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Insolvency and Commercial Preparedness during COVID-19

Just as precautionary preparedness is essential for overcoming the health concerns caused by Covid19, legal preparedness for commercial impacts of the pandemic on global economy and business is just as vital. Following suit with the German, Spanish, Australian and now the United Kingdom jurisdictions’ relaxation in insolvency and bankruptcy laws, the Government of India (GOI) on 24.03.2020 raised the minimum threshold for initiation of insolvency and liquidation of corporate debtors from Rs. 1 Lakh to Rs. 1 Crore with suggestions to make further changes to the Insolvency & Bankruptcy Code, 2016 (“Code”) towards the end of April 2020.

Further thereto, with respect to companies undergoing insolvency resolution process, the Insolvency & Bankruptcy Board of India on 29.03.2020 amended the regulations pertaining to Corporate Insolvency Resolution Process (CIRP) to effectively discount the period of lockdown imposed by the GOI for any activity which could not be completed in relation to the CIRP, which now stands confirmed by the Hon’ble National Company Law Appellate Tribunal vide its suo moto order dated 30.03.2020.

While the measure to increase the threshold partly replicates the Australian Government’s raising of the minimum threshold from $2,000 to $20,000, the GOI could also be contemplating increasing the present statutory time-limit of 10 days – from the receipt of the Demand Notice issued by the Operational Creditor under Section 8 of the Code – for the Corporate Debtors to either issue a notice of dispute or make payment upon issuance of Demand Notice under Section 8 of the Code by Operational Creditors on the similar lines as the Australian Government increased the statutory period from 21 days to a significant 6 months thereby effectively ensuring the benefit of time in favour of the Debtor to resolve the claim of the Creditor. Though GOI could consider shortening the time period for issuance of notice of dispute to less than 6 months, since a period of 6 month’s for issuance of the notice of dispute would render defeated the very Object and Purpose of the Code and delay the much needed infusion of liquidity in the market.

It is understood that the GOI is also considering various other measures in order to ensure smooth functioning of the Companies in distress which may get aggravated pursuant to the present Covid situation necessitating Social Distancing and Lockdown, thereby impacting the businesses hugely. One such consideration is the suspension of proceedings under section 7, 9 and 10 of the IBC 2016 for a period of 6 months in case the present Covid situation extends beyond 30th April, in order to safeguard the companies (in distress) from being forced into insolvency proceedings in such force majeure causes of default.

It is understood that the GOI is also considering waiving off the period of lockdown, i.e., 21 days from the Bankruptcy Resolution Process, however the extension of timelines for completion of activities also impacted by the Social Distancing norms which were initiated 2 weeks prior to Lockdown and is likely to continue for at least 30-45 days after the Lockdown is over.

There are various other measures that are necessitated both at the ends of the GOI as well as the Creditors (Operational as well as Financial), in order to ensure the smooth functioning of the distressed businesses.

Some of the key elements to be kept in mind for the Operational Creditors during the Covid19 situation in order to arrive at a perfect balance of ensuring their liquidity crisis while letting the distressed companies survive and recover, have been discussed hereinafter.

It is imperative for the Operational Creditors to take a cue and seek to take the requisite measures including issuance of Demand Notices prior to any further changes to the Code, which may although be introduced with a retrospective effect; thereby essentially mandating the Operational Creditors to revisit their contractual terms to identify whether the debt has become due and payable and to also identify their entitlement to delay interest and related costs in case of default of payments by the concerned Corporate Debtors. The aspect of delay interest becomes all the more crucial, for it is required to be supported by cogent admissible evidence, i.e. it ought to be properly documented and agreed upon between the parties.

Revisiting terms and conditions of value chain contracts becomes all the more important especially in light of the recent introduction of sub-clause 2A to Section 14 of the Code, which mandates an Operational Creditor to continue supplying “critical goods and services” - to the Corporate Debtor as may be determined by its Resolution Professional.

Further, although invocation of insolvency may seem attractive to Operational Creditors it ought to be conditioned with a better understanding of the financial position of the Corporate Debtor, especially whether the assets of the Corporate Debtor exceed the liabilities in its financial statements as issuance of a Demand Notice despite being at times effective in achieving repayment within the statutorily prescribed period, may in other instances only be the first step to incurring costs towards the initial period of insolvency proceedings of the Corporate Debtor if no repayment is arrived at. It is also not unwise for creditors to study the provisions of guarantees and securities, if any, by their debtors.

On the other hand, it becomes all the more essential for Corporate Debtors and their Boards to take stock of their financial health and limit their liability. A key measure in addition to receiving timely updates from the CFOs on cash-flow forecasts and effectively managing their account statements would be to review contracts to assess not only the protections that may be available but to also strategize vendor and creditor disbursements.

A slew of contractual clauses assume importance such as – including but not limited to – payment terms, termination terms and the much relevant force-majeure or frustration clauses. It is all the more important for Boards that may anticipate financial distress to explore contingency plans for safeguarding their vendor supply chain in case they are required to issue the requisite termination notices to their existing suppliers and service providers.

With certain industries, such as hospitality and aviation, being a lot more susceptible to the initial economic impacts of Covid-19 it becomes all the more essential for their Directors to ensure taking the requisite measures and advisories while formulating plans for payment to their creditors. The recent jurisprudence of the Hon’ble Supreme Court on preferential transactions (Anuj Jain v. Axis Bank & Ors. - Final Order and Judgment dated 26th February 2020) make it all the more crucial for Boards to safeguard themselves for any of their transactions from being termed as preferential, which can also substantially increase the risk of the members of the Board to undergo scrutiny under the Fit and Proper test introduced by the Companies Amendment Act, 2019. While taking an advisory from counsel may certainly incur a modest cost, it might as well prove to be a key to raising an effective defence of due diligence against such ordeals. Lastly, one may also anticipate steps towards suspension of requirement of due diligence from Directors to avoid wrongful trading while keeping the provisions against fraudulent trading intact, as introduced by the United Kingdom on 28.03.2020.

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