Promoter conundrum
Small oversights could undermine IBC’s effectiveness
Potential problems are brewing in Section 29A of the Insolvency and Bankruptcy Code Act that bars promoters from bidding for stressed assets. Broadly speaking, there can be no argument with the intent of the ordinance, introduced late last month. A degree of moral hazard is inherent in permitting the promoter of a defaulting company to bid for it, or other companies, after lenders have been forced to sustain losses. The issues that have arisen in practice, however, point to the urgent need for explicit clarifications to plug potential loopholes that test the spirit of Section 29A.
The first has to do with the case of step-down promoters. ArcelorMittal became eligible to bid for Essar Steel after the group sold its 29 per cent stake in Uttam Galva, which is undergoing insolvency proceedings. At the same time, ArcelorMittal’s promoter Laxmi Mittal sold his 33 per cent personal shareholding in KSS of Kazakhstan, which wholly owns India’s KSS Petron, which is now before the National Company Law Tribunal for the resolution of its ~13.4billion debt. Mr Mittal sold his stake in the Kazakh principal after the lenders asked him to repay KSS Petron’s loans. In case of Uttam Galva, it is unclear why a shareholder who holds no board position and has no involvement in the management of the company should be prohibited from bidding for another steel company. Legally, a 29 per cent stake does make ArcelorMittal eligible to block board resolutions in the company. The same logic applies to KSS Petron. To introduce greater clarity, the ordinance would do well to introduce specific stipulations for the eligibility of step-down promoters, such as a cut-off shareholding — that, say, broadly coincides with the Companies Act limit for blocking board resolutions — and board-level or management participation.
A second issue concerns the post-bid actions of a successful bidder. To meet the eligibility criteria, ArcelorMittal and Mr Mittal have sold stakes in defaulting companies. But without a clear post-bid stipulation in the law, the credibility of these actions could be open to doubt. For instance, ArcelorMittal has sold its stake to Uttam Galva’s co-promoters at a nominal ~1 a share, a huge loss on ~120 per share it paid in 2009. If its bid for Essar Steel is successful, it is possible to envisage the global steelmaker buying back this stake later, defeating the principle underlying Section 29A. The same logic can be extended to the bid by a consortium, the Russian-owned Numetal, in which a Singapore-based trust owned by the Essar Group has a stake. There is a clear logic as to why Numetal should come under the proscriptions. Recent experience has shown that a trust is by no means a passive institution in the Indian corporate context; one in which the principal beneficiary is a scion of the defaulting group makes the issue unassailable. Now, it appears, the Ruia family may sell its 25 per cent stake to improve Numetal’s eligibility for bidding. Here, too, the question of a post-bid re-entry is possible unless the law specifically proscribes it.
The Insolvency and Bankruptcy Code (IBC) is India’s best chance at tackling its crisis of bad debt. Small oversights in the letter of law leave it vulnerable to charges of corruption in the long run.