Punish bankrupt company owners who don't cooperate in debt resolution, set up advance ruling to cut down delay: ICAI
New Delhi: Stronger penalties on major shareholders and directors of bankrupt companies for failure to cooperate in debt resolution could make corporate turnaround efforts more efficient, according to Institute of Chartered Accountants of India (ICAI).
Also Read | Court orders reset bankruptcy rules. Now, the govt is amending the law
A system of advance ruling on bankruptcy-related laws similar to that existing for income tax would also help, it said in recommendations to the government after studying the working of Insolvency and Bankruptcy Code (IBC).
It said a dedicated IBC mediation and arbitration centre, expanding the scope of the existing informal debt resolution framework for micro, small and medium businesses and a special set of measures including a fast-track scheme for bankruptcy resolution of defunct companies, could speed up the way India addresses sickness among businesses and fetch better outcomes.
Also Read | Why taking away life support from bankrupt firms may yield better value
Defunct companies have a low recovery rate for lenders compared with bankrupt businesses that remain operational during the resolution process.
ICAI has submitted the study findings to the ministry of corporate affairs.
The study, seen by Mint, said that non-cooperation by promoters and directors of the bankrupt business significantly hampers the resolution process.
Also Read | NCLT member crunch slows down bankruptcy resolution
'Stronger penalties must be imposed to deter non-compliance, ensuring that promoters actively participate in the resolution process. Amendments to the IBC should introduce strict financial penalties for those failing to cooperate with resolution professionals," said the ICAI report titled 'Timelines and value.'
The accounting rule-maker said that in cases of deliberate concealment of financial documents or obstruction of corporate insolvency proceedings, criminal liability should be imposed to ensure accountability.
IBC currently provides for punishment, which may include imprisonment of three to five years, a fine of ₹1 lakh- ₹1 crore or both, for non-cooperation by the company executives but the report said its enforcement remains weak.
Experts said urgent legislative clarifications are needed to clear up confusions about IBC process arising from court rulings.
'The need of the hour is to clarify in IBC the status of statutory and government dues to dispel the confusion arising from some recent judicial pronouncements that give these dues the status of secured debt, which is not in sync with IBC's intent," said Anoop Rawat, partner (insolvency and bankruptcy) at law firm Shardul Amarchand Mangaldas and Co.
'The law should also clarify that IBC is the right platform to deal with insolvency resolution involving all forms of assets whether they are considered debt owed in relation to national or strategic, for example, telecom spectrum dues and profit petroleum arising out if oil and exploration concessions. IBC should also ensure that it gives sanctity to the commercial arrangements between borrowers and secured creditors regarding the priority of their charge on the assets, given that loans are priced lower for priority charge over the assets."
ICAI noted in its report that besides non-cooperation by the promoters, prolonged legal battles by stakeholders, limited judicial resources to handle the backlog of cases, lengthy negotiations among creditors with conflicting interests, lack of an efficient secondary market for distressed assets including for specialized industrial equipment and complexity of the cases have contributed to the delays in concluding cases within the specified time.
NCLT also has to establish that a default which meets the threshold for IBC process— ₹1 crore—has taken place, a step that is crucial to ensuring fairness. Before admitting a bankruptcy case in tribunals, the existence of the debt and its default have to be established. Often, loan agreements can be complex and the borrower may contest their financial obligations. This can delay the admission of the case in tribunals.
The accounting rule-maker also suggested that the scope of the tailored informal debt resolution scheme called 'pre-pack', now available to micro, small and medium enterprises could also be expanded to cover mid-sized cases to ensure these are resolved through negotiated settlements rather than lengthy court process.
As per MSME Development Act, a manufacturing entity with up to ₹25 lakh investment in plant and machinery is a micro enterprise, while one with ₹ 25 lakh to ₹5 crore investment is a small enterprise and one with investments of ₹5-10 crore is a medium enterprise.
Screening of bankruptcy applications to filter out cases which are essentially debt-recovery efforts and not bankruptcy resolution efforts, can help in improving the outcomes, ICAI pointed out in its report.
In cases where fraudulent transactions are suspected, mandatory forensic audits should be conducted to identify any diversion of assets and responsible parties should be held accountable, ICAI said. Transparent disclosures by corporate debtors should be incentivized through regulatory reforms, ICAI said, adding that all companies bound for corporate insolvency resolution should be required to submit audited financial statements covering the past three years to provide clarity on their financial position.
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