The Parliament amended the Insolvency and Bankruptcy Code in August 2021, providing for a pre-packaged insolvency resolution mechanism for micro, small and medium enterprises (MSMEs). Though the government says there will be a better way for business rescue, the IBC 2021 has ironically exacerbated the fear among corporate borrowers across the board.
The underlying principle of bankruptcy laws around the world is to make it easier to liquidate financially unviable businesses while also protecting creditors' and other stakeholders' rights, which includes borrowers. Corporate debtors cannot get away with defaults and take the system for granted, according to the IBC. Simultaneously, it has failed to instil positive bias among borrowers, which is critical for company recovery. The IBC is currently skewed towards liquidation rather than revival.
The delay generated by litigation is one of the elements that has thwarted the IBC's goals. In business, time is money, and delays caused by litigation and procedures could cost lenders a lot of money. The average time it took to resolve the cases was 459 days, which was longer than the 180-day deadline.
This has sparked concerns that the high number of companies going bankrupt due to a lack of feasible plans would continue to climb. So far, 1,277 of the total 4,376 enterprises facing insolvency proceedings have been liquidated. This accounts for 30% of all cases, causing concern among promoters of enterprises in financial difficulties.
Many firms operate on a very modest scale. The recovery would be slow unless and until the government allows entrepreneurs to bid for their enterprises. Many more enterprises can be revived under the IBC if it is managed properly.
If corrections like offering pre-pack schemes, not only for mid-sized but also for large businesses, and allowing existing management to bid for business unless they are directly implicated in fraud or siphoning of money, are made, it will help improve the outcome. The debtor in possession is a good choice for India. The creditor in possession is not working as proved by past instances. Also, companies should recognise that the risk of financial stress will always be there and the stigma of debt resolution and restructuring which makes people delay decisions has to go.
Big businesses get buyers but medium and small businesses generally go through liquidation, which is why the government brought in a new alternative informal resolution scheme for small businesses, which is called Pre-Packaged scheme. The fortunes of individual sectors keep changing.
Previously, the metal sector had few takers, but due to the commodity supercycle, interest in this area has increased. Three years ago, there was little interest in the pharmaceutical industry, but now it is a hot topic among investors. The size of the company is also important. A steel plant with a capacity of one million tonnes or more is more likely to find a buyer than one with a capacity of 200,000 tonnes. It is dependent on the business's viability.
In nutshell, the high liquidation rates and huge haircuts have undermined IBC’s possible success. Unless there is a complete overhaul of the present mechanism, business recovery will be retarded in the face of the ongoing economic slowdown caused by the pandemic.