Proposed Group Insolvency Framework in India

[A brief discussion on the Report of the Working Group on Group Insolvency]

– Priya Udita

(resolution@vinodkothari.com)

With group structures holding prominence in business landscape of India, there has been a need to frame a holistic group insolvency framework. There are cases where the stakeholders may maximise their interests and the possibility of revival of companies may be higher, if companies in a group are resolved together. However, the Insolvency and Bankruptcy Code, 2016 (‘IBC’) does not envisage a framework to either synchronise insolvency proceedings of different companies in a group or to resolve their insolvencies together. Recently, the need was realised in the insolvency resolution of some corporate debtors such as Videocon, Era Infrastructure, Lanco, Educomp, Amtek, Adel, Jaypee and Aircel, where special issues arose from their interconnection with other group companies. In some of these cases, the Adjudicating Authority under the Code as well as the Supreme Court, have passed orders to partially ameliorate such issues. This highlighted the need to examine the desirability and feasibility of having a group insolvency framework.

Consequently, the Insolvency and Bankruptcy Board of India (‘IBBI’) constituted a Working Group on Group Insolvency (WG) on January 17, 2019[1] which submitted its recommendations for the framework of procedure of group companies as ‘Report of the Working Group on Group Insolvency’ (‘Report’)[2] on September 23, 2019.  The recommendations cover the framework for companies at the insolvency resolution as well as liquidation stage.

This write-up discusses the recommendations in brief, in particular, how the WG has addressed the concerns as to identification of a group, the extent of grouping and the mechanics involved.

1. Identification of ‘Group’

The identification is proposed to be based on triple-criteria –

• Inter-se relation among the companies, that is, whether the company is a holding, subsidiary or associate companies as per the Companies Act, 2013;
• Fulfilment of commencement standard by the company, i.e., whether the company has committed a ‘default’ as defined under section 3(12) of the code meaning thereby that only insolvent companies are taken into consideration for the purpose of group insolvency, and
• Whether the company is a domestic company, that is, for the time being, the WG has preferred not including overseas ventures of the group. This still remains an issue as in the age of globalisation; companies have properties, transactions all over the world. However, inclusion of off-shore entities needs to be backed by effective cross-border insolvency framework.

The WG has recommended that “corporate group” should have two basic ingredients as Ownership and Control. In addition to that WG recommends that even companies which are not covered under the above definition but are intrinsically linked will form part of a ‘group’ in commercial understanding. Here, the main factor in deciding whether the company will be included or not will depend upon the value addition to be the other company in the insolvency without destroying the value of the company being included. Another crucial aspect is that the framework has been made with respect to the companies; therefore, other corporate structures such as limited liability partnerships or other body corporate have not been included.

2. Extent of ‘Grouping’

WG has referred to and discussed three rules which guide the group insolvency mechanism. These include (i) Procedural coordination mechanisms (PCM) which refers to a set of rules that are targeted at coordinating the ‘procedures’ of insolvency while keeping the assets of each group company separate, (ii) Substantive Consolidation Mechanism (SCM) which contains consolidation of assets and liabilities of different group companies as they are treated as a part of a single insolvency estate for the purpose of reorganization or distribution in liquidation and (iii) Rules dealing with perverse behavior of companies in corporate groups enabling the creation of mechanisms to recapture assets subject to prejudicial transactions between group members and impose liability on group companies for each other’s debts, as appropriate.

As the framework is issued in phase manner, the WG has recommended only PCM to be included in the first phase meaning thereby, that SCM shall not been included. Also, the framework should be enabling rather than mandatory. This is based on the rationale that the as the companies are of different nature and located in different jurisdiction, an adequate institutional infrastructure is necessary to handle cases of group insolvency effectively to the extent such infrastructure generates synergy.

However, WG has noted that substantive consolidation has already been allowed by the Adjudicating Authority in State Bank of India & Anr. v. Videocon Industries Ltd. & Ors[3] where it ordered that 13 out of 15 companies of the Videocon group be consolidated. According to para 82 of the order the Adjudicating Authority held that “business operations are so dove-tailed that their management, deployment of staff, production of goods, distribution system, arrangement of funds, loan facilities etc. are so intricately interlinked that segregation may result in an unviable solution. Over and above, most important is that if segregated, the possibility of restructuring or the option of maximisation of value of assets becomes so bleak which shall overweigh the consolidation”. However, the Report has adopted the regime for procedural coordination with a framework to take multiple companies into insolvency together, and has not included substantive consolidation in its first phase. In addition to that the PCM is allowed at the stage of insolvency resolution and liquidation. Further WG recommends that in cases where PCM commenced at resolution stage does not get continued to the stage of liquidation, fresh application for coordination may be allowed at the liquidation stage.

The recommendations seem to be in sync with the understanding that substantive consolidation is the rarest of the rare remedy which must be used in exceptional circumstances. We have discussed the same in the article Entity versus Enterprise: Dealing with the Insolvency of Corporate Groups[4].

3. Mechanics of grouping

The WG recommends that procedural coordination mechanisms (other than co-operation, coordination and information sharing) should in-principle be enabled by law, however flexibility should be granted to not opt for or apply these mechanisms in those cases where they don’t help maximise value of assets or lower costs of proceedings. Further, WG recommends that insolvency professionals, CoCs and Adjudicating Authorities should be mandated to cooperate, communicate and share information with each other, since this is likely to reduce the time taken in proceedings, lower costs by de-duplicating efforts to collect information and promote information symmetry.

Therefore, grouping of insolvency proceedings will involve the following –

1.Joint Application

A single application can be made by financial creditors, operational creditors or the group companies themselves to commence the CIRP for multiple group companies that have committed a default as required under section 7, 8 and 9 of IBC (‘Joint Application’) thereby reducing the costs of making multiple applications. The Application may include a proposal for the appointment of a single insolvency professional. Such a joint application process should be in addition to the mechanism to initiate the CIRP process against each group company separately. When the joint application is accepted by the Adjudicating Authority, it may order for a single public announcement to be made for all companies.

2. Common Adjudicating Authority

As the main objective of these recommendations is lowering of litigation cost, reduction of judicial effort and time, the WG has recommended the following:

• Single Adjudicating Authority shall administer insolvency proceedings of group companies.
• In addition to that the WG opined that Adjudicating Authority may be the one which first admits the application to commence the CIRP of any company in a group.
• However, there can be situations where the stakeholders of the different companies may not want Adjudicating Authorities to transfer applications, here the WG recommends that flexibility should be allowed as long as Adjudicating Authorities share information, cooperate and communicate with each other. However, WG has opined that the Adjudicating Authority should be mandated to transfer the insolvency proceedings where a Committee of Creditors (CoC) once formed applies to have the proceedings administered by the first Adjudicating Authority.
• CoCs of different companies shall, by required majority, choose on the basis of their convenience, a single Adjudicating Authority to administer their insolvency resolution processes and seek transfer of all pending applications to it.

3. Common Insolvency Professional

The WG recommends that single adjudicating authority should appoint a single insolvency professional for the insolvency proceedings of the group companies. However, in situations where appointment of a single insolvency professional can lead to potential conflicts of interest or the same insolvency professional have no sufficient resources to carry out her duties in respect of multiple appointments, the WG recommends that different or multiple insolvency professionals may be appointed for different companies. However, in such situations, these insolvency professionals should be mandated to communicate, cooperate and share information with each other. Further these insolvency professional can make a single public announcement with the prior permission of the Adjudicating Authority, share information and cooperate for the verification of claims, appoint the same values, etc.

The decision to appoint the same insolvency professional may also be taken at the stage of liquidation.

4. Group Committee of Creditors

With the view that formation of group creditors’ committee will result in coordinated negotiation say, with the resolution applicant, the WG recommends that it may be allowed at the discretion of CoCs of each group company. However, the composition, constitution and costs of the group creditors’ committee may be decided by an agreement between CoCs of companies in a corporate group or by a Framework Agreement (as discussed below). So, the basic objective of the group CoC is to enable synchronised resolution of the insolvency of group companies. It has been mentioned that group CoC cannot take any decision without the consent of respect CoCs of the companies. However, the extent of coordination and sharing of information is left at their discretion.

4. Framework Agreement

With the view to enable synchronised resolution of group insolvency, WG recommends for group coordination proceeding depending upon by a vote of majority of the CoC of each company. Here, CoC has been given the responsibility to assess whether this group coordination is appropriate to facilitate effective administration of the insolvency proceedings relating to the different group companies; and ensure that the advantages of group coordination are not outweighed by the estimated costs.

WG recommends that the group co-ordination proceedings should be governed by a Framework Agreement that is approved by the CoC of each company who participates in these proceedings. A Framework Agreement would include strategies applicable to respective companies along with the provision of opt-out from the group coordination proceedings at this stage. In addition that the Framework Agreement should also provide for the mechanism by which a company may opt-in to group coordination proceedings at a later stage.

Salient features of or inclusions in the Framework Agreement shall be –

1. Group Coordinator

A group Coordinator is appointed under the Framework Agreement to propose group strategy. Only an insolvency professional should be appointed as a group coordinator, since an insolvency professional has the requisite knowledge and expertise in relation to the processes under the Code. The group coordinator may propose combination of actions including valuation of the assets of the group together with a projected share of each separate company, the preparation of a common information memorandum, the invitation of a common Expression of Interest for some or all group companies, establishment of a group creditors’ committee to negotiate with lenders etc.

2. Opt-Out Option

It is important that the CoC of the each company approves the Framework Agreement strategy applicable to their respective company. Consequently, an option to opt-out of the group proceedings is provided at this stage. In order to exercise the option of opt-out, the vote of majority of CoC should be taken into consideration. After this stage, no opt-out option is available to the CoC.

3. Common Resolution Plan

When a Common Resolution plan submitted by the applicant is accepted by only few companies in a group, the companies that have rejected the plan may not be given any further time to attempt a resolution, unless sufficient time in their CIRP period remains for them to attempt a standalone resolution.

4. Adjudicating Authority

As soon as the group proceedings are opened, all the cases should be transferred to the Adjudicating Authority decided under the Framework Agreement and this Adjudicating Authority may settle disputes regarding the application of the Framework Agreement and ensure that actions taken pursuant to the group coordination plan are consistent with law.

5. In case of liquidation

The WG recommends that the liquidators appointed should apply to the adjudicating authority agreed to between them to commence group coordination proceedings. However, they should consult the stakeholders’ consultation committee before applying. These coordination proceedings may enable designation of a single NCLT as the Adjudicating Authority, the filing of consolidated reports and a consolidated sale of assets. It is relevant to note here that group coordination proceedings at the stage of resolution would not be carried forward at the stage of liquidation.

5. Timeframe

The overall timeframe for resolution shall not exceed 420 days including the additional extension of period up to 90 days and time taken in litigation.

6. Perverse Behaviour of Companies in a Corporate Group

Generally there are four rules against perverse behavior by group entities. These are as follows: First, subordination of claims which requires that the claims of related parties of the debtor or of the other group entities be treated subordinate to the claims of the unrelated creditors, in the insolvency resolution of any one group company. Second, extension of liabilities where the liabilities incurred by an entity which is undergoing insolvency can be extended to other entities which are related to it or are part of the same group. Third, Contribution Orders i.e. order made by a court directing a solvent group company to contribute certain funds to another group company which is undergoing insolvency. Fourth, avoidance of vulnerable transactions, say, preferential, undervalued, fraudulent or extortionate etc.

1. Subordination of Claims to be permitted in limited cases of fraud, etc.

The WG recommends that subordination of claims should be an exception other than the rule. The frequent subordination of rules can deter the parent company in helping out its subsidiaries. Thus, as a caution, power has been provided to the Adjudicating Authorities to subordinate the claims of other companies in a group in exceptional situations of fraud, diversion of funds. However, in such cases strong evidence of wrongdoing must be submitted to the adjudicating authorities.

2. Provisions on avoidance of certain transactions may be sufficient

As the IBC provides adequate provisions for an extended look-back period for related parties to set aside fraudulent, preferential and undervalued transactions involving group members of the corporate debtor, consequently, the WG recommends that no further provision is required for setting aside transactions between companies that are part of the same corporate group.

3. Extension of Liability or contribution orders

The key purpose of extending liability on parent companies or its personnel is to deter perverse behavior of such companies ex ante. WG has not recommended any provision to be made to extend liability to parent companies or issue contribution orders as IBC itself has adequate provision to deter such perverse behaviour.

7. Conclusion

The group insolvency framework is expected to address various emerging concerns, as was evident from recent insolvency cases. However, as the Code evolves from the idea of ‘entity’ to ‘enterprise’, the stakeholders, including the law-makers and the judiciary, will contribute as well as gain from the experience it has to offer. Further the implementation of the group framework is in phase manner will lead to the development of jurisprudence along with the cases. Thus, the feedback received from the execution of the group framework will help the legislators to devise necessary amendments in the same.

[1] https://ibbi.gov.in/webadmin/pdf/whatsnew/2019/Jan/New%20Office%20Order%20-%20Group%20Insolvency-2_2019-01-17%2018:07:23.pdf

[2] Vinod Kothari & Team was one of the stakeholders taking part in the holistic consultation process by the WG. The Report can be viewed here: https://ibbi.gov.in/uploads/resources/d2b41342411e65d9558a8c0d8bb6c666.pdf

[3] M.A 1306/ 2018 & Ors. in CP No. 02/2018 & Ors- decision dated 08.08.2019

[4] https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3350877