Explained: Insolvency and Bankruptcy Code (Amendment) Bill, 2021 on Prepack resolution of MSMEs

Why In News?

Parliament has passed the Insolvency and Bankruptcy Code (Amendment) Bill, 2021 on pre-pack resolution of MSMEs.

• The bill replaces the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2021, which was promulgated on April 4, when Parliament was not in session, and amends the Insolvency and Bankruptcy Code, 2016.

The bill proposes a separate resolution process for insolvent small businesses, allowing them to initiate the proceedings and quicker settlement process.
The Bill introduces an alternate insolvency resolution process for Micro, Small, and Medium Enterprises (MSMEs), called the pre-packaged insolvency resolution process (PIRP). 

Key Terms:

• Insolvency: It is a situation where individuals or companies are unable to repay their outstanding debt.

• Bankruptcy: It is a situation whereby a court of competent jurisdiction has declared a person or other entity insolvent, having passed appropriate orders to resolve it and protect the rights of the creditors. It is a legal declaration of one’s inability to pay off debts.

What is a pre-packaged insolvency resolution mechanism?

A pre-packaged insolvency resolution mechanism is an alternative method of providing a corporate rescue plan for MSMEs.

• Under this framework, a debtor initiates and participates in the resolution proceedings with lenders through an informal process. Once the promoters of the company and the secured creditors agree on a resolution plan, they can approach the National Company Law Tribunal for approval.

Minimum default amount: Application for initiating PIRP may be filed in the event of a default of at least one lakh rupees.  The central government may increase the threshold of minimum default up to one crore rupees through a notification.

Debtors eligible for PIRP: PIRP may be initiated in the event of a default by a corporate debtor classified as an MSME under the MSME Development Act, 2006.  

• Currently, under the 2006 Act, an enterprise with an annual turnover of up to Rs 250 crore, and investment in plant and machinery or equipment up to Rs 50 crore, is classified as an MSME.  

• For initiating PIRP, the corporate debtor himself is required to apply to the adjudicating authority (National Company Law Tribunal).  

How is the pre-packaged resolution initiated? 

An MSME that has not met its payment obligation of ₹10 lakh can initiate this scheme with approval from lenders that have advanced 66 percent of the debt amount.

Approval of financial creditors: For applying for PIRP, the debtor needs to obtain approval of at least 66% of its financial creditors (in value of debt due to creditors) who are not related parties of the debtor.  

• Before seeking approval, the debtor must provide creditors with a base resolution plan.   
• The debtor must also propose the name of the resolution professional (RP) along with the application for PIRP.  
• The proposed RP must be approved by at least 66% of the financial creditors.

What is the corporate insolvency resolution process (CRIP)?

Under the existing CIRP model, an insolvent borrower is taken to bankruptcy court by the creditors for a timebound resolution and the process allows other entities to bid for the stressed entity.

How does the pre-packaged resolution process (PRIP) differ from CIRP?

Under CIRP, the promoter of a stressed unit cannot bid for it. A resolution professional is appointed to oversee the company’s activities and the incumbent promoters have to step down. The resolution professional also manages the bidding and resolution process, for which there is a 270-day deadline.

Under the pre-packaged resolution model, the stressed borrower can prepare a resolution plan with the creditors, which could involve selling the company to an investor, before approaching the NCLT. The borrower retains management control of the company until a resolution is decided.

The time limit for the resolution has been drastically reduced to 120 days – 90 days to submit a resolution plan and 30 days for the NCLT to approve or reject it. Promoters can also bid for their companies in the case of a buyout.

What are the benefits of the pre-packaged model?

Quick resolution:

• It is limited to a maximum of 120 days with only 90 days available to the stakeholders to bring the resolution plan to the NCLT.

• Besides offering a way for MSMEs to restructure their debts, the pre-pack scheme could also reduce the burden on benches of the NCLT by offering a faster resolution mechanism than ordinary CIRPs.

Minimizes Disruptions to the Business:

• Existing management retains control in the case of pre-packs rather than resolution professionals in CIRP, hence avoids the cost of disruption of business and continues to retain employees, suppliers, customers, and investors.

Addresses the entire liability side:

• PIRP will help CD to enter into consensual restructuring with lenders and address the entire liability side of the company.

Challenges of PIRP:

Raising additional capital:

• Initially CDs may not raise additional capital or debt from Investors or Banks, because of the risk involved in recovering the money being provided by these Investors and lenders.

Small timeline:

• Resolution Plan under PIRP is 90 days with an additional 30 days to AA (Adjudicating Authority) for support of the scheme. It is challenging for CoC (Committee of Creditors) members to decide on the Base resolution Plan within this short period without any broad parameters on which the Resolution Plan be approved.

Conclusion: 

The pre-packaged model proposed in this bill will provide a relief to NCLT because the tribunal is already burdened with several cases that can take several months. The tribunal will only have to reject or approve a resolution plan for MSMEs.

The promoters can continue to be in charge of their company until a settlement is reached and business activities can go on unhindered. The shorter time available for resolution will ensure that a company’s assets are not eroded.

MSMEs have an option to restructure their liabilities and start afresh without going through a lengthy and costly insolvency resolution process.

Source : PSIR, IE