodies have said that the 180-day period given is not enough to acquire, manage and bring the ailing company to good health.
• Group companies have prompted a new kind of problem as they consist of many entities which have different roles and often depend on one another for completion of a specific task. Therefore, when some parts of the group declare insolvency the CIRP process becomes cumbersome as the entities when singled out do not profess the same value as when they were engaged as a whole. The IBBI Committee in its report titled “REPORT OF CBIRC-II ON GROUP INSOLVENCY” dated December 2021 suggested that the Supreme Court dictum regarding lifting of corporate veil and engaging these companies as a single entity should be considered. The Committee report is yet to be implemented. However, the concept is applicable following the Supreme Court Judgment on Life Insurance Corporation of India vs Escorts Ltd. and Ors (1985). Later in June, 2021 the IBBI issued another report where they dealt with the framework for cross border insolvency resolution.

Conclusion 

India is witnessing a huge boom in its markets and the start-up culture is also picking up. An unavoidable by-product of this is the rise in the number of NPAs and sick companies in future. With the current regulation it will be hard for India to maintain its good ranks in the ease of doing business index, therefore it is suggested:

• To promote CDR and SDRS schemes amongst the companies, the inter-creditor and Debt Creditor agreements should be made binding. There should be a proper CDR forum to enforce these contracts which is outside the scope of NCLTs and DRTs and normal civil courts.
• To implement the recommendation of the May report of the insolvency law committee to direct the financial creditors to submit only IU verified documents so that the tribunals could be relieved of the burden of going through the paperwork and establish whether a company is sick or not.
• The companies should be given alternative remedies and should not be pushed towards liquidation if they could not pay the debts. It is suggested that the government may provide financial support which is viable but under a lot of debt and revive them back to health. A separate fund may be built for this.
• The “Haircuts” given by banks to the financial debtors must be regulated. As such there is no provision for haircuts offered by banks to companies and for that it is ripe for exploitation. The Hon’ble Finance Minister Nirmala Sitharaman while addressing this issue stated that it was unacceptable that banks should take a hefty haircut on loans that go through the resolution process, adding that a 95% haircut could not possibly be the “best resolution” the IBC had to offer, even if some companies came in such a bad state that only ‘junk value’ could be derived and as such a proper law must be made as to how much a bank can forgo.
• NCLT is only working on 34 vacancies with a sanctioned vacancy of 63 members. The Vacancies should be filled.
• The law for merger, amalgamation etc of sick companies should be subsidised by tax cuts. It must act as a kind of reward to the acquirer company to promote the market.

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