Strengthening dispute resolution for small businesses in India

The Indian government pushed an update to the Commercial Courts Act 2016 to bring down the amount over which it can be approached to 300,000 INR. This is a welcome change and will build a strong case for the small Indian businesses and grow the business environment overall. Specially in the ecommerce, FMCG and Retail sectors.

Statistics on Indian Companies : The land of small business owners

There are a total of 11.7 Lakh (1.17 Million) companies registered in India. Out of these, some 97,000 companies were registered in 2016-2017 alone. This is close to 10% of all the companies registered in India since forever.

Last year in dec 2017, Government of India struck off some 209,000 Companies off its registers and is in the process of removing off some 250,000 More companies as you read this.

Do the math. This will make the number of registered companies in India to 600,000. Out of which almost 97,000 registered in 2016-17. A whopping 16%.

These companies are serviced by 240,000 Registered Chartered accountants, 125,000 of whom are in full time practice.

Add to that the number of businesses in Unorganized sector. Out of a working population of some 70% of India, some 1.3% are employers in Informal sectors.

Bottom line, that there are a lot of businesses out there. And a lot of people doing business.

And when these many people are interacting, issues are bound to come up, and here our Infrastructure was failing us. Till now.

Present Dispute resolution methods (Before)

Justice delayed in justice denied.

If you are a distributor, and you didn't get your payment from the online platform in stipulated time, there was very little you could do on it. Most probably be nice, increase payment follow ups, stop supplies or if all else failed, lodge a complaint with the courts.

The present legal system in India till 2015, made a business file commercial breach of contract, or breach of trust in the same courts as the ones dealing with rest of the criminal cases. This takes years to resolve.

So you will notice, that most legal contracts in India talk about "Binding arbitration" as the first step. But the Arbitration and Conciliation act of 1996 didn't allow for a time frame based arbitration. Its just that they are a tad faster than a court, but more expensive, as an arbitration is paid for by the parties.

Below: Dispute resolution mechanism in India (courtsey Nishit Desai Associates)

( The Government bodies in dotted lines are new creations via Commercial Courts Act)

So you can understand that if one party is a small business owner, and the other is an ecommerce behemoth, the small business might just get choked under the arbitration being dragged on and on for months and that cost offsetting whatever gain was to be had.

Therefore under this climate has grown a particular style of doing business in India, where businesses try their best to not let the matter reach court or arbitration.

If the matter reached courts, the defendants would not appear and keep delaying the matter in the courts.

Enter the Commercial Courts Act 2016 (After)

Because of the delaying tactic from defending businesses, the indian judiciary was being overburdened, where the cases would refuse to close, dragging on for years. The Indian government then went and passed two crucial legislations paving way for businesses to enable quick resolution of disputes. One was the Commercial Courts Act of 2016, and the other was the Insolvency and bankruptcy code of 2016.

One major change these acts brought was that the disputes were to be cleared off in a time bound manner. The defendant not appearing in front of the court was not a reason to grant extension any more.

Below: The timelines for resolution of disputes under the present system (Courtesy Nishith Desai and Associates)

And needless to say, it showed results pretty quickly. One of the first publicised cases that this new law brought was Stayzilla.

What happened with StayZilla?

Stayzilla was one of the fastest growing startups which learnt the pains of dispute resolution and legal wranglings the hard way.

Stayzilla had announced that they will be closing the businesses, and clearing off all accounts. But one of the vendor accounts was not cleared as stayzilla disputed the payment on grounds of deficiency of services. Based on the agreement document the vendor first filed a criminal complaint of fraud and cheating on the founders and then dragged stayzilla to court for non-payment of 1.76 crores of dues.

But you see, if a dispute arises and formal process invoked, then you don't control the narrative. The narrative is then whatever the court mandates as truth, and courts need proof. Winning the court of public opinion doesn't matter much.

The case in this case quickly moved to newly constituted NCLT (National company Law tribunal, which replaced earlier body called "Company Law board") where the vendor requested for insolvency proceedings to recover dues. An appeal in March 2018 to supreme court also couldn't stop the process of liquidation.

Why update the Commercial Courts Act 2016

On 1 august 2018, the Indian government made an important change to the Commercial Courts act. Before the change, the commercial courts could only take up cases involving Rupees 1 Cr. (10 Million) or more.

Now the limit has been relaxed to rupees 3 Lakhs.

If you have been following the graphs above, you can easily see how all of a sudden, now the net of companies that can bring cases in the court has been widened.

Below: Ministry of corporate affairs data on distribution of companies by Authorized share capital

This has 3 important aspects that you need to be aware of

1. Smaller Businesses can now thrive: The courts and its resources were out of bounds for most small businesses. So the trend was the large business dictating terms of payments and other issues. Now a scrappy small business on the right side of law can bite a big hole as well. There will be costs, but over all, the big businesses lose more if 10 scrappy small businesses are filing cases on similar accounts. Therefore there is a good chance that the big businesses will sober up and be more careful with their practices. Over all the atmosphere of doing business in India improves.
2. Favors Indian Companies : India has been a land of small entrepreneurs, while the only foreign companies that have been able to make it here are multinationals. If you read this change with the ecommerce policy in works that prohibits international ecommerce companies from holding stocks, you will see where this is going. Now the International companies running platforms in India will have to be more careful in their vendor handling and negotiations, or incur huge costs.
3. Earns extra revenue for the government: Most litigations that are started by companies have a silent beneficiary, that is the government. Legal way of doing business in India is still catching on. The ROC (Registrar of companies) regularly finds companies falling behind on mandated requirements and initiates processes. However this income from fines has fallen down in last few years. So once the cases start accumulating in tribunals, think of it as a leads database for ROC to dip in and make the most of it.

Conclusion

Overall it's easy to see that the climate in India is changing. It's not just individuals who are being made more accountable from top down, it's also the companies through GST. Now with the changes brought about by new legislations, the accountability is being forced horizontally as well. The impact of business size is being reduced, more judicial capacity being built to address smoother arbitration and resolution of disputes. If you are a start-up, therefore the need for you to do business the way it's supposed to be becomes important.

So don't try to find the arbitrage by taking shortcuts to save pennies with things like not filing your mandated ROC documents on time, or sidestepping the agreements that you have signed, as it can have devastating effect. On the same note, don't keep sitting if you are not getting a proper resolution, but take action.

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Resources

1. https://www.nishithdesai.com/fileadmin/user_upload/pdfs/Research%20Papers/Dispute_Resolution_in_India.pdf
2. https://www.mca.gov.in/Ministry/pdf/English_AnnualReport04022018.pdf

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Disclaimer: The views expressed in this article are my own and don't reflect the views of any of my employers, present or past.

Satyarth