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Insolvency & Bankruptcy Code recast: Defanging defaulting promoters has a cost

The development will be negative for the banks

The Union Cabinet, in a major development, has passed an ordinance to amend the Insolvency and Bankruptcy Code (IBC).

In a nutshell, the amendments (Section 29A introduced) aim to keep wilful defaulters or persons associated with non-performing assets out, in a bid to improve the likelihood of successful resolution of a company’s insolvency.

These changes essentially stack the odds heavily against defaulting promoters. This development will be negative for the banks, given the probability of higher hair-cuts (on cases referred to NCLT) and delay in resolution process.

Likely impact

  • Mandatory settlement of overdues before submitting a plan will make it difficult for promoters to bid.
  • Optimism in bids will also dip, thereby leading to a risk of resolution now happening at a lower-than-anticipated valuation. Promoters, in a bid to retain control of existing assets, would have potentially made a higher bid, thereby setting a benchmark for other bidders.
  • Incrementally a tendency to drag cases into NCLT will be lower and there is a likelihood of proactive restructuring plan or debt being settled outside NCLT.
  • There is a likelihood of delay in resolution process, as fresh bids will have to be called for or promoters could initiate litigation against the law.
  • Also, due diligence will have to be conducted more rigorously to ensure non-participation of wilful defaulters or related entity. This will put a lot of responsibility on IRPs and the Committee of Creditors before accepting any bid.
  • While large cases have drawn interest from potential bidders (ex-promoters), similar interest may not necessarily flow for smaller/mid-sized cases and resolution of those assets will be a key monitorable.

What are the key changes?

Essentially, a new Section (Section 29A) has been added to the code, which specifically says the following categories of entities will be disallowed to bid for assets:

  • Wilful defaulters
  • Those who have their accounts classified as non-performing assets for a year or more and are unable to settle their overdue amounts including interest thereon and charges related to the account before submission of the resolution plan.
  • Those who have executed an enforceable guarantee in favour of a creditor, in respect of a corporate debtor undergoing a corporate insolvency resolution process or liquidation process under the Code.
  • Connected persons to the above, such as those who are promoters or in management of control of the resolution applicant, or will be promoters or in management of control of corporate debtor during the implementation of the resolution plan, the holding company, subsidiary company, associate company or related party of the above referred persons.
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