Sections 54A to 54P: the pre-packaged process for an MSME company

In the ordinary corporate insolvency resolution process under Chapter II a creditor or the company files, the board is suspended under section 17, and resolution applicants are invited only after the information memorandum is ready. In a pre-pack the company and its financial creditors have agreed the outline before anything is filed: the professional, the base resolution plan and the decision to file. The process after admission tests that plan and, where needed, lets others compete with it.

Section 54D(1) requires the pre-pack to be completed within one hundred and twenty days from the pre-packaged insolvency commencement date. Section 54D(2) requires the resolution professional to submit the plan approved by the committee of creditors to the Tribunal within ninety days of that date. If no plan is approved in that time, section 54D(3) requires the professional to apply the next day for termination of the process.

Section 54A(1) limits the pre-pack to a corporate debtor classified as a micro, small or medium enterprise under section 7(1) of the MSMED Act. That classification is made by notification under section 7(1), so the company's current classification is the starting point. Section 54A(2) adds conditions. The company must not have undergone a pre-pack or completed a corporate insolvency resolution process in the three years before the initiation date, must not be in a corporate insolvency resolution process, must not be under a liquidation order, and must itself be eligible to submit a resolution plan under section 29A.

Section 4 fixes the minimum default for Part II, and its second proviso lets the Central Government notify a separate minimum, of not more than one crore rupees, for the pre-packaged process. Section 11(aa) stops a financial or operational creditor of a company in a pre-pack from filing under section 7 or section 9 while the pre-pack runs.

Section 240A(1) disapplies clauses (c) and (h) of section 29A to resolution applicants in a corporate or pre-packaged process of an MSME. Those clauses would otherwise bar a person whose account, or a controlled company's account, has been classified as a non-performing asset for the period clause (c) states, and a person who guaranteed a creditor in respect of a company against which that creditor's application was admitted, where the guarantee was invoked and remains unpaid. In Hari Babu Thota v. Shree Aashraya Infra-Con Ltd. the Supreme Court held that the MSME status that brings section 240A into play is tested on the date the resolution plan is submitted, not the date the process began.

Section 54A(2)(e) requires the financial creditors who are not related parties to propose the insolvency professional, and those representing not less than sixty-six per cent. in value of the financial debt owed to them to approve the proposal. Section 54A(2)(f) requires a declaration by a majority of the directors or partners that the company will file within a definite period not exceeding ninety days, that the pre-pack is not being started to defraud any person, and naming the approved professional. Section 54A(2)(g) requires a special resolution of the members, or a resolution of at least three-fourth of the partners.

Section 54A(3) then requires approval of the filing itself by unrelated financial creditors holding not less than sixty-six per cent. in value. Under section 54A(4) the company must first give those creditors the declaration, the resolution, a base resolution plan conforming to section 54K, and any other specified documents.

From the creditors' approval, section 54B makes the proposed professional responsible for a report confirming that the company meets section 54A and that the base plan conforms to it, and for filing reports with the Board. Those duties end if the company does not file within the period in its declaration or once the Tribunal admits or rejects the application.

Under section 54C a corporate applicant files with the Tribunal, attaching the declaration, the resolutions and the creditors' approval, the professional's written consent and report, a declaration on any transactions that may fall within the avoidance provisions in Chapter III or the fraudulent trading provisions in Chapter VI, and the books of account. The Tribunal must admit or reject within fourteen days, after giving seven days to cure any defect.

On admission, section 54E requires the Tribunal to declare a moratorium for the purposes of section 14(1) read with section 14(3), appoint the named professional unless a disciplinary proceeding is pending against him, and cause a public announcement. The moratorium runs until the pre-pack ends.

Section 54H keeps management of the company with its board of directors or partners during the pre-pack, with a duty to protect and preserve the value of its property and run it as a going concern. If the committee of creditors resolves by not less than sixty-six per cent. of the voting shares to vest management in the resolution professional, section 54J lets the Tribunal do so on finding that the affairs were conducted fraudulently or that there was gross mismanagement.

The company submits the base resolution plan to the professional within two days of the commencement date, and section 54K(1) has the professional put it to the committee of creditors. The committee may allow the company to revise it. Under section 54K(3) every plan must conform to section 30(1) and section 30(2), so it must pay the insolvency resolution process costs in priority and pay operational and dissenting financial creditors at least what section 30(2)(b) requires.

Section 54K(4) lets the committee approve the base plan for submission to the Tribunal if it does not impair any claim owed to the operational creditors. Explanation II to section 54K treats a claim as impaired where the plan does not provide for full payment of the confirmed claim. If the base plan impairs operational creditors, or the committee does not approve it, section 54K(5) requires the professional to invite other resolution applicants to compete with it. A competing plan that the committee finds significantly better can be selected; otherwise it competes with the base plan and one is chosen.

Approval under section 54K(13) needs not less than sixty-six per cent. of the voting shares, after considering feasibility and viability and the manner of distribution, taking into account the order of priority in section 53(1) and the priority and value of a secured creditor's security. Where the company's plan impairs claims, section 54K(14) lets the committee require the promoters to dilute their shareholding, voting or control, and if the plan does not provide for dilution the committee must record its reasons before approving it.

Section 54L(1) requires the Tribunal, within thirty days of receiving the approved plan, to approve it if it meets section 30(2) and has provisions for its effective implementation; the approval has the effect of section 31(1), (3) and (4). Under section 54L(3) a non-conforming plan is rejected and the pre-pack is terminated under section 54N. Where management had been vested in the professional under section 54J and the plan does not move control to a person outside the existing promoters and management, section 54L(4) requires the Tribunal to reject the plan, terminate the pre-pack and order liquidation.

Section 54N lets the committee terminate the pre-pack by a vote of not less than sixty-six per cent., and it is terminated on the professional's application where no plan is approved in time. The company then bears the pre-pack costs. Alternatively, section 54-O lets the committee, by the same majority, resolve to convert the pre-pack into a corporate insolvency resolution process under Chapter II, with the pre-pack costs counted as insolvency resolution process costs. An appeal against that conversion order lies under section 61(5) only for material irregularity or fraud.

A supplier that is a micro or small enterprise, which section 2(n) of the MSMED Act requires to have filed its memorandum, has a separate route. Section 15 of the MSMED Act requires the buyer to pay on the agreed date, and the agreed period cannot exceed forty-five days from acceptance or deemed acceptance. Section 16 makes a late buyer liable to compound interest with monthly rests at three times the bank rate notified by the Reserve Bank, notwithstanding any agreement. Section 18 lets either party refer a dispute about the amount due to the Micro and Small Enterprises Facilitation Council, which conciliates and then arbitrates, and requires the reference to be decided within ninety days.

Two Supreme Court decisions limit how far these remedies reach. In Kotak Mahindra Bank Ltd. v. Girnar Corrugators Pvt. Ltd. the Court held that recovery by a secured creditor under the SARFAESI Act from the secured assets prevails over recovery of a Facilitation Council award under the MSMED Act. In Pro Knits v. Board of Directors of Canara Bank the Court held that the framework for revival and rehabilitation of MSMEs, issued under section 9 of the MSMED Act, is mandatory and must be applied by banks before an MSME's loan account is classified as a non-performing asset.