Section 29A of Insolvency and Bankruptcy 2016: Harsh on Promoters?

Introduction

The Government amended Insolvency and Bankruptcy Code, 2016 (IBC) by promulgating an ordinance which brought sweeping changes to both substantive as well as procedural aspects relating to the insolvency process. Changes were introduced by way of ordinance dated 23rd November 2017 and later on ratified through Amendment Act, 2018.

Section 29A emanated from the above-mentioned amendment. Sec 29A is a restrictive provision which impedes any person falling into the negative list from submission of a resolution plan.

The rationale of Sec 29A

Before the inception of section 29A, every individual or body corporate could be involved in a bidding process. Even the promoters who were party to fraudulent motives and contributed to the default of the Corporate Debtor were able to regain the control of their company again by bidding in hefty discounts while banks and other financial institutes taking haircuts.

Section 29A was introduced to disqualify those people who had contributed to the downfall of the corporate debtor.  In short, the plan of lawmakers is to end the practice of phoenixing i.e. where the management of a company puts it into resolution or liquidation solely to buy the same business back and set up a new ‘phoenix’ company in the same or similar business, shorn of the debts of the old company.

Ineligible person

A person shall not be eligible to submit a resolution plan, if such person, or any other person acting jointly or in concert with such person –

a) Is an undischarged insolvent;

b) Is a wilful defaulter in accordance with the guidelines of the RBI issued under the Banking Regulation Act, 1949;

c) Has an account, or an account of a corporate debtor under the management or control of such person or of whom such person is a promoter, classified as a non-performing asset in by the RBI and at least a period of 1 year has elapsed from the date of such classification;

d) Provided that the person shall be eligible to submit a resolution plan if such person makes payment of all overdue amounts with interest thereon and charges relating to non-performing asset accounts before submission of resolution plan;

e) Has been convicted for any offence punishable with imprisonment for 2 years or more;

f) Is disqualified to act as a director under the Companies Act, 2013;

g)  Is prohibited by the SEBI from accessing the securities markets;

h) Has been a promoter or in the management or control of a corporate debtor in which a preferential transaction, undervalued transaction, extortionate credit transaction or fraudulent transaction has taken place and in respect of which an order has been made by the Adjudicating Authority under this Code;

i) Has executed an enforceable guarantee in favour of a creditor in respect of a corporate debtor against which an application for insolvency resolution made by such creditor has been admitted under this Code;

j) Has been subject to any disability, corresponding to clauses (a) to (h), under any law in a jurisdiction outside India; or

k) Has a connected person not eligible under clauses (a) to (i).

Acting in Concert

The term ‘Acting in concert’ has not been defined under Code. However, Code provides that words/expressions not defined under the Code shall have the meaning assigned to them under other acts identified under the Code including the SEBI Act, 1992. Therefore, the definition of person acting in concert (“PAC”) will have to be borrowed from the SEBI (SAST) Regulations, 2011 that defines PAC as persons who have the common objective/purpose of acquisition of shares/ voting rights in/exercising control over a company pursuant to an agreement or understanding, formal or informal, directly or indirectly co-operate for acquisition of shares/voting rights in/ exercise of control of the company.

“Connected person” means –

•  Any person who is the promoter or in the management or control of the resolution applicant;

• Any person who shall be the promoter or in management or control of the business of the corporate debtor during the implementation of the resolution plan; or

•  Holding company, Subsidiary company, Associate company or a related party of a person referred to above

Layers of Ineligibility

An assiduous analysis of Section 29A reveals that the section imposes four layers of ineligibility, as mentioned below-

1. First layer ineligibility, where the person itself is ineligible;
2. Second layer ineligibility, i.e. where a “connected person” is ineligible;
3. Third layer ineligibility, i.e. being a “related party” of connected persons; and
4. Fourth layer ineligibility, where a person acting jointly/in concert with a person suffering from a first layer/second layer/third layer ineligibility.

Applicability

The order passed by Judicial Member MK Shrawat, in an order dated June 4, 2018, related to the insolvency case of Wig Associates, comes as a relief for the promoters of big defaulting companies such as Essar Steel, Bhushan Steel and Alok Industries as the existing promoters of the companies get an opportunity to join hands with other financial institutions to bid to buy it back.

It has been clearly stated in the Amendment Act, 2018 that it is to apply from 23.11.2017. Hence, pending cases before this date cannot be governed by section 29A. It is a settled legal principle that old rights are to be governed by old law and new rights by new law. Subsequent legislation cannot be made applicable to the pending proceeding – N. Sri Padmanabha Nadar v. P. Ramalinga Nadar [1991] 1 LW 495; S.N. Kube v. R.P.I. Vaidyanathan [1988] TLNJ 1; Nand Kishore Marwah v. Samundru Devi, AIR 1987 SC 2284.

Exemption for ‘MSMEs’

The Amendment Act, 2018 has made dispensation from the Disqualification Criteria under paragraphs (c) to (h) of Section 29A to ‘micro’, ‘small’ and ‘medium’ enterprises (MSMEs). Therefore, the applicability of section 29A is restricted only to disqualify wilful defaulters from bidding for MSMEs.

Promoter suffering

The Section 29 A does not recognise a genuine business failure or an inadvertent corporate action of a limited liability company. Let’s evaluate the following three cases: -

a) A company takes a loan and then fails to repay it because of genuine financial or economic distress.

b)  Promoters give a personal guarantee to creditors for loans.

c) An innocuous commercial arrangement without any mala fide intent to defraud creditors could still qualify as a preferential or undervalued transaction under the IBC.

In all three above mentioned arrangements, the promoter can be debarred from the submission of a resolution plan.

Section 29A has excessively enlarged the scope of disqualification to the extent of drastically reducing the prospective resolution applicants on the basis of what could be labelled as generalized criteria for disqualification wherein it does not differentiate between a genuine applicant and one with antecedents.

A similar view was expressed by the National Company Law Tribunal (“NCLT”) in the matter of RBL Bank Ltd v. MBL Infrastructure Ltd wherein it was expressed that it cannot be the intention of the legislature to disqualify the promoters as a class but to rather exclude those class of persons who may affect the credibility of the resolution process given their antecedents.

Addressing promoter’s concern

English law provides a useful template wherein connected parties interested in purchasing assets of an insolvent company has an option to approach the Pre-Pack Pool and disclose details of the deal. The Pool comprises of experienced business people who conduct independent scrutiny of such deals and opinion on their commercial bona fide. A positive statement gives confidence to the creditors to approve a deal whose bona fide has been independently verified.

A similar concept can be introduced in India where a promoter who is interested to buy back his business during insolvency resolution can place his resolution plan before Committee of Independent Experts. If the committee approves such an arrangement, then the deal could still proceed. The fact that the promoter’s resolution plan is supported by an independent committee would give greater confidence to a creditors’ committee in considering whether to accept the plan. Moreover, it shall be unfair to outrightly reject the application even though downfall may be on the account of bona fide and innocuous commercial arrangements.