10/17/2019 IBC - A Big Game Changer In Banking (Part I)

IBC - A Big Game Changer In Banking (Part I)

BY: DR.P.SYAMJITH
24 Aug 2019 8:57 AM

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The introduction of IBC was termed as the most powerful weapon in the hands of
the bankers to reduce the frightening level of non-performance assets. It is expected
that IBC will change the game plan of NPA Management in Indian banking space.
The main objectives of the code were time bound reorganisation, maximisation of
value of assets, promotion of entrepreneurship, availability of credit and balance
interests of all stakeholders.

The euphoria around IBC may prompt many to ask - whether IBC is a big game
changer in banking space vis-à-vis the previous recovery laws such as Civil Courts,
DRT Act and Sarfaesi Act? Prior to IBC, Indian banking space was being dominated
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by legal measures such as Civil Courts, DRT Act and Sarfaesi Act. These measures
have been extensively used by Indian Bankers to bring down the level of NPA.

A diagrammatical representation of evolution of recovery laws is given below: -

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The evolution of recovery laws in banking sector can be grouped primarily into four
basic stages. During stage – I, only remedy available with the Bankers was to
approach the Civil Courts. During this period, Bankers were required to wait for long
years to obtain decrees and execute the decrees. As the civil courts were piled up
with large number of cases and no priority was accorded to bankers in adjudication,
bankers used to receive decree after waiting for considerable period of time
approximately 3 to 5 years. As a consequence of long delay, instances of security

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being diluted and disposal of security by the borrowers without banks knowledge
became very common. Further, usual CPC procedures adopted in civil courts have
also contributed in delay in getting decree of suits filed by Banks.

In Stage –II, Recovery of Debts Due to Banks and Financial Institutions Act
(hereinafter referred to as DRT Act) was enacted with an objective to establish
exclusive Tribunals to deal with the Bank's cases. The DRT Act was enacted after
considering the reports of various committees and taking cognizance of the fact that
as on 30-09-1990, more than 15 lakh cases filed by public sector banks and 304 cases
filed by financial institutions were pending in various courts for recovery of debts
amounting to Rs.6000 crores. The new legislation facilitated creation of specialized
forums i.e., the Debts Recovery Tribunals and the Debts Recovery Appellate
Tribunals for expeditious adjudication of disputes relating to recovery of the debts
due to banks and financial institutions. Simultaneously, the jurisdiction of the Civil
Courts was barred for amount of Rs. 10 lakhs and above and all pending matters were
transferred from civil courts to the Tribunals from the date of their establishment.
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The DRT Act was renamed as the Recovery of Debts and Bankruptcy Act (RDB Act)
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vide amendment made on 28.05.2016 after the introduction of IBC. The Tribunals
initially had teething problems but the Tribunals became active subsequent to
judgement of Supreme Act wherein the constitutional validity of the Act was
declared valid

[1] .

With the advent of the DRT Act, it was expected that most of the Non-Performing
Assets (NPA) shall be easy to recover from defaulters. However, it was realised in due
course that the enactment of DRT Act was not enough to fight the menace of the
NPA's. The amount of recovery through DRT didn't show much enthusiastic
progress despite the functioning of the full-fledged Debt Recovery Tribunals. There
are many reasons for slow pace of recovery under RDB Act, but prime reasons were
the procedural delay in DRT in disposing off cases and lack of required powers and
skill on the part of the Banks/Financial Institutions to enforce the securities.
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Due to the failure of DRT Act to make the expected recovery, the Central
Government constituted two committees - Narasimham Committee and
Andhyarujna Committee for examining the changes in the legal system in respect of
recovery laws. These Committees, inter alia, have suggested enactment of a new
legislation for securitisation and empowering banks and financial institutions to
take possession of the securities and sell them without the intervention of the Court.
Acting on these suggestions, the Securitisation and Reconstruction of Financial
Assets and Enforcement of Security Interest Act, 2002 (hereinafter referred to as
Sarfaesi Act) was enacted to regulate securitisation and reconstruction of financial
assets and enforcement of security interest and for matters connected therewith or
incidental thereto.

In Stage III, SARFAESI Act was enacted to enable the banks and financial
institutions to realize long- term assets, manage problem of liquidity, asset liability
mismatches and improve recovery by exercising powers to take possession of
securities, sell them and reduce non-performing assets by adopting measures for
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recovery or reconstruction. The constitutional validity of Sarfaesi Act was decided by
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the Hon'ble Supreme Court in Mardia Chemicals v. Union of India and the validity
of the SARFAESI Act was upheld except the condition of deposit of 75% amount
enshrined in section 17(2).

[2]

Though, Sarfaesi Act enabled bankers to recover good amount of money, still due to
multiplicity of litigations, inordinate delay in disposal of applications/appeals,
bottlenecks in taking over physical possession of the secured assets, etc made
bankers difficult to enforce the provisions of the Act in full effect. Result is that the
recovery expected by enforcing SARFAESI, falls short of expectation.

Thereafter, the Govt. focussed attention to insolvency and bankruptcy laws. The
Govt decided to consolidate the laws relating to insolvency and bankruptcy in India
with an objective to allow credit to flow more freely in India and instil faith in

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investors for speedy disposal of their claims. The insolvency resolution process in
India has in the past involved the simultaneous operation of several statutory
instruments. These include the Presidency Towns Insolvency Act, 1909 and
Provincial Insolvency Act, 1920, Sick Industrial Companies Act, 1985, the
Securitisation and Reconstruction of Financial Assets and Enforcementof Security
Interest Act, 2002, the Recovery of DebtDue to Banks and Financial Institutions Act,
1993,and the Companies Act, 2013. Broadly, these statutes provided for a disparate
process of debt restructuring and asset seizure and realization in order to facilitate
the satisfaction of outstanding debts. The multiple legal avenues and multiple layers
of court system in India witnessed huge piling up of non-performing assets and
creditors waiting for years at end to recover their money. The IBC consolidates
existing laws relating to insolvency of corporate entities and individuals into a single
legislation. The Code has unified the law relating to enforcement of statutory rights
of creditor sand streamlined the manner in which a debtor company can be revived
to sustain its debt without extinguishing the rights of creditors.
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Comparative Analysis of IBC – Sarfaesi – DRT - Civil Courts
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Though IBC, Sarfaesi, DRT and Civil Courts have got its own uniqueness in enabling
the bankers to recover their dues, an attempt is made here to do a comparative
analysis by touching upon the core fundamental competitiveness of the above said
acts.

IBC –Paradigm shift from 'debtor-in-possession' to 'creditor-in-control'

The biggest advantage of IBC is the paradigm shift in taking the possession of the
assets from the corporate debtor to the creditors. This behavioural change has made
phenomenon change in the prescription of the borrowers towards recovery laws.
This new scenario has been aptly described by the former Finance Minister Arun
Jaitley in his blog that IBC has changed the debtor-creditor relationship - creditor no
longer chases the debtor - it is otherwise - those who drive the companies to
insolvency, exit from management.

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IBC –Recognizes spirit of entrepreneurship

India is one of the youngest republics in the world, with a high concentration of the
most dynamic entrepreneurs IBC may be the first act which recognizes the spirit of
entrepreneurship. The economy of any country shall flourish only if it recognizes the
spirit of entrepreneurship. The contribution of Silicon Valley in the growth of
United States is immense and laudable. It is not surprising that most of the tech
companies which rule the world today started their journey from the Silicon Valley.

In fact, Sick Industrial Companies Act (SICA) and Board for Industrial and Financial
Reconstruction (BIFR) had been formulated to treat the liquidation of assets of the
business only after it lost all its value. In stark contrast to such an approach, IBC has
been formulated to treat the business of borrower as a going concern. IBC envisaged
business continuity concept and moratorium was introduced to enable smooth
transition of business. By rescuing viable businesses and closing non-viable ones, the
Code releases the entrepreneurs from failure. It enables them to get in and get out of
business with ease, undeterred by failure.
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IBC - Recognises Judicial hands-off

It is judicially accepted norm that in the matter of economic legislation, Courts will
interfere only if it is absolutely necessary. IBC has recognised the concept of Judicial
hands-off, which means lesser judicial interference. In IBC, it is interesting to
understand that judiciary wing under IBC i.e.Adjudicating Authority has no role to
play in approval or rejection of resolution plan- it is purely a financial decision to be
taken by financial creditors. The role of judiciary is limited to judicial adjudication
and not on credit related matters.

IBC - Recognises dominant role of creditors

The concept of crown debts and its priority over banker's rights has been a debating
issue for long in banking circle. The Bankers fought several rounds of litigation with
govt/tax authorities for getting the priority rights. It is a relief for Bankers that IBC

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recognised their priority rights over government dues. Though section 31B of the
Recovery of Debts and Bankruptcy Act and section 26 E of Sarfaesi Act accorded
right of priority to bankers over government dues vide amendment made on 1.9.2016,
we are yet to witness substantial progress in this regard. However, IBC has accorded
not only priority rights to banker's but also accorded low priority to government
dues in specific terms- unlike Companies Act, 2013 where govt dues are being paid
alongside employees and unsecured financial creditors. Now, govt dues are being
paid after secured creditors, unsecured creditors, employees, and workmen. IBC
viewed Government only as a facilitator and regulator and not an active participant
in the affairs of commercial entities.

IBC - Expediting decision-making process

The credit decisions to be made by Banks under IBC were instantaneous and quick
compared to the time-consuming decisions bankers used to take during previous
regimes. Going by the level of hierarchy in public sector banks, taking instantaneous
decision is quitedifficult. Banks were forced to take quick calls on huge haircuts.
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However, it is amazing to see that even public-sector banks havelived up to

expectations and deliver decisions within the given time frame of IBC.

The Code endeavours resolution of insolvency at the earliest, preferably at the very
first default, to prevent it from ballooning to un-resolvable proportions. In early days
of default, enterprise value is typically higher than the liquidation value and hence
the stakeholders would be motivated to resolve insolvency of the firm rather than
liquidate it. Therefore, it entitles the stakeholders to initiate Corporate Insolvency
Resolution Process(CIRP)as soon as there is threshold amount of default.

IBC – Time is the essence

The Code mandates resolution in a time bound manner, as undue delay is likely to
reduce the enterprise value of the firm. When the firm is not in sound financial
health, prolonged uncertainty about its ownership and control may make the
possibility of resolution remote. Time is the essence of the Code. It provides a
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mandatory timeline of 180 days for Committee of Creditors (CoC) to conclude CIRP,
extendable by a one-time extension of up to 90 days.

One of the biggest challenge with respect to the litigation in India is the uncertainty
over time period of disposal of cases. Though both DRT/Sarfaesi proceedings
stipulated time limit for disposal of appeals/applications, but seldom it happens. The
failure to comply with the time limit is reflected in majority of cases. It appears that
the time bound resolution process under IBC is more realistic. IBC recognizes that
speed is the essence of its proceedings.

An analysis of the status of admitted claims, approved resolution plans and

liquidationproves that IBC is really delivering results. It is reported that a total
number of 1858 corporate insolvency resolution process have been admitted by
NCLT's. Out of which resolution plan of 94 have been approved by the Committee of
Creditors and NCLT. In 378 cases, since resolution plan could not work out,
liquidation process has been commenced. A diagrammatical representation of the
above analysis is given below:
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IBC - No more Stay orders
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In previous recovery regime, the borrowers/guarantors could obtain stay orders

frequently and continued to remain in possession on the strength of stay orders for
long period. However, under IBC, borrowers/guarantors finding it difficult to obtain
stay orders and even if it was obtained it were short lived. The borrowers/guarantors
realised that there was no way out from 'losing control of business' on admission of
application.

IBC- Option to select better & efficient managers

Under IBC, the financial creditors were given liberty to select better & efficient
managers to run debtor company in stark contrast to previous regimes where the
same borrower who has failed on multiple occasions have been given further chance
to run the company. The Sick Industrial Companies (Special Provisions) Act, 1985
which made provision for rehabilitation of sick companies and repayment of loans
availed by them, were found to have completely failed.
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The author is serving in State Bank of India. The views expressed by the author are
only personal.

[1] Union of India v. Delhi High Court Bar Association, AIR 2002 SC 1479

[2] Mardia Chemicals v. Union of India (2004)4 SCC 311

Topics : IBC | Banking | Insolvency and Bankruptcy Code | Insolvency Code

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