Insolvency & Bankruptcy Code 2016: Liquidation Process

Liquidation is one of the core concepts of business and by extension, corporate/business law. In India, companies facing insolvency or bankruptcy usually have to resort to either following a resolution plan or liquidating their assets in order to pay off the accrued liabilities. The general mode with regards to the liquidation of assets is to put them up for auction or restructure them effectively to yield better returns on the open market.

Liquidation process for a corporate person can be initiated only when a Resolution Plan as required to be submitted by the Resolution Professional (enrolled under Section 206 and registered with the Board as an “Insolvency Professional” u/s 207):

Is not received by the Adjudicating Authority (‘National Company Law Tribunal’ or ‘Debt Recovery Tribunal’ and subsequent appellate authority)

OR

It rejects the resolution plan due to non-compliance with the specified requirements at any time before the expiry of the maximum permitted period of the corporate insolvency resolution process or fast track corporate insolvency resolution process.

Note: At first, an attempt is made to resolve the insolvency of the corporate debtor through the Corporate Insolvency Resolution Process (CIRP) laid down under Chapter II of Part II of the Insolvency and Bankruptcy Code, 2016 (“the Code”). In situations where these measures fail to resolve the problem then the provisions under Chapter III of Part II come into effect i.e. the liquidation process.

The Insolvency Resolution Professional appointed to conduct the Corporate Insolvency Resolution Process usually also acts as the liquidator for the corporate debtor in case liquidation is ordered by the authority.

For your convenience [and frankly our own :)], we will cover the liquidation process in 5 segments:

• Initiation

• Liquidator: Role, Appointment, Fee, Powers and Duties

• Liquidation Estate (Assets of Corporate Debtor)

• Accessing relevant information

• Claims

INITIATION OF THE LIQUIDATION PROCESS:

Section 33 of the Code provides for the triggers for initiating the liquidation process of a corporate person-

When the Adjudicating Authority (“the authority”)-----

1. Does not receive a resolution plan:

Before the expiry of insolvency resolution process period or before its maximum period permitted under Section 12 of the Code (180 days). This is also applicable when fast-track efforts under Section 56 have also failed to result in a resolution plan. [SECTION 33(1) (a)

2. Rejects a resolution plan:

Under Section 31 for non-compliance with the requirements specified under Section 30 (2) of the Code. In such a scenario, the authority shall:

• Pass an order that requires the corporate debtor to be liquidated.

• Issue a public announcement stating that such corporate debtor is in liquidation.

• Require such order to be sent to the authority under such corporate debtor is registered.

3. When, at any time before confirmation of resolution plan, the committee of creditors resolve to liquidate the corporate debtor [SECTION 33 (2)]:

The Insolvency and Bankruptcy Code (Second Amendment) Act, 2018 amended the Code to make Section 33(2) provide for a reduced threshold from 75% to 66% of the voting share for obtaining the approval of the committee of creditors for making an application to the authority to pass a liquidation order.

4. When the corporate debtor violates the terms of the resolution plan [SECTION 33 (3)]:

When the corporate debtor violates the terms of the resolution plan then any person who is affected by such violation, can make an application to the authority for a liquidation order as u/s 33 (1) – (i), (ii) & (iii). If the authority is of the opinion that the concerned corporate debtor has violated terms of the resolution plan then, it shall pass a liquidation order--

[SECTION 33(4)].

#--------In these situations, the role of the Resolution Professional (RP) is extremely important. In case, the RP does not invite any applications for a resolution plan and goes straight for liquidation then he shall be deemed to have not performed his statutory duties. (As observed in Sunrise Polyfilms Pvt Ltd. vs. Punjab National Bank.)

• The RP can also be given the option to extend the period of the corporate insolvency resolution process beyond the 180 days by the committee of creditors by a 66% of the voting shares.

Suits and Legal Proceedings during liquidation process:

• Section 33 (5) of the Code provides that when a liquidation order has been passed, no suit or other legal proceeding shall be instituted by or against the concerned corporate debtor. However, a liquidator acting on behalf of the corporate debtor can institute a legal proceeding provided that the authority grants permission to do so.

• Section 33 (6) provides that the legal proceeding mentioned in 33 (5) do not apply to proceeding regarding such transactions as may be notified by the Central Govt. in consultation with any financial sector regulator (u/s 3 (18)- RBI, SEBI, IRDA, PFRA etc.]

Position of the employees after liquidation order:

Section 33(7): The order for liquidation shall take effect as a notice of discharge to all the members, officers, workmen of the corporate debtor except in cases where the business is continued during the liquidation process by the liquidator.

APPOINTMENT AND FEES [Section 34]:

After the passing of an order for liquidation of the corporate debtor u/s 33, a resolution professional (RP) initially appointed for Corporate Insolvency Resolution Process (under Chapter II) can act as the liquidator for the purposes of liquidation provided, consent of the RP is submitted to the adjudicating authority. [Section 34(1)]

The above provision was added by The Insolvency and Bankruptcy Code (Second Amendment) Act, 2018 requiring the consent to be submitted in a form as may be specified by the authority/ Board.

Powers vested in a Liquidator:

After an order of liquidation, Section 34(2) provides that all such rights and powers that were enjoyed by the Board of Directors, Key Managerial Personnel/ Partners etc. of the corporate debtor shall cease to have an effect and shall be vested in the liquidator.

Can a resolution professional (RP) be replaced?

Section 34(4) provides for three scenarios where the adjudicating authority can replace an RP:

1. The resolution plan submitted by the RP did not meet the requirements under Section 30(2)

2. The Board recommends replacing the RP to the adjudicating authority (reasons have to be recorded and provided in writing)

3. The RP fails to submit written consent [as required under Section 34(1)]

Further provisions under this Section:

• The Board may propose the name of another Insolvency Resolution Professional to be appointed as the liquidator under Section 34(5)

• The aforementioned appointment shall be made within 10 days [of the direction issued u/s 34(5)] with written consent in the specified form [Section 34(6)]

• Upon receiving the said proposal from the Board and written consent, the adjudicating authority shall appoint a new insolvency resolution professional to take charge of the liquidation proceedings. [Section 34(7)]

Fees to be paid to the liquidator:

Section- 34 clauses (8) and (9) provide that a liquidator shall charge a fee for the liquidation proceedings and it shall be in proportion to the value of the liquidation estate assets. The quantum of the fee provided shall be from the proceeds of the liquidation assets in a manner as prescribed by the Board.

Powers and Duties of a Liquidator [Section 35]:

Section 35 of the Code provides for a non-exhaustive list of powers and duties of a liquidator to ensure the orderly completion of the liquidation proceeding. Here are some of the most important powers and duties vested on a liquidator:

• To verify the claims of each and every creditor and take custody/control over the assets, properties, effects and actionable claims of the corporate debtor.

• To prepare a report after evaluating the assets and properties of the corporate debtor in a manner specified by the Board.

• To preserve and protect the assets and properties of the corporate debtor and carry on business for its beneficial liquidation (only if deemed necessary by the liquidator).

• To draw, accept, make and endorse any negotiable instruments including bill of exchange, hundi or promissory note in the name and on behalf of the corporate debtor. It shall have the same effect as if it was done in the ordinary course of business by the latter itself.

• To obtain professional assistance from any person or appoint any person in discharge of duties and responsibilities.

• To invite creditors and claimants and distribute proceeds of liquidation in compliance with the provisions of the Code.

• To institute/defend a suit, prosecution or any legal proceedings on behalf of the corporate debtor.

• To investigate the financial affairs of the corporate debtor and determine undervalued or preferential transactions undertaken by the same.

• To file/apply to the adjudicating authority for the orders required during the liquidation process and report the progress accordingly/

Check the complete list as provided u/s 35(1), here.

Moreover, Section 35(2) provides that the liquidator shall have the right to consult any of the stakeholders who are entitled to the distribution of proceeds under Section 53. However, the said consultation shall not be binding on the liquidator and its records shall be made available to other stakeholders who were not consulted.

Liquidation Estate [Section 36]:

Section 36 provides for the creation of liquidation estate and also lists out the assets of the corporate debtor that are to be excluded from it. The main power rests in the Central Government which can notify any assets that need to be excluded from the estate in the interest of the efficient functioning of financial markets.

Section 36(2) provides that the liquidator holds the liquidation estate and stands in a fiduciary relationship with/ for the benefit of the creditors.

Assets included in the liquidation estate:

For the purpose of liquidation, the liquidator shall form an estate of assets which shall comprise of the following [Section 36(3)]

• Any assets over which the corporate debtor has ownership rights including all rights and interests as evidenced in the books of the corporate debtor. OR

• An Information utility

• Records in the Registry

• A depository where securities are held by the debtor

Also includes any other property belonging or vested in the corporate debtor at the commencement of insolvency proceedings.

• Assets that may or may not be in possession of the debtor and it includes Encumbered Assets (these are basically securities that are owned by one entity, but at the same time, are subject to a legal claim by another entity. Like and unpaid mortgage)

• Tangible assets (both movable and immovable)

• Intangible assets: This is not only limited to Intellectual Property rights, Securities (including the shares held in a subsidiary by the corporate debtor), financial instruments, insurance policies, contractual rights etc.

• Assets that are subject to determination of ownership/title by any court or the authority.

• Any assets or their value recovered to proceedings under the Code

• Any assets in which a creditor has relinquished security interest.

Assets not included in Liquidation estate:

According to Section 36(4), any assets owned by a third party but in possession of the corporate debtor including:

• Assets are held in trust for any third party.

• Bailment contracts and other contractual arrangements do not cause a transfer of title but are only for use of the assets.

• Workmen/Employee Provident Fund, pension fund, gratuity fund.

• Assets notified against by the Central Government [as u/s 36(1)]

• Assets in security collateral held by financial service providers and are subject to setting-off, trading or clearing transaction of the corporate debtor

• Assets of any Indian or Foreign subsidiary held by the corporate debtor.

• Any other assets including the ones subject to set-off due to mutual dealings between the corporate debtor and creditors.

Accessing relevant information [Section 37]:

Section 37 provides the liquidator with the power to access any information systems for ratifying/verifying admission, proof of claims and identifying assets that will constitute the liquidation estate. The following are some of the information sources mentioned under clause-1 of this Section:

• An information utility or credit information system regulated under any law at the time.

• Any agency of the Central, State or Local Government (also includes registration authorities)

• Information systems for:

• Financial and Non-financial liabilities

• Securities and assets (posted as a security interest).

• Any database and other sources as may be specified by the Board.

The Committee of Creditors may require financial information of the corporate debtor and it is to be provided to them by the liquidator within 7 DAYS (of such request being made) under Section 37(2) & 37(3)

Claims [Section 38-41]:

Sections 38 to 41 of the Code provide for the procedure and time period of collection of claims. These sections also provide for the different methods by which different categories of creditors can prove their claims:

Time period and submission:

Section 38(1) provides that the liquidator shall collect the claims of creditors within 30 DAYS from the start of the liquidation process.

• Further, the financial creditors of the corporate debtor can submit a claim to the liquidator and shall furnish relevant records and information utility as required by the latter- 38(2)

• 38(3)- In cases where the required details are not found in an information utility, the liquidator can ask the financial creditor to submit their claim in a similar manner to the operational creditors.

• 38(4) provides that- anyone who is partly a financial creditor and an operational creditor shall provide relevant information with supporting documents and shall submit the extent of the credit amount (including all assets and properties whether already liquidated or not).

--- In a recent case, the National Company Law Tribunal (NCLT) held that when there is a transfer of an advance but no actual supply of goods, it cannot constitute an operational debt and therefore, the vendor would not become an Operational Creditor [Andal Bonumalla v. Tomato Trading LLP]

A creditor may withdraw or defer/vary his claim u/s 38(5) within 14 DAYS of its submission to the liquidator.

Claim: Verification, Admission and Rejection:

The liquidator can ask any creditor to furnish additional receipts or documents for the purpose of verification of their respective claims (whole claims or any part of it) under Section 39 of the Code.

--------After the claims are verified u/s 39, the liquidator can either admit or reject the claim based on his reasoning. In case the claim is rejected, the liquidator has to record the reasoning behind the same in writing u/s 40(1). An approximate total value of all valid claims shall also be put together by the liquidator (in a manner consistent with the code and other subsequent directions by the Board).

Communication of the decision to admit or reject should be communicated within 7 DAYS of such decision by the liquidator.

--------The NCLT cannot stand in appeals when a resolution professional collates data during the corporate insolvency resolution process, however, in liquidation proceedings, it is preferred as the authority for complaint:

Any creditor may appeal to the authority against the decision to admit or reject certain claims within 14 DAYS of such decision. [Section 42]

In case we missed something, feel free to comment and let us know your opinions. Do check out our other posts as well.

Thank you for reading!