Rethinking Section 29A of IBC to get the best out of a resolution process

It is section 29A of the IBC that is a crucial provision aimed at preventing unscrupulous promoters from taking advantage of the insolvency process.

By Arpita Mukherjee

The recent insolvency declaration by Coffee Day Enterprises Limited has once again turned the spotlight on the complex interplay between insolvency laws and business revival. The cafe chain now stands at the crossroads of its financial distress, led possibly by the unfortunate passing of the promoter. While the family was trying its best to revive it, came this news bringing with it the possibility of their ouster/segregation from the process of resolution through a corporate insolvency resolution process (CIRP).

At the heart of this debate is Section 29A of the Insolvency and Bankruptcy Code (IBC) and its impact on the recovery of businesses like CCD.

The context: CCD's financial woes

Cafe Coffee Day, founded by V.G. Siddhartha. However, the company has faced severe financial strain over the years, culminating in a series of events starting with the unfortunate passing of Siddhartha and subsequent leadership of the chain by his wife, Malavika Hegde. It was followed by a steady recovery of the business through her active leadership, rationalising outlets and closing of non-performing and high-cost initiatives. But it didn’t unfortunately prevent its recent insolvency declaration.

This crisis has highlighted broader concerns about how insolvency laws can either facilitate or hinder the revival of distressed businesses and in the process end up making an enviable brand suffer, as collateral damage.

In this article we will analyse the series of events leading to the taking over of the reins by Malavika, the company filing for insolvency and the possible role section 29A will play in the coffee chain’s journey now on.

Facts so far:

# On August 8, 2024, the Bengaluru bench of the NCLT (National Company Law Tribunal) admitted a Section 7 Petition filed by IDBI Trusteeship Services Ltd (IDBITSL) as a financial creditor claiming a default of Rs 228.45 crore and also appointed an interim resolution professional to take care of the operation of Coffee Day Enterprises Ltd., the corporate debtor, after being satisfied that it had defaulted in coupon payments of redeemable non-convertible debentures (NCDs).

# CDEL opposed the move claiming that IDBITSL is not authorised to initiate CIRP as the Debenture Trustee Agreement and Debenture Trust Deed do not grant powers to it to initiate CIRP. They claimed that the trustee has not sought written instructions from debenture holders and only upon receipt of relevant instructions from the majority debenture holders (of the aggregate amount representing not less than 51percent of the value of the nominal amount of the debentures) is entitled to exercise its rights. CDEL also contended that the application has been filed by IDBITSL on September 7, 2023 while the date of default is September 30, 2019.

# The application has been filed almost a year later than the limitation of September 29, 2022. IDBITSL on its part said clause 10.1 of the Debenture Trust Deed says it does not require any specific authorisation from the debenture holders to exercise its rights. The government through a notification issued in February 2019 has permitted debenture trustees to file applications under Section 7 of the Insolvency & Bankruptcy Code.

Rejecting the submissions of CDEL, NCLT said CDEL in its annual reports for the FY20, FY21, FY22 and FY23 has acknowledged it is in default of repayment of interest of Rs 14.24 crore, which is a clear acknowledgement of debt and hence the issue of limitation is duly taken care of. It conclusively stated that there is a ’debt’ and ’default’ existing in this case; and the petition is filed within the limitation period. The threshold requirement is considered fulfilled.

Understanding Section 29A of the IBC Code

It is section 29A of the IBC that is a crucial provision aimed at preventing unscrupulous promoters from taking advantage of the insolvency process. It disqualifies certain categories of individuals from submitting a resolution plan, particularly those who are corporate debtors under the management or control of such person or of whom such person is a promoter, classified as a non-performing asset in accordance with the guidelines of the Reserve Bank of India issued under the Banking Regulation Act, 1949.

The section was introduced to ensure that only credible, independent and competent entities can revive failing businesses. Its primary objective is to protect the insolvency resolution process from exploitation by promoters who have previously demonstrated poor financial management or dishonesty. By disqualifying such individuals, the IBC aims to prevent the recurrence of financial misconduct and ensure that the resolution process is handled by those with a clean track record and genuine intentions.

However, the section also tends to impact genuine promoters while serving as a protective measure and as such, it also has its critics. One of the key arguments against this provision is that it may inadvertently hinder the revival of businesses by barring original promoters who may still have a genuine interest in rescuing their companies. Not all promoters are self-serving; many have a deep emotional and financial investment in their businesses and possess unique insights that can aid in a successful turnaround.

For instance, in the case of CCD, Malavika Hegde has a profound understanding of the company's operations and market dynamics. If she is barred from participating in the resolution process using Section 29A, it could potentially deprive the business of a revitalisation effort which so far has been led by someone with intimate knowledge of its strengths and weaknesses.

A balanced approach: Nurturing revival and its common law precedents

While there are multiple cases, let us examine the appeal filed by Navayuga Engineering challenging its disqualification from presenting a resolution plan for the corporate debtor, Athena Demwe Power Ltd, a company it was part of, and which was set up for executing a hydroelectric project in Demwe, Arunachal Pradesh. In this case, NCLAT clarified the position on section 29A(c) of IBC, disqualifying individuals with NPA accounts from insolvency resolution participation.

When the Insolvency and Bankruptcy Code (IBC) was introduced, there was a concern that individuals who played a role in a company's default could exploit the Code to take control of the company after compelling significant concessions from the lenders. To address this potential misuse, Section 29A was introduced. In the Navayuga appeal the NCLAT opined that given the object of Section 29A(c), giving a restrictive interpretation to the provision would be incorrect.

In this context, the decision in ArcelorMittal India Pvt Ltd vs Satish Kumar Gupta [2018] 1 SCC 407 was referred to. The Supreme Court had in this case clarified that the section applies not only to those who directly caused the corporate debtor to become a non-performing asset but also to individuals who, despite having control, either avoided or failed to take necessary actions to rescue the corporate debtor from financial distress and reclassify the account from NPA status.

The NCLAT in the instant case of Navayuga has determined that the Memorandum of Understanding (MoU) should not be interpreted as stipulating that management and control of Athena would only be transferred to Navayuga upon the fulfilment of certain conditions. While Navayuga's claim of not being an initial promoter of Athena might be valid, after the MoU was executed in 2016, Navayuga did indeed assume control and management of Athena. Consequently, Navayuga was deemed ineligible to submit a resolution plan under Section 29A(c) of the IBC.

The NCLAT's ruling represents a significant step in clarifying the interpretation and application of the prohibition in Section 29A(c) of the IBC, particularly regarding its role in the insolvency resolution process.

Balance through a tiered approach

The challenge of business recovery lies in balancing regulatory protections with realistic opportunities for revival. It is important to recognise that not all distressed companies are beyond repair, and not all promoters are incapable of restoring their businesses to health.

The blanket disqualification imposed by Section 29A could be reconsidered to create a more nuanced approach that distinguishes between promoters with genuine intentions and those with a history of financial misconduct. One potential solution is to implement a tiered system within Section 29A that allows for exceptions based on the promoter's past performance/conduct in business and their proposed resolution plan. This would ensure that businesses with substantial inherent value and potential for recovery, such as CCD, are not unfairly excluded from benefiting from the involvement of their original promoters.

CDEL gets a breather

The National Company Law Appellate Tribunal (NCLAT) on August 14, 2024 stayed the insolvency proceedings against Coffee Day Enterprises Ltd (CDEL), till the next date of hearing. The petition was filed by Malavika Hegde, Executive Director-CEO of the suspended board of the company, before the Chennai-based bench of the appellate tribunal which stayed the operations of the earlier NCLT order.

Conclusion: Rethinking insolvency regulations

The insolvency proceedings of Cafe Coffee Day serve as a poignant reminder of the challenges faced by businesses in distress and the need for thoughtful regulation. While Section 29A of the IBC Code plays a critical role in maintaining the integrity of the resolution process, it is equally important to recognise the potential benefits of allowing original promoters to participate in the revival process.

By refining insolvency regulations to accommodate genuine efforts at recovery, we can better support businesses in their journey from financial distress to renewed success.

(The author is a consultant of the corporate practices group at Anand and Anand.)

Views are personal and do not represent the stand of this publication.