IBC's blind spot: Rights of operational creditors need to be spelt out

As the first exercise of its kind in India, the Insolvency and Bankruptcy Code (IBC) has been a work in progress, entailing periodic adjustments to the rules as unforeseen issues come to the fore in settlement proceedings. These issues oblige the National Company Law Tribunal (NCLT) and the National Company Law Appellate Tribunal (NCLAT) to create a body of precedents and settled law for the smooth functioning of the debt recovery process, which has become critical to kick-start the economy. Earlier, the rules were tweaked to bar promoters from bidding for the own companies under the IBC, as also those who had stakes in debtor companies. Even as the NCLAT is hearing these issues, two cases before it in the past fortnight have raised another contentious issue: That of the rights of operational creditors or supplier-creditors. Understandably, perhaps, much of the focus of insolvency has been on financial creditors (banks), which was the basic raison d’etre for the IBC law in the first place. Although the IBC allows operational creditors to invoke the insolvency resolution process, the cases of Larsen & Toubro (L&T) and Ericsson reflect the unanticipated variables in the mix.

L&T’s case concerns the resolution process for Bhushan Steel, the first of the 12 major debtors that the Reserve Bank of India (RBI) had referred to the IBC. Last week, Tata Steel completed its purchase of a 72.65 per cent stake in Bhushan Steel after agreeing to pay banks Rs 352 billion. About Rs 12 billion is reserved for operational creditors in the agreement, of which L&T alone accounts for a hefty Rs 9.6 billion. The catch here is that the distribution of banks’ dues has been defined in consultation with Committee of Creditors, but not that of the operational creditors. Indeed, operational creditors are typically not part of creditor committees, on grounds that their payments are routed through bank loans. Since this clearly has not been the case, L&T has moved the NCLAT, seeking a definitive settlement. This ruling when it comes will be the first case to address this issue.

Swedish telecom equipment maker Ericsson was the first operational creditor to invoke the IBC for Reliance Communications (RCom) and two subsidiaries to recover dues worth Rs 16 billion. If the cases were admitted, RCom would have been unable to push through its restructuring plan, which entailed selling its assets to Reliance Jio and reducing its Rs 460 billion debt to Rs 60 billion. RCom appealed to the NCLAT, which stayed the IBC reference, allowing the company to go ahead with its asset sale on the stipulation that it pay Ericsson Rs 5.5 billion upfront and that both companies would file an affidavit by June 7, confirming that they would abide by the settlement.

The interesting point about the order for the parties to settle the matter is the observation by NCLAT Chairman Justice J Mukhopadhyay that the fate of operational creditors under the corporate resolution process was “not ideal”, suggesting that the issue demands some more clarity. With the tribunals headed for a month’s summer vacation, L&T will have to wait for a decision on its appeal. The issue at stake is whether financial creditors and operational creditors should be treated on a par, and this extends to the status of statutory creditors such as the tax authorities. How the NCLAT treats this issue will determine the nature of the IBC process in the future.

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