Insolvency law is often referred as the constitution of commercial laws and forms a key component in the financial architecture of the country. Particularly for an emerging economy, the existence of an efficient insolvency regime has vital economic ramifications. Investors draw confidence from an insolvency system to take risks and make crucial economic decisions. Absence of a well-functioning insolvency law can impact the availability of cost-effective credit, which is often crucial to the sustainable development of an emerging economy. Insolvency issues have also become more and more decisive in the globalisation of capital and financial markets.
The journey of the Indian insolvency reforms has been painfully slow and incremental. The legal framework for insolvency remained fragmented and ineffective for decades, even as reforms in the other areas of economic laws moved rapidly after the liberalisation of the Indian economy in 1991. To attract foreign investment, the policy makers focused heavily on reforming the entry laws but neglected improvements in exit law, underestimating the role insolvency system plays in winning investor confidence. The key principles that form a sound insolvency law were missing or were lost in the complex interplay between the multiple legislations forming part of the insolvency system. The restructuring and liquidation proceedings were cumbersome and marred by lengthy court processes. Average life of cases recommended for restructuring took between 4 and 8 years and those recommended for winding up even longer, while it is only 1.7 years in high-income OECD1 countries. Even as of 31 October 2015, only about 955 (out of 4636) and 163 (out of 545) cases of court and voluntary winding-up were resolved within five years. A significant number of such cases were pending for more than 20 years.2 The outcomes were obviously poor. The recovery rate (cents on the dollar) in India is 25.7 as opposed to 71.9 in high-income OECD countries. India continued to fare badly in the World Bank’s Ease of Doing Business3 ranking for many consecutive years, with Closing a Business (now called as Resolving Insolvency)4 in India being one of the key negative indicators. In 2010, India ranked at number 133 in the list of 189 countries5 with its Closing a Business ranking at 138.6 In 2016, the ranking moved up to 130 but in Resolving Insolvency, India continued to score poorly having been slotted at 136.7
In the absence of an effective insolvency law, the non-performing assets of the Indian banks started accumulating. The stressed assets in the banking system peaked at approximately US$ 150 billions (~‘15% of gross advances).8 A high level of non-performing assets can severely affect the economy in many ways. Management and financial resources are diverted to resolution of non-performing assets, causing an opportunity loss for productive use of resources, causing continued economic and financial degradation. This results in a credit crunch and generally signals adverse investment climate. While the Indian banks have legal right to enforce their security interest without intervention of court, some of the most important lenders operating in the economy are not banks. They are the dispersed mass of households and financial firms who buy corporate bonds. The lack of power in the hands of a bondholder has been one (though not the only) reason why the corporate bond market has not flourished. This, in turn, has far-reaching ramifications such as the difficulties of infrastructure financing.9 There was a pressing need for a very long time to introduce an efficient insolvency framework in the country that would help in the resolution of non-performing loans and benefit creditors other than banks and financial institutions. For a country seeking to attract international investors, low scoring on World Bank’s Doing Business report card is a major hurdle in attracting capital.
On assuming office in the year 2014, Prime Minister Narendra Modi announced that India would strive to be among the top countries in terms of ease of doing business within three years. A massive exercise was started to address the causes responsible for India’s low ranking. An overhaul of the insolvency framework was an immediate beneficiary of this exercise and a new law in the form of the Insolvency and Bankruptcy Code, 2016 (IBC) was enacted to provide the framework of corporate insolvency and bankruptcy of natural persons. The new insolvency regime has evolved from the U K’s practices and procedures. The system is designed to protect the interests of creditors, who have control over the direction and pace of procedures. The obvious contrast is with the US where the debtor has control of the process.
India is in the process of laying the foundations of a mature market economy. IBC is an endeavor to provide one critical building block of this process. In a way, the year 2016 is the year of landmark reforms: Goods and Tax Services Bill and IBC were both passed by Parliament in 2016. While the former has been subject to much discussion and debate for many years, the latter happened in less than two years. If implemented effectively, both have a high potential to significantly change the way, business is done in India. The celebration around the passing of the two major reforms was clouded by the sudden decision of Demonetisation10 announced by the Government of India in November 2016.
The speed with which IBC was enacted and the supporting rules and regulations developed has surprised many. The government moved at an unprecedented pace to operationalise IBC. It is widely believed that the office of Prime Minister Narendra Modi initiated and directly monitored the progress of the reform. The Bankruptcy Law Reform Committee (BLRC) chaired by T.K. Viswanathan was set up in August 2014. BLRC submitted its final report in November 2015 and the Indian Parliament passed a law based on its recommendation in May 2016. In less than six months after the enactment of IBC, subordinate legislation was finalised and the major part of corporate insolvency law was made operational before the end of the year 2016. All this happened in less than two years occasionally, inviting criticism of inadequate stakeholder engagement and consultation. The government has now shifted gears to focus on educating the market players and building capacity of the newly set up institutions for effective implementation of IBC. A mammoth exercise is needed, as the nuances of the insolvency law are not widely understood in India. Indians are quick learners and there is no doubt that in a very short time the market will have immensely competent players operating in the new insolvency system.
The government has not yet notified the provisions relating to bankruptcy of natural persons. Hence, this book is confined to insolvency of enterprises. Suffice to state that personal insolvency is not only an economic phenomenon but has deep social and cultural connotations. It is perceived differently by various sections of society, and has different implications for individuals and communities, and the social fabric they form part of. When notified, the bankruptcy provisions will apply to over 1.25 billion people living across the length and breadth of the country, with diverse cultures, traditions, customs and way of life. The stakeholders, principles, approach and outcomes of personal insolvency are different from that of insolvency of enterprises. One-size-fits-all approach to the entire population may not work. Filing bankruptcy is considered stigmatic in many societies in India. It impacts the social standing of individuals and their family members. This is one reason the personal insolvency is not used actively in India. Cultural-shift preparedness needs to be assessed and taken into account; otherwise implementation of the law would offer a number of challenges with concomitant delays. A separate book is required to discuss the law of bankruptcy of natural persons.
A strict timeline is necessary for all stages of insolvency. The total time-frame of 180 days provided for corporate rescue sets high expectation for the market. It would be challenging to meet this time-frame due to numerous processes and participating stakeholders involved unless adequate infrastructure and capacity is created in the involved institutions. The discipline of insolvency professionals is a new phenomenon and the market does not have a sufficient number of qualified and experienced insolvency professionals. Completing the process in such a short time will be immensely challenging for resolution professional who will have to manage the affairs and assets of the company while gathering information, settle claims and invite resolution plans from potential investors and other interested persons. The government, National Company Law Tribunal and the private sector must work in close coordination to ensure that timelines are observed and IBC is successful.
IBC is largely a sound piece of legislation. It has its flaws. History has shown that reforms rarely contain all the solutions needed to resolve all the problems of a legal system. The success of IBC will depend on how effectively it is implemented. IBC will have to sail through rough currents that may be created by implementation issues. We will need to patiently wait to find out if IBC will lead to the development of a robust corporate debt market and unlocking the flow of capital. But then as Joyce Meyer wrote, “patience is not the ability to wait but how you act while you are waiting”! All the stakeholders must act with this spirit. The baggage of the past must be shunned. It is time to follow the advice of Spinoza’s: “You don’t cry over your own story; you change course.” All said and done, the enactment of IBC is a big leap forward and there is every reason to smile as of now!