Insolvency & Bankruptcy Code of India: Impact on FDI

Enacted in 2016, the Insolvency and Bankruptcy Code (IBC) represents a pivotal moment in India's economic and legal framework. It was introduced to address the burgeoning issue of non-performing assets (NPAs) in the banking sector and to transform the insolvency resolution process, ensuring it is both efficient and time-bound.

Objectives

The IBC is structured around three main objectives:

1. Efficient Resource Allocation: By streamlining the insolvency resolution process, the IBC ensures resources are used more effectively in the economy.

2. Business Rehabilitation: It provides a structured framework for reviving viable businesses, and fostering entrepreneurship and economic growth.

3. Investor Confidence: By establishing a clear, time-bound insolvency process, the IBC aims to strengthen investor trust in the Indian market.

The IBC and Foreign Direct Investment (FDI)

The introduction of the IBC has had a notable impact on Foreign Direct Investment in India, which plays a vital role in economic development. FDI brings with it numerous benefits:

• Capital Infusion: Helps fuel the economy by providing essential financial resources.
• Technology Transfer: Facilitates the adoption of advanced technologies and expertise.
• Job Creation: FDI generates employment across different sectors.
• Infrastructure Growth: Leads to enhanced infrastructure development through various projects.
• Market Access: Provides foreign investors with access to India’s vast consumer market.

The 2021 amendments introduced several key changes to the IBC

• Revised timelines for resolution processes.
• Enhanced qualifications and responsibilities for Insolvency Resolution Professionals (IRPs).
• Increased powers and decision-making authority for the Committee of Creditors (CoC).
• Streamlined procedures and improved efficiency at the National Company Law Tribunal (NCLT).

Key Features Insolvency and Bankruptcy Code (IBC), 2021

The Insolvency and Bankruptcy Code 2021 brought into existence a plethora of critical amendments and features aimed at enhancing the efficiency of the insolvency resolution framework in India. Reforms were directed to fill up gap areas, allow for smooth resolution process, and adapt to the new requirements emerging from businesses caused by changes in paradigms in the economy. The following are the key features of IBC 2021.

Pre-Packaged Insolvency Resolution Process (PPIRP) for MSMEs

One of the key additions to IBC, 2021, is the Pre-Packaged Insolvency Resolution Process PPIRP specifically for Micro, Small, and Medium Enterprises MSMEs. The process affords a more flexible and streamlined path to insolvency resolution that retains the best of debtor-in-possession and creditor-in-control mechanisms. Debtor-in-possession negotiations and settlement of insolvency involving debtors and creditors occur simultaneously without upsetting the continuation of current business operations. This fast and low-cost method is especially helpful for MSMEs that very easily get affected by extended insolvency procedures. For instance, this helps the business to remain operational even as the financial restructuring is taking place, thus saving value.

Simplified and Time-Bound Resolution Process

IBC, 2021, also opined that resolution processes should be time-bound. There was an attempt to prevent indefinite delays through rigid timelines: CIRP (Corporate Insolvency Resolution Process) shall be completed in 330 days and includes legal process. Similarly, for the newly created PPIRP, a similar timeline of 120 days is visualized; however, stakeholders have to present a resolution plan within the first 90 days. This focus on timeliness ensures faster decision making; this minimizes the blow to both creditors and debtors from financial loss because of the prolonged proceedings.

Creditor-Centric Approach

The IBC amendments have further placed the creditor-centric approach of control with financial creditors. It also placed further emphasis on control with creditors-thanks to the Committee of Creditors (CoC), where it has been provided that any decision of the committee should be voted 66 % for Majority. Thus, this stronger role of the creditor makes the position of those creditors having more financial exposure influential in the resolution procedure. It also allows creditors to determine liquidation if they believe that such would be in everyone's best interest.

Cross-Border Insolvency Framework (Proposed)

Looking forward, IBC, 2021, has laid down a foundation for a Cross-Border Insolvency Framework that is to address the growing issues of insolvency cases where either foreign stakeholders or assets are involved. The framework looks forward to improving coordination between Indian and foreign courts, based on the UNCITRAL Model Law on Cross-Border Insolvency, as the global economy is becoming increasingly interlinked, and this feature is critical for facilitating cooperation across borders in insolvency cases.

Liquidation Process Improvements

Code further streamlined the liquidation process. First, it introduced provisions that make decisions faster and, at the time of liquidation Process, even the sale process of an asset can be made more transparent. Also, with the facilitation to approve a scheme of compromise or arrangement outside of the formal liquidation, companies in distress get a faster way out.

Increased Focus on Individual Insolvency

One of the significant steps forward is that there is a greater emphasis on individual insolvency. The amendments expanded the scope of the IBC, which now specifically included provision for the insolvency and bankruptcy of both individuals and partnership firms in addition to corporate entities. This is particularly relevant for MSME promoters and personal guarantors of corporate debtors who may, equally, face financial distress. It has clarified and structured a procedure for the resolution of the insolvency issues of individuals, reflective of the holistic nature of the amendments.

?Protection for Corporate Debtors

One of the significant steps forward is that there is a greater emphasis on individual insolvency. The amendments expanded the scope of the IBC, which now specifically included provision for the insolvency and bankruptcy of both individuals and partnership firms in addition to corporate entities. This is particularly relevant for MSME promoters and personal guarantors of corporate debtors who may, equally, face financial distress. It has clarified and structured a procedure for the resolution of the insolvency issues of individuals, reflective of the holistic nature of the amendments.

Clarity on Rights of Secured Creditors

The amendments also clarified rights for secured creditors. Secured creditors can still exercise security interest rights even at liquidation, and such creditor claims are distributed equitably as far as proceeds go, which is an important element that protects the rights of secured lenders, thus making the resolution process fairer as far as secured creditors are concerned.

Resolution Plan Binding on All Stakeholders

Eventually, such amendments gave an assurance that once a resolution plan is accepted or approved, it holds good against all stakeholders-the government authorities. Such a binding cannot raise disputes or attempts to challenge the approved plan, which always caused unwarranted delays in the past. Such a binding ensures certainty and finality in the resolution process, causing less scope for later-day conflicts.

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UNCITRAL MODEL LAW ON CROSS-BORDER INSOLVENCY (1997)

The United Nations Commission on International Trade Law, or UNCITRAL Model Law on Cross-Border Insolvency, came about in 1997, reflecting the maturing feature of insolvency in this very globalized world. It has greatly affected the handling of cross-border insolvency across India. Since globalization and cross-border business activities are on the rise, India required an enhanced legal framework under the Insolvency and Bankruptcy Code, 2016, to handle cross-border insolvency cases more effectively. This way, the UNCITRAL Model Law is flexible and efficient in dealing with foreign assets or creditors and has harmonized insolvency proceedings. India feels the need for such an internationally accepted framework and is moving forward towards the incorporation of the principles from the Model Law into its domestic regime on insolvency.

The Need for Cross-Border Insolvency Framework in India

The IBC, enacted in 2016, was more or less focused on purely domestic insolvency issues, and provisions for cross-border cases were scant. The time then felt a need for a comprehensive framework for dealing with cross-border insolvency cases by the Indian companies as they started growing overseas and foreign investors began to take an interest in Indian businesses. This lack of clarity brought to the fore many issues arising in cases of spread assets and jurisdictions or even involved foreign creditors. It was over such considerations that India started looking for a set of solutions that could be adapted from the UNCITRAL Model Law provisions.

Draft Z: India's Proposed Cross-Border Insolvency Framework

Draft Z is an important amendment to the IBC, proposing provisions related to cross-border insolvency following the UNCITRAL Model Law. It would provide a structured legal framework which includes cooperation between Indian and foreign courts and, therefore, allow better coordination of overlapping insolvency proceedings that cross national borders. It will bring Indian insolvency practices abreast with international standards without compromising the sovereignty of the country's laws and public policy concerns.

?Key Features of Draft Z Aligned with UNCITRAL Model Law

• Access: Draft Z provides foreign insolvency professionals or representatives with direct access to Indian courts, allowing foreign creditors to form a part of insolvency proceedings in India but in a way which treats cross-border claims equitably
• Recognition: Courts under Draft Z would allow Indian courts to recognize foreign insolvency proceedings. So, protective measures like a moratorium on debtor assets in India are permissible so that these are not dissipated during the pendency of the foreign insolvency processes
• Cooperation and coordination: Draft Z promotes cooperation between Indian and foreign courts as well as administrators to better coordinate across borders, avoid duplication, and ensure fair treatment of worldwide creditors. The procedures of Indian are harmonized with the proceedings elsewhere and avoid conflicting decisions or smooth handling of the cases
• Relief: Draft Z contains a public policy exception in its terms as stated that the Indian courts can refuse to recognize foreign proceedings in case such proceedings prove to be against India's public policy; which would thereby protect the country's interest along with that of the law and economics as well.

Impact of Insolvency & Bankruptcy Code of India on FDI

The Insolvency and Bankruptcy Code (IBC) of India, enacted in 2016, represents a landmark reform in the Indian financial and legal landscape. Its primary objective is to consolidate and amend the laws relating to the reorganization and insolvency resolution of corporate persons, partnerships, and individuals. The implementation of the IBC has had profound implications for foreign direct investment (FDI) in India. This report explores the multifaceted impact of the IBC on FDI through several key dimensions.

Safeguarding Foreign Investments

The IBC has established a structured framework for insolvency resolution, which is crucial for safeguarding foreign investments. Prior to the enactment of the IBC, investors faced significant risks due to the lack of a coherent insolvency framework. The previous regime was characterized by prolonged litigation and uncertainty, which deterred potential foreign investors. With the introduction of the IBC, foreign investors can now invest with greater confidence, knowing that there are clear legal protections in place. The code prioritizes the interests of creditors and provides a transparent process for resolving insolvencies. This transparency is vital for foreign investors who seek assurance that their investments will be protected and that they have recourse in case of financial distress.

Faster Resolution Processes

?One of the most significant advantages of the IBC is its emphasis on time-bound resolution processes. The code mandates that insolvency resolution proceedings must be completed within 180 days, extendable by an additional 90 days under specific circumstances. This contrasts sharply with previous frameworks where resolution could take several years, leading to substantial losses for creditors and investors alike. The expedited timelines enhance predictability for foreign investors, allowing them to assess risks more accurately and make informed investment decisions. According to a report by the World Bank, countries with efficient insolvency frameworks tend to attract higher levels of FDI due to reduced uncertainty surrounding potential losses.

Improved Recovery Rates

The introduction of the IBC has led to a marked improvement in recovery rates for creditors, including foreign investors. Prior to the IBC, recovery rates in India were among the lowest globally, often averaging around 26.5% (World Bank Doing Business Report 2016). However, recent data indicates that recovery rates have surged significantly since the implementation of the IBC. As per the World Bank's Doing Business Report 2020, India's recovery rate improved to approximately 71.6%. This increase not only reflects a more efficient insolvency process but also enhances investor confidence. Higher recovery rates mean that foreign investors are more likely to recoup their investments in case of corporate distress, making India a more attractive destination for capital inflow.

Boosting India's Ranking

The reforms introduced by the IBC have had a positive impact on India's ranking in global indices measuring ease of doing business. In particular, India's position in the "Resolving Insolvency" category has improved dramatically. According to the World Bank's Doing Business Report, India ranked 136th in this category in 2016 but climbed to 52nd by 2020. This improvement is indicative of a more favorable business environment and reflects positively on India's commitment to enhancing its regulatory framework. A higher ranking not only boosts investor confidence but also positions India as an emerging market with significant potential for growth. Foreign investors are increasingly looking at countries with favorable rankings as they correlate with lower investment risks.

Diverse Investment Opportunities

The IBC has facilitated the emergence of diverse investment opportunities for foreign investors in India. By providing a structured process for resolving stressed assets, the code enables new ownership structures through asset acquisition and corporate restructuring. This creates avenues for foreign entities to acquire distressed companies at competitive valuations. Moreover, as domestic firms face financial challenges and seek strategic partnerships or capital infusion, foreign investors can step in as stakeholders or partners. This dynamic fosters innovation and competitiveness within various sectors of the Indian economy. Additionally, sectors such as manufacturing, infrastructure, and technology have seen increased interest from foreign investors looking to capitalize on distressed assets or companies undergoing restructuring processes facilitated by the IBC.

In summary, the Insolvency and Bankruptcy Code of India has significantly transformed the landscape for foreign direct investment in the country. By safeguarding foreign investments through clear legal protections, ensuring faster resolution processes, improving recovery rates for creditors, boosting India's global ranking in ease of doing business, and creating diverse investment opportunities, the IBC has made India an increasingly attractive destination for foreign capital. As India continues to evolve its regulatory framework and enhance its economic environment, stakeholders must remain vigilant in monitoring developments related to insolvency laws. The ongoing effectiveness and adaptability of the IBC will play a crucial role in sustaining investor confidence and driving further growth in FDI inflows into India.

CASE STUDY: ESSAR STEEL INSOLVENCY

The Essar insolvency case was one of the most high-profile and complex cases in India's history of corporate bankruptcy, marking a pivotal moment in the country's Insolvency and Bankruptcy Code (IBC) framework. Here's a detailed report on the case:

Background: Essar Steel

Essar Steel India Limited was a key player in India’s steel industry, founded by the Essar Group, an Indian multinational conglomerate. At its peak, Essar Steel had an annual production capacity of around 10 million tonnes, but due to financial mismanagement, rising debts, and a downturn in the steel market, the company fell into severe financial distress.

By 2017, Essar Steel was reeling under a debt of around ?54,000 crore (approximately $7.7 billion). The company's financial troubles made it one of the largest defaulters in the Indian banking sector.

Insolvency and Bankruptcy Code (IBC), 2016

In 2016, the Indian government introduced the Insolvency and Bankruptcy Code (IBC) as a unified legal framework for resolving corporate insolvency. The IBC was designed to ensure faster resolution of non-performing assets (NPAs) and provide a clear and time-bound process for reorganizing or liquidating distressed companies.

In 2017, the Reserve Bank of India (RBI) identified 12 large companies, including Essar Steel, to be fast-tracked for insolvency under the IBC due to their enormous outstanding debts.

Insolvency Process Begins

In June 2017, the State Bank of India (SBI) and other creditors initiated insolvency proceedings against Essar Steel under the IBC. The National Company Law Tribunal (NCLT), the adjudicating authority under the IBC, admitted the case and appointed a Resolution Professional (RP) to take control of the company's management and oversee the insolvency process.

Key Players in the Case

Several parties were involved in the resolution process of Essar Steel:

1. ArcelorMittal: The world's largest steelmaker, led by Lakshmi Mittal, was one of the main bidders. ArcelorMittal had initially been disqualified due to its past ownership of other defaulters in India, but it later cleared its dues and became eligible.
2. Numetal: A consortium backed by Russia’s VTB Bank and Rewant Ruia (a member of the Essar Group's founding family) also submitted a bid for Essar Steel. However, its bid was challenged due to concerns about Rewant Ruia’s involvement, raising issues under the IBC’s section 29A, which bars promoters of defaulting companies from regaining control of their assets.
3. Essar Steel’s Creditors: The company owed substantial amounts to a consortium of banks led by SBI and other financial institutions. These creditors played a significant role in evaluating and selecting the winning bid under the IBC process.

Bidding War and Legal Battle

A bidding war between ArcelorMittal and Numetal ensued. The process was mired in legal challenges, particularly surrounding the eligibility of the bidders under section 29A of the IBC. Both ArcelorMittal and Numetal's bids were initially rejected on grounds of ineligibility, as both had links to defaulting companies.

• ArcelorMittal: The company cleared ?7,000 crore worth of dues related to Uttam Galva and KSS Petron (its previous non-performing investments) and became eligible to bid again.
• Numetal: The consortium's bid faced hurdles due to Rewant Ruia’s involvement, and eventually, it was disqualified from the bidding process.

After several rounds of bids and litigation in various legal forums, including the NCLT and the National Company Law Appellate Tribunal (NCLAT), the case finally reached the Supreme Court of India.

Supreme Court Verdict

In November 2019, the Supreme Court delivered a landmark judgment in favor of ArcelorMittal, approving its ?42,000 crore (approximately $5.8 billion) bid to acquire Essar Steel. The ruling also settled several key issues under the IBC:

1. Role of Committee of Creditors (CoC): The Supreme Court upheld the decision-making power of the CoC, stating that it had the authority to decide how the proceeds from the resolution would be distributed among various creditors (financial and operational creditors). This affirmed the supremacy of financial creditors in the IBC process.
2. Distribution of Proceeds: The Court ruled that the CoC's decision to prioritize financial creditors over operational creditors in the distribution of the resolution proceeds was valid, provided it was fair and reasonable.
3. Section 29A of IBC: The verdict reinforced the strict disqualification criteria under section 29A, preventing defaulting promoters from regaining control of their companies.

Resolution and Acquisition by ArcelorMittal

After the Supreme Court’s ruling, ArcelorMittal’s acquisition of Essar Steel was completed in December 2019. The deal marked ArcelorMittal’s entry into the Indian steel market, making it a significant player in India’s steel industry.

• ArcelorMittal formed a joint venture with Japan’s Nippon Steel to manage Essar Steel, renaming the company ArcelorMittal Nippon Steel India (AM/NS India).
• The acquisition not only helped recover a significant portion of Essar Steel’s debts but also restored confidence in India’s fledgling IBC process.

Implications of the Case

The Essar Steel insolvency case was seen as a test of the effectiveness of India’s IBC and had several far-reaching implications:

1. Strengthening IBC: The case highlighted the IBC framework's robustness, especially the CoC's empowerment to make critical decisions regarding the insolvency resolution process. It also underscored the importance of adhering to strict timelines to ensure faster resolution.
2. Legal Precedents: The case set important legal precedents regarding the interpretation of the IBC, particularly concerning the rights of operational creditors, the role of the CoC, and the applicability of section 29A, which barred defaulting promoters from bidding for their own companies.
3. Restructuring the Steel Industry: The resolution led to a major restructuring in India’s steel industry. With ArcelorMittal taking over Essar Steel, India’s steel production capacity increased, and it attracted more global interest in the country’s steel sector.
4. Boost to Insolvency Resolution Process: The successful resolution and the recovery of a significant amount of debt helped banks clean up their books, particularly for large NPAs. The case also demonstrated that India's insolvency process could deliver successful outcomes for even the largest of companies.

Conclusion

The Essar Steel insolvency case was a landmark event in India’s corporate and legal landscape. It tested the effectiveness of the IBC, established critical legal precedents, and showcased India’s commitment to resolving bad loans and cleaning up its banking system. The successful resolution and acquisition by ArcelorMittal Nippon Steel India not only rejuvenated Essar Steel but also provided a major boost to the country’s steel industry.

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Recent developments in India's Insolvency and Bankruptcy Code (IBC) reflect ongoing reforms aimed at improving the efficiency of insolvency resolution and liquidation processes.

IBC (Amendment) Act, 2023: This amendment enhances creditor rights, particularly in corporate insolvency processes. For instance, creditors can now submit claims beyond standard deadlines, and the resolution professional can assist in managing such claims. This change aims to ensure more flexibility and efficiency, especially for complex cases

• Role of Authorized Representatives: Revisions to the IBC now allow for more dynamic management of financial creditors, particularly through the enhanced role of authorized representatives (ARs). Creditors, especially homebuyers, can benefit from better communication, involvement in the resolution process, and additional representation options
• Liquidation Process Amendments (2024): The 2024 amendments to the liquidation process emphasize greater accountability for liquidators. Liquidators are now required to consult a committee before pursuing legal actions or continuing operations as a going concern. The amendments also aim to increase transparency through more detailed reporting on costs, legal proceedings, and liquidation progress.