The ruling of the Apex Court in Pioneer Urban Land and Infrastructure vs. Union of India, comes as a breather for home-buyers (all and sundry), upholding the constitutional validity of the amendments brought out in section 5(8) of the Insolvency and Bankruptcy Code, 2016 (“IBC”).
Section 5(8) defines ‘financial debt’ as a debt alongwith interest, if any, which is disbursed against the consideration for the time value of money and includes “any amount raised under any other transaction, including any forward sale or purchase agreement, having the commercial effect of borrowing” [clause (f)]. An explanation was inserted, wherein “any amount raised from an allottee under a real estate project shall be deemed to be an amount having the commercial effect of a borrowing”. Read more
By Sikha Bansal
The Insolvency and Bankruptcy Board of India has notified the Insolvency and Bankruptcy Board of India (Liquidation Process) (Amendment) Regulations, 2019 (“Amendment Regulations”) and introduced major changes in the existing law. Majority of the amendments are curative, therefore, intended to resolve practical difficulties arising in liquidation proceedings as have been experienced so far.
The note below discuss salient features of the amendments, regulation-wise. Read also, Liquidation Regulations: Wide-ranging, far-reaching changes to make liquidations faster, smoother, by Mr. Vinod Kothari.
1. Date of enforcement
The Amendment Regulations shall come into force from the date of their publication in the official gazette, which is 25th July, 2019 (“date of enforcement”).
While the amendments would be clearly applicable to liquidation proceedings commencing on or after the date of enforcement of the Amendment Regulations; the applicability and manner of application of the Amendment Regulations on the ongoing proceedings need to be assessed.
Given the curative nature of amendments, it would be reasonable to apply the amendments to ongoing proceedings as well; as is also evident from the fact that the Amendment Regulations carve out exceptions wherever needed (e.g. regulation 4).
2. Regulation 2(1)(ba) – Definition of consultation committee
Section 35(2) empowers liquidator to consult such stakeholders who are entitled to distribution of proceeds, and it explicitly provides that the consultation shall not be binding on the liquidator.
The regulations, while maintaining the non-binding nature of the consultations, calls for constitution of a ‘consultation committee’ of stakeholders, which shall be constituted in the manner described in the Amendment Regulations – see notes below.
3. Regulation 2(1)(ea) – Expanding the scope of liquidation cost
The definition of “liquidation cost” has been expanded.
The liquidators have to incur several costs on ongoing basis to run the liquidation proceedings. These were simply ‘operational costs’ during liquidation period, which were to be paid from the liquidation estate. However, the earlier definition of liquidation cost was too narrow – thereby, not including such operational costs. As such, there was lack of clarity as to how such operational costs be accounted for.
The Amendment Regulations, by amending the definition of liquidation cost, includes all such costs as may be incurred by the liquidator for completing the liquidation process. Therefore, the liquidation cost shall be determined accordingly.
This will also impact the computation of liquidator’s fee, as the net realisation on which liquidator’s fee is computed under regulation 4 will also stand reduced. In our view, the amended definition of liquidation cost will apply to computation of liquidator’s fee in ongoing liquidation proceedings, although regulation 4 will apply as it stood before amendment – see our notes below.
Liquidation cost, as it has been clarified, shall not include the costs incurred in relation to compromise or arrangement under section 230 of the Companies Act, 2013 – such costs are to be incurred by the corporate debtor (where scheme is sanctioned by the Tribunal) or by the parties proposing the scheme (where scheme is not sanctioned by the Tribunal).
4. Regulation 2A – Contribution to liquidation cost by financial creditors
The amendment has to be read in synchronization with the newly inserted regulation 39B of the CIRP Regulations (inserted vide amendments w.e.f. 25.07.2019).
Regulation 39B of the CIRP Regulations provides for meeting liquidation cost. While approving a resolution plan or deciding to liquidate the corporate debtor, the committee of creditors may make a best estimate of the amount required to meet liquidation costs, in consultation with the resolution professional, in the event a liquidation order is passed by the adjudicating authority. The committee of creditors shall also make a best estimate of value of the “liquid assets” available to meet the estimated liquidation costs. In case there is a deficit in meeting the estimated liquidation costs, the committee of creditors shall also approve a plan “providing for contribution for meeting the difference between the two”. Such plan is to be submitted by the resolution professional to the adjudicating authority along with the submission of resolution plan or decision of committee of creditors to liquidate the corporate debtor.
Regulation 2A of the Liquidation Regulations, shall be read in continuation of Regulation 39B of the CIRP Regulations. Regulation 2A will apply by default when the committee of creditors did not approve a plan (as under regulation 39B) for meeting the liquidation costs. In such a case, financial creditors (that too, only financial institutions) shall be required by the liquidator to contribute for the deficit, in proportion to the financial debts owed to them by the corporate debtor. The contribution is to be deposited by the liquidator in a designated escrow account in a scheduled bank, within 7 days of the liquidation order. Such contribution is also eligible for interest at bank rate, and shall be repaid as part of liquidation cost.
(i) There is no specification as to what comes under “liquid assets” (neither under CIRP Regulations, nor under Liquidation Regulations) – therefore, in our view, the same may be taken to be cash and bank balances and expected cash flows during liquidation (say, where the corporate debtor gets regular income in the form of dividends, interest, rents, etc.);
(ii) The contributories are financial creditors, that too, only financial institutions. Therefore, a financial creditor, which is not a financial institution, may not be required to make a contribution, inspite of being highest in priority order u/s 53;
(iii) Financial creditors may be secured or unsecured – there is no specification. However, in general, since the contributory is a financial institution, it would be a secured creditor;
(iv) Though, not treated as interim-finance, the contributions made by the creditors being contributed towards liquidation costs are to be paid in priority alongwith interest. The tenure of interest shall be from the date of contribution to the date of repayment, in the absence of any provision in the Amendment Regulations;
(v) Such contributions cannot be used for costs incurred in relation to compromise or arrangement u/s 230 of the Companies Act, 2013;
(vi) Notably, such contributions cannot be attached in any recovery proceedings (by ED, etc.) as these are not assets of the corporate debtor.
5. Regulation 2B – Compromise or arrangement post liquidation order
Several NCLAT Rulings facilitated compromise or arrangement under section 230 of the Companies Act, 2013 even after liquidation order being passed under section 33 of the Code. There had been no explicit enabling provision under the Code or the Regulations for such compromise/arrangement.
The Amendment Regulations insert regulation 2B in the Principal Regulations to provide for compromise and arrangements post liquidation order – though the window of 90 days seems to be short. Such time shall not be included while determining the liquidation period (which has now been capped to 1 year).
The costs of such compromise/arrangement shall be borne by the corporate debtor (where the scheme is sanctioned by the Tribunal), or by the parties proposing the scheme (where the scheme is not sanctioned by the Tribunal).
The liquidator’s fee for such period may be fixed by the committee of creditors (refer, newly inserted regulation 39D of the CIRP Regulations), or otherwise, shall be at the same rate as resolution professional was entitled to during the corporate insolvency resolution process.
The Amendment Regulations are silent on whether persons ineligible under section 29A can propose a compromise/arrangement – the answer may evolve gradually with judicial intervention.
As to detailed logistics or procedure, one will have to follow the provisions of the Companies Act, 2013 and the relevant rules framed under the Companies Act, 2013 – however, given that there is no maximum time limit imposed under the Companies Act, 2013 for completion of the process, there might be anomalies/gaps in implementation of the process under the Code.
6. Regulation 4 – Liquidator’s fee
As evident, the manner of computation of liquidator’s fee will change because of the following –
(i) Introduction of provisions relating to compromise/arrangement – The liquidator will get fee at the same rate as the resolution professional was getting during corporate insolvency resolution process;
(ii) Reduction in liquidation period from 2 years to 1 year – The third column relating to “next 1 year” has now been skipped. However, the slab as was existing before the Amendment Regulations shall continue to apply to ongoing liquidation proceedings.
(iii) Change in the scope of liquidation costs – Net realisation on the basis of which liquidator’s fee is calculated, will now be lesser than before. This interpretation, in our view, should apply to ongoing liquidation proceedings as well – as there is no retention clause with respect to definition of liquidation cost.
7. Regulations 12 and 16 – Submission of claims vs. updation of claims during liquidation
The stakeholders can now “update” their claims, if they have submitted the same during corporate insolvency resolution process. However, it seems inevitable that even updation would need submitting a formal proof, as amendment in regulation 16 clearly requires that a person shall prove its claim as on the liquidation commencement date.
8. Regulation 21A – Relinquishment of security interest & Proportionate sacrifice for workmen claims
The Amendment Regulations have come up with 2 notable amendments –
(i) The decision of relinquishment, if the secured creditor decides to do so, shall be intimated along with the claim (that is, within 30 days of public announcement) submitted in the form itself;
(ii) The secured creditor, if decides to realise the security, shall have to forego the value realized from security interest, in favour of – (a) insolvency resolution process costs and liquidation costs, and (ii) workmen dues for 24 months preceding the liquidation commencement date, in proportion of the amounts due as such. This seeks to bring back the proviso to section 529 of the Companies Act, 1956.
9. Regulation 31A – Stakeholders’ Consultation Committee
Certain important observations from the amendments –
(i) The consultation committee is to be constituted within 60 days of liquidation commencement date.
(ii) This committee shall be based on the list of stakeholders. Note that stakeholders are those who are entitled to distribution under section 53. Hence, those persons who have not filed their claims (except workmen/employees who have not been mandated to do so) and those secured creditors who have not relinquished security interests are not entitled to be on the seat.
(iii) The role of this committee is limited to advising on matters relating to sale. As such, they shall have access to all relevant details required to provide advice to liquidator.
(iv) Subject to certain conditions, secured creditors (relinquishing) get a maximum of 4 seats, unsecured financial creditors get 2 seats (max.), workmen and employees together get 1 seat, government is to have 1 seat, residuary operational creditors can have 1 seat, as also shareholders/partners. It is not clear as to whether persons falling in any of these categories but belonging to ex-management/board of directors of the corporate debtor can be made part of the consultation committee, even if there are legal proceedings pending against them under the Code.
(v) Each class may select its own representative, failing which, the liquidator shall include highest ranking claimant in the class, in the committee.
(vi) The advice is to be given by way of voting. Note that there is no decision-making by creditors. The liquidator just gets to know the majority sense by way of voting. The advice shall be given by at least 66% of the representatives present and voting. If the liquidator decides differently from such 66% majority, he has to record reasons in writing. It implies that where the limit of 66% is not achieved, the requirement of recording reasons will not be attracted.
10. Regulation 32A – Sale as a going concern
Going concern sale has been advocated to be preferred mode of sale where – the committee of creditors had recommended such sale, or where liquidator is of the opinion that such sale will maximise value. The maximum time limit within which going concern sale is to be attempted is 90 days from the liquidation commencement date. In case the sale does not happen as such, the liquidator shall attempt other modes of sale – slump sale, piecemeal sale, etc.
Note that as provided under regulation 44, where sale is attempted as going concern, the liquidation process may take an additional time upto 90 days beyond the liquidation period of 1 year.
Further, where the sale of corporate debtor is on going concern (and not business of the corporate debtor), the liquidator, instead of applying for dissolution of the corporate debtor, shall apply for closure of liquidation proceedings at the conclusion of the process.
11. Regulation 35 read with Schedule I – Optional revaluation of assets & Determination of Reserve Price
As per existing requirement, where the valuations have been conducted during corporate insolvency resolution process, the liquidator would have to consider the valuations as done during corporate insolvency resolution process, and it was mandatory for the liquidator to use the same valuations.
However, the Amendment Regulations provide an option to the liquidator to either take reference of existing valuations or go for fresh valuations, if in his opinion, it is so required under the circumstances.
Also, the reserve price shall be determined on the basis of valuations done under regulation 35. The Amendment Regulations have done away with the requirement of revaluing the assets every 6 months. Instead, the liquidator can reduce the reserve price gradually in case of failed auctions – 25% at the first instance, and then 10% at each instance. Conservatively, 10% shall be calculated on diminishing value of the asset.
12. Regulation 42 – Reduced time gap between realisation and distribution
The Amendment Regulations reduces the time gap between realisation and distribution from 6 months to 90 days. That is, moneys realized shall be distributed within 90 days.
13. Regulation 44 – Reduction in maximum period allowable for liquidation
The Amendment Regulations have reduced the allowable liquidation period from 2 years to 1 year. Therefore, for any extension beyond this period, the liquidator shall have to apply to the adjudicating authority.
Notably, the liquidation proceedings can be concluded notwithstanding pendency of any application for avoidance of transactions before adjudicating authority.
Hence, corporate debtor can be dissolved even if such applications are pending.
14. Regulation 45 – Compliance report by liquidator along with application for dissolution
The application for dissolution of the corporate debtor or closure of liquidation process, as the case may be, shall be accompanied by final report (as required earlier), and also one compliance certificate in the prescribed format. The format has been provided in the Amendment Regulations.
Schedule I, para 12 – Delay in tendering sale consideration to attract interest
The time period of tendering payments against liquidation sale has been extended from 15 days to 90 days. However, payments after 30 days will attract interest @ 12% (note: Per annum is not mentioned in the regulations; however, it seems to be an inadvertent omission).
Sale shall be cancelled if payment is not received within 90 days.
Note that the regulations are still not clear on the penal consequences that will follow if the buyer fails to pay within the timeframe and the sale is cancelled. Such terms are therefore, to be indicated in terms of sale.
Link to other relevant articles:
The attention that reforms in liquidation regulations has received, relative to what has gone in case of resolution, is far lesser than deserved, given the percentage of the resolution cases that slip into liquidation. Most of the major liquidations initiated 12 to 18 months ago are either making a very tardy progress, or are stuck into dead-ends. There were several needed changes in the Liquidation Regulations, and it is so very heartening to see the IBBI announce the amendments vide the Insolvency and Bankruptcy Board of India (Liquidation Process) (Amendment) Regulations, 2019, concluding a consultation process that began almost 8-9 months ago. The best part is, the amendments have incorporated most of the useful suggestions that were made either in the roundtable meetings held across the country, several comments and write-ups, or subsequently in response to the Discussion Paper.
The amendments impose far stricter timelines on the liquidators, but at the same time, smoothen the processes for him, particularly by relying less on periodic valuations and removing the cap on the reduction of the reserve prices. The queer concept of going concern sale in liquidation has also been enabled by making clearer rules, by a creditor-driven process of defining the bundle of assets and liabilities that are to be transferred by way of a going concern. The concept of schemes of arrangement during liquidation has defined time limits now. Relinquishment of security interest too has a definitive timeline. The process of consultation by liquidators is also quite well defined. On the whole, attempts have been made to resolve most of the difficulties that were being encountered in the ongoing liquidation matters.
The major highlights of the amendments are as follows:
Liquidation costs on financial institutions
One of the major concerns in on-going liquidations is lack of liquidity. The liquidator finds the liquidation estate is either completely dry, or may get some cashflows, but the same may come after protracted time. In such cases, how does the liquidator meet the running expenses of the liquidation proceedings?
First of all, the word “liquidation costs” is now much better defined, with several inclusions. While, some of the inclusions in the definition may continue to raise questions – for example, “costs incurred….for preserving and protecting the assets, properties, effects and actionable claims, including secured assets, of the corporate debtor”, one must appreciate that the definition is now far more comprehensive than it was. This however, shall not include the costs incurred towards a scheme of compromise or arrangement under the Companies Act, 2013, if applicable. The same has been dealt with further in the article.
The amendment has to be read in synchronization with the newly inserted regulation 39B of the IBBI (Insolvency Process for Corporate Persons) (Amendment) Regulations, 2019
Further, the newly inserted provision in Reg 2A states that where the liquidation costs are estimated by the liquidator to exceed the realisations, the liquidator may call up “financial institutions” to contribute to the same, in proportion to their share in the “financial debts”.
“Financial institutions” is defined in section 3 (14) of the Code to include banks, NBFCs and public financial institutions.
The shortfall may be claimed by the liquidator on the basis of an estimate, within 7 days of the passing of the liquidation order. The timeline of 7 days seems impractical for several reasons – first, within 7 days of the passing of the liquidation order, it will be impossible for the liquidator to get an estimate of the recurring costs, more so when he may not have been resolution professional. Secondly, since the contributions are to be made in proportion to financial debts, the process of filing and admitting claims may not have begun at all at this time. Also, the applicability of this provision to existing liquidation matters will remain unclear.
Further, while demarcation on the basis of secured and unsecured financial creditors (read: institutions) remains unclear, it must also be noted that such contributions cannot be used for costs incurred in relation to compromise or arrangement u/s 230 of the Companies Act, 2013
This contribution by the financial institutions is akin to an interim financing during liquidation, as this contributions remains escrowed, and has a first claim on the liquidation waterfall, as a part of “liquidation costs”. However, inclusion of this financing as a part of liquidation costs results into a circular logic – the contribution itself is to fund liquidation costs, and it is a part of liquidation costs itself. That brings a complicated question of prioritisation within a particular clause of section 53 (1) – in this case, clause (a).
The strange and almost untenable conclusion of this is that whereas as shareholders have a limited liability and use default and liquidation as the option, so that they pay nothing over and above their equity in the company, lenders may run the prospect of having to lose all their debt, and yet end up paying for liquidation costs. Hopefully, lenders will realise the need for taking hard decisions, including, potentially, an action of striking off the name of the company after giving up their security interests and claims.
Resolution during liquidation – compromise and arrangement
The Appellate Tribunal in S.C. Sekaran v. Amit Gupta & Ors., referring to the order of the Hon’ble Supreme Court in Meghal Homes (P) Ltd. Vs. Shree Niwas Girni K.K. Samiti & Ors, has highlighted that liquidators may try to see if schemes of compromise or arrangement are feasible, even during liquidation. Notably, section 230 of the Companies Act, and corresponding provisions of the Companies Act, 1956, nay, UK Companies Act, 1948, have always enabled presentation of schemes of arrangement during liquidation by the liquidator.
The newly inserted reg 2B now provides that where a scheme of compromise or arrangement is proposed under section 230, “it shall be completed within ninety days of the order of liquidation”. It is unclear as to what is to be completed within 90 days. As is well known, there are several sequential steps in a scheme under section 230; –making of the scheme by the person wanting to present it, presentation of the scheme before the NCLT, ordering of meetings by the NCLT of members as well as creditors, if applicable, filing of report of the meeting of members and creditors with the NCLT, NCLT holding hearing on the application after getting feedback from the Regulatory Authorities, and finally, passing orders. In the present experience, the end-to-end time between filing of the first application till orders may be anywhere between 6 months or longer.
Logically, the reference to the timeline above is for filing of a scheme of compromise or arrangement, since the rest of the process is under the supervision of the NCLT.
Note that a scheme of compromise or arrangement involves sanction of both shareholders and creditors by stipulated majority under the Companies Act. Additionally, settled principles over decades require separate meetings of every class of creditors to approve the scheme. Resolution proceedings itself was a scheme of arrangement – that having failed, whether schemes of arrangement will provide the ability to a company to rise like a phoenix from its ashes, will remain to be seen.
Presumptive relinquishment of security interests
The earlier law did not clarify the point of time when the secured creditor has to make up his mind on whether to use the process of self-help sale of assets outside liquidation, under section 52, or to be a part of the liquidation proceedings by relinquishing security interest and claiming a priority as provided by section 53 (1) (b).
Insertion of Reg 21A now makes it clear that the secured creditor shall decide his options while filing the claim. If, within 30 days of the commencement of liquidation proceedings, the secured creditor does not intimate the option of selling the asset under section 52, the assets covered under security interest shall be presumed to be part of the liquidation estate.
Unlike during resolution, the settled principle in case of compulsory liquidation is that the proceedings are almost completely under the control of the liquidator, who works as an officer of the court. Section 35 (2) allows the liquidator to consult stakeholders, but in the same breath, it also says that the consultations shall not be binding on the liquidator.
In the past practice of winding up under the Companies Act, creditors’ intervention in compulsory liquidation came in form of advisory committee. In case of liquidations under the Code as well, while consultation was not mandated by law, but in practice, most major liquidations had consultation committee.
Insertion of Reg 31A now provides harmony to this so-far-arbitrary process of consultation committees.
- First, the regulation mandatorily requires the liquidator to have a consultation committee, even though whether any or what matters will be put up for consultation is still largely governed by the provisions of section 35 (2).
- Secondly, the composition of the multi-stakeholder consultation committee is now well-defined. This is markedly different from the present practice where most consultation committees were replicas of the CoC during CIRP. The consultation committee will have representatives from secured creditors, unsecured financial creditors, employees and workmen, operational creditors, government and shareholders. Quite obviously, the references to each of these classes is based on the claims filed by each class of stakeholders. For instance, the government will be there in the stakeholders’ list if the government’s claim is admitted.
Ideally, committees should consist of odd number of members, to avoid matters hitting a tie. Based on the table given in the Regulation, in most cases, secured financial creditors will have more than 50% of the total claims – hence, there will be 4 representatives from secured financial creditors, and one each from unsecured financial creditors, employees and workmen, operational creditors, government and the shareholders. The selection of the representatives of each class may be done by mutual consensus of the stakeholders in each class, but failing any such consensus, the highest claimants in the class shall be invited upon the committee.
- Thirdly, the consultations in the committee will be decided upon by a vote of 50% of members present and voting. There are two important points to note – the voting is not by value, but by head count. Secondly, and thankfully, the voting rule is here to count only those present and voting. Therefore, no one can frustrate decision-making either by not coming to the meeting, or by not voting.
- Fourth, while the consultations in the meeting are not binding on the liquidator, the liquidator has to state in writing the reasons for not agreeing with the advice given in the meeting.
Going concern sale
Insertion of Reg 32A addresses several of concerns relating to a going concern sale in liquidation. First and very important, there is a hard timeline of 90 days for deciding whether to go for a going-concern sale. 90 days starts running from the commencement of liquidation. Therefore, the applicability of this provision to existing liquidation proceedings becomes a challenge – particularly where there are ongoing attempts to cause a going concern sale. The stance of the Regulations is to have definitive timelines, so that indefinite time is not lost in recursive processes – first, seeing a going concern sale fail, and then opt for the other modes of sale, thereby elongating the time. Therefore, fairly speaking, this amendment should be applicable to existing liquidations with the 90 days’ timeline running from the date of the amendment.
Second, the confusion that prevailed with the version of the amendment circulated with the Consultation Paper – that liabilities will be transferred with the assets – has now been removed. The grouping of assets and liabilities that will form part of the going concern sale will be determined by the Consultation Committee, or by the liquidator.
Repetitive valuations and discretion to reduce reserve prices
There are several helpful amendments pertaining to valuations. First, valuation in liquidation is not mandatory, as, now, the regulations permit and not force the liquidator to have a valuation done during liquidation. The liquidator may either rely on the valuation done during CIRP, or opt for a fresh valuation. This will obviate the starting point to be the CIRP valuation, which has, in any case, been unsuccessful.
Secondly, the liquidator now has the discretion to keep reducing reserve prices for the auction – starting with 25% for the first failed auction, and then 10% thereafter. Going by the spirit of the Code, the subsequent reductions in value, if any, shall be by Written Down Value (WDV) Method.
Impact on on-going matters
Since the amendments are effective from the date of their publication in the Official Gazette, it seems that all amendments will impact ongoing liquidation matters as well, except in cases where specific carve-out has been given, or in cases where it is impractical to apply the amendment. In their application to existing matters, the timelines laid in the Regulations may have to be read with reference to the date of the notification, rather than the commencement of liquidation, etc.
It will counter-purposive to take a stand that the amendments do not apply to existing liquidations – it should be noted that much of the move to amend the Regulations itself arose from the experienced difficulties in existing liquidations. New liquidations could not have been the subject matter of the Amendments, leaving existing liquidations unattended. However, as earlier mentioned, some of the timelines will have to be read as referring to the date of the amendment, rather than the date of commencement of liquidation.
 Many of the concerns expressed by the author, e.g., on computation of liquidation fee, relinquishment of security, the transfer of liabilities as a part of going concern sale, etc., have been addressed.
 For example, in relation to Liquidator’s fees, the Amendment Regulation shall not be applicable in relation to the liquidation processes already commenced before the coming into force of the said amendment Regulations.
 For example, the timeline of 1 year cannot be applied to matters which are more than 1 year into liquidation
Link to our other relevant articles
By Vinod Kothari
Insolvency laws are all about distributive justice, inspired by the pari passu rule enunciated centuries ago. The key theme of insolvency laws is that since there is a shortfall of assets to pay off everyone, everyone with similar ranking of priorities should be paid proportionately. Read more