Bankruptcy courts await a flood of default filings

In order to provide relief to Covid-19 pandemic-hit companies, the government temporarily suspended the initiation of corporate insolvency resolution processes from March 25, 2020, initially for six months. It was successively extended twice by three months each.

Lenders are free to initiate new insolvency and bankruptcy proceedings against financially stressed companies from Thursday as the one-year moratorium period has ended, however, the government is working to provide a framework to save small and medium firms from the lengthy legal hassles, two officials close to the development said on Wednesday.

The government is expecting a flurry of default cases in the National Company Law Tribunal (NCLT) now and preparing a framework so that the lender and the borrower could settle the matter outside the tribunal, the people quoted above said.(File photo)

As per the law, the moratorium, which exhausted on March 24, cannot be extended beyond one year. It is also not prudent to keep lenders in the lurch and allow accumulation of non-performing assets (NPAs) by not allowing initiation of fresh cases under the Insolvency and Bankruptcy Code (IBC), the officials said on condition of anonymity.

In order to provide relief to Covid-19 pandemic-hit companies, the government temporarily suspended the initiation of corporate insolvency resolution processes from March 25, 2020, initially for six months. It was successively extended twice by three months each.

The government is expecting a flurry of default cases in the National Company Law Tribunal (NCLT) now and preparing a framework so that the lender and the borrower could settle the matter outside the tribunal, the people quoted above said.

According to the officials, the number of total pending cases in the National Company Law Tribunal (NCLT) has mounted to over 21,250, a substantial jump from 19,844 pending cases on July 31, 2020, and out of these cases, 12,438 cases were related to the IBC.

“The ministry of corporate affairs (MCA) is willing to provide all support to companies, particularly small and medium firms, so that they do not face legal hassles and amicable settlement is possible for them under a framework in the making,” one of the officials said.

The second official said the framework will have a provision of pre-pack mechanism, which can be used by lenders and investors to resolve the matter amicably.

Rajiv Chandak, partner at consultancy firm Deloitte India, said that a further extension will not resolve stress in loan portfolio of banks. “Government should look to expedite bringing provisions around pre-pack which can facilitate consensual resolution of case between corporate debtor and lenders,” he said.

Faisal Sherwani, partner at law firm L&L Partners, said private firms had a one-year breather, sufficient to put their operations in order.

“Lenders have patiently waited for their rights to crystallize all this while. Of course, we may witness a surge in insolvency proceedings, which I think is the supposed ‘devil’ that the government seeks to avoid. But those consequences are a necessary evil and must be accepted if you have faith in the IBC and are a believer in a free economy with a fair system for dues recovery.”

Chandak underscored the need to enhance the capacity of the NCLT. “The government needs to enhance the entire NCLT infrastructure and simplify admission procedures so that stressed companies referred to the NCLT can be resolved faster,” he said.

Hindustan Times reported in February that the government planned to take measures that will help accelerate the disposal of cases under the IBC.

According to the latest Financial Stability Report (FSR) of the Reserve Bank of India (RBI), the gross NPA ratio of all scheduled commercial banks may increase from 7.5% in September 2020 to 13.5% by September 2021 in a baseline scenario and may escalate to 14.8% under a severe stress scenario.

Officials said delays in disposal of IBC cases were having an adverse impact on efforts by banks and financial institution to recover non-performing assets.

The move also closely follows a Supreme Court ruling on Tuesday that allows lenders to resume classifying bad debt. The two steps together give investors a clearer sense of the impact of the pandemic on the asset quality of local banks.

The move also reopens avenues for lenders to collect on soured debt from delinquent borrowers, allowing them more tools to manage one of the world’s worst bad loan piles.