Pre-Packaging Process in India: Issues and a Way Forward

Purva Ghag and Anubhav Singh*

The Insolvency and Bankruptcy Code(IBC) of 2016 was enacted to bring together a slew of laws governing insolvency resolution and asset realization, which had previously managed the insolvency regime inefficiently and haphazardly. As per the provisions of the IBC, the Corporate Insolvency Resolution Process(CIRP) must be completed within the time-limit as mentioned in the Code and because of the legislative precedent, some hours, such as those spent in court proceedings, have been exempt from the IBC’s required deadlines. This can be seen in one of the most notable cases of IBC jurisprudence, i.e., Committee of Creditors of Essar Steel India Limited Through Authorised Signatory v. Satish Kumar Gupta &Ors, wherein it surpasses the time limit specified under IBC. On April 4, 2021, the Indian government amended the IBC by Ordinance, introducing the concept of Pre-Packaged Insolvency Process(PIRP) to provide an efficient alternative insolvency resolution process so that value maximization, the Code’s primary goal, can be achieved faster and more cost-effectively with minimal business disruption.

Furthermore, because the bankruptcy laws in the United Kingdom and the United States influenced their experiences with pre-packs and the regulatory issues that followed them, comparing their insolvency laws to India’s would provide insight into India’s troubles and potential remedies. Thus, in this blog, the authors shall mainly do the comparative analysis of the pre-packaged scheme of different countries with the Indian scheme while evaluating the reason for introducing vis-à-vis the issues with the current scheme of pre-packaged process in India.

Status Quo of Pre-packaged scheme in India

Before a Corporate Debtor declares insolvency, Pre-packaged insolvency is a financial plan in which the restructuring is pre-planned and agreed upon with creditors and other stakeholders. One of the primary complaints raised by creditors regarding the CIRP under the IBC is the slow pace of resolution of problematic businesses. A pre-pack would offer creditors a faster approach and the certainty of a workable resolution plan for the simple fact that each party’s self-interest lies in it.

Section 240A of the Code indicates that it applies to micro, small, and medium-sized companies (MSMEs). However, because an MSME has little cash and a simple corporate structure, resolving disputes under the law, mainly through CIRP, may be challenging. The current framework in India is designed for Small and Medium Size Enterprises (SMEs), and legislation is required to extend it to corporations and limited liability partnerships, with the basic structure of the design proposed by the Sub Committee on Prepack with safeguards to ensure that debts are resolved in a timely, efficient, and effective manner.

Comparative Analysis of Pre-packaging process of UK and USA

In the UK, formality and bankruptcy protections (such as the moratorium) are effectively combined with the flexibility of Company Voluntary Agreements under the Insolvency Act, 1986. The example of the United Kingdom illustrates the difficulty of regulating pre-packaged goods, especially after being used for some time. In the absence of legislation, the courts in the United Kingdom have primary supervisory duties in the context of pre-packs since they are the only authority that may decide on the validity of a pre-pack sale under administration. In one of the landmark judgements of Clydesdale v. Smailes, the UK court held that the administrator could not conduct an independent inquiry as he is a part of negotiating sales, and this case set a precedent in various issues in the UK court. Any breach of transparency standards has no impact on the United Kingdom’s pre-packs legality. Still, it may serve as the basis for disciplinary action by the UK Insolvency Service against the administrator.

In the USA, the legislation governing corporate reorganizations is found in the US Bankruptcy Code. Pre-plan sales under Section 363, pre-packaged bankruptcy procedures, and pre-arranged bankruptcy proceedings under Chapter 11 are all permitted. The lacuna in the administration sales in the UK is the same as section 363 sale in the US. Section 363 allows a bankruptcy trustee (administrator) to lease, sell or dispose off the property of the CD once they enter the proceedings under Chapter 11 reorganization. Section 363 being used as a means of pre-pack negotiations was not foreseen by the US bankruptcy board and was primarily a business glitch/creativity.

Pre-pack sales in the United States are comparable to pre-packaged sales in the United Kingdom. In contrast, in pre-packaged insolvency, the corporate debtor agrees on the parameters of a plan with significant creditors and obtains approval from specified creditor classes. The speed of a pre-speed pack is frequently inversely related to its size. The number of protections available to creditors is proportional to the number of safeguards retained.

The prime difference between UK and the US law for selling a debtor’s property during insolvency proceedings is that US law requires a notice to be issued and a hearing to be conducted by the debtor/trustee before affecting such a sale.

Issues with the current mechanism in India

The “expedited reorganization processes,” i.e., the pre-packs, are designed to alleviate the stress of regular court proceedings. The current process has several flaws and obstacles that may prevent it from accomplishing its goal.

• Heavy Reliance on the adjudication authority

Pre-packaged insolvency proceedings, or ‘pre-packs’, provide a distinctive apparatus which aims to integrate the benefits of informal workouts with the legal certainty of formal insolvency proceedings. Fundamentally, pre-packs are hybrid systems facilitating out-of-court resolutions to be acknowledged under insolvency law with suitable safeguards for all stakeholders. Even though the pre-pack process is primarily an out-of-court proceeding, the PIRP legal framework relies heavily on the adjudicating authority, the NCLT. From the approval of a PIRP application through the appointment of an insolvency professional to monitor the PIRP and until the final resolution plan is adopted, everything is dependent on the NCLT’s mandate.

The other regulatory agencies, such as the Insolvency and Bankruptcy Board of India, can help speed up the process, relieving strain on NCLTs and allowing them to save time by adjudicating just the last stages of PIRP. The Adjudicating authority will only impose a final punishment if all parties agree at the end of the procedure. This is also true in other nations, such as the United Kingdom, where the court authorizes the PIRP in a matter of hours. In light of the current scenario, the move is necessary to keep a financially troubled firm afloat.

• Prohibition on connected party participation in the insolvency resolution process

The current Indian approach to bankruptcy resolution plan participation by existing management and promoters departs significantly from the BLRC Report’s goal. Section 29A prohibits promoters and managers of businesses with non-performing assets from being resolution applicants, barring promoters and directors of a bankrupt company from proposing a resolution plan. IBC’s current view on the matter differs from its initial position in 2016(wherein the timeframe provided by the Code wasn’t followed)and the approaches of the United Kingdom and the United States.

A corporate debtor in the United States is encouraged to submit proposals for its reorganization. A ‘creditor in possession’ framework exists in India and the United Kingdom, and there are certain restrictions on connected party involvement in the United Kingdom. The judgment in Chitra Sharma v. Union of India by the Supreme Court of India may be used to animate the Indian bankruptcy regime’s stance toward promoter engagement in problematic firm resolution. The Supreme Court decided that a corporate debtor may not engage in a master restructuring agreement (MRA) approved by all of its creditors.

• Time-limit to complete the pre-pack process

As per the provisions of the IBC (IBC Section 12-Time-limit for completion of insolvency resolution process),the time-limit given to complete the process is 120 days which is further divided into 90+30 days, i.e., in the first 90 days, the approved resolution plan must be placed before the Adjudicating authority, and within the next 30 days, the adjudicating management has to either accept or reject the plan.

The 90-day term creates a CoC (“Committee of Creditors”), corporate debtor appraisal by registered valuers, and transaction inquiry, rendering the 90+30-day deadline unrealistic. As a result, this will only work if the corporate debtor begins the spadework before starting the PIRP. Obtaining approval from a creditor may also take some time.

• Limited Scope of Applicability of Pre-packs in India

The Pre-pack was designed to provide a low-cost alternative to bankruptcy for Micro Small Medium Sized Enterprises (MSMEs). However, it appears that a significant number of MSMEs in India will be unable to employ the IBC’s pre-packaged bankruptcy resolution method since eligibility requires prior registration under the Micro, Small, and Medium Enterprises Development Act.

Although India has many small and medium-sized enterprises, not all of them are correctly registered. According to the most recent data available on the Udyam Registration Portal for MSMEs, just 26.42 lakh MSMEs are registered. As a result, the Ordinance only applies to a few businesses in this industry. As a result, the legislative goal of protecting MSMEs from the repercussions of Covid has been failed.

Concluding Remarks

The Indian government would have to consider pre-packaged solutions after assessing which components of the IBC are non-negotiable even in pre-packaged solutions and which aspects might be exchanged for a more flexible approach. Insolvency practitioners in India will need to enhance their pre-packaged insolvency abilities considerably.

Insolvency practitioners are continually developing the necessary information required under the current IBC framework. However, if out-of-court settlements grow increasingly prevalent, pre-pack insolvency may become a viable alternative to traditional CIRP proceedings. We believe it is fair for India to preserve creditor safeguards and need creditor approvals in its pre-pack regime, based on our examination of the pre-pack systems in the United Kingdom and the United States as it would facilitate the installation of pre-packs separately while preventing creditors from being disenfranchised.

To fulfill the needs of both the relevant industry and creditors, the legislation should fix the loopholes highlighted. We recommend that it maintain the necessary creditor voting thresholds and operational creditor safeguards. Creditors are well-equipped to evaluate whether a PIRP or a CIRP should be utilized under the Code since they have financial competence. As a result, people should be free to apply their knowledge.

The authors are second-year student at Maharashtra National Law University, Mumbai.