The Insolvency and Bankruptcy Code, enacted in 2016, remains pretty much a work-in-progress. There has been a lot of criticism lately of the poor recoveries— or large “haircuts” —on some high-profile loans. The Standing Committee of Parliament attached to the Ministry of Finance has taken stock and made suggestions for improvement.
There are two models for resolution of firm insolvency. One is the credit-in-possession model, which is the model in the UK, where control over stressed assets passes to creditors. The other is the debtor-in-possession model, which is the model in the US, where the debtor remains in control.
In India, creditors decide the future of an insolvent firm with the help of an administrator called the Resolution Professional (RP). The National Company Law Tribunal (NCLT) is the adjudicating authority. The idea is that with banks having messed up in a big way, it is better to carry out resolution under the auspices of independent authorities.
Alas, it turns out that the RP is a weak link in the chain. The Parliamentary Committee has scathing observations to make about RPs. Many are graduates. The regulatory authorities have pursued disciplinary actions against 123 RPs in a total of 203 inspections carried out so far. The Committee wants a self-regulatory body to oversee professional standards for RPs akin to the Institute of Chartered Accountants of India.
As for the NCLT, its processes are plagued by delays. There are delays of over 180 days in 71 per cent of cases. The NCLT takes a long time to admit cases in the first place —the Committee wants cases to be admitted within 30 days. One reason for that is, as in the judiciary, several positions on the NCLT bench remain unfilled. The NCLT is 34 members short of the sanctioned strength of 62 members.
The longer the insolvency process takes, the lower will be the value that creditors will realise. Bidders will factor in the delays in the price they quote. Banks will end up losing as a result. Resolution was moved from banks to the IBC process because banks were seen as unequal to the job of resolving stressed assets. We have seen with Debt Recovery Tribunals and the SARFAESI Act that new mechanisms cannot be presumed to improve matters dramatically, although the record under the IBC is distinctly better.
The Committee is concerned about the large haircuts banks have taken in some cases. It would like a benchmark or threshold haircut to be set. This is simply not feasible. In any resolution, banks will settle for any amount that is higher than the liquidation value.
It is more important to get the estimate of liquidation value right and to get as many parties to bid as possible. Let there be an independent evaluation of a sample of liquidation values and auction processes. Were the estimated liquidation values appropriate? Was every effort made to open up the auction to a large number of bidders? The answers will shed light on the effectiveness of the IBC process and help address infirmities. It may be useful to create an Office of Independent Evaluation at the Insolvency and Bankruptcy Board of India (IBBI) similar to the one that obtains at the International Monetary Fund.
Illustration: Binay Sinha
The Committee ignores the insertion of Clause 29 (A) (c) that bars promoters from bidding even if they are not wilful defaulters. This column had argued last month that the provision needs to be revisited. Where loans have gone bad for reasons beyond the control of promoters, it is worth giving them the opportunity to take part in the auction process under the IBC.
The Committee suggests that the “pre-pack” format offered to micro, small and medium enterprises be extended to corporations. In “pre-pack”, banks and the firm agree to a resolution before the case is referred to the NCLT. The RP will judge whether the resolution is okay or not. If banks and the firm can agree on a resolution, why go through the IBC process? Because getting NCLT approval will help bankers cover their backs. But, then, resolution gets delayed and there is always the prospect of litigation.
The descending order of preference for banks in managing the bad loan problem should be clear enough. Assess credit risk rigorously and manage concentration risk. Pick up early warning signals and exit or cut exposure. Attempt a resolution with the firm. Go with a “pre-pack” solution if one is available. Last resort: The normal IBC process.
We must expect delays and other complications in any judicial or quasi-judicial process in the country. Banks’ best bet is to act on the principle that prevention is better than cure. Risk management at banks needs to improve. This is not a simple matter. It requires, among other things, considerable improvement in bank governance. The composition of boards, the selection of independent directors, compensation for independent directors (at public sector banks), the accountability of boards —these and other issues must be addressed. The RBI must press ahead with its recent efforts to overhaul board governance.
On a different note, the Standing Committee must be complimented on the quality of its report. The report gives the evolution and background to the IBC, highlights the issues that have arisen, quotes various stakeholders’ responses, then proceeds to give its recommendations. The combination of data and analysis makes the report a useful reference for practitioners and academics alike.
It is a pity that reports of parliamentary committees don’t get a better airing. Much of the substantive work of parliament happens in these committees. Yet, public perceptions of parliament tend to be influenced by the scenes of pandemonium that get play in the media.
Parliament must find ways to better publicise its reports and create awareness of these among the public. It does not suffice to make the reports available at parliament’s website. Doordarshan, Lok Sabha TV and Rajya Sabha TV should make it a point to host discussions on important reports with the chairmen of committees, academics and journalists.
Parliament must offer internships (with generous stipends) of varying duration to college students so that young people get an opportunity to see the serious work that happens in parliament. It must also reach out to college teachers to use committee reports for giving assignments to students. Parliament may also get academics to come on deputation for six months or a year and work with committees on selected subjects.
In the interest of strengthening democracy, the acutely negative perception of politicians and the legislature needs to be corrected. Enhancing interaction and exchanges with the educated elite who influence perceptions may be one way of doing so.
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