Why ARCs should get a chance to bid for corporate debtors under IBC

Should the asset reconstruction companies (ARCs) be allowed to submit resolution plan under the Insolvency and Bankruptcy Code?

It’s a pity that this question has come to haunt the regulators and the insolvency ecosystem four years after the Insolvency and Bankruptcy Code (IBC) came into existence. During these four years, over 250 companies have seen resolutions under IBC, some of which have been successfully acquired by ARCs.

The issue came to fore after the Reserve Bank of India (RBI) recently denied UV ARC from submitting resolution plan in the Aircel insolvency case citing SARFAESI Act, which apparently says that ARCs cannot carrying on any business other than that of asset reconstruction and/or securitization. Apart of these two, an ARC needs to take RBI permission to carry on any other business.

Notwithstanding the restrictions in SARFAESI Act, the IBC has provisions for submission of resolution plan by financial entities including an ARC.

Yet the current controversy over ARCs submitting resolution plan has opened a Pandora’s Box especially since there is a number of ongoing insolvency cases, where ARCs have not only submitted resolution plans but have also emerged as  successful resolution applicants.

The RBI’s recent decision leaves a lot of unanswered questions like what happens to those resolved cases where ARCs emerged as the successful resolution applicants. Besides, if IBC allows financial creditors to submit resolution plan, why can’t ARCs, who are also categorized as financial creditors, do the same? How can the regulators and government remove these inconsistencies in the two laws?

Conflict of interest

One of the key reasons for not allowing ARCs to submit resolution plan in a Corporate Insolvency Resolution Process (CIRP) could be that of conflict of interest.

ARCs, which are categorized as financial creditors, if allowed to participate in the insolvency process as resolution applicant and emerge as successful resolution applicant may structure the plan in such a way to favour its interest over others.

“Though IBC doesn’t prohibit ARCs to be a resolution applicant, the question that needs to be answered is whether their participation will pose any conflict of interest. In my view, a liberal approach should be adopted and their participation should not be restricted, especially, when ARCs can help in reviving the company. The question, though, is whether as a policy decision, the government wishes to allow them to buy equity instead of debt. Since, unlike banks, ARCs don’t take public deposits, there should be no restrictions on them on acquiring stressed businesses,” says Neeti Sikha, head of the Centre for Insolvency & Bankruptcy, Indian Institute of Corporate Affairs, Manesar.

She further says that policymakers must consider that for the success of IBC, it is important to adopt a market-centric approach. “Policies should not be designed in a manner that it hurts the market. More importantly, it should be left to the committee of creditors to decide, and as a guiding principle, what is in the best interest of the company for its revival should be adopted. While there is a need to have clear a Chinese wall and control, the wall should not prohibit entry of investors,” she adds

She says ARCs should follow the fair practice code laid down by the RBI. Though, Neeti Shikha is also of the view that instead of regulator, it should be left to the judgment of the Committee of Creditors.

The Reserve Bank of India’s fair practice code for ARCs, however, does not talk about them taking over assets under IBC but exhorts them to follow the ‘spirit of Section 29A of Insolvency and Bankruptcy Code, 2016 may be followed in dealing with prospective buyers.’

Different set of rules for ARCs

On the issue of conflict of interest though, the RBI cannot expect ARCs to follow a different set of rules from other financial creditors. The IBC does not stop financial creditors from submitting resolution plans during an insolvency proceeding. It has been seen in past that a financial creditor has successfully bid for a corporate debtor despite having the largest vote share in Committee of Creditors (CoC).

In the Korba West Power Co. Ltd insolvency case, the largest unsecured financial creditor in the CoC by vote share – Adani Power with 37.33% vote share – went on to successfully bid for the corporate debtor by 69.08% vote share. Not just that, the resolution plan was such that it provided for 100% of the unsecured creditors’ claim but only 33% of the Secured Creditors’ claim.

Yet the resolution plan was approved without much ‘dissent’ from the rest of the committee of creditors.

The conflict of interest was writ large on this case and yet if the unsecured creditor was allowed to take over the corporate debtor, ARCs will always have strong case for them being allowed to bid for a company under IBC.  

The larger goal

Many believe that the purpose of a resolution process is to revive the corporate debtor, and putting restrictions on resolution applicants only lessens the chances of revival.

Sanjeev Ahuja, a mediator, resolution professional and arbitrator, is of the opinion that by putting restrictions on resolution applicants, we are putting restrictions on chances of survival of the corporate debtor.

“Important here is transparency and vision to see through the process and the potential hurdles. We have seen processes getting into technical and procedural issues and the larger objective of timelines is lost. Let’s avoid inconsistency in applicable laws and think afresh for the larger objective of resolution and transparency/clarity,” he says.

He believes ARC should also be allowed, either alone or jointly with a third party, in the resolution process. Today they can get the loans assigned, tomorrow they should be able to own the corporate, turnaround and sell them.

The decision by RBI to not only puts a question mark on the past resolutions, where ARCs emerge as the successful bidders but it also put at risk many ongoing resolutions where the asset reconstruction companies have a better chance of submitting a successful resolution plan.