The Fate of Pre-Pack in India
[Deepali is a student at NALSAR University of Law, Hyderabad.]
While dealing with the financial distress during the pandemic, a Sub-Committee of Insolvency Law Committee was formed to envisage a pre-pack framework suitable for India, especially for micro small and medium enterprises (MSMEs) and offer them temporary mitigation. In order to implement the simplest variant of the structure, MSMEs were selected as eligible sector for pre-packaged insolvency resolution process (PPIRP). While the committee studied the framework across jurisdictions, it could not formulate a framework tailored to the needs of MSMEs in India. The same is evidenced by the meagre number of two MSMEs admitted for PPIRP since its introduction in April 2021.
Through this article, the author analyses the possible reasons for the low rate of initiation under the framework.
Pre-pack was introduced at the time of the pandemic to ensure that MSMEs, considered the backbone of the Indian economy, do not get pushed into insolvency. The structure was considered to be different from regular CIRP as PPIRP is based on debtor-in-possession model where the Board of Directors does not get dissolved, and there is no transfer of management to the Resolution Professional. While deliberating on the underlying features of the process, the Sub-Committee identified that the basic structure of the Insolvency and Bankruptcy Code 2016 (Code) must be retained. It went on to identify three features as the basic structure of the Code: first, creditor in control; second, moratorium during the resolution process; and third, binding nature of an approved resolution plan. The basic structure provides that creditor must be in control which is contradictory to the distinguishing feature of PPIRP i.e., debtor-in-possession. Hence, there is an apparent conflict between the basic structure of the Code and the foundational principles of the pre-pack insolvency resolution process. The Code allows the creditors to change management with 66% votes and approval of the adjudicating authority. This reflects that the inherent conflict between debtors and creditors which was not appropriately addressed in the structure of the PPIRP.
Pre-pack as a mechanism is a semi-formal process, where the process begins informally with the corporate debtor initiating the insolvency, submitting a base resolution plan itself and further calling for a meeting with unrelated financial creditors. The timeline for the completion of the entire process is set at 120 days from the admission of the PPIRP application by the Adjudicating Authority. The process is considered semi-formal with minimum state assistance. Nonetheless, the Sub-Committee believed that the Indian market has not sufficiently and sophisticatedly developed to proceed without court approval. However, through the cases discussed below, one can see that Adjudicating Authority is involved at each step, causing unnecessary delay and interference, defeating the purpose of introducing PPIRP as an alternative to CIRP.
The same is evidenced by the case laws with respect to MSMEs opting for pre-packaging. In the case of GCCL Infrastructure and Projects Limited, the application for initiation of PPIRP was accepted by NCLT Ahmedabad on 14 September 2021. The process should have been completed within 120 days after a nod of the Adjudicating Authority as per Section 54D; however, even after the approval of base resolution plan (BRP) by the Committee of Creditors (CoC), the matter is still pending before the NCLT. The reason for the delay is that the BRP had a merger proposal and questioning the commercial wisdom of CoC, the NCLT is investigating the details of this proposal.
In the case of Krrish Realtech Private Limited, the court agreed to hear the objections filed by the creditors by invoking Section 424 of the Companies Act 2013. The creditors included in the list and even those excluded had separate reasons to file objections. The court held that by listening to the objections of the creditors, it has not created procedural remedy having substantive outcome on the case. It held that by providing opportunity to the creditors which is explicitly not mentioned in the Code, the court is not creating any procedural remedy and merely invoking its jurisdiction under Companies Act 2013. However, entertaining the creditors at this stage has substantive outcomes in two ways.
First, the pre-pack process provides for the Resolution Professional, once appointed, has the duty to check the compliance of previous requirements by the corporate debtor. The Resolution Professional has to prepare an updated list of claims within two days of appointment, even considering the ones not included in the pre-admission stage. The same has been followed in the case of Loon Land Developers Ltd. where the objections regarding the status of the Corporate Debtor as MSME was questioned and the Resolution Professional had the duty of replying to the same. Second, the delay created by considering all the objections at the initial stage pushes the informal process to court, making the 120-day timeline unattainable.
Dissonance with the MSME Development Act
The preamble of the Micro, Small and Medium Enterprises Development Act 2006 (MSMED Act) clarifies that it has been made to facilitate the promotion and development and enhancing the competitiveness of MSMEs and for matters connected and incidental to it. Section 3 of the MSMED Act provides for establishment of a Board and the functions of the Board are to examine, make recommendations for development of these enterprises. The absence of the Board representation on the Sub-Committee formed to develop pre-pack could be reason for the failure to formulate a framework for the needs of MSMEs. The pre-pack model is based on debtor-in-possession model however, the initiation is only possible with the approval of creditors. The creditors would not want to go for voluntary haircut when the pre-pack could be invoked on a default of mere INR 10,00,000. Hence, the Code needs to reevaluate the provisions of the framework and harmonize them with the MSMED Act.
The pre-pack framework was introduced as a semi-formal process as compared to CIRP. However, the cases at hand showcase that it has ended being a court driven process. The voluntary haircuts and inherent conflict between the creditor and debtor could be reasons for fewer initiation under the framework. Further, interference of the court at each step makes the 120-day timeline unachievable. The Code must be revisited to harmonize it with the MSMED Act tailoring to the requirements of the MSME Sector.