MSMEs need not use IBC to recover dues

One of the most talked of laws in recent years has been the introduction of the Insolvency and Bankruptcy Code, 2016, which has given stakeholders the power to take a defaulter (company/LLP) to the National Company Law Tribunal (NCLT) by way of application to initiate Corporate Insolvency Resolution Process (CIRP).

The provisions relating to partnership firms and individuals, though part of the Code, are yet to be notified. Stakeholders, for the purposes of the Code, include financial creditors, operational creditors, employee dues, and government.

A default, subject to the condition that there is no dispute, of ₹1 lakh is adequate to initiate CIRP against defaulters. SMEs that have supplied goods or rendered services to the corporate debtor are classified as operational creditors under the Code.

The objective of the Code is mainly to find a resolution, as a going concern, to the problems of the defaulters and is not intended to the be used as a recovery tool. Having said that, it is not uncommon to see the Code being used to force defaulters to come to the table to start negotiations.

Once CIRP is initiated the balance in power shifts to the creditors, with promoters losing control. Yet, the IBC has not turned out to be an ideal way to recover dues. It is time this is realised.

IBC cases

Based on the information shared on the IBBI website, 2,162 defaulters have been referred to the NCLT up to June 2019 — 1,080 cases have been referred by the operational creditors (49.95 per cent), 868 by financial creditors (40.15 per cent) and 214 by the defaulters themselves (9.90 per cent).

What is seen is that operational creditors have been using the Code as a means to find a resolution to their dues even if not to find a resolution to that of the defaulter. That is surprising as, more often than not, the operational creditors do not have a say in the meetings of the Committee of Creditors (CoC), of CIRP, once it is initiated.

The power is transferred to the financial creditors, that now includes home buyers, and operational creditors are represented in the CoC only if their dues exceed 10 per cent of the total debt or if there are no financial creditors.

Having said that, the fact that there have been increasing number of settlements prior to admission or immediately thereafter indicates that defaulters are immediately addressing defaults. That would serve the purpose of the creditor but may turn out to be a less effective solution and would entail additional expenses in the initiation of the proceedings.

In the NCLAT judgment of Essar Steel, directions were made in line with the requirements specified in the IBC. The resolution applicant must include payment to be made to operational creditors, which should not be less than the liquidation value.

Realisation will be based on the liquidation value and amount of debt payment to operational creditor. Even in the case of operational creditors, the dues to them are subject to maximum of the liquidation value which will have substantial haircut over the amount claimed. The exception to this would be rare.

The natural question to this situation would be: Is there any alternative, other than by way of initiation of CIRP process, to recover the due amount? The answer would be in the affirmative, especially if one is registered as an MSME. The MSMED Act provides an alternative solution to recover the pending dues of MSME-registered vendors and this would include start-ups.

The liability of a buyer is that it shall make payment to the MSME-registered vendor on or before the agreed upon date between both the parties. If there is no such agreement, all MSME vendors are entitled to receive payments within 45 days from the date of acceptance.

The Act provides that where any buyer fails to make payment of the amount, the buyer shall be liable to pay compound interest with monthly rests to the vendor on that amount at three times the bank lending rate for any good supplied and services rendered by the vendor.

The current bank rate is 5.65 per cent which would imply that the unpaid vendor would be entitled to 16.95 per cent of overdue interest. This would be available only to those who are registered as an MSME and quote their registration number in their contracts, invoices that the companies are bound to take cognisance of.

Insofar as recovery of dues or addressing of disputes, registered MSMEs are entitled to make reference to the Micro and Small Enterprises Facilitation Council (MSEFC) in the prescribed Form. The Act mandates that every reference made be decided within 90 days from the date of making such references.

All States/UTs have notified the Authority for Filing Entrepreneur’s Memorandum, 33 States/UTs (except Arunachal Pradesh, Assam and Manipur) have Notified rules of MSEFC, and all the 36 States/UTs have constituted MSEFCs as per provisions laid down under MSMED Act 2006.

Quicker settlement

Data indicate that out of the 12,037 cases filed for pending settlement of ₹4,035 crores in all MSEFCs across the nation, 4,163 cases were disposed of with final settlement of ₹1,202 crore and remaining cases were at various stages of settlement.

This data would indicate that compared to application filed under IBC, it would be preferable for start-ups to make a reference on pending dues with the MSME Facilitation Council to resolve the pending dues since the council is obliged to settle the reference made before it within 90 days from the date of making such reference, unlike the prolonged time for recovery under the IBC. The order of the facilitation council can be enforced through decree.

Also, the filing of cases with the MSEFC have been made easier through an online portal, with basic details from the vendor and supporting documents to substantiate the debt payable to file a case against the defaulter. Further, realisation of debt without the restriction of liquidation value provided in the resolution plan would be possible through the MSEFC process since, the decree passed by the MSEFC covers the amount due with interest accrued during the period. Moreover, a defaulter desirous of filing an appeal will have to deposit 75 per cent of the award amount before filing an appeal.

Thus, the MSME option should be exhausted first before embarking on IBC proceedings.

The writers are with RVKS and Associates, Chennai

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