Concerns on Going Concern Sale under IBC – To be or not to be ?

Parth Ved, Executive

[resolution@vinodkothari.com]

 The Standing Committee on Finance (“Standing Committee”), on 3^rd August, 2021, issued its Report on Implementation of Insolvency and Bankruptcy Code – Pitfalls and Solutions[1] wherein it has recommended the deletion of and suitable amendment in Regulation 32(e) and Regulation 32(f) of the Insolvency and Bankruptcy Board of India (Liquidation Process) Regulations, 2016 (“Liquidation Process Regulations”) respectively, which deal with sale of the corporate debtor or its business as a going concern.

The said recommendation comes in light of the mismatch of sorts between the Code and the Liquidation Regulation w.r.t. closure of business vide going concern. In this article, we discuss and analyse the recommendations made by the Standing Committee, and present our case as to why such recommendation may not be in the interest of the Code and its stakeholders.

Background:

Before delving further into the rationale of the said recommendation, and whether such recommendations ought to be implemented, it is important to understand what is a going-concern – suggestive of its name, a ‘going concern’ indicates continuity or the ability of the business to be carried out as is. Hence, in simple terms a ‘Going Concern sale’ (GCS) means the sale of all the assets, tangibles or intangibles and resources, needed to continue to operate independently a business activity which may be whole or a part of the business of the corporate debtor, without values being assigned to the individual asset or resource.

Interestingly, in a GCS, the legal entity of the company also forms part of the ‘property’ being transferred. Hence, the sale of an entity as a going concern implies that the entity would be functional as it would have been prior to initiation of sale, retaining the same name and style[2].

The power to sell the assets of the corporate debtor as a going concern was added to Regulation 32 of the Liquidation Process Regulations vide amendment dated October 22, 2018. Consequently, Regulation 32 was substituted with the following:

“32. Sale of Asset etc. –

The liquidator may sell –

(a) an asset on a standalone basis;

(b) the assets in a slump sale;

(c) a set of assets collectively;

(d) the assets in parcels;

(e) the corporate debtor as a going concern; or

(f) the business(s) of the corporate debtor as a going concern:

Provided that where an asset is subject to security interest, it shall not be sold under any of the clauses (a) to (f) unless the security interest therein has been relinquished to the liquidation estate.”

Rationale given by the Standing Committee:

The Standing Committee has proposed to delete clause (e) and consequently amend clause (f) stated above in light of the stand taken by the Hon’ble Principal Bench of NCLT in the matter of Invest Assets Securitisation & Reconstruction Pvt. Ltd vs. Mohan Gems & Jewels Pvt. Ltd.[3] stating that liquidation requires dissolution under the Insolvency and Bankruptcy Code, 2016 (IBC) and hence regulations that provide for liquidation as a going concern are ultra-vires the provisions of the Code and that the legislation has created further uncertainty. The said order, as well as the recommendation of the Standing Committee crops from the supposed reason that a liquidation process shall mandatorily end by dissolution.

With this pretext, the Author humbly deviates from the views put forth by the Standing Committee, and suggests that ruling out the option of a going-concern, merely on grounds of non-alignment in the extant provisions would be disproportionate, and hence, undesirable.

Below we discuss several grounds / reasons which further prove a good case for a going-concern sale under liquidation.

Reasons backing Going-concern Sales in liquidation:

1. Value Maximisation

It is a common economic understanding that sum of parts is better than sum of the parts; and it is by virtue of such principle that going-concern values are generally in excess of value of individual assets. The various assets, stitched together as one, constitute a much greater value than the same assets in isolation.

As such, selling assets on a piece-meal basis might not be lucrative for the buyers due to the loss of synergic benefit arising from purchasing a going concern leading to an ultimate loss to the creditors of the corporate debtor. This is in addition to the fact of loss of jobs of several employees of the corporate debtor which might have been saved in case of sale as a going concern.

Recognising this, various Adjudicating Authorities have, in the past, allowed the sale of the corporate debtor as a going concern for value maximisation.  In the matter of M/s. Gujarat NRE Coke Limited[4], the Hon’ble NCLT, Kolkata Bench held:

“The Liquidator shall try to dispose of the Corporate Debtor company as a going concern after publication of notice in newspaper with the reserve price which shall be equal to the total debt amount including interest and maximum period applicable for trying the sale of the Corporate Debtor as a going concern will be only three month from the date of the order if the process of sale as a going concern is failed during this period, then process of the sale of the assets of the company will be according to the provisions of sale of asset of the Corporate Debtor prescribed under section 33, Chapter VI of the Insolvency & Bankruptcy Board of India (Liquidation Process) Regulations, 2016. In case it is not concluded within this period, the order of this Court directing the sale of the company as a going concern shall stand set aside and corporate debtor to be liquidated in the manner as laid down in Chapter III of the Liquidation process provided in Insolvency & Bankruptcy Code.”

Further, it is commonly observed that NCLTs across jurisdictions have followed the practice of directing liquidators to endeavor a GCS prior to other modes of sales envisaged under the Liquidation Process Regulations.

2. Maintaining Timeliness

A liquidator may find it difficult to complete the sale of all the assets of the corporate debtor (piece by piece) in the stipulated 1 year period, to finally make an application of dissolution as provided under Section 54. This may result in failure in fulfilment of one of the key objectives of enacting IBC, that is, timely completion of the proceedings.

Allowing the liquidator to sell the corporate debtor as a going concern proves to be time and cost effective, as well as saves the effort of the liquidator to find multiple buyers for multiple assets of the corporate debtor; hence, resulting in faster realisation for the creditors which is the ultimate aim of this entire exercise.

While relying on Regulation 32(e) of the Liquidation Process Regulations, the Hon’ble Supreme Court in the matter of Arcelor Mittal India Private Limited Vs. Satish Kumar Gupta & Ors[5] observed that:

“The only reasonable construction of the Code is the balance to be maintained between timely completion of the corporate insolvency resolution process, and the corporate debtor otherwise being put into liquidation. We must not forget that the corporate debtor consists of several employees and workmen whose daily bread is dependent on the outcome of the corporate insolvency resolution process. If there is a resolution applicant who can continue to run the corporate debtor as a going concern, every effort must be made to try and see that this is made possible.” (emphasis supplied)

3. Ouster of Going-concern sales due to language of law – A Disproportional Approach

Another key objective of IBC is to provide a painless revival mechanism for entities. Hence, a technical gap in the wordings of the IBC and Liquidation Process Regulations, which is easily fixable, should not act as a hindrance for fulfilment of this objective. Such an ouster would be in contravention to the doctrine of proportionality.

The Bankruptcy Law Reforms Committee (BLRC), in its Report[6], had also recognised GCS as an effective method of realization of assets and stated that from the viewpoint of creditors, a good realisation can generally be obtained if the firm is sold as a going concern[7].

The approach of BLRC was well-found and well-reasoned. Removing such enabling clauses from regulations merely due to lack of clear language in law would thus be disproportional and against the objective for which the provisions were first inserted.

4. Is dissolution the only result of liquidation?

Unlike winding-up, where the aim is to dissolve the entity, liquidation implies liquidating the entity and the main objective is to sell-off the asset(s) at a maximum value for realization and not necessarily kill the entity. In line with this objective, various Adjudicating Authorities have, in the past, allowed GCS in liquidation process.

In Gaurav Jain v. Sanjay Gupta, Liquidator of Topworth Pipes and Tubes Pvt. Ltd.[8], the Adjudicating Authority noted that even though there is no specific provision in IBC for “sale of the Company as a going concern”, the Liquidation Process Regulations provide guiding principles in dealing with the case. It held that “going concern” sale, in normal parlance, is transfer of assets along with the liabilities. However, as far as the ‘going concern’ sale in liquidation is concerned, there is a clear difference that only assets are transferred and the liabilities of the corporate debtor has to be settled in accordance with Section 53 of IBC and hence the purchaser of the assets takes over the assets without any encumbrance or charge and free from the action of the creditors. The legal entity of the corporate debtor survives and the assets with claims, limitations, licenses, permits or business authorisations remain with the corporate debtor. Only the ownership of the corporate debtor is acquired by the successful bidder and all creditors of the corporate debtor get discharged.

In Y. Shivram Prasad v S. Dhanapal & Ors.[9], the Appellate Authority ordered:

“…during the liquidation process, step required to be taken for its revival and continuance of the ‘Corporate Debtor’ by protecting the ‘Corporate Debtor’ from its management and from a death by liquidation. Thus, the steps which are required to be taken are as follows:

2013. By compromise or arrangement with the creditors, or class of creditors or members or class of members in terms of Section 230 of the Companies Act, 2013.
2014. On failure, the liquidator is required to take step to sell the business of the ‘Corporate Debtor’ as going concern in its totality along with the employees.
2015. The last stage will be death of the ‘Corporate Debtor’ by liquidation, which should be avoided.”

The Discussion Paper on Corporate Liquidation Process dated April 27, 2019[10] also recognized that the corporate debtor may continue to exist with or without business on completion of the process in case of a GCS. Even if an order under Section 33 of IBC has been passed for liquidation of a corporate debtor, on completion of GCS under IBC, the corporate debtor may not be liquidated or dissolved.

5. Facts and figures

According to the Quarterly Newsletter of the Insolvency and Bankruptcy Board of India Vol.18[11], till March 31, 2021, out of a total of 138 cases of closure of liquidation proceedings, 128 liquidations (i.e. 92.75%) closed by dissolution, 6 (i.e. 4.35%) by going concern sale and 4 (i.e. 2.90%) by compromise /arrangement. The cases of closure by going concern sale had claims amounting to Rs. 4325.16 crore, as against the liquidation value of Rs. 290.03 crore. The liquidators in these cases realised Rs. 336.76 crore and companies were rescued. Therefore, it can be rightly said that going forward, going concern sale can be an important tool of value preservation.

6. Whether retaining GCS has any negative implications

Notably, GCS is only an option of ‘sale’. No harm accrues to the stakeholders if the entire entity can be sold as going concern. While it might be relevant to reconsider the regulations which mandate the liquidator to first attempt a GCS. It must be totally left to the wisdom of the liquidator to attempt or not to attempt a GCS, depending upon the market, investor interest, status of the assets, etc. Recognizing this, the Insolvency Law Committee (ILC) in its Report (2020)[12] noted that the liquidator is best placed to decide whether a going concern sale should be attempted, after assessing relevant factors such as the commercial viability of the business of the corporate debtor, and consulting the relevant stakeholders of the corporate debtor to ensure that it would generate a greater value than the other modes of liquidation. The Committee also agreed that GCS should not be mandated during liquidation and that the liquidator, in consultation with the relevant stakeholders of the corporate debtor, should be permitted to decide if a going concern sale should be attempted.

Addressing the incompatibility between Schemes of Arrangement under Section 230 of the Companies Act, 2013 and the liquidation as envisaged under IBC, the ILC stated that repeatedly attempting revival, through schemes of arrangement or otherwise, even where the business is not economically viable is likely to result in value destructive delays, and was identified as a key reason for the failure of the regime under the SICA, by the BLRC in its Interim Report. Indeed, where the business of the corporate debtor is still viable, the liquidator would have recourse to a going concern sale of the business to ensure that the liquidation process remains value maximizing. We, in our earlier article too, had questioned the need of a scheme under Section 230 of the Companies Act, 2013 in IBC which can be accessed here.

Having discussed the above, a possible counter-view that may be taken is that if sale as a going concern is allowed, the resolution applicant may prefer to wait for initiation of liquidation proceedings to buy the corporate debtor at a discounted value since liquidation value will always be lower than the value he would have had to shell out in insolvency resolution stage.

However, this may not be a well-backed stance because of the following reasons:

• The insolvency resolution process is a very competitive stage consisting of multiple applicants waiting for an opportunity to get an entity at a reasonable value. Should an applicant choose to wait till the liquidation proceedings, offer of a competitor applicant may get selected in the insolvency resolution itself. Hence, there would be a substantial risk of losing out the asset.
• Resolution Plans further prove to be more commercially attractive since the repayment schedule can be spread over multiple years as per the resolution plan while in liquidation the entire amount will have to be paid upfront.

Order of Hon’ble NCLAT, Principal Bench

The Hon’ble NCLAT, Principal Bench, vide its order dated August 24, 2021[13], has upheld the validity of a GCS during liquidation by dismissing the order given by the Hon’ble NCLT, Principal bench in Invest Asset Securitisations & Reconstruction Pvt. Ltd (supra), based on which the Standing Committee had recommended the removal of clause pertaining to the sale of corporate debtor as a going concern. The NCLAT, in its order, stated the following:

• The Tribunal can only ascertain whether the procedures provided for under the Code / Companies Act, 2013 are being followed or not and cannot look into the legality and propriety of any Regulation / Notification / Rules / Act.
• The Supreme Court has in a catena of judgements observed that liquidation should be the last resort only if the Resolution Plan submitted is not up to the mark and even in liquidation, the liquidator can sell the business of the corporate debtor as a ‘going concern’.
• The Appellate Authority and the Adjudicating Authority, too, in many recent decisions, have directed the liquidators to make efforts to sell the corporate debtor as a going concern. It helps in realisation of higher value, value preservation, and rescuing a viable business.

By allowing the sale of corporate debtor as a going concern in liquidator, the NCLAT has made it clear that it is not disproportional to the Code and dissolution need not be the only outcome of liquidation.

Concluding remarks

It is pertinent to note that the Code does not prevent the closure of liquidation process in the instance the corporate debtor is sold as a going concern pursuant to Regulation 32(e) following the final closure report filed under Regulation 45(3)(a) of the Liquidation Process Regulations. It would, therefore, be contradictory to observe that closure of Liquidation Proceedings cannot be done and only dissolution is provided for under the Code. This would demolish the very spirit and objective of the Code.

Thus, it is once again emphasized that ouster of a widely acknowledged mode of sale, merely on account of a disparity in law would not be in favour of the Code and its stakeholders. In this pretext, it will be interesting to see the fate of this recommendation of the Standing Committee. Further, removal of the provision for going-concern for want of alignment would create a vacuum which could be potentially prejudicial for the Code and its stakeholders.

[1] https://www.ibbi.gov.in/uploads/whatsnew/fc8fd95f0816acc5b6ab9e64c0a892ac.pdf

[2] See detailed analysis on sale of legal entity of a corporate debtor at –https://vinodkothari.com/2020/11/sale-of-legal-entity-as-an-asset/

[3] https://nclt.gov.in/sites/default/files/Interim-order-pdf/Invest%20Assets%20Securitisation%20%26%20Reconstruction%20Pvt%20Ltd%20Vs.%20Mohan%20Germs%20%26%20Jewels%20Pvt%20Ltd._1.pdf

[4] http://164.100.158.181/Publication/Kolkata_Bench/2018/Others/13.pdf

[5]https://www.ibbi.gov.in/webadmin/pdf/whatsnew/2018/Oct/33945_2018_Judgement_04-Oct-2018_2018-10-04%2018:02:45.pdf

[6] https://ibbi.gov.in/BLRCReportVol1_04112015.pdf

[7] Page 15

[8] http://primusresolutions.in/pdf/Order-by-NCLT-for-successful-sale-as-Going-Concern.pdf

[9] https://nclat.nic.in/Useradmin/upload/212469115c8a433965360.pdf

[10] https://ibbi.gov.in/Discussion%20paper%20LIQUIDATION.pdf

[11] https://ibbi.gov.in/uploads/publication/2021-05-29-204331-atxcy-3363461de858b06bfa1afdbf13151b90.pdf

[12] https://www.mca.gov.in/Ministry/pdf/ICLReport_05032020.pdf

[13] https://ibbi.gov.in//uploads/order/ed29b92ace06f136a9060e3964e27ad8.pdf