PRE PACKAGED INSOLVENCY

BY SOMYA AGRAWAL

LEGAL INTERN, H.K. LAW OFFICES

BACKGROUND

Formal insolvency proceedings are cumbersome to carry forward and involve significant direct and indirect costs so a time-efficient approach is introduced to decrease the load of courts and tribunals for which “Pre Package Insolvency proceedings” are an analogy. As the literal meaning suggests, Pre-pack insolvency means a pre-arrangement  between the creditor and the interested buyer prior to the insolvency proceedings wherein they converse and negotiate terms of sale of assets and restructuring before applying to the courts/ tribunals for insolvency proceedings. It is a hybrid resolution mechanism to provide flexibility and economic efficiency to come to desirable outcomes without the baggage of piles of legal documents. In other words, it encourages “out of the court ” settlement.

The term “Pre-Pack Sale” has been defined by the Association of Business Recovery Professionals (a trade association of the United Kingdom’s insolvency, restructuring, advisory, and turnaround professionals) as “an arrangement under which the sale of all or part of a company’s business or assets is negotiated with a purchaser prior to the appointment of an administrator and the administrator effects the sale immediately on or shortly after his appointment”.The concept of pre-pack has a wide interpretation, but Bo Xie in his book on Comparative Insolvency Law has precisely defined the concept of pre-pack as “Pre-pack has emerged as an innovative corporate rescue method that incorporates the 65 virtues of both informal (out-of-court) and formal (judicial) insolvency proceedings”.[1] Furthermore,Vanessa Finch has given a layman understanding of the process as, “a troubled company and its creditors conclude an agreement in advance of statutory administration procedures” which “allows statutory procedures to be implemented at maximum speed.”[2]

The practice of pre-pack insolvency is prevalent in countries like the USA following the enactment of the Bankruptcy Reform Act of 1978 , the UK, France, Netherlands and Germany.

WHAT IS A PRE-PACK ?

A pre-pack is a resolution mechanism of the troubles of creditors and owners of a distressed business. Under a pre-pack resolution, creditors and owners of a business compound unanimously agree to sell the business to an interested buyer before going to the court to sanction the agreement. The buyer can be a third party or  someone interested in the business. The pre-pack insolvency resolution process (PIRP) is analogous to the corporate insolvency resolution process (CIRP) stated under the IBC, to sell or liquidate troubled businesses. The notable feature of CIRP is that once a creditor moves to court, a resolution professional appointed by the court takes charge of the business and then draws up and implements a plan of resolution but on the other hand this pre-pack option has been introduced to help micro, small and medium enterprises (MSMEs) saving their time and money.

WORKING EXPLAINED

When a defaulting business is admitted to the Insolvency proceedings , the transfer of the business is made to a resolution professional as per the guidance of the court ,who then takes care and audits the accounts of the business for the creditors to recover their respective amounts. However, in CIRP, the tedious mechanism stated can take over a year and creditors typically manage to recover much less than half of their debts. Further, the cost of bankruptcy proceedings in court can turn out to be substantial.

The behavioural change in society is reflected by the fact that the suppliers, workers, and creditors begin to feel uncertain about the future and slowly manages to keep themselves off. In adversity, the business’s operations come to a halt and soon lead to a further decline in finances. Such an outcome is hostile to the interests of both the owner of the business as well as the creditors.

Pre packs helps to minimise this distress of the liquidating business and its creditors by encouraging to negotiate the terms with an interested buyer willing to participate in the business arrangement and in turn, the creditors and business owners can try to keep the business going smoothly and extract the most value out of it which was hard to get out of the resolution proceedings facilitated by court.The crucial point to focus is that pre-packs concedes creditors and business owners along with interested buyers are better suited to make these crucial business decisions than resolution professionals in courts.

Pre-packs also prove to be more efficient to the economic value as well. They allow the assets of distressed businesses to be quickly shifted back into the economy despite  being subject to long litigation in courts. In fact,they fulfill the primary purpose of the bankruptcy code which is to free up assets stuck in highly distressed businesses.

RECENT TALKS

In India, during the current economic downfall due to the pandemic , many companies or businesses might go under insolvency proceedings and the lockdown situation adds to the chaotic situation. Therefore, an alternate reform that would promote asset deployment and restructuring and also slows down the impact of the pandemic on the distressed businesses, like pre-pack insolvency should be introduced.

The Insolvency and Bankruptcy Code (Amendment) Bill, 2021[3] shall be deemed to have come into force on April 4, 2021. It amends the Insolvency and Bankruptcy Code, 2016.

The object of the bill is to expedite and provide an alternate insolvency resolution process for corporate persons classified as micro, small and medium enterprises (MSMEs) under the Insolvency and Bankruptcy Code, 2016. The bill also replaces The Insolvency and Bankruptcy Code (Amendment) Ordinance, 2021 dated 04th April, 2021.

It annotates that the minimum threshold for initiating Pre-packaged Insolvency Resolution Process (“PIRP”) shall be wherein, default is not be less than INR 10 Lakhs and not more than INR 1 crore (Section 4). 

The challenging factor in  this whole pre-pack insolvency scheme regimen would be the confidentiality it provides to the parties;and because of it , the process ends up being less transparent. The parties might misuse this feature to their advantage and conceal the information of resolution from other parties thereby neglecting the interests of various stakeholders, especially the unsecured creditors. 


[1] Bo Xie (2016), Comparative Insolvency Law: The Pre-pack Approach in Corporate Rescue, Edward Elgar Publishing.

[2] Vanessa Finch, Corporate Insolvency Law Perspectives and Principles (2nd edn, Cambridge University Press 2009) 453.

[3] Insolvency Bankruptcy Code Amendment Bill 2021

Published by meghachaturvedi

Associate Partner, H.K. Law Offices

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