Pre-Pack Insolvency Resolution Process for MSMEs

The Insolvency and Bankruptcy Code (Amendment) Ordinance, 2021 (“Ordinance”) was promulgated on 4th April, 2021. It introduced the Pre-Packaged Insolvency Resolution Process (“pre-pack insolvency process”) under the Insolvency and Bankruptcy Code, 2016 (“IBC”). The Ordinance provides for a systematic alternative insolvency resolution process which maximizes value and also has a minimum disruptive effect on business operations. It offers a special procedure which combines the benefits of informal arrangements with the effective nature of formal insolvency proceedings.

As of now, the provisions of the Ordinance are applicable only to micro, small and medium enterprises (“MSMEs”). Rules and regulations provide further details regarding the functioning of the pre-pack process.

Key features of the pre-pack insolvency process

The pre-pack insolvency process principally provides for a model which revolves around the debtor in possession and the creditor in control. The process also provides for a shorter timeline. The key features of the process are as follows:

1. 1. 1. 1. Requirements prior to commencement

Only MSMEs which have defaulted on their loans (minimum amount of default being 10 lakhs) are eligible to initiate a pre-pack insolvency process. The corporate debtor must be eligible to submit a resolution plan under Section 29A of the IBC.

The IBC also provides certain exceptions for MSME resolution applicants under Section 240A. Under the provisions of the Ordinance, the corporate debtor is prohibited from initiating a pre-pack insolvency process if (i) it is already undergoing a corporate insolvency resolution process (“CIRP”) at the time of filing a pre-pack application; or (ii) it has undergone a CIRP or pre-pack insolvency process in the preceding three years; or (iii) a liquidation order has been passed against it.

The corporate debtor is also required to fulfil certain other conditions:

• • • • It is required to hold a meeting which consists of its unrelated financial creditors who are required to propose and approve a resolution professional for the pre-pack insolvency process. The proposed resolution professional would need to fulfil certain eligibility requirements provided under Section 7 of the pre-pack regulations.
      • Certain internal permissions are also necessary for the initiation of the pre-pack insolvency process. The majority of either the partners or the directors of the debtor are required to make a declaration under Section 54A(2)(f) of the IBC which was inserted by the Ordinance.
      • The unrelated financial creditors should approve the initiation of the process by a majority of 66%. The corporate debtor is required to share sufficient information in order to enable the financial creditors to take an informed decision. Such information includes the declaration provided by the majority of the directors/partners, the special resolution of its members, as well as a base resolution plan proposing its resolution as a going concern.

1. 1. 1. 2. Admission of application for initiation of pre-pack insolvency process

After the fulfilment of the requirements prior to commencement, a corporate debtor may initiate the pre-pack insolvency process by filing an application. The said application should be filed within the time-period stated in the declaration under Section 54A(2)(f). A report prepared by the proposed resolution professional which confirms whether or not the corporate debtor is eligible for the pre-pack insolvency process along with a confirmation that the base resolution plan satisfies the stipulated requirements is also required to be furnished. Moreover, a declaration regarding the existence of any previous transactions under Chapter II, III, or VI of the IBC is also required to be made.

If complete, the AA is required to admit the application within 14 days from the date of filing of the application. Once the application is admitted, the AA shall pass an order of admission which would mark the commencement of the process. At the time of admission, the AA will declare a moratorium under sections 14(1) and (3), appoint the resolution professional, and cause a public announcement.

1. 1. 1. 3. Pre-pack insolvency process

The Ordinance provides for a short timeline for the completion of the pre-pack insolvency process, i.e. 120 days. The 120 days are divided into two parts – 90 days for the approval of the resolution plan by the committee of creditors (“COC”) and 30 days for adjudication by the AA. The resolution professional is required to apply to the AA seeking termination of the pre-pack insolvency process if no resolution plan is approved by the COC within 90 days.

In the pre-pack insolvency process, there are three stakeholders which play key roles: (i) the corporate debtor – who retains the responsibility of managing the business; and (ii) the resolution professional – who has the responsibility of conducting the process, along with facilitating decisions by the COC; and (iii) the COC – which supervises the functioning of the corporate debtor as well as the resolution professional.

1. 1. 1. 4. Resolution plans

The pre-pack insolvency process provides for the process of consideration and approval of resolution plans in three stages:

1. 1. 1. 1. 1. 1. Submission of base resolution plan and consideration: The corporate debtor, if eligible under Section 29A, is required to share a base resolution plan with the financial creditors at the pre-commencement stage and then seek approval for commencing the process. The plan is then submitted to the resolution professional within two days of its admission. The COC may then approve the plan for submission to the, if it does not interfere with the claims of any operational creditors. If the COC does not approve the plan, then the resolution professional can initiate a process for inviting competing resolution plans.
               2. Public invitation, assessment and selection of plan: The resolution professional would then invite prospective resolution applicants to submit alternative resolution plans to compete with the base resolution plan. The COC would then evaluate the alternate plans and select one for submission to the AA if it deems the alternative plan to be better than the base resolution plan. If the selected resolution plan is not approved, it would compete with the base resolution plan.
               3. Selecting a final resolution plan: The resolution applicant whose plan is selected along with the corporate debtor (who submitted the base plan) will improve their plans by comparing with one another. Any improvement will be minimal in terms of a score, as approved by the COC. Both applicants will have the option to improve their resolution plans and the process shall continue until one of them outscores the other (within the stipulated time frame, i.e. 48 hours).

The COC may approve the resolution plans at different stages by 66% approval votes and considering the suitability of the plan along with the manner of distribution proposed by it. When the base resolution plan is pending approval, the COC can choose to dilute the promoter’s shareholding, voting or control rights if the plan proposes to diminish any claims against the corporate debtor (and record reasons for choosing not to do so). The resolution plan approved by the COC shall be submitted to the AA for its approval. Once the resolution plan is approved by the AA, it has the same effect as a resolution plan approved under a CIRP.

1. 1. 1. 5. Closure 

Once the application for the initiation of the pre-pack insolvency process is admitted by the AA, there are four possible outcomes:

1. 1. 1. 1. 1. 1. The resolution plan approved by the COC is submitted to the AA and receives its approval.
               2. The AA passes an order of termination if: (i) the COC passes a resolution seeking termination; or (ii) the resolution plan successful in the competition between the base resolution plan and the selected resolution plan is not approved by the COC; or (iii) the resolution plan approved by the COC is rejected by the AA.
               3. The AA passes an order to initiate a CIRP based on a resolution passed by the COC seeking the same result.
               4. The AA passes an order for liquidation, if following an order which vests the management of the corporate debtor with the resolution professional, the COC approves a resolution plan which does not anticipate a change in control or management to a third party; or if the pre-pack process is required to be terminated.

The author is Vidit Parmar.

Disclaimer: This memorandum is meant solely for informational purposes and not for the purpose of advertising or soliciting clients. Any use of the information provided herein is not intended to, and shall not, create a lawyer-client relationship.