Docstoc

Project Indian Co Operative Firms

Document Sample
Project Indian Co Operative Firms Powered By Docstoc
					                          ASIAN DEVELOPMENT BANK

                 REGIONAL TECHNICAL ASSISTANCE PROJECT
                              NO: 5795-REG

                          INSOLVENCY LAW REFORMS
                              REPORT ON INDIA

                               Shardul D Dhroff
                  Amarchand & Mangaldas & Suresh A.Shroff & Co.


                             TABLE OF CONTENTS

Sections
A.    Forms and Structures of and Sources of Finance for Business Organisations
B.    Availability and Forms of Financing for Enterprises
C.    Secured Financing
D.    Trading Debts
E.    Collection and Recovery of Unsecured Debt
F.    Civil/Penal Sanctions
G.    Attitudes Toward Financial Difficulty and Insolvency
H.    Work Outs
I.    Insolvency Law Regime
J.    Case Management of Insolvent Enterprises
K.    Assets Available to Creditors
L.    Claims of Creditors
M.    Investigation by Administrators
N.    Termination of Administration
O.    Connection Between Debtor and Forum
P.    Foreign/Cross-Border Elements
Q.    New Developments
R.    Inter-Relationship Between Lenders and Borrowers in Context of Financial
      Difficulty/Insolvency of the Borrower
S.    Assessment of Processes
2


      SECTION A    FORMS AND STRUCTURES OF AND SOURCES OF FINANCE FOR
                              BUSINESS ORGANISATIONS


A1.     Forms of Business (Enterprise) Organisation

        (a)    What are the main form of business organisation for medium and large
               scale enterprises in this economy?

       In India there are found both, private and public enterprise. The forms of private
business found in our country are:
1.     Sole proprietorship
2.     Joint Hindu Family Firm
3.     Partnership Firm
4.     Joint Stock Company, and
5.     Co-operative Organization

        From the above mentioned forms of business 1 & 2 do not fall into the category of
either medium or large scale enterprises, except in the rarest of cases.

Partnership – In India as in most other parts of the world, it is seen that as a business
grows beyond the capacity of sole proprietorship and joint Hindu family firm, it becomes
necessary to form a partnership. The Indian Partnership Act, 1932 provides for the
registration of firms with the Registrar of Firms appointed by the Government. The
registration of a partnership firm is not compulsory. But an unregistered firm suffers from
certain disabilities. Therefore registration of a partnership firm is considered desirable, and at
times a requirement of the lenders.

Joint Stock Company – The definition of a joint stock company, in India is similar to that
followed in other countries. It is an incorporated and voluntary association with a distinctive
name, perpetual succession, limited liability and common seal, and usually having a joint
capital divided into transferable shares of a fixed value. The companies can further be
classified in to the following kinds of companies on the basis of their mode of incorporation:
1.      Chartered Company
2.      Statutory Company
3.      Registered or Incorporated Company

     In India the companies are also classified from the light of public interest or
membership:
1.   Private Company
2.   Public Company
3.   Government Company

        On the basis of inter-company relationships, companies are of two types:
1.      Holding Company
2.      Subsidiary Company

        From the point of view of nationality, companies may be divided in to two categories:
1.      National or domestic Company
2.      Multinational or transnational Company

        In India companies are governed by the Companies Act, 1956. This Act provides for
the standard procedures relating to the affairs of a company such as modes of winding up,
liquidation of a company etc.
                                                                                               3


Co-operative Enterprise – In India Co-operative organization grew as a means of
protecting the interests of the relatively weaker sections of society against exploitation by big
business operating for the maximization of profits. According to the Co-operative societies
Act, 1912, co-operative organization is “a society which has as its objectives the promotion
of the interests of its members in accordance with the principles of co-operation.” In addition
to the above mentioned Act, such societies are also governed by the various state Co-
operative Societies Acts. Co-operative organizations are suitable generally for medium and
small sized business operations. They do not generally graduate to being a large scale
industrial operation.

       (b)     Is there a system of registration for these business organizations? If so,
               briefly describe.

The requirements of registration for the above mentioned forms of business organizations
are as follows:

1.     Sole Proprietorship. Sole proprietorship is easiest to organize as no legal
       formalities are required for starting it. No agreement is to be made for constituting
       such a business entity and registration of the firm is not essential, except for claiming
       benefits available to small sector units. However, a formal license may be required
       from the municipal corporation or Health Department in some cases, e.g. liquor,
       drugs, etc. Although no registration is mandatory under the central acts, yet these
       corporate bodies may be registered under the local shop and establishment acts, and
       other laws for licensing requirements.

2.     Joint Hindu Family Firm. This is a peculiar form of business found in India. In this
       form of business ownership, all members of a Hindu undivided family do business
       jointly under the control of the head of the family who is known as the ‘Karta’. No
       registration is necessary for this form of business. Some kind of statutory control on
       the working of the HUF can be maintained by following the specific conditions, as laid
       down in the Income Tax Act. This is a peculiar business entity having its origin in
       personal law of the Hindus, and is peculiar to the Hindu Trading Community and their
       families.

3.     Partnership Firm. In the case of partnership firm, although statutorily registration is
       not compulsory, however an unregistered firm suffers from certain limitations. A
       partnership firm can be registered at any time by filing a statement in the prescribed
       form. The form should be duly signed by all the partners. It should be sent to the
       Registrar of Firms along with the prescribed fee. On receipt of the statement and the
       fees, the Registrar makes an entry in the Register of Firms. The firm is considered to
       be registered when the entry is made.

4.     Joint Stock Company. A Company is an incorporated or registered association of
       persons. One person cannot constitute a Company under the law. In a public
       Company, at least seven persons and in a private Company at least two persons are
       required. A Company can be formed only after fulfilling legal formalities and its
       incorporation under the Act is essential, before it can commence its business. A
       Company registered under the Companies Act is called Registered or Incorporated
       Company. Such Companies are most common in practice.

5.     Co-operative Enterprise. No association of persons use the word co-operative in its
       name without being registered under the Co-operative Societies Act, 1912 or under
       the Co-operative Societies Act of a State Government. In order to get a co-operative
       registered, an application in the prescribed form must be submitted to the Registrar
       of Co operative societies of the state in which the society’s registered office is to be
4


       situated. Any ten persons above the age of 18 years and having common interest
       may submit a joint application for being formed in to a co-operative society.

       (c)   Are there any minimal capitalisation requirements for these enterprises?

       Minimal Capitalization Requirements for these enterprises:

         There are no prescribed or statutory capitalization requirements for the small forms of
business such as sole proprietorships and the Joint Hindu Family firms. None of the
regulating Acts such as the Companies Act or the Partnership Act list any such requirements.
Capital adequacy or stipulations are industry specific, and not industry or size specific. The
classification of Small Scale Sector unit is now dependant on the total owned capital of the
undertaking. A medium scale enterprise will be an undertaking, which has more capital than
that of a small scale unit viz. capital in excess of its size.

       (d)     Briefly describe the main features of each type of these business
               organisations, by reference to public/private/state ownership and
               management; accounting and auditing responsibilities (particularly the
               standards which apply to accounting and auditing practices); director
               and management responsibility (including, if relevant, possible liability
               for debts); and the role of regulatory authorities regarding these
               enterprises.

       Main features of the business organizations:

1.     Sole Proprietorship. This is a form of business ownership under which a single
       person supplies the capital, uses his own skill, receives all the profits and bears all
       risks of business. He may borrow money and may employ workers but he alone
       owns and controls the business. The basic feature is that it is owned and controlled
       by a single individual. He receives all the profits and risks all of his property in the
       success or failure of the enterprise. The sole proprietor is not only the exclusive
       owner of the business, but also its founder and controller. In India as in most other
       countries Sole proprietorship is the simplest and the oldest form of business
       enterprise. This form of business is free from legal formalities and regulations,
       relating to incorporation and establishment. Those enterprises which are aided units
       and which require support from Government, and other sponsored institutions have
       to comply with conditions specified by such Government bodies granting support to
       the small scale sector. Such support may be in the form of concessional capital or
       procurement of controlled commodities or marketing support. Under the Income Tax
       Act, a sole proprietor must get his/her accounts duly audited, in case, annual sales
       turnover or gross receipts exceed Rs. 40 lakhs in case of business and Rs. 10 lakhs
       in case of profession.

2.     Joint Hindu Family. The business of a HUF is managed by the senior most male
       member or father. He is known as the Karta, or Manager. As the head of the joint
       family, the Karta has full control over the affairs of the family business and serves as
       the custodian of the firm’s assets. Other members of the HUF cannot question his
       judgement, if the Karta has acted in the name of the family and for its benefit. The
       only remedy available to them then is to demand partition of the ancestral property.
       Family business is considered a part and parcel of the ancestral property and,
       therefore the family business is the subject matter of co-parcenary interest. The
       rights and liabilities of co-parceners are determined by the general rules and
       traditional conventions of the Hindu Law.
3.     Partnership. The basic features, and how the partnership is formed has been
       explained above. As far as the management is concerned, there can be different
                                                                                                5


      kinds of partnerships such as a partnership at will, Particular Partnership and Joint
      Ventures. The Law does not permit the formation of a limited partnership or limited
      liability partnership in India. It is common to appoint a Managing Partner and
      empower such a person with its powers of day to day management and give such
      authority to act on the behalf of the firm in terms of the specific authorities and
      powers conferred upon the Managing Partner. Such a person then binds the firm and
      other partners on the basic legal principle of mutual agency. The Institute of
      Chartered Accountants lays down the Standards for accounting and auditing in India.
      These standards are to be applied, irrespective of the size or type of industry in India.

4.    Settlement of Accounts on Dissolution. When a partnership firm is dissolved, its
      assets are disposed off, and a partner has unlimited liability as in the case for a sole
      proprietorship and HUF. The proceeds therefrom are utilized in paying the creditors.
      If the amount realized by sale of assets is not sufficient to discharge the claims of the
      creditors in full, the deficiency can be recovered proportionately from the personal
      properties of the partners. If any partner becomes insolvent, the remaining solvent
      partners will bear the loss in their capital ratio. In case the assets of the firm are more
      than sufficient to meet the liabilities in full, then the surplus may be utilized to pay off
      the loans and capitals contributed by the partners.

       S.48 of the Partnership Act, 1932 lays down the following procedure for the
settlement of accounts between partners after the dissolution of the firm:

1.    Losses including deficiencies of capital should be made good out of profits, then out
      of capital, and if need be, out of personal contributions of partners in their profit
      sharing ratios in that order.

2.    The assets of the firm including any sum contributed by partners to make up
      deficiencies will be applied for settling the debts of the firm, in the following order,
      subject to any agreement to the contrary;
      a)      First, in paying of the debts of the firm due to third parties;
      b)      Then in paying to each partner rateably any advances or loans given by him
              in addition to or apart from his capital contribution;
      c)      If any surplus is available after discharging the above liabilities, the capital
              contributed by the partners may be returned, if possible, in full or otherwise
              ratably;
      d)      The surplus, if any, shall be divided among the partners in their profit-sharing
              ratios.

3.    Joint Stock Companies. In a private company, the minimum number of members is
      2 and the maximum is 50. In a public Company minimum number of members is 7
      and there is no maximum limit prescribed by law. A Company has to comply with
      several legal requirements and it must submit reports to the Government. Also every
      member does not participate in actively in the day to day management. The
      Company is managed by a Board of Directors consisting of elected
      representatives/nominees of the members. There is divorce between ownership and
      management of a Company. A Company must maintain its accounts in the
      prescribed form and must get them audited by a qualified auditor. The form of
      accounts of a Company are specified under the Companies Act. The responsibilities
      of an internal auditor and external auditor are prescribed by law. Manufacturing
      Companies and other specified notified Companies have compulsory audits and cost
      audit obligations by law. Tax audits are required to be conducted for Companies
      having an income over specific limits. The lenders more than the Registrar of
      Companies or the Department of Company Affairs, stipulate commercial conditions
      for debt equity ratios and debt service reserve obligations. There are ceilings
6


        prescribed for intercorporate investments and loans and strict rules for receiving
        public deposits and monies. The Companies Act lays down stringent provisions for
        the regulation of the process of running a Company.

       One of the most important developments in this direction was the Constitution of
Board of Company Law Administration, by virtue of S.10E which was inserted by section 4 of
the Companies (Amendment) Act (LIII of 1963)(w.e.f.1-1-1964). This is also referred to as
Company Law Board (CLB). The CLB exercises its powers and functions as under:
a)     The Companies Act, 1956
b)     Securities Contracts(regulation) Act, 1956
c)     MRTP Act, 1969

        In addition to this the CLB also exercises powers under Code of Civil Procedure,
1908.

        The following sections of the Companies Act, 1956 are important for the statutory
regulation of a Company in India:

     S.17. Special resolution and confirmation by CLB required for alteration of
memorandum.

      S.150 to S.158. These sections provide for the maintenance of registers of embers
and Debenture-Holders.

        S.159 to S.164. Annual Returns to be made by Companies having share capitals.

      S.209 to S.223. Accounts, Companies are required to keep at their registered offices
books of accounts. These books of accounts can be inspected by the Registrar of
Companies (ROC) as well as authorities such as the Reserve Bank of India.

        S.224 to S.233. Audits, these sections provide for the appointment and remuneration
of auditors, their qualifications, their mode of appointment and other procedural requirements.

        S.234. According to this section where, on perusing any document which a company
is required to submit to him under this Act, the Registrar is of the opinion that any information
or explanation is necessary with respect to any matter to which such document purports to
relate, he may, by a written order, call on the Company submitting the document to furnish in
writing, such information or explanation, within such time as he may specify in the order.
This section along with S.235 is of critical importance in statutory regulation of the running of
a Company.

        S.235. Investigation of the Company, by virtue of this section the Government can on
the report of the ROC under S.234 appoint one or more competent persons as inspectors to
investigate the affairs of a Company and to report in such a manner as the Central
Government may direct.

        S.388B to S.388E. These sections describe the powers of central government to
remove managerial personnel from office on the recommendation of the Company Law
Board. Lenders required more controlled forms of organization to lend larger amounts, and
often stipulate conversion from partnership or limited companies for securing the fund raising
and capital market tapping capacity of corporate borrowers.
                                                                                                 7


A2.    Controls and Influences

       (a)     Are there any relevant observations to make concerning political, social
               (powerful family), financier (bank equity or involvement) or cultural
               controls or influences in respect of these types of business
               organisation?

        The most important influence on the types of business organization in India is the
organization of banking institutions in India. The Banking Institutions have been strongly
influenced by social, political and cultural influences, the political influence culminating in the
nationalization of all the major banks in 1969.

        Historically however, the banker has been an indispensable pillar of Indian society.
He may have been miring in the good old days, when self, sufficiency was the law of the
land. Money lending has been a traditional activity for several centuries in India, and
recovery procedures have been strict, and at times harsh in the agricultural & rural sector in
India. However in the present scenario banks and money lenders have to be licensed to
carry on the business in India and they are regulated by the usury laws also.

        In India, traditionally most modern business organizations, right from a simple
company to an imposing conglomerate, have at times had their genesis in the Hindu
undivided business. Such businesses being closely held, and fiercely proud, have hesitated
to approach the formal institutions for credit. It is this factor that encouraged and sustained in
India, an informal system of disbursing credit, in the form of the unregulated money lender. A
practice which is still, prevalent in the country. This has also encouraged, in recent times the
growth of co-operative banking institutions in India.

        The traditional antipathy amongst Indian business to approach the banks may be
attributed to the concept of usury or high rate of interest, which was widely prevalent in India.
Most experts attribute usury to the state of insecurity in India, and the risk involved on
account of the low financial status of the borrowers. It was this factor which prevented the
Indian business from approaching the financial institutions for reconstruction and left him to
totter on the brink of insolvency and financial ruin.

        Although the practice of the indigenous banker is fact dwindling each year as he is
unable to adjust to the requirements of modern banking conditions, it must be presumed that
the private banker is not yet extinct. His activities have been generally in agriculture, retail
trade sectors and is spread amongst the various classes of small borrowers. The co-
operative banking institutions are also playing an important role in reducing the role of the
indigenous money lender.

         With the growth of these co-operative banks, and other institutions such as the IFCI,
SFC’s ICICI, IDBI etc. There are several banking opportunities available to enterprise in
India. The above named institutions are operating various schemes of assistance to
industrial units such as Direct Assistance, Indirect Assistance. Another feature, influencing,
the way in which business enterprises operate has been the entry of the private banks. This
entry has been led by the entry of the foreign banks such as the Bank of America, Hong
Kong & Shanghai Bank, Deutsche Bank, Standard Chartered Bank, Citibank etc. These
banks have employed specialized techniques of risk evaluation and the monitoring of the
financial health of their clients. They have been maintaining entire departments for these
feasibility studies and for monitoring domestic enterprises. This in turn has led many
Business Enterprises to improve their credit worthiness or to at least work in that direction.

        Political influences have affected the corporate environment, and businessmen are
requiring Government to be more business sensitive. The large business houses were
8


identified with India’s freedom movement and this did influence the business licenses issued
to them. However their influence has waned and technology and the introduction of outside
competition from foreign sources has diminished their dominance. The nexus or the
relationships between the businessmen and the politicians has usually transcended the
business of ideology and party affiliations. Political influence is more evident, when large
scale unemployment is feared and the Government is known to have inducted labour
protection laws to prevent unemployment and closures; both with a view to alleviate poverty
and unemployment and with an eye on the “vote banks” of labour. Banks in India can at best
invest up to 30% of the capital & free reserves in any company. For prudential norms and
capital adequacy purposes, they usually invest less than this amount (usually in the range of
15% to 25%) in any single enterprise or group.

       Cultural influences were of great importance in the pre independence days. When
business and trade was restricted to certain communities, however with every passing
decade since 1947, even this cultural hesitation of the foreign influence is waning.
                                                                                             9


      SECTION B     AVAILABILITY AND FORMS OF FINANCING FOR ENTERPRISES


B1.     Business Financing Arrangements Generally

        (a)    Is it more usual for the financing needs of these types of corporates to
               be satisfied out of capital (equity) raisings; retained earnings; or
               external borrowings?

         Out of all the listed sources of financing for the corporates, the most common method
is through equity. This is done by a Company by issuing two types of securities-Preference
shares and Equity shares. Equity shares provide the risk capital or venture capital and are
the real risk bearers and controller of a Company. Major business corporates also go for
offshore sources of lending and financing as they are cheaper than domestic loans (because
of the interest rates being lower than in India).

        (b)    What are the main sources for borrowing for these types of corporates?

        The main sources for borrowing are detailed as under:

1.      Public deposits – Public deposits have been a peculiar feature of industrial finance in
        India. Companies have been receiving public deposits for a long time in order to
        meet their medium-term and long-term requirements for finance. This system was
        very popular in the cotton textile mills of Bombay, Ahmedabad and Sholapur and in
        the tea gardens of Assam and Bengal. In recent years, the method of raising finance
        through the public deposits has again become popular for various reasons. Rates of
        interest offered by the Companies are higher than those offered by banks. At the
        same time the cost of deposits to the Company is less than the cost of borrowings
        from banks.

        While accepting public deposits, a Company must follow the provisions of the
        Companies Act and the directions issued by the Reserve bank of India. According to
        the Companies (Acceptance of Deposits Rules, 1975 as amended in 1984), no
        Company can receive secure and unsecured deposits in excess of 10% and 25%
        respectively of paid up share capital plus free reserves. The Central Government has
        laid down that no Company shall invite a deposit unless an advertisement, including
        a statement showing the financial position of the Company, has been issued in the
        prescribed form. Under the new rule, deposits cannot be invited for a period of more
        than 5 years. However, deposits can be renewed. The rate of interest payable on
        deposits must not exceed 15% per annum. In order to repay the deposits maturing in
        a particular year, the Company must deposit 110% of the deposits with a scheduled
        bank or in specified securities. Companies accepting public deposits must regularly
        file returns giving details of such deposits. Since April 1, 1980, public sector
        Companies have also been permitted to invite public deposits. There have been
        some large failures to make payment to public depositors and recently Government
        has made further proposals to the RBI for strengthening the security for such
        depositors and members of the public.

2.      Hire Purchase – The Hire Purchase Act, 1972 defines a hire purchase as an
        “agreement under which goods are let on hire and under which the hirer has an
        option to purchase them in accordance with the terms of the agreement and includes
        an agreement under which certain conditions are listed”. Initially, manufacturers and
        dealers themselves financed hire purchase transactions. Subsequently, commercial
        banks, public financial institutions e.g. ICICI, IDBI, etc. and hire purchase Companies
        started offering finance for hire purchase deals.
10


3.     Term Loans from Banks – In recent years, commercial banks have started term
       lending. A term loan is a loan granted for periods ranging from 3 to 7 years.
       Nationalization of banks, refinancing facilities by the IDBI, increasing deposits and
       institutional arrangements for investigation and appraisal have enabled the
       commercial banks to grant medium-term finance in particular to small scale units in
       the priority sector.

       Generally banks insist on security while granting facilities to business firms. The
       security is provided in the form of a pledge, mortgage or hypothecation, and other
       charges over the receivables. The main types of security accepted by banks are
       goods or stock in trade; documents of title to goods; railway receipts etc, property title
       deeds, insurance policies etc.

4.     Bank Credit – commercial banks in the country serve as the single largest source of
       short-term finance to business firms. They provide it in the form of Outright Loans,
       Cash credit, and Lines of Credit.

5.     Lease financing by banks/NBFC is also fairly common in India and equipment leasing
       has a wide customer appeal.

        The Government has a declared policy on external commercial borrowing, and the
proceedings are published for availing foreign debt. There is a “queuing system”, and an
informal ceiling of foreign debt availability for the corporate borrower. High risk for covering
foreign exchange risks is a deterrent. In order to meet the growing financial needs of industry,
the GOI decided to establish special financial institutions both at the national and the state
levels. At the national level, the IFCI, the ICICI, the IDBI, the NIDC, the NSIC were set up.
SFC’s and SIDC’s were established at the State level. Moreover, the LIC and the UTI were
established to mobilize public savings and to channelise them in to industry.

        Industrial Finance Corporation of India (IFCI). The IFCI is the first industrial
financing institution to be set up in India soon after independence. It was set up as a
statutory corporation in July, 1948. But was later converted in to a Government Company.
The IFCI provides financial assistance to any public limited company and co-operative
society registered in India. Such units must be engaged in the manufacture, preservation or
processing of goods, or in the shipping, mining or hotel industry, or in the generation and
distribution of electricity or any other form of power. Public limited companies in the public
sector are also eligible to receive assistance from the IFCI. But proprietary concerns,
partnership firms and private companies are not eligible for financial assistance from the
corporation. The corporation may grant assistance ranging from Rs.30 lakhs to Rs.2 crores
to a single enterprise. Assistance may be given in any one or more of the above forms for a
maximum period of 25 years.

        State Financial Corporations (SFC’s). As the Industrial finance Corporation does
not provide industrial finance to all types of enterprises, the need was felt for state level
financial institutions to finance the needs of non-corporate and other small enterprises. On
September 28,1951, the Parliament passed the State Financial Corporations Act. The Act
came in to force with effect from 1st August, 1952. It empowers the State Governments to
establish financial institutions for their respective States.

        State Financial Corporations can provide financial assistance to public and private
limited companies, co-operative societies, partnerships and sole-proprietary concerns. The
maximum amount of financial assistance to a single concern is Rs.60 lakhs for companies
and Rs.30 lakhs for partnerships and sole proprietary concerns. Now SFC’s have been
authorized to subscribe the equity shares of weaker small and medium industrial concerns.
They can also meet the foreign exchange requirements of such industrial units.
                                                                                               11


        Industrial Credit and Investment Corporation of India (ICICI). In view of the
limited risk capital which IFCI and SFC’s provide, need was felt for a more enterprising and
flexible institution to facilitate industrial development in the private sector in India. A World
Bank-cum-American Investment Mission visited India in 1954 and recommended the
establishment of special institution for the purpose of assisting industries in the private sector.
Accordingly, the ICICI was set up on January 5, 1955 as a public limited company under the
Companies Act. The Corporation was set up as a privately owned institution but later on the
Life Insurance Corporation of India (a statutory corporation) became its major shareholder.

        The ICICI has wide powers. It can provide any amount of financial assistance to any
public or private company in the private sector. It can now give assistance to projects in the
joint sector and co-operative sector. It is authorized to provide foreign currency loans to
partnerships and proprietary concerns also. Ordinarily Rs.5 lakhs is the minimum limit and
Rs.1 crore is the higher limit for financial assistance to a single concern. Loans are given
generally for the purpose of buying capital assets like land, buildings and machinery. In fact,
the ICICI specializes in providing loans in foreign currency. The Corporation helps in the
promotion of new enterprises as well as in the expansion and modernization of existing
concerns so as to build up a sound industrial basis in the private sector. The Corporation is a
leading supplier of credit in foreign currency. About 57.2% of the total assistance has been
provided in the form of foreign currency. The ICICI also subscribes to the industrial securities
on a large scale. It has emerged as the pioneer in the field of underwriting in the country. It
has also developed consortium underwriting in co-operation with other financial institutions.

         The Industrial Development Bank of India (IDBI). The IDBI was set up as apex
institution and started its operations with effect from July 1, 1964. The needs of rapid
industrialization, long term financial needs of heavy industry beyond the resources of the
then exist6ing institutions, absence of a central agency to co-ordinate the activities of other
financial institutions and gaps in financial and promotional services were the main causes
behind the establishment of the IDBI.

        The IDBI has been given wide powers and it enjoys full operational autonomy. The
bank can provide financial assistance directly as well as through other institutions to all types
of industrial concerns irrespective of their size or form of ownership. There are no maximum
or minimum limits on the amount of assistance or security. The bank has he freedom to deal
with any problem relating to industrial development in general and industrial finance in
particular.

         Several new institutions like the SIDBI [Small Industries Development Bank of India],
the IDFC [Infrastructural Development Finance Corporation of India] have come up which
cater to specific market needs. IDFC has commenced credit enhancement and guarantee
facilities to banks & institutions for their customers and undertakes risk participation
assistance and take out financing also.

       In addition to the above mentioned sources, there are also present local banks, non
banking financial companies as sources of borrowing for these corporates.

       (c)     Is there significant competition among lenders and significant choice of
               sources for borrowing available to these types of corporates?

         There is a lot of competition amongst the various sources of corporate lending, to be
able to disperse loans to these corporates. This is primarily due to the presence of the
private banks. In addition to the mainstream Indian banks which are nationalized, there are
several private banks operating in India presently. This competition is manifesting itself in the
form of lower and more lucrative interest rates for lending, better services and other similar
attractive packages.
12


       (d)     What is the present average rate of interest payable in respect of
               unsecured and secured debt?

       The present average rate of interest varies from 14% to 16% for the unsecured and
secured debt.

       (e)     Is finance generally available for long, medium and short-term
               borrowings?

       Finance is available for long, medium and short term borrowing at varying rates. A
debt market for Government securities is available, but for the private debt market steps for
creating such a market are being undertaken by Government rates of interest vary in each
market segment.

B2.    Central or Other Similar Bank Control or Influence

       (a)     What part does the central bank of this economy play in the regulation
               of the banking and finance sector? Would it intervene or seek to
               influence the outcome or course of events if, for example a large
               corporate with debt exposure to a number of banks was in financial
               difficulty?

          The Central Bank of India is the Reserve Bank of India, which is mainly responsible
for regulation of the banking and finance sectors. The RBI was established under a law
promulgated by the Parliament in 1934. This is done by the RBI by acting as the agent for
the Government. An exclusive control is exercised on the business of banking by the RBI as
only the RBI has the power for the issuance of bank noes and the supply of currency in the
country. What denomination and in what amounts is also determined by the central board of
the RBI. All the scheduled banks are also required to maintain with the RBI an average daily
balance that shall not be less than three percent of the total of the demand and time
liabilities of such bank. It is also in the power of the RBI to be able to purchase, sale and
rediscount bills of exchange and promissory notes. Also the RBI is authorized to purchase
from and sell to scheduled banks foreign exchange. The RBI can also make loans and
advances to scheduled banks and to state co-operative banks. This power extends to
making such advances to State financial corporations as well as the above mentioned
special institutional bodies such as IFCI etc. again as part of its function of controlling the
banking business in India the RBI keeps deposits with the State Bank of India for specific
purposes as may be approved by the Central Government in this behalf. It also has custody
of monies, securities and other articles of value and collects proceeds, whether principal,
interest or dividends, of any such securities.

        The RBI has the power to control the policy in relation to advances by banking
companies when it is satisfied that it is necessary to do so in the public interest, or in the
interests of depositors, or when banking policy demands it. No banking company can carry
out banking business in India unless it holds a license issued for that purpose by the RBI. In
respect of a company incorporated outside India, the RBI should be satisfied that the
carrying out of business by such company will be in the public interest, and the Government
or law of the country in which it is incorporated does not in any way discriminate against
banking companies registered in India. Further the RBI had the power to cancel a license
granted to a Banking Company. The RBI also has the power to, on its own initiative and on
being directed by the Central Government, conduct inspection of a banking company and its
books and accounts. The RBI’s approval is mandatory in matters relating to amendment of
provisions regarding the number of Directors, appointment or re-appointment or termination
or remuneration of the Chairman, Managing Director or any other director of a banking
company.
                                                                                             13


         The RBI may determine the policy and give directions to all or any of the non-banking
financial companies relating to income generation; accounting standards; marketing of
proper provision for bad and doubtful debts; capital adequacy based on risk weights for
assets; credit conversion factors for off-balance sheet items; relating to deployment of funds
by a non-banking financial company or class of such companies, or such companies
generally. The RBI may file for winding up of a non-banking company on being satisfied that
a non-banking financial company on fulfillment of certain criteria such as being unable to pay
its debt; or that the continuance of the non-banking financial company is detrimental to the
public interest or to the interest of depositors of the Company. The RBI has also introduced
prudential norms & capital adequacy ratios for banks, to ensure or observance of some
norms to reduce the risk of exposure to a single sector, or for Company or group. This is
strictly monitored and the auditors are obliged to report such exposures. RBI has full powers
to oversee the banking business in India.

       (b)     Is there any tradition in this economy for a ‘main’ or ‘house’ or ‘lead’
               bank to become involved as a chief negotiator or leader in the case of
               the financial difficulty or insolvency of a large corporate borrower with
               debt exposure to a number of banks?

         In consortium financing or syndicated loans, there is usually a lead bank or financial
institution. Banks enter into inter creditor arrangements whereby a Security Agent is
responsible for marshalling the security and be the chief negotiator or leader in case of
financial difficulty of likely insolvency of a corporate borrower. Banks also insert contractual
covenants to appoint nominee directors and other representatives on the boards of the
corporate borrowers. And as they are, statutory corporations in the first place therefore they
can be suitably expected to represent the interest of the public and the directions of the
Central Government. Private banks are increasingly taking upon themselves such a role of
Security Agent, or Administrative Agent or Monitoring Agent to regulate the information flows
and security of the Borrower.

      [These issues are further raised later in this working guide, so a general
answer will suffice here]

B3.    Assessment of Borrowing Risk and Monitoring of Financial Position

       (a)     Is assessment or analysis of lending risk widely practised in this
               economy?

       In India, banks normally never review/verify securities.

       (b)     If so, does the average lending bank make adequate assessment of risk
               analysis when contemplating lending to a corporate borrower?

         There is no specific policy to analyze lending risk practiced by the banks. While
granting credit, a commercial bank generally takes in to consideration the factors such as
nature and size of the enterprise, financial soundness of the concern, profitability of the
business, quality of management, ability to repay its loan, technical and commercial
feasibility of the project, security offered by the business unit. But this is all general and
standard evaluation and cannot be compared to a step by step analysis of the credit
worthiness of a borrower. A similar procedure is followed by the specialized institutions such
as IFCI, IDBI, ICICI and other similar lenders. Pledges and mortgages are commonly
accepted by the banks as forms of security. The banks may ask for the depositing of the
mortgaged property deeds or the agreements drawn up for the pledge of securities. Only the
large banks have trained project and risk appraisal departments, and usually the smaller
banks rely upon the larger banks for such appraisal and reports.
14


       (c)     Would it be usual or common for a lending bank to regularly monitor the
               financial performance of a corporate borrower?

        Once the average bank sanctions its loans etc, under the loan covenants there are
reporting requirements which facilitate the Banks and lenders to monitor the financial
performance of a corporate borrower.

       (d)     Would it be usual or common for a lending bank to be regularly supplied
               with copies of the financial statements of a corporate borrower?

        It is a usual stipulation of large loans that Banks be furnished with corporate
compliance reports and certificates and bank statements of the Bank accounts for fuller
information on the applications of funds and fund flows and current expenditure. In smaller
loans, the monitoring by Banks is weaker though Banks are contractually empowered to
monitor the performance of a Borrower, and oversee fund application. Banks are to be
regularly posted with the financial statements and records and balance sheets.

B4.    Foreign Bank Lending

       (a)     Is there a significant source of foreign bank lending in this economy?

        There is an ever increasing presence of foreign banks in India. These banks offer an
altogether different method of functioning, and operations as opposed to the work ethic of
the main Indian nationalized banks. However it is doubtful, whether these banks are being
used for significant corporate lending. One reason for this is that their risk evaluation is more
advanced as compared to that practiced by the nationalized banks. Though these banks are
used frequently for disbursing credit to individual businessmen and high managerial officers
in corporate enterprises. Almost all major foreign banks have a presence in India. Their forte
is in investment banking and specialized facilities for finance servicing, high networth
individuals and they have made major forays in project financing.

       (b)     If so, is it usual for this funding to be provided by the foreign bank/s
               alone or in combination with funding from local or domestic bank/s?

        It is unusual for a foreign Bank to be involved as a sole banker for any major term
lending or syndicated lending financing deals. Due to the prudential norm guidelines
exposures are usually spread among a syndicate security, in special sectors is normally held
by domestic banks. Unless the amounts drawn/drawable are within the prudential norms and
group exposure norms the single bank lender relationship cannot work in India. There are
limits of exposure prescribed for loans and investments in a company, in a group and in the
sector to manage the risks, and hence the single lender who would develop the clients’
opportunity and subsequently spread the risk by down selling its debt or investment.

        Due to the prudential norms policy, a single borrower exposure and effect of
insolvency is rare. The risk sharing and consortium or syndicated lending spreads the banks
risks. Takeout financing and risk participation assistance has just been introduced to the
domestic market by IDFC & SBI (State Bank of India) and these facilities will further spread
risk and diminish the exposures, and resolve deposit/debt mismatches.

       (c)     Are you able to detect whether there are significant differences in
               approach and funding terms when a foreign bank is involved in the
               lending (as compared with a purely local or domestic funding)?

       Yes there is a significant difference in approach and funding terms where a foreign
bank is involved in the lending, in comparison to purely local or domestic funding. The main
                                                                                              15


difference in approach is that these foreign banks undertake greater risk analysis, project
appraisal. Their cost of borrowing is cheaper, as they have access to cheaper. They have
introduced greater controls and innovative forms of receivables financing for e.g. introduced
Trust & Retention Accounts, Escrow Accounts etc.

       (d)     If so, what are the main differences?

B5.    Exclusive Lending

       (a)     Is ‘related’ or ‘exclusive’ lending (ie where a corporate borrower and a
               bank have an established commercial relationship such that only that
               lender is looked to as the source of borrowing by the corporate
               borrower) common in this economy?

       Same as B-4. (b).

       (b)     If no, what effect does this have if the corporate borrower is in financial
               difficulty or is insolvent?

       Same as B-4. (b).

B6.    Syndicated Lending

       (a)     Is ‘syndicated’ lending (ie where a group of banks or financial
               institutions join together to provide funding for a corporate borrower)
               common in this economy?

         It is not uncommon to find a borrower availing term loans as well as working capital
limits from a number of financial institutions and commercial banks. A term loan to a
borrower may be sanctioned jointly by all India financial Institutions and Banks. Similarly,
working capital limits may also be availed by the borrower from a number of banks partly
because of the large size of borrowing and partly to have degree of flexibility in its operations
with different banks.

          In other cases the borrower may have a multiple banking relationships where it has
independent arrangement with each bank, security offered to each bank is separate and no
formal understanding exists between. Under this arrangement banks may not be exchanging
information on the borrower and limits may have been sanctioned on different terms and
conditions. This arrangement may be preferred by the borrower and as it affords him a great
flexibility in operating his accounts with different banks but goes contrary to the expectations
of Reserve Bank of India which desires that a holistic view of entire operations of a customer
must be taken by the banks and the assessment of credit needs to be done in totality.
Interse Creditor Arrangements for Security Sharing, appointment of Security Agents for
control of the assets and recovery modes and sharing of proceeds are carefully contracted in
the consortia/syndication. Participation certificate and partial assignments have not been
successful in these Schemes.

        The other arrangement for sanctioning of credit limit to such a borrower may be to
form a consortium of banks to take care of the entire needs of the borrower. No definite
guidelines on formation of a consortium of bank, however existed in the part and it was
generally left to the borrower to decide this composition and the proportion of sharing. The
system of consortium lending is well developed among the public financial institutions like
IDBI, ICICI and IFCI, on a sectoral and regional basis.
16


       (b)     If so:
               (i)    does a lead bank perform the role of ‘agent’ on behalf of all the
                      lenders; and/or

               (ii)    is the concept of a ‘trustee’ (or similar) for a syndicate of banks
                       (ie where the ‘trustee’ holds any security for the syndicated
                       funding on trust for the syndicate of banks) known and/or
                       practised in this economy?

       (i) and (ii) Role of the Lead Bank

        The appraisal of credit proposals will be done by the lead bank. The borrower has to
submit all the necessary papers and data regarding appraisal of its proposed limits to the
lead bank which in turn will arrange for preparation of necessary project appraisal reports
and its circulation to other member banks. Lead bank must complete the entire work relating
to approval within the specified time frame. Lead Bank will also be responsible to submit the
proposal to Reserve Bank of India for post sanction scrutiny under ‘ Credit Monitoring
Arrangement’ on behalf of the consortium members and will further attend to
correspondence with Reserve Bank of India in this regard.

       There may be some times be disagreement between the member banks on the
quantum of permissible bank finance terms and conditions or any other matter. In such
cases, decision of the consortium will be binding on the Lead Bank as also other members.
Lead Bank will however, enjoy the freedom to sanction an additional credit upto a pre-
determined, percentages in emergent situations. The Lead Bank should however inform
other members immediately together with their pro-rata share. It performs the role of an
agent, but recent trends indicate several new agency relationships with the Banks. The new
syndication models contemplate agency for administrative responsibilities for the consortium,
and a separate Security Agent or Trustee Agent for the monitoring of security of the Lenders.

       The quarterly opening statements required under the “Chore Committee” for fixation
of quarterly operative limits will also be required to be sent to the lead bank who shall in
association with the bank having the next largest share in the credit facilities should meet at
quarterly intervals and fix the operative limits and also individual banks share thereof for the
next quarter. The information regarding quarterly operative limits fixed in such a manner
would be communicated by the lead bank to other member banks.

         In a consortium, lead bank or the lead bank and the bank with the next highest share
will be the final authorities in cases of the differences of opinion and their views will prevail in
all cases of disputes among the members relating to terms and conditions.

         Therefore it will be appreciated that the borrower under the consortium arrangements
in required to deal with the lead bank and banks having second largest share in total credit
limits for all practical purposes. The borrowers were put to inconvenience for execution of
various types of document etc. with various banks in the consortium. On the
recommendation of “Mahadevan Committee” who submitted its report in April, 1988 Reserve
Bank revised guidelines in relation to consortium advances and the estimate idea set for the
banking industry in to achieve single window concept for lending (SWCL), to minimum delay
and inconvenience to the borrower. Single window concept has now been brought into
operations in respect of two important areas of lending like term loans and working capital
finances.

       It may be mentioned that the Reserve Bank of India has permitted the lead bank to
charge a suitable fee (say 0.25 per cent of the limits) per annum for various services
rendered to the borrower. However, the Borrower negotiates these fees, which may in fact
                                                                                            17


be higher, depending on arranger’s fees being charged. The concept of a Trustee holding
security for other Lenders is fairly common in India.

         The Agent and Trustee relationship is for the protection of the syndication/consortium
of Lenders. The Agent/Trustee has no duty to the Borrower. However, in practical terms, at
the instance of the Lenders, or subject to the commercial terms, the Agent and Trustee does
facilitate rehabilitation by making variations to contractual commitments.

               (iii)   if the corporate borrower is in financial difficulty or is insolvent
                       what function does the ‘agent’ or ‘trustee’ perform?

B7.    Subordinated Debt

       (a)     Is the concept known as ‘debt subordination’ (ie, a contractual
               arrangement between lenders in which there are ‘layers’ of ‘senior’ and
               ‘junior’ debt and which has the effect of postponing repayment of the
               ‘junior’ debt until payment has been made of the ‘senior’ debt)
               recognised and practised in this economy?

        For Corporate borrowings, usually no single individual or corporate borrower may in
normal circumstances be in a position to meet the loan requirements of a corporate. Loan
money has therefore to be raised from a large number of individuals very much in the same
way as share capital. Loans may have to be obtained in a sequence based on capital needs.
The Transfer of Property Act in India recognizes the concept of debt subordination and
layering between senior and junior Lenders. By the terms of registration of the charges
under the Companies Act, the priority of the charge can be stipulated contractually. The
commercial terms, debt service coverage ratio and debt/equity ratio determine the extent to
which subordinated debt can be availed. The law provides for ranking charges. The same
assets can be charged to several lenders and also to several lenders in a series.

        Since all the creditors have also to seek payment only out of the company’s assets,
the problem that has to be tackled is to how they should know before supplying credit what
assets would be available as security for their payments?. The Companies Act prescribes for
registration of charges with the Registrar of Companies and it also gives the list of assets on
which a charge is required to be registered. Registration of charges functions as notice to
the public at large and identifies the assets which are subject to the charge. It becomes a
source of public knowledge on enquiry and therefore, operates as constructive notice and a
protection, to all classes of persons interested in knowing the assets position of the
Company. It makes the charge effective against all persons (a declaration in rem) including
the liquidator.

       As per Section 125 of the Companies Act “every charge created on or after the 1st
day of April, 1915 by a company, so far as any security on the companies property or
undertaking is conferred thereby, be void against the liquidator and any creditor of the
company under the prescribed particulars of the charge, together with the instrument if any
by which the charge is created or evidenced or a copy thereof verified in the prescribed
manner, are filed with the Registrar for registration in the manner required by this Act.

       Under this is done, the charges shall be shall be void. This requirement is for;
a)     a charge for the purpose of securing any issue of debenture;
b)     a charge on uncalled share capital of the company.
c)     a charge on any immovable property where ever situate, or any interest therein.
d)     a charge on any of the book debts of the company.
e)     a charge not being a pledge, on any movable property of the company.
18


f)     a floating charges on the undertaking or any property of the company including stock
       in trade.

       Therefore it can be seen, that the abovementioned and statutory requirement
extends to almost all kinds of securities the simplified procedure involves:

i)     filing the prescribed particulars together with copy of the instrument creating the
       modification thereof or satisfaction along with the registrar is form 8 etc. in triplicate.

       In addition to this section 130 requires a register of charges to be kept by the
       registrar section 131 requires an index of charges to be maintained. The registrar is
       to keep a chronological index in the prescribed form and with the prescribed
       particulars of the charges. Registered with him.

       (b)     If so, is debt subordination recognised and/or enforced under the
               insolvency regime of this economy?

        Yes, debt subordination is recognised and/ or enforced under the insolvency regime
of this country. The concept of marshalling of debt is recognised under the Transfer of
Property, Act, 1882 dealing with security interests on property.”

        Section 81 of this Act, deals with marshalling securities if the owner of two or more
properties mortgages them to one person and then mortgages one or more of the properties
to another person, the subsequent mortgagee is, in the absence of a contract of the contract
entitled to have the prior mortgage debt satisfied out of the properties not mortgaged to him,
so far as the same will extend but not so as to prejudice the rights of the prior mortgage or of
any other person who for consideration acquired an interest in any of the properties.

       This section applies to several properties subjected to a charge or multiple charges
and to several successive mortgages, however, it should be noted this section applies to the
mortgages of immovable property and not to the hypothecation of moveable.

       Marshalling as described above settles the rights of competing mortgages, while
contribution settles the rights of mortgages of several properties or of several shares in one
property. According to Section 82 of the Transfer of Property Act stipulates that:

               ‘Where property subject to a mortgage belongs to two or more
               persons having distinct and separate rights of ownership
               therein, the different shares in or parts of such property owned
               by such persons are, in the absence of a contract to the
               contrary, liable to contribute ratably to the debt secured by the
               mortgage and for the purpose of determining the rate at which
               each such share or part shall contribute, the value thereof,
               shall be deemed to be its value at the date of the mortgage
               after deduction of the amount of any other mortgage or charge
               to which it may have been subject on that date.’

B8.    Banks and Equity/Debt

       (a)     Is it permissible for banks to own equity in a corporate borrower?

       Under the Banking Regulation Act, banks cannot own more than 30% of the issued
equity of any borrower. The prudential norms and capital adequacy norms do not permit a
bank to exceed 30% ceiling in investment in a corporate borrower. However, in relation to a
                                                                                             19


pledge, for enforcement of security, and as a security interest, banks do take the entire
equity of a corporate borrower as collateral security for the benefit of the group or consortium.

       (b)     If so, is it permissible for a bank to convert debt to equity?

       Under the Companies Act and Section 81 thereof, it is permissible for a bank to
convert its debt into equity. The law requires that a convertible debt should be approved by
the shareholders prior to the issue or placement of the debt or approval of the Central
Government should be taken for conversion of the debt into equity.

       (c)     Are there instances where this has in fact occurred, particularly in the
               context of either:
               (i)   in the context of an ‘informal work out’ as a result of the
                     insolvency or approaching insolvency of a corporate borrower;
                     or
               (ii)  in the context of a formal insolvency administration of a
                     corporate borrower?

         Under the provisions of the Sick Industrial Companies (Special Provisions) Act, 1985,
a measure of rehabilitation it is provided that a sick company can seek is the conversion of
debt into a fixed funded debtor with a zero coupon rate or equity so as to convert the debt
into a risk capital. There are instances of this happening in schemes of reconstruction by the
Board of Industrial and Financial Reconstruction as also in the context of formal insolvency
administration of a corporate borrower.

       (d)     In such a case, is it usual for the bank to be then represented on the
               management or board of the corporate borrower?

         Most of the large all-India public financial institutions normally reserve the right to
appoint their nominee directors on the Boards of the assisted concerns. The actual
appointments for directors are, however made generally after mutual consultation among the
institutions depending upon the extent of their combined shareholdings, the size of
aggregate debt and individual debt, the role of the lead institution etc. They do not exceed
certain number of the total strength of the Board, nor do they assume executive positions
since they do not want to be burdened with management responsibilities. Detailed guidelines
are issued to the nominee director appointed by institutions. The nominee directors are not
to interfere in the day to day affairs of the assisted concern, but are expected to keep
themselves fully acquainted with the affairs of the assisted concern and extend full co-
operation to the management. They are also to ensure that, among other things, the
following issues are reviewed at periodical board meetings.
i)       Financial performance;
ii)      payment of dues to institutions
iii)     payment of statutory and other dues to Government
iv)      transactions in shares.
v)       Inter corporate instrument including deposits, loan and advances.
vi)      contracts, purchaser and sale of raw materials, finished goods, machinery etc. and
vii)     Major items of expenditure particularly those relating to management.

      They are also appointed to the membership of audit committees or share transfer
committees to regulate the proceedings.
20


B9.     Debt Trading

        (a)    Is there a market for ‘debt trading’ (i.e., where a bank might sell or trade
               the debt owed to it by a corporate borrower) in this economy?

        (b)    If so, is debt trading common in this economy, particularly where the
               corporate borrower is insolvent or near insolvent?

        The National Stock Exchange has introduced debt trading for instruments like bonds,
debentures and debt instruments. There is a separate market for inter-bank debt instruments
which is capable of being participated in by other banks and authorized money market
brokers. These markets are under developed in India since the incidence of stamp duty for
transfer of instruments is very high. The assignment of a debt with the securities interest and
the underlying property is cumbersome and a high cost. Debentures are, therefore, the
accepted form of debt instruments in the corporate sector as their transfer, transfers a
proportionate underlying security interest in the mortgages and charged assists also to the
holder of the instrument.

        Securitisation is recently introduced in India.

       Debt trading is not common in India when the corporate borrower is insolvent or near
insolvent. Discounted instruments in the debt market or junk bonds have not been
introduced in India.

        [This issue is raised later in this working guide, so a general answer will suffice
here]

B10.    Guarantees to Support Lending

        (a)    Is the concept of a third party ‘guarantee’ (as distinct from a security
               over property) to support corporate borrowing known and practised in
               this economy?

        The concept of a third party guarantee or a promoter guarantee or a sponsor
guarantee is well known in India. Sponsors or the promoters having large stakes in the
corporate entity are usually asked to secure project short falls or project performance or
guarantee the repayment of the debt in support of corporate borrowing and this is fairly well
practiced in the field of working capital finance and short term loan financing. The distinction
between non-recourse and recourse is well recognised in India. The Indian Contract Act and
the Companies Act regulates the manner in which guarantee can be given. Recent
amendments in the Companies Act have changed the regulations concerning the extent of
guarantees which can be given by one corporate borrower for another corporate borrower by
imposing financial limits or ceilings. The consent of the shareholders by way of a special
resolution is required specifically for extending a corporate guarantee.

        (b)    Is there a law which regulates the power to take or give a guarantee?

       Both the Indian Contract Act and the Companies Act read with the constitution of the
Company regulate the authority to give a guarantee, the limit upto which a corporate
guarantee can be given and the terms and conditions upon which the guarantee is to be
enforced and made binding.
                                                                                            21


       (c)     Is it common or usual for corporate borrowing to be supported by
               guarantee/s?

       (d)     If so, are these guarantees usually taken from owners/directors of the
               corporate borrower; from other corporates associated with the
               corporate borrower (e.g., subsidiaries or holding company); or from
               unrelated third parties?

        Corporate borrowing is usually supported by sponsor guarantees which are usually
taken from the promoters owners/ directors of the corporate borrowers, and even from other
corporate borrower (e.g. subsidiaries or holding companies) Guarantees from unrelated third
parties are not the norm and are rarely offered or even accepted by the banks, due to the
low capitalization of corporate (affecting the ability to guarantee others). The Banks have
cover for their lending from the Guarantee Corporation of India or from the Export Guarantee
Corporation of India, when the litigation recovery does not result in recovery.

       (e)     Is there a law which regulates the enforcement of guarantees?

        The provisions of the Civil Procedure Code contemplate summary trials or actions in
relation to the guarantee claims. The Indian Contract Act is the substantive law which
regulates the terms and provision for enforcement of guarantees. The procedural law is
embodied in the Civil Procedure Code 1908 as amended in 1973 and in the Recovery of
Debts Due to Banks and Financial Institutions Act, 1993.

       (f)     Is it easy or difficult in practice to enforce guarantee obligations?

       It is difficult in practice to recover upon guarantee obligations as the guarantor’s
lenders would resort to cross default clauses for the Guarantors business debts and a
guaranteed debt is an unsecured debt in so far as the guarantor is itself concerned. The
guarantor’s Secured Creditors would have priority over the guarantors assets.

       (g)     Is it usual to require that a guarantor should give security over the
               property of the guarantor as an additional comfort to the lender?

        It is unusual for a guarantor to give security over the property of the guarantor as an
additional comfort to the Lender.

       (h)     Does the insolvency of a corporate borrower have any effect on the
               enforcement of a guarantee?

        A guarantee can exclude the consequences of insolvency of a creditor borrower. (the
principal debtor) The Guarantor’s right of subrogation and the effect of insolvency on the
right of subrogation cannot invalidate a guarantee as it is quite common to contractually
provide for the guarantor to be capable of being sued as if it is a principal debtor. The
guarantor in the case of corporate borrower’s insolvency can claim recovery in the proceeds
or dividend in insolvency.
22


                             SECTION C      SECURED FINANCING


C1.    Property Rights Regime

       The type of security and mechanisms for taking over assets of a corporate borrower
are described as under:

           (a)    Is the system of ownership rights in respect of both land and other
                  property reasonably stable and certain in this economy?

           (b)    In particular:
                  (i)     is the system of land ownership and rights sufficiently developed
                          to encourage lending on the security of land; and

                  (ii)   is the system of ownership and rights in relation to property
                         other than land sufficiently developed to encourage lending on
                         the security of such property?

         The “real property” security law is substantially covered by legislation. Under Indian
Law, the law recognised immovable property, moveable property in corporate property, and
intellectual property. The law relating to immovable mortgages and charges is found in the
provision of the Transfer of Property Act, 1882, (hereinafter “TP Act”) the provisions of
Registration Act 1908, and the provisions of Code of Civil Procedure 1908. The property law
in India relating to security was developed in over time when and modern day banking was
not in view. The TP Act regulates and deals with transfer of property inter vivos rather than
transfer by operation of law. It does not deal with the law of succession nor with Government
grants. The TP Act is not exhaustive and only consolidates the law. Consequently, the
Courts in exercise of their jurisdiction as courts of equity do lay down principles, not
inconsistent with the TP Act. It is in this respect that the Indian Courts are different from
those in England. In India there are no separate courts of equity (as in England) and are
both courts of law and equity. Accordingly, on some of the important concepts, where
equitable doctrines apply, Indian courts have taken a different view. Generally, the TP Act
deals with subjects such as essentials of a valid transfer, doctrine of notice, special types of
transfer, law relating to priorities, sales, mortgages, lease, exchanges and gifts. The law
relating to assignment of actionable claims is also of the TP Act.

           The system of ownership rights in respect of immovable law is reasonably states and
certain.

         There are separate laws for agricultural lands and land ceiling laws and land reform
acts by each State which impose ceilings on land holding and use of land holding. When
industrial user is to be ensured conversion of agricultural land to non-agricultural land is
required and the land rent as an annual rental value or ground rent changes. Consolidation
of holdings and conversion of ribbon rights for industrial purposes requires sanction from the
Collector or the authority designated under local laws. The system of land ownership and
rights is sufficiently developed to deal with the security lending on land rights. Provisions for
lessors, as state authorities giving consent to the lessees lenders for creating mortgage over
leasehold properties and for step-in rights are will known in India.

       In relation to movable property and incorporeal or intangible assets and intellectual
property the law in India is equally well developed. The filing requirements for registering a
charge in relation to such property is different than that in relation to immovable property.
There are separate authorities constituted under the Trade Marks Act, the Copy Right Act
and the Patents Act which would be relevant for securing an interest in intellectual property.
                                                                                            23


Goodwill as an intangible asset and non-compete rights can also be charged by assigning
these in favour of the security agent acting on behalf of the lenders/ the lenders under either
a deed of assignment or a hypothecation. Documented rights are treated as movable
property and are capable of being charged by a floating charge under hypothecation.

C2.    Secured Financing

       (a)     What mechanisms for taking of security over assets of a corporate
               borrower are available to financiers in this economy (for example
               mortgages over land; fixed and/or floating charges over personal
               property; legal and/or equitable mortgages; debentures; pledges; liens,
               etc.)?

       (b)     In practice, which of these types of security are most commonly
               employed by financiers?

       (c)     Is there a system of registration in this economy for any of these types
               of security taken by financiers?

       (d)     To what extent are priorities between competing securities regulated?

       The type of security and mechanisms for taking over assets of a corporate borrower
are described as under:

       (a)     Security over real property

       Under the Indian Transfer of Property Act, 1982 the term “mortgage’ is defined under
Section 58(a) as follows:

               “A mortgage is a transfer of interest in specific immovable
               property for the purpose of securing the payment of money
               advanced or to be advanced by way of loan, an existing or
               future debt or the performance of an engagement which may
               given rise to a pecuniary liability”.

       Forms of a mortgage recognised in India are
(1)    Simple mortgage
(2)    Mortgage by conditional sale
(3)    Usufructuary mortgage
(4)    English mortgage
(5)    Mortgage by deposit of title deeds (Equitable mortgage)
(6)    Anomalous mortgage.

       Property law attaches different rights and liabilities in each of the six cases, some of
which are briefly discussed as follows:

(1)    In a simple mortgage, the mortgagor should personally undertake to repay the
       mortgage money and parties must expressly or impliedly agree that in the event of
       the mortgage or failing to repay according to his contracts, the mortgagee shall have
       a right to case the mortgage property to be sold, in this form of mortgage there is no
       possession nor is there an absolute transfer of the interest. It can be enforced only
       be suing and not without Court intervention.

(2)    In a mortgage by conditional sale, there is ostensibly a sale with the condition that on
       default in payment of the mortgage money by a certain date, the sale would become
24


      absolute and on such payment being made, the sale can be avoided. From a
      banker’s perspective this form is rarely used.

(3)   Usufructuary mortgage involves delivery of possession or an undertaking on the part
      of the mortgagor to deliver it, and, secondly, the use of the usufruct until the
      mortgage dues are pad off. This too is rarely used in banking security creation.

(4)   An English mortgage (or as is popularly known “legal mortgage”) is a transaction by
      which a mortgagor binds himself to repay the mortgage money on a certain date, and
      transfers the mortgage property absolutely to the mortgagee subject only to a
      condition that the mortgagee will retransfer it to the mortgage or upon payment of the
      mortgage money as agreed. The three essentials of an English mortgage are;
      (a)     the undertaking to pay
      (b)     the property is absolutely transferred, and
      (c)     the transfer is subject to provision that the property would be reconveyed on
              redemption of the debt due.

      The operative words are the same as those of an absolute conveyance. A
      characteristic feature of an English mortgage is that a right of sale without
      intervention of court is generally included as a covenant in the mortgage deed in
      order to enable the mortgagee to realize the mortgage money. This right of an
      English mortgagee is recognised by the Transfer of Property Act. This form of
      mortgage has a high stamp duty incidence in most states in India.

(5)   “Equitable” mortgage or mortgage by deposit of title deeds, To facilitate the
      mercantile community in raising money with minimum stamp incidence after
      investigation of title and preparation in specified, notified towns such as Mumbai,
      Chennai, Calcutta and several others a corporate borrower is permit this mode of
      creating a mortgage. This special mode envisages that the debtor deposits the title
      deeds of his immovable property, where ever situate, with the creditor or his duly
      authorized agent with the specific intention of creating a security for the debt. This act
      of deposit creates a valid mortgage upon all properties comprised in the title deeds,
      the mortgage does not require any writing or registration and can be entirely oral.
      The bargain or agreement is not reduced in writing but a unilateral parole record of
      how the mortgage by deposit of title deeds was made is recorded. Forms recording
      the creation of a charge are recorded with the Registrar of Companies. It has
      substantially all the advantages of any of the other forms of mortgage. Hence, a
      holder of a registered instrument does not take priority. Thought a formal writing is
      not necessary, in actual practice a written memorandum is made after the deposit of
      title deeds, and separately confirmed by a letter communication by the corporate
      borrower. Such a memorandum states the fact of the deposit and the creation of the
      mortgage and does not require registration. However, if the memorandum is in itself
      the contract of mortgage, then it must be registered and stamped. The test is that the
      document should not constitute the ‘bargain” between the parties. If it does, then is
      requires registration and this also clearly focuses the question of payment of stamp
      duty. Except in certain states which have expressly sought to levy of stamp duty on a
      memorandum evidencing a deposit of title deeds, most States in India do not so
      provide or have established several relations in respect of bank and financial
      institutions related transactions for project finance loan. [The State of Maharashtra
      and Gujarat have imposed stamp duty on the Memorandum of Entry]

(6)   Anomalous mortgage is basically a residual category. In India, several kinds of
      mortgages based on local practices and molded by custom or the whim of the
      creditor are in existence. Mortgage which does not fall within any of the five
                                                                                             25


       categories described above is anomalous. These forms are also rarely if at all use in
       banking transactions.

Pledge

        A pledge, a form of bailment in India, is recognised as a part of the law of contract
and not property law. It envisions physical delivery of the pledged property being given to the
pledgee. The right to property vests in the pledgee only so far as it is necessary to secure
the debt. A pledgee has a right without intervention of the court to realize the security and if
necessary, to sue upon the debt and retain the goods as collateral. If he sells the same
without intervention of the court, he is required to give a reasonable notice of the intended
sale to the pledger. The pledgee is bound to apply the sale proceeds towards satisfaction of
the debt and pay over the surplus to the pledger. Generally, the law of pledges is well
developed in India and the experience in relation to its enforcement has been successful.
Form the point of view of working capital finance by the bank, certain special types of credit
such as open credit system and key-loan system are typically secured by pledges. This from
of lending security is applied to move able property of the corporate borrower.

Hypothecation

         A hypothecation of tangible goods is also a favorite method of securing advanced
from banks. A hypothecation is a mortgage of movables, unlike a pledge, there is no
possession, and there is “constructive possession.” Both in a pledge and hypothecation,
legal possession is given but, in a pledge there terms of the hypothecation, the floating
charge of the creditor is crystallized and enforcement is resorted to. Once the charge
crystallizes or a Receiver is appointed by the creditor the right to deal with the hypothecated
property is severely restricted and regulated through the court action or the Receiver
appointed.

Pledge of Shares

         Shares are regarded as movable property/ goods and, in fact, are also covered by
the Sale of Goods, Act, 1930. Having regard to some special modes of transfer for shares
described in the Companies Act, a pledge can be created only with delivery of the share
certificates and blank transfer deeds executed in the Statutory from duly signed and
stamped by the transferor. Such pledge of shares is recognised as valid security over
personal property of shares. The enforcement over a pledge of shares transfers the property
in the shares.

Guarantees

        The law relating to guarantees is contained in the Indian Contract Act, 1872.
Guarantees are usually sought by banks when dealing with partnership firms or private
companies. Financial institutions also require corporate or other guarantees in certain cases,
including cases where security cannot be created, as assets have not come into existence or
the final security cannot be validly created. The law of contract recognizes that a guarantee
constitutes a separate cause of action and, is actionable at the instance of the beneficiary
even without commencement of proceedings against the principal debtor. Moreover, as the
guarantee grants a separate cause of action to the beneficiary, it can form the basis and
subject matter of a separate proceeding for recovery. Depending upon the manner in which
the guarantee is worded, the guarantor would not be discharged even in the case of winding
up or insolvency of the corporate borrower as principal debtor or other similar circumstances.
There are special rules regarding principal debtor or other similar circumstances. There are
special rules relate to the waiver by or discharge of the guarantor in the event of the creditor
and the principal debtor agreeing to any variations without the consent of the surety. These
26


statutory provisions are subject to contract to the contrary. Inadequacy of particulars of the
assets and net worth of individual guarantors is a major deficiency in successful enforcement
of guarantees, particularly since decrees against guarantors even if obtained cannot be
easily executed in the absence of corporate asset information about the guarantor. In case
of inter bank guarantee or to a financial institution in respect of the performance of obligation
by a borrower, Indian courts have strictly enforced their performance and excused their
implementation only in rare circumstances for fraud only. Bank guarantees are regarded
seriously by courts and, the guarantor is not easily discharged or excused.

Security in Respect of Hired Assets

        Hiring of assets, as a form of asset finance has manifested itself basically in the form
of equipment leases and hire purchase contracts, both being forms of bailment. Despite stiff
levies of sales tax, and recently, even on stamp duty for leases of movable property, these
instrument remains popular particularly since it provides almost the entire finance for the
asset. Subject to furnishing of security deposit or margin payments The Hire Purchase Act,
1972 was enacted, but an account of vociferous objection by the ‘transport lobby’ and others
is not notified till date, (though there are indication that the same may be brought into effect
shortly). The law relating to hire purchase and equipment leases continues to be a branch of
law of bailment, (part of the law of contract). There are obvious practical problems in
recovery of lease rentals and for resuming possession of leased property in the event of the
transaction becoming a default case. Except assets such as motor vehicles or other stand-
alone items like computers, typewriters, etc., industrial equipment leases in relation to plant
and machinery or other such items are most problematic for recovery of physical possession
as are inextricably linked with the rest of the factory, and frequently also are special purpose
assets, not easily saleable nor reusable by other lessees or hires.

      There is scope for special legislation in respect of the law governing hire purchase
and equipment leases particularly in order to provide recovery and enforcement.

       There are also nagging doubts in relation to the enforceability of covenants
concerning payment of lease rentals during the “non-cancelable” or fixed period of the lease/
hire purchase, contract requiring such payment regardless of prior termination by reason of
breach or default or otherwise.

        With flourishing hire purchase and leasing finance activity, leasing and hire purchase
companies themselves are significant borrowers from banks and financial institutions. The
nature of security which can be given by a leasing company (a borrower to the bank/
financial institution) has several problems attached to it. Whilst the leasing company is the
legal owner of the asset, it does not have possession and the asset is subject to the terms of
the hire purchase/lease agreement and therefore to rights of “third parties” (possessory
rights. The leasing company has documented covenants regarding actual control in respect
of the location of the assets but since the asset is moveable it may frequently be mobile on a
continuing basis without adequate reporting to the Lessor. Security for the Lenders of the
Lessor Company in respect of such transactions have usually been structured as a
hypothecation of the underlying tangible assets owned by the leasing company (subject to
the lease/hire purchase agreement), together with a separate hypothecation of the
receivables on the lease/ hire purchase contracts, such security may either be taken by the
bank directly or by trustees acting on behalf of the bank or the lenders particularly as this
offers some advantage in relation to stamp duty in some state. The enforceability and
recoverability of the bank’s advances from such assets, and the two fold security on the
underlying assets and the receivables, has not adequately tested and there are no major
judicial pronouncement and a number of practical problems could arise. In the recent
securities scam, a few prominent leasing and financial services companies have become
insolvent and their various properties attached” under special legislation’s introduced on that
                                                                                                27


behalf as they had traded in securities with notified persons. The effect of the transactions of
security between the lender and the lessees/ hirers, are pending consideration and judicial
determination in recovers proceedings where a number of highly complex legal issues are to
be determined.

Trust Receipts

        Trust receipts are executed by customers when they take delivery of the bill of lading
or goods from the bank before payment of the amounts due. The customer than holds the
goods or trust proceeds in trust for the bank and if the customer fails to deliver the goods or
sale proceeds to the bank, then the becomes liable to the bank for criminal breach of trust.
Trust receipts offer criminal remedies in case of a breach of trust and can be very effective.
In practice, however, financial institutions by the very nature of their term finance, rarely use
this form of security, though commercial banks are know to employ this security in some
transactions. These are enforceable securities.

Ship Mortgage

         A ship mortgage is required to be registered under the Merchant Shipping Act, 1958
in a statutory form. The mere fact of the mortgage does not by itself confer the power to sell
without court’s intervention; but the statutory form is limited in scope and inflexible in practice.
Therefore a deed of covenant or a collateral agreement is also executed conferring various
rights. Moreover, under the Merchant Shipping Act, in addition to the permissions required at
the stage of creating a mortgage from the Indian Shipping Registry/ Central Government,
fresh approvals of the Central Government are also necessary at the stage of enforcement
for charging the Register of Shipping. This is a major deterrent in accepting ship mortgages
having rights in accordance with international practice where ship financiers deal with
standard Gibraltar type mortgages and nothing less. In a recovery action an admiralty court
judgement operates as a judgement in “rem” and the transfer of title in the ship takes place
free of encumbrances and liens, (but in exercise of the right of private sale). Several
institutions like IFC (W) ICICI and the Development Bank of Singapore etc. hold shipping
mortgages over Indian registered ships.

       (c)     There is a detailed system of registration and stamp duty in this country
               for any of three types of security taken by financiers:

Stamp Duty

        Under the Constitution of India, the power to legislate relation to stamp duty is
distributed between the Union and the State Governments. Stamp duties other than duties or
fees collected by means of judicial stamps, but not including rates of stamp duty, are in the
Concurrent list (i.e. on which both the Union and the State can legislate). The rates of stamp
duty in respect of “bills of exchange cheques, promissory notes, and other like instruments
are exclusively in the Union list. Fixation of Rates of duty in respect of documents other than
those specified in the provisions of List I, are within the competence of the State Legislature
“Stamp duties other than duties or fees collected by means of judicial stamps but not
including rates of Stamp duties are matters of Common legislature powers of the Union &
the States in the Concurrent list. The Indian Stamp Act, 1899 is the Central Legislation,
which applies all over India, and on certain types of documents, with local amendments.
Each state has also enacted its own laws. The taxable event or subject is the execution of
the ‘instrument’ and not the transaction. There is no residual entry, in any of this legislation
and therefore a document for which no rate of duty is prescribed is not stampable.
Documents Stampable under Indian Law executed outside the territory of India become
liable to stamp duty upon their entry into the State. Differential duty is payable in States
which prescribe a higher rate of duty than the one applicable in the State execution.
28


Consequences of inadequate stamping include inadmissibility in evidence, impounding of
the document, liability to duty, penalty (upto 10 time the correct duty) and possible
prosecution.

         Legal innovativeness has unfortunately had to be deployed in order to side step
these unreasonable levies based on short-sighted policies. The impact of such duties in
restricting development by choking financial transactions, and movement of capital has been
underestimated.

        The Indian Registration Act, 1908 provides both for compulsory and optional
registration. Compulsory registration operates as public notice. Compulsory registration
essentially pertains to interests in immovable properties and documents which are
compulsorily registrable, which if not so registered do not affect rights in the immovable
property and are inoperative. The Registration Act concerns documents and not the
transaction. The Indian Registration Act concerns registration of a document and not the
transaction. The Indian Registration Act does not deal with registration of company charges
which is dealt with under the Companies Act. The Registration Act provides for a method of
public registration of documents so as to inform the public regarding legal rights and
obligations arising and affecting particular properties and to perpetuate documents which
may afterwards be of legal importance, and also to prevent fraud. Stamp laws by contrast
are purely fiscal enactments, where as the Registration Act has a number of additional
objectives such as conservation of evidence assurance of title, publicity documents, and
preventing fraud. The Registration Act operates in close proximity to the sphere governed by
the Transfer of Property Act and Stamp Act, particularly since the Registration administration
is authorized to impound inadequately stamped documents.

        The Companies Act, which has also prescribed filing particulars of a company charge
proceed on the doctrine of notice, as such charges are subject to public inspection, and
constitute proof of creation of the charge against the Official Liquidator or receiver.

       In so far as “charge” or security interests” created properly believed to be movable,
but in fact immovable in nature, non-registration of documents can be fatal to the
enforceability of the security transactions. Certain provisions of the General Clauses Act,
1963, also contain important definitional matters relating to description of “movable” and
immovable “ properties and to that extent need to be read with these legislations.

        If so far as transaction relating to lending by bank and financial institutions are
concerned, the compulsorily registrable nature of certain types of mortgages and creation of
security interests, is relevant. Moreover, priorities of different mortgagees and security,
interest are also regulated by the Act, based on registrability and time of registration.

       The registration procedures are archaic and lately computerization and microfilming
and other mechanized mode of information storage are being implemented.

       The rates of interest are regulated by money lending laws and laws of usury.
Requirement to register as a moneylender in each state is quite normal and can affect the
enforceability of a transaction.
(a)    The information in relation to the nature of security over the assets of a corporate
       borrower have been explained above.

       In addition, in relation to a debenture, the procedures in India contemplate that a
debenture can be secured by a charge over immovable property created by either a legal
mortgage or an equitable mortgage by deposit of title deeds. A debenture trust deed is
executed which specifies the manner in which the agent and trustee acts on behalf of all the
beneficiaries or holders of the debentures, convenes meetings of debentures holders and
                                                                                               29


institutes legal proceedings on behalf of all the debenture holders. The right to institute legal
proceedings is available to the debenture trustee and not to individual debenture holders. As
a trustee the debenture holder is obligated by law to take action. The Securities Exchange
Board of India has also prepared rules and regulations for registration of a debenture trustee
and for its duties, obligations and a code of conduct. Any breach of such obligations may
result in a cancellation of the certificate to carry on the activity as a debenture trustee. It is
only a registered debenture trustee, who can accept the role of an agent and trustee for
debenture holders in relation to a publicly offered debenture.

        Lenders in India are also known to avail of liens by way of negative liens where
undertakings not to perform certain acts or dispose of shareholding or create a security in
relation to some of the licenses and approvals or authorities are awarded. Statutory licenses
are not transferable and only a negative lien can, therefore, be taken by way of an
undertaking. These forms are also common in India and are employed by financiers.

        Under the Transfer of Property Act the priority of charges are determined by either
the suit where the mortgage is instituted or the company court where the claims are to be
adjudicated.

        A senior charge and a junior charge receive priority in accordance with the nature of
the charge, the date of creation of the charge, the ceiling of charges, the upgradation of
charges, etc. These are regulated by the terms of the charge and the registration of filings
thereof.

C3.    Enforcement of Securities

       (a)     When a corporate borrower is in financial difficulties and a secured debt
               has become due, would it be usual or customary for a secured lender
               and/or the corporate borrower to attempt to negotiate a suitable
               arrangement for repayment and/or refinancing before the secured
               lender invokes legal enforcement methods?

a)     When a corporate borrower is in financial difficulty and a secured debt has become
       due, the secured creditor through its monitoring division normally invites the
       corporate borrower to propose a mode by which the accounts can be regularized and
       the delays in payment, or non-performance of the contractual obligations in relation
       to the financing agreements or the security documents in relation to the security are
       performed or regularized.

       This would result in a novation of the schedule of payments or some of the terms and
       conditions of the financing agreements or the security agreements. It is also likely
       that the interest could be funded as a funded debt with a zero coupon rate,
       compound interest waived, penal interest waived and rescheduling of principle and
       interest done in a rearranged financing agreement.

       Refinancing of secured lenders occurs only when one of the secured lenders in a
       consortium does not agree to continue with the lending and seeks to move out of the
       consortium. Refinancing, is rarely done by the same set of lenders unless there is an
       enhanced facility or an augmented project which is being done by way of balancing
       equipment being added or a new unit being added to achieve technical parameters.

       In cases which are covered by Schedule I of the Industries Development and
       Regulation Act, 1951, the Board of Industrial and Financial Reconstruction appoints
       an operating agency from one of the public financial institutions or the senior
       nationalized banks, to prepare a scheme of novation or arrangement whereby the
30


       banks could reschedule their debt or refinance the corporate borrower instead of
       enforcing their charges or liquidating the company.

       The normal recovery procedures are available under the Code of Civil Procedure for
       enforcement of the contractual rights under a mortgage, hypothecation, pledge, lien,
       debenture trust deed etc. For certain notified banks and financial institutions, the
       Recovery of Debts Due to Banks and Financial Institutions Act of 1993 is a summary
       remedy available. There are public money recovery acts or State Financial
       Corporation Acts which are recoursed by the State Financial Corporations and banks
       for summary procedures for recovery of money claims secured by the corporate
       borrower.

       (b)     What mechanisms are available to security holders to enforce their
               securities under the legal system of this economy (For example, power
               to take possession of the property, power to appoint a receiver, power
               to foreclose on a mortgage, power to sell the secured property, power to
               wind up the corporate borrower)?

       (c)     Do these methods include that a secured creditor may ‘self-enforce’ the
               security (ie, without the need for an order of a court or the consent of a
               regulatory authority)?

       (d)     In practice, which method(s) of enforcement are most commonly
               employed by security holders?

       (e)     Briefly describe the process involved in these method(s).

b)     The various remedies available to security holders to enforce their securities under
       the law of this country are:

               1.     Private Sale

        The right of private sale though a very limited remedy, is conferred on the mortgagee
under certain circumstances mentioned in Section 69 of the Transfer of Property Act. The
remedy is unavailable if any of the parties is a Hindu, Mohammedan or Buddhist or a
member of any other race of a prescribed tribe. Further, the mortgaged property should be in
a notified area and it is necessary for the mortgage deed to confer a power of sale. In any
case, a notice to recall or demand of the outstanding is required. A mandatory statutory
notice period of three months has also to expire before the power can be validly exercised.
These procedures are usually set out in the documents of loan and security executed
between the borrower and the power should usually be exercised with care so as to obviate
any subsequent challenge on the grounds that the creditor did not act with care, or in breach
of the law.

        The procedure for the sale of realisation would involve and advertising for or inviting
purchase bids in case of sale by public auction or may be conducted by private treaty if a
suitable buyer is located. In the case of movable properties, the mortgagee creditor will give
delivery of the property and pass title to the same extent that the mortgagor could do in
exercise of such a power of sale. The same is usually adequate for conferring the ownership
on the purchaser. In so far as the sale of immovable properties in exercise of a right of
private sale is concerned, it would be necessary for the mortgagee to execute a conveyance/
deed of indenture duly stamped/ registered for transferring title. The mortgagee will give only
such covenant in relation to title as the mortgagee can give including, in respect of
mortgagee’s actions in the meanwhile.
                                                                                                31


        The danger in exercise of this power is that the Defendant could challenge the right
of sale on the ground that the same was improperly exercised and can further claim
damages. Moreover, from a purchasers’ point of view any Court sale in a mortgage action
offers, (at least as a matter of perception), more certainty as to title and therefore also
fetches the seller (mortgagee) a better price too.

               2.      Private Receiver

        Section 69A of the Transfer of Property Act confers the power of appointing of a
private receiver in an English mortgage. The person who is to be appointed as Receiver
must be named in the mortgage deed, or an appointed as Receiver must be named in the
mortgage deed, or an application needs to be made to the Court for such appointment. the
powers of a private receiver are limited to receiving income of the mortgaged property
generally or in part thereof. A private receiver being an agent of the mortgagor as such, the
mortgagor is liable for the receivers’ acts and defaults, unlike in the case of a court receiver
who, being an official of the Court, is not an agent of any of the parties. Nonetheless, the
private receiver is technically accountable to the mortgagee rather then mortgagor. His
powers are very limited and he is considerably disadvantaged by not being in a position to
exercise wide powers conferred on a Court Receiver as prescribed under Order 40, Rule 1
of the CPC.

        In the case of smaller loans and agricultural loans appointment of a private receiver
can be subject to major impediments. There are also additional practical difficulties in the
appointment of a private receiver and sale of the security. Diverse practical enforcement
problems exist and generally, the experience has been that despite the power conferred by
the mortgage documentation, it is difficult in practice to appoint a receiver or sell the security
without the Court’s intervention. In bank lending, this is largely due to the manner in which
these powers are implemented in practice rather than the problem with the legislation itself.
One of the controversies which persists is whether the private receiver can sell without court
intervention, the property hypothecated, to the mortgagee, if a specific power in that behalf is
conferred. There is a division of opinion on this score, since there may be inadequate
publicity and inadequate choice of purchasers.

        At any rate, care thus has to be taken whilst drafting the mortgage, hypothecation,
debenture trust to ensure reservation in favour of banks and financial institutions, the right to
appoint receivers who may, among other things, be empowered to dispose of the security
realizing the dues.

         In Indian conditions, lenders themselves appear to be reluctant to resort to their
power to take possession of their collateral without court intervention. In practice, some of
the difficulties “perceived” by the lenders with reference to a private receiver are as follows:
a.       lack of availability of persons to act as private receivers and fixing their remuneration,
b.       even those which are available are inexperienced,
c.       employee abuse, violence and harassment by labour
d.       possibility of court actions against the lender by defendants contending that the
         private receiver has acted in excess of authority.
e.       reluctance of law enforcement agencies such as the police to readily assist the
         private receivers in controlling unruly behaviour of taking possession. (Police
         authorities readily assist court appointed receiver)
f.       high fee of the receiver.
g.       other co-lenders who may approach a court may obtain a court receiver, who would
         then immediately displace the private receiver.

       On the other hand a Court Receiver has the advantage of:
a.     Court protection and backing
32


b.     the appointment is respected by the Borrower and its employees as also by third
       parties.
c.     the Court Receiver is an effective tool of a secured creditor when it seeks the
       appointment of Receiver, who will hold to the exclusion of official liquidator and
       remain outside the winding-up.
d.     greater ability of the Court Receiver to seek police help
e.     interference with the possession of a Court Receiver would be construed as
       interference with the possession of the courts since the property is custodian legis.
f.     availability of existing institutions such as the Court Receiver attached to the Bombay
       High Court with experienced staff (unlike in the case of private receiver)

        The Recovery of Debts due to Banks and Financial Institutions Act disappoints in as
much as it does not even provide for the appointment of a receiver, nor is there any
arrangement for preservation and realisation of the property. There is clearly a need for a
provision in the legislation or, for the separate flotation of a corporation, conferring
specialized receivership services, (much on the lines in Western countries). If such a body is
state sponsored, its shareholding would probably be held by the financial institutions. In such
a case conflict of interest would arise since, these institutions and banks would have cases
pending with such bodies.

        To sum up, a constructive and realistic re-look at the system of private receivers
without intervention of courts is required, which needs some additional strengthening. It
would, however, be a fair comment to state that the problems are as much a result of
defective implementation as due to archaic legislation.

               3.      Sale by Pledge

        A sale by a pledgee is possible only in respect of personal property. Typically, the
pledge is in respect of tangible movable such as finished/semi-finished goods, shares and
securities or items of machinery. The pledgee under Indian law has actual possession and
not merely constructive possession as is in the case of a hypothecation. This right of the
pledgee to sell the pledged security is reasonable effective in Indian conditions particularly in
relation to the pledge of securities or goods which are otherwise easily disposable by sale.
Under the Indian Contract Act, a notice by the pledgee to pledger of the intention to sell is
mandatory, without which the can be declared invalid.

               4.      Special remedies for certain specific creditors
                       a)    State Financial Corporation Act, 1951 (SFC Act)

        State Financial Corporation (“SFC”) have certain special remedies in case their
borrower (being an industrial concern) is in default in repayment of any loan, advanced or
guarantee. Accordingly, the SFC shall have the right to take over the management or
possession of the concern including the right to transfer the secured property by the lease or
sale. This power is exercisable without the intervention of the Court. Under Section 31 of the
SFC Act, if the borrower (an industrial concern) or a guarantor are in default in respect of
any payment obligation towards the SFC then it can apply to the Court for an order for the
sale of the secured property, and for enforcement of the liability of any surety, for transfer of
management of the concern to the SFC and also for injunctive reliefs restraining the concern
from transferring or removing the plant and machinery. Section 32 of the SFC Act which has
to be read conjuctively with Section 31 there of provides for a summary mode of trial with a
show cause notice procedure being followed and also a hearing. The court is empowered to
aggregate and adjudicate upon the claim in accordance with the provisions of the Civil
Procedure Code. After investigation, the Court may pass appropriate orders the legal effect
of proceedings under Sections 31/32 of the SFC Act has been construed by the Supreme
Court as constituting proceedings for speedy summary recovery but are not suit proceedings.
                                                                                               33


Accordingly, the power of a court when deciding cases under Section 31/32 of the SFC Act
cannot be extended for conferring reliefs in favour of other co-lenders, as can be done in a
mortgage suit. A separate suit by pari passu lenders requires to be instituted.

                       b)      The Industrial Reconstruction Bank of India Act, 1984
                               (now renamed as Industrial Investment Bank of India)

       The IRBI (Now IIBI) which set up under the IRBI Act (now IIBI Act) with a view to
enable it to function as a principal credit and reconstruction agency for industrial revival, has
been conferred certain special powers. These special powers include the following:
i)     Creation of a “declaratory charge’ by operation of law (Section 37 of the IRBI Act;
ii)    Power to take over the management or possession of the industrial concern and to
       transfer the same by way of lease or sale of the property secured (similar to Section
       28 of the SFC Act);
iii)   Enforcement of claims by approaching a court under a special petition (section 40
       being similar to Sections 31 and 32 of the SFC Act),

                       c)      Nominee Directors

        Some special powers are also conferred on some institutions including powers to
appoint nominee directors, on the board of the borrower companies. Statutory DFI’s such as
IDBI, IRBI (now IIBI) are conferred such powers by law, whereas other non-statutory DLF’s
like ICICI, exercise this power as a matter of contract.

       A secured creditor does not normally participate in a winding up. Under the rules of
insolvency it has three rights:
1.     A secured creditor can remain outside winding up.
2.     A secured creditor can relinquish its security and participate in the winding up; or
3.     A secured creditor may value its security and offer the official liquidator to make
       payment for such valued security before placing the same in the hotch-pot and the
       secured creditor can then prove for the residue as an unsecured creditor in winding
       up.

        It is only such a secured creditor which does not have a valid security or is short of
security, which attempts a winding up of a corporate borrower.

       Winding up as an option rarely resorted to by a secured creditor as it normally prefers
to remain outside winding up.

       Under Indian law and the Companies Act, workers statutory charge has also been
created whereby the unpaid wages in arrears, also receive a prorated payment along with
secured creditors. They statutorily participate in the security to the extent of unpaid wages till
the date of winding up when they are discharged by operation of law. The official liquidator
represents their interest in any security claim.

       Presently there are moves a foot in India whereby fixed deposit holders and inter-
corporate deposit holder where companies have raised deposits from the public, are to
receive a statutory charge upto 15% of the receivables. The C.M. Vasudev Committee
Report has made this recommendation to the Reserve Bank of India but no rules or law has
yet been formulated for this purpose.

         The procedure for recovery of monies through an ordinary civil suit or a mortgage suit
is the institution of a plant with documentary evidence of the nature of the mortgage and the
notice issued and the total statement of account duly certified is filed in the court of original
jurisdiction or before the Debt Recovery Tribunal for notified banks and financial institutions.
34


         Upon written statement being filed the amount is adjudicated. As interim measures in
a civil suit a court receiver can take possession of the property so that the promoters or the
Board can no longer interfere with the corporate properties and security of the secured
lenders. In summary proceedings where the debt is attempted or where no advance is
permitted to be filed or no leave to file a written statement is granted, a decree can be drawn
up for the amount and execution proceedings can commence.

       In execution the assets against which the execution has to take place have to be
ascertained. Where the security is enumerated in the mortgage this is comparatively easy
but in those cases where the security is indeterminate or is a floating charge, the
ascertainment of such security by a Commissioner or a receiver is required. In an unsecured
claim which results in a money decree or an executable judgement, the judgement debtor is
required to file a statement of assets against which the execution can proceed. Injunctions
and attachments before judgement are also quite common under ordinary civil law.

C4.     Effectiveness of Judicial System

        (a)     How effective is the judicial or court system for the purpose of
                enforcing secured property rights?

       The procedure under the judicial or Court system for the enforcing of security and
recovery of debts is reflected in the filing of the recovery suits. The procedure is as follows:

Suit Procedure

        Suit of a civil nature are filed in Civil Courts. Suits are required to be filed in the court
having territorial and pecuniary jurisdiction over the subject matter in accordance with
established legal principles. Filing of suits entails the presentation of a plaint, in accordance
with the forms generally prescribed under the code of Civil Procedure, 1908. The plaint is
required to set out names, description and addresses of the parties, facts constituting the
cause of action, facts showing that the court has Jurisdiction, reliefs sought and a statement
of the value of the subject matter of the suit for the purpose of Jurisdiction and court fees. In
actual practice may more details and facts are set out.

      Before commencement of an action by way of a suit for recovery, it is usual to issue
a demand notice recalling/ demanding outstanding amounts.

         Upon institution of the suit by filing the plaint and compliance with procedural
requirements in the court’s registry, summons are issued to the defendant to answers the
plaint. In the case of summary suit, the form of the summons is different. The defendant is
required to submit his defense in the form of a written statement before the returnable date
of summons, complete discovery of documents including the process of inspection of
documents Leave to defend is required to be granted in a summary proceeding. The law of
discovery of documents including the process of inspection of documents. The laws of
discovery are not as wide ranging as those in the Western Countries.

      At the time of trial, the issues are framed, evidence recorded (oral and documentary)
and usually, extensive verbal arguments are advanced. The Court would then record it s
judgements accepting or rejecting the case of the plaintiffs.

Summary Suits

       The summary procedure is prescribed under order 37 of the Civil Procedure Code,
(CPC) for certain types of commercial actions. The summary procedure relates to recovery
of dues on negotiable instruments, deeds (other then penalties) liquidated demands, arising
                                                                                              35


on a written contract or under an enactment, and enforcement of guarantees (guarantee
sums) on such debts and liquidated damages. Order 37 applies to all High Courts and City
Civil Courts (including District Courts) the summary procedure is not applicable to suits
involving the enforcement of a security and are applicable to a money suit or claim only.
Mortgage suits continue to be governed by Order 34 of the CPC. Accordingly, Order 37 has
very limited utility to banks and financial institutions which have security and it is generally
invoked only in respect of suits on guarantees or promissory notes. In a summary suit,
(similar to provision s of Order 14 of U. K. Supreme Court practice) the right of the defendant
to defend a suit is not automatic. The plaintiff is required to issue a ‘summons for judgement”
within a prescribed time frame. In reply thereto, the defendant may file an affidavit setting out
reasons why the suit should be permitted to be defended.

        It is only if the court comes to the conclusion that, “triable issues” arise or that the
defendant has a real and substantial defense that leave to defend is granted. Usually, such
leave is refused or conditional leave to defend is granted with the condition being that the
defendant is required to deposit a sizeable amount of the claim in court as a condition of
being permitted to defend the action. In some cases, even unconditional leave to defend is
granted if the defendant has cogent case. Summary suits generally operate on a faster time
table than regular suit proceedings.

Suit for Enforcement of Security

        Suits involving enforcement of security (whether on personal property or real property)
form part of composite actions for recovery of the debts and for the enforcement of the
security. The plaint would also contain suitable submissions and reliefs pertaining to the
security. For mortgage suits, there are statutorily prescribed form in which a preliminary
mortgage decree is to be passed, fixing a period of redemption during which the defendant
may redeem the mortgage. If not, a final mortgage decree would be passed extinguishing
the equity of redemption. The reliefs sought in the suit would include those for enforcement
of the mortgage, interlocutory reliefs (which would include appointment of a receiver, grant of
an injunction against alienation of assets, attachment of receiver, grant of an injunction
against alienation of assets, attachment before judgement, etc. In a mortgage suit, even if
other pari passu lenders are not co-plaintiffs, they may be joined as formal defendants as the
court has the power to ascertain and declare the correct amounts due in favour of each party
who have an interest in the limitation for that party as a defendant, even though he can
obtain a declaration. Suitable reliefs are therefore sought. It is also the practice, to seek
interlocutory relief such as the appointment of court receiver, attachment before judgement
of properties and even injunctive reliefs.

        These suits get blocked by the ingenious and often fraudulent defences propagated
with substantial degree of success by the borrowers and their lawyers. The typical defences
are as follows:

Typical Defences

       Typical defences in suits filed by banks/ financial institutions include

i)     objections to jurisdiction on territorial or pecuniary grounds or inadequate payment of
       court fee.
ii)    a bar of limitation,
iii)   disputing the authority, of competence of official declaring the plaint.
iv)    improper computation of the statement of claim including application of incorrect
       interest rates (as periodic revisions of interest merely notified by the bank not having
       been approved bilaterally),
36


v)       documents being incomplete by reason of defective execution or inadequate
         particulars and therefore being unenforceable.
vi)      security being invalid or unenforceable by reasons of inadequate stamping and for
         want of registration,
viii)    improper from of security for e.g. security by way of hypothecation over what is in
         reality immovable property.
viii)    official liquidator impeaching the security on the ground that the charge is not
         registered in accordance with company law,
ix)      want of statutory approvals required for creation of security e.g. ULCRA permission,
         approval under Income Tax, 1961 approval under Foreign Exchange Regulation Act,
         1973 (where the lender is a non-resident),
x)       bank having lost or parted with the security (bank’s liability for negligence) and
         therefore a counter claim by the defendant against the Plaintiffs.
xi)      lender having been responsible for the sickness (or poor financial condition) of the
         borrower by reason of their the bank having committed various breaches of promise
         to lend or by virtue of excessive interference in the affairs of the bank or choking of
         working capital facilities leading to disruption of business and therefore causing
         losses.
xii)     surety claiming discharge, by material alteration in the guarantee or in direct
         negotiations by the bank with the principal debtor without the consent of surety.
xiii)    surety claiming to be discharged by reasons of nationalization or Takeover of the
         principal debtor,
xiv)     invocation of provisions of the SICA or Relief undertaking statutes in diverse states,
         which result in suspension of some aspects of the recovery action and execution, for
         a duration of time.
xv)      interest being questioned as being usurious.
xvi)     exchange fluctuations being questioned as incorrect, and based on unfavourable.
xvii)    liquidator questioning the rate of interest on the ground that it is penal ,
xviii)   the scope and extent of the charge being questioned by other co-shares or banks
         and financial institutions questioning their respective securities.
         The effectiveness of the suits is severely dented by the time frame involved.

Time Frame

         Generally, the time frame with respect to suits is similar in most Courts, though it is
possible that typical milestones in a litigation may differ from court to court. A trial in the first
instance usually takes 8 to 12 years to come up for hearing for the first time from the date of
institution of the suit in most Courts. Presently, in the Bombay High Court the delay period
for the first trial is about 12–15 years. Thereafter, an appeal is filed before a Division Bench
of two judges of the High Court, a further period of 2 to 3 years at least is involved. If an
appeal is filed before the Supreme Court thereafter (which is usually done if stakes are high),
an additional delay of 10 to 12 years is clearly possible so that a delay of about 25 years
from the date of original institution of a suit till final determination is usual. There are
exceptions and sometimes, suits are expedited for earlier hearing where a question of public
importance is involved. On the other hand a further slippage of the above time table is
possible and a suit may well take around 30 years to be ultimately disposed off by the
Supreme Court.

        In certain commercial cities such as Bombay, the position regarding suit filed by
banks and financial institutions is slightly better, and not as depressing, under Chapter XV of
the Bombay High Court Rules”, commercial causes” are treated as a separate class of suits.
Commercial causes, include causes arising out of ordinary transactions of merchants,
bankers and traders whether of a simple or complicated nature” and include amongst others,
“banking transactions”. There is a separate trial list of commercial causes and, one judge is
specially assigned to hear such cases. The court, may be in respect of such cases, and for
                                                                                             37


the speedy determination of such suits also the time-table is somewhat faster. However, this
kind of special treatment to commercial causes is not available in all courts.

Preservation of Security, Costs and Interest

         At present, there is no reasonable ratio between the sum to be actually recovered
and the cost incurred therefor. In smaller actions, costs for recovery may sometimes be
higher than the amount recovered. Irrespective of recovery, costs will have to be incurred. In
certain suits, the court fees/ incident fees are higher than 8% of the claim without a ceiling
limit, while in others they are fixed amounts usually in the range of about Rs. 15,000–20,000.
In the Union Territory of Delhi, the prescribed rate of Court fees is 1% of the claim ad
valorem without a ceiling. This is in addition to all other litigation expenses towards
preservation and realisation of security such as employment of security guards, supervision,
repairs, etc. Since the appointment of the receiver will extend over a number of years, these
expenses will be considerable, though unavoidable. Fortunately, these can be recovered as
a first charge from the sale proceeds. On an average, these costs work out to about 15% of
the claim. The indirect losses include losses due to delay leading to substantial, loss of
interest amounts, particularly as the bank is not normally awarded interest on interest after
the date of the suit (pendentelite interest may not be awarded by a contract rates). Though
the CPC was amended to permit the awarding of commercial rate of interest, nonetheless,
the cost of delay always works to the detriment of the lender and to the benefit of the debtor.
Moreover, despite the amendment of the CPC many courts continue to award interest only
at the rate of 6% or thereabouts per annum from the date of the suit. Lawyers’ expenses can
also considerable.

Execution

       General Principles of Execution and Problems

         Even after a decree is passed, the process of execution and realisation of the
decretal amount can be cumbersome and time-consuming. Modes of execution include
interalia attachment and sale (the actual mode of sale depending upon the type of property)
distrait of movable assets, arrest of the defendants, etc. Order 21 of the CPC, provides a
variety of options and an exhaustive of rules concerning execution. The general procedure
for execution involves the filing of an application for execution which sets out the particulars
of the suit and of the decree, the mode of execution as well as the property/ person with
reference to the which execution is sought.

        Difficulty in finding a suitable buyer who will pay a price adequate to cover the decree
holder’s dues, is often a major problem. The delay from the time of institution of the suit till
the actual realisation and the enhancement of the costs in the meantime as a result of
expenses of preservation of the security is prejudicial. Industrial assets are usually in a
dilapidated condition by the time the decree is executed. Plaintiff lenders seek the leave of
the Court to empower the court Receiver with the power of sale over the charged
property/security. Other difficulties in the execution process include pendency or winding up
proceedings or revival proceedings before the BIFR or other similar actions which statutorily
bar execution during the term of operation of these provisions. Also, the obstruction to sale
and execution by the labour force and workmen, intervening priorities of Governmental
authorities for tax dues, inefficient auction or sale processes resulting in low recovery,
charging of unearned premium/ income by lessors/ Governmental authorities, are important
delaying factors.

       After a decree has been obtained by the lender in his favour, steps are required for
execution and recovery of the bank dues. Lack of follow up in the matter of execution of the
decree can jeopardize the decree holder’s interest. Time limits are prescribed which can be
38


extended by an order of the court) for commencing of such execution proceedings. Even if
an appeal is filed by the judgement date, the decree holder should nevertheless proceed to
apply for execution notwithstanding the pendency of such appeal unless a stay is granted in
the interim. Fortunately, the Appellate court usually directs the judgement debtor to make a
deposit of the money in the Court as a condition precedent to stay of execution proceedings.

        Insolvency of the individual corporate borrower or the commencement of liquidation
of a corporate borrower have a profound effect on the lender’s recovery suit even if it relates
to enforcement of security. In cases of companies, all suits by and against the company
automatically stand stayed and can be resumed only after obtaining leave of the company
court under Section 446 of the Companies Act, 1956. The Company court can transfer a suit
or proceeding to itself (except it is an appeal). Whilst there is enough judicial precedent that
a secured creditor essentially stands outside the winding up and hence must be given leave
automatically and as a matter of course, there is considerable delay (sometimes one or two
years) in the obtaining of such leave or the leave is granted on a conditional basis only. If the
winding up court is in a different State, the delay is even longer. Moreover, the Court, as
condition of granting such leave, the Company Court dealing with the company insolvency
frequently directs that the suit proceedings of the secured creditor, wherever filed, should be
transferred into the winding up court for decision. This entails considerable delay in the
process of transfer of the suit proceeding and also virtually makes the secured creditor
become a part of the winding up proceedings. In the wider sense, such consequences are
clearly avoidable. The correctness of such directions being passed by winding up courts is
presently under challenge in the Supreme Court at the instance of DFI’s. In so far as
recovery suit not based on security is concerned, they are simple money suits which would
probably not receive leave of the winding up court to continue outside the ken of winding up
proceedings but the creditor will be requested to prove his claim as an unsecured creditor in
winding up along with other unsecured creditors, by filing proof of claims before the Official
Liquidator.

       Whether a secured creditor can file winding up proceedings under the Indian Law?

        The question whether a secured creditor can petition for winding up in spite of having
full security was considered by the Calcutta High Court and it was held that a secured
creditor could do so/ however, the court would entertain the petition only if a case is made
out that the security would not be sufficient and hence to the extent of the shortfall the
secured creditor has locus to maintain a winding up action.

        On a winding up action is commenced, the transfer of shares or property, would be
subject to the test of fraudulent preference. The doctrine of relation back is also applied for
testing transfers made six months prior to the order for a admission of a winding up action.
Transfers of shares even on a pledge, if shares were not registered in the pledges name
would be void Employees and directors stand discharged from employment unless the
Official Liquidator seeks to employ them for future activities. The Official Liquidator can
conduct the business of the Company to benefit the unsecured creditors and realize better
value.

C5.    Effect of Insolvency Proceedings

       (a)     What effect, if any, does the commencement of insolvency proceedings
               in respect of the corporate borrower (ie where an application has been
               filed for some type of insolvency procedure but has not yet been
               adjudicated) have on the process of security enforcement?
                                                                                           39


       (b)    What effect, if any, does the formal pronouncement of an insolvency
              administration in respect of the corporate debtor have on the process of
              security enforcement?

       Section 529 of the Companies Act deals with the application of insolvency rules in
winding up of insolvent companies. This section applied to all kinds of winding up, and is
must be noted only to an insolvent company. Insolvency rules means the provisions of the
two insolvency Acts. As a combination these viz., the Presidency Towns Insolvency Acts and
the Provincial Towns Insolvency Act. Acts cover the whole of India and the rules of
insolvency as stated hereinabove are applied to Company winding up.

       The expression ‘winding up’ of an insolvency company is meant the winding up of the
company which is placed is liquidation on the basis that it is insolvent, that is to say it is
unable to pay its debts as and when they become payable.

       Thus it is clear that the formal pronouncement of admission of a winding up at in
respect of the corporate debtor, would lead to all application of the rules under the
Insolvency Acts. Restrictions shall be imposed on the transfer of the debtor’s assets, or the
ordinary procedure of security enforcement. The formal pronouncement of an insolvency
administration on will be akin to the adjudication of insolvency.

       The effect is described by Section 446 of the Companies Act.

        “When a winding up order has been made or the official liquidator has been
appointed as provisional liquidator, no suit or other legal proceeding shall be commenced, or
if pending at the date of winding up order shall be proceeded with, against the company,
except by leave the Court and subject to such terms as the court may impose’.

       As per Section 453 of the Companies Act.

        “A receiver shall not be appointed of assets of the hands of a liquidator except by or
with the leave of the Court.”
40


                               SECTION D      TRADING DEBTS


(a)    Is it usual in this economy for suppliers of goods or services to supply those
       goods or services to corporations on credit?

(b)    If so, what would be the average credit period of time?

(c)    Is it possible and/or usual in this economy for a supplier to require security
       over property of the corporation for the supply of goods or services?

(d)    If so, is the form of supply known as ‘retention of title’ practised and
       recognised in this economy and is it enforced?

        It is usual in India for suppliers of goods or services to supply such goods or service
to corporations on credit which may range from 90 days to 180 days (these are usual trade
terms). In recessionary times as are presently witnessed the trade credit stands enhanced to
240 days as customers are feeling difficulty in paying for the goods purchased since their
goods in which the goods supplied are inputs, are not being sold adequately. Under the
Indian Sale of Goods Act, a Vendors lien extends over such goods as remain identifiable
and are not merged with or utilized or exhausted in the customers goods. It is very rare that
a supplier of goods and services gets security over goods and services or other property for
the sale thereof. In exceptionally large transactions the debtor supplier may furnish a
security by way of a letter of credit or a revolving guarantee of a bank or some corporate
guarantee for payment.

         The retention of title principle as explained above is rarely used as upon delivery, the
possessory title is lost. In the case of hypothecation security or a floating charge banks
normally require the embossment of their name over the hypothecated property. A negative
lien is retained at times which prohibits the customer from disposing of or dealing with the
property for which full payment has not been made. Restrictions are also imposed upon the
creation of a charge over property delivered when payment has not been made on such
property. The right to recover over such unpaid goods has to be specifically stipulated by
contract. The local circumstances make it extremely difficult to recover possession of
delivered goods for unpaid price and consequently most suppliers insist upon advance
payments or post-dated cheques or letters of credit or other negotiable instruments. These
instruments are negotiated with banks and other Lenders who then, may receive
documentary title if documentary bills or letters of credit are exchanged. They will then have
a right of recovery over the goods if these are charged to the bank.
                                                                                                  41


          SECTION E       COLLECTION AND RECOVERY OF UNSECURED DEBT


E1.     Negotiations

        (a)     Where a corporate borrower is in financial difficulty and an unsecured
                debt has become due, would it be usual or customary for an unsecured
                creditor (particularly, a bank creditor) and/or the corporate borrower to
                attempt to negotiate some suitable arrangement for repayment of the
                debt before the creditor invokes legal recovery methods?

      The question E1 is the same question as question C3 and has already been
answered.

E2.     Enforcement

        (a)     What mechanisms are available under the legal system of this economy
                for unsecured creditors to collect debts owed to them by the corporate
                debtor?

        (b)     In practice, which method(s) of recovery of unsecured debts are most
                commonly employed by unsecured creditors of a corporate debtor?

        The unpaid creditor can institute an ordinary civil suit for a money claim against a
corporate debtor. If the unpaid debt is admitted by the corporate debtor then under the
provisions of Section 434 of the Companies Act, if the debt exceeds a sum of Rs.500/—a
winding up action can be instituted by issuing a winding up notice. Under such a notice the
corporate debtor has to pay up an admitted debt within 21 days and if it is unable to pay up
such debt, a Company Petition for winding up on the ground of inability to pay is available.

         If the claim of the unsecured creditor is small or insignificant in comparison to the
claim of the secured creditors, the company court directs scheduled payments to the
unsecured creditors after issuing notice to the company and ascertaining the position from
the company’s balance sheets of the nature and extent of the security and the particulars of
the secured creditors. The company court does not readily wind up companies unless there
is a persistent default of several creditors or the magnitude of unsecured debt is adequate
and of sufficient extent. The Company Court is slow to displace the worker’s interest and
cause the termination of employment consequential upon a winding up order. Once a civil
suit is instituted an ordinary civil action is initiated and a trial of the claim is commenced. If it
results in a judgement debt then the same procedure as is available for a secured creditors
execution is available for the execution of the judgement debt.

E3.     Effectiveness of Judicial System

        (a)     How effective is the judicial and court system for the purposes of debt
                collection?

        The recovery procedure for debt collection is slow and tardy. The unsecured creditor
has to first prove his claim before the court action in execution and result in debt collection.
Unsecured creditors, like Lessors and hire purchase contractors, normally resort to private
action to recover back their leased properties or hired properties by appointing security
agents after notices have been issued as the process of obtaining court directions and court
recovery is slow and cumbersome.
42


        If a judgement is delivered and it results in a judgement debt, the process is still slow
as it requires service upon a company and a requirement of ascertainment of the judgement
debtor’s assets which can be attached or sold in execution.

E4.    Effect of Insolvency Proceedings

       (a)     What effect, if any, does the commencement of insolvency proceedings
               against a corporate debtor have on debt recovery proceedings?

       (b)     What effect, if any, does the formal pronouncement of an insolvency
               administration in respect of the corporate debtor have on debt recovery
               proceedings?

       We have already answered the issue in relation to the response to Question C5.
                                                                                             43


                         SECTION F       CIVIL/PENAL SANCTIONS


(a)    Are there civil or penal/criminal sanctions in the legal system of this economy
       in relation to the incurring and non-payment of debts by corporate debtors (for
       example, some type of sanction—such as the concept of ‘insolvent trading’—
       to which the directors of the corporate debtor may be subject)?

       Section 426 of the Companies Act defines the liability as contributories of present
and past members. As per this Section in the “event of a company being wound up, every
present and past member shall be liable to contribute to the assets of the Company to an
amount sufficient for payment of its debts and liabilities. “

       Section 428, in additional defines the term ‘contributory” to mean any person liable to
contribute to the assets of a Company in the event of its being wound up, and includes the
holder of shares”.

       Directors of a company are also contributor, and have the same liability during
winding up as any other contributory. The Companies Act, lists penalties against the
delinquent directors etc. S.543 of the Act is with regards to the Power of the Court to assess
damages against delinquent directors.

       ‘If in the course of winding up of a company, it appears that any person who has
taken part in the promotion or formation of the company, or any part or present director,
manager, liquidator etc.
(a)    has misapplied, or retained, or become liable or accountable for, any money or
       property of the Company; or
(b)    has been guilty of any misfeasance or breach of trust in relation to the Company;

       The Court may on the application of the official liquidator, or the liquidator of any
Creditor may examine into the conduct of the person, director, manager etc. and compel to
repay or restore the money with interest at such rate as the Court thinks just or to contribute
such sums to the assets of the Company”.

       The proceedings under this section are of quasi-criminal and of serious nature they
are independent of, whether or not the person proceeded against may be criminally liable for
any actions complained of within the statutory scheme. It is not necessary for the liquidator
to prove any such thing as criminal conduct on the part of the directors. Proceedings under
the section are of civil nature. The above section applies to all kinds of winding up.

      In addition, Section 545 of the Act deals with the prosecution of delinquent officers
and members of company.

        “If it appears to the Court that the directors or any other officers have been guilty of
any offence in relation to the Company, the Court may either on application of any person
interested in the winding up or of its own motions direct the liquidator either himself to
prosecute the offender or to refer either matter to the Registrar.”

       The liquidator then has to prepare a report.

         The Companies Act does not lay down any special procedure for enquiry into and
trial of offences under the Act. The Criminal Procedure Code governs the enquiry and trial of
the offences under the Companies Act. Trials conducted by Criminal Courts cannot be held
to be vitiated because of non-compliance with certain provisions relating to the initiation of
proceedings and irregularities committed by the Registrar in the course of his investigation.
44


         In addition to the above there is a personal liability of directors of private companies
in liquidation. Under section 179 of the Income Tax Act, 1961, it is provided that ‘when any
private company is wound up after the commencement of this Act and tax assessed on the
Company whether before or after in the Course of or after its liquidation, in respect of any
income of any previous year cannot be recovered, then every person who was a director of
the private company at any time during the relevant previous years shall of such tax under
he proves that the non-recovery cannot be attributed to any gross neglect, misfeasance or
breach of duty on his part in relation to the affairs of the company.”

(b)    What are these sanctions?

       In addition to the liability of directors under the Companies Act, the personal liability
is covered (as insolvent) by Section 69 of the Provincial Insolvency Act, 1909.

       “If a debtor, whether before or after the making of an order of adjudication
       (a)     willfully fails to performs the duties imposed or fails to deliver up possession
               of any part of his property which is divisible among his creditors or
       (b)     to conceal the state of his affairs, or to avoid paying his debts.
               (i)      has destroyed or otherwise willfully prevented or purposely withhold
                        the production of any document or.
               (ii)     has kept or caused to be kept false books, or
               (iii)    has made false entries in or withheld entries from or willfully altered or
                        willfully falsified any document in relation to his affairs,
               (iv)     fraudulently, with intent to diminish the sum to be divided among his
                        creditors or to give an under preference to any of his creditors,
               (v)      has discharged or concealed any debt due to or from his, or
               (vi)     has made way with, charged, mortgaged or conceded any party of his
                        property of any kind whatsoever,
       (c)     Such a person punishable on conviction with imprisonment which may extend
               to one year. Therefore there are criminal sanctions, and even imprisonment is
               contemplated.

(c)    Do any of these sanctions have the effect of encouraging the directors of a
       corporate debtor to seek protection for the corporate borrower under the
       insolvency law regime?

        It can be safely said that under the insolvency law regime, action commenced brings
about a certain protection for the borrower. Section 442 of the Companies Act, deals with the
power of Court to stay or restrain proceedings against Company. Also Section 446 of the Act
is regarding the suits that can be stayed:

        “When a winding up order has been made or the official liquidator has been
appointed as provincial liquidator, no suit or other legal proceeding shall be commenced, or
if pending at the date of winding up, shall be proceeded with against the Company except by
leave of the Court and subject to such terms and conditions on the Court may impose”.

        The sanctions therefore encourage the directors of a corporate debtor seek the
statutory protections viz. ‘winding up” This is so, as the object of winding up of a company
before the Court, is to facilitate the protection and realisation of its assets with a view to
ensure an equitable distribution thereof among those entitled and to present the
administration from being embarrassed by a general scramble among creditors and others.
Consequently, once the Court has taken the assets of a company under its control or has
passed on order for its being wound up, it will not be proper to allow proceedings to started
or continued against the company and embraces the administration of tits affairs.
                                                                                            45


(d)    Does the presence of the possible application of any of these sanctions create
       a problem if a corporate debtor which is in financial difficulty or insolvent
       seeks to negotiate an informal work out with creditors?

        The presence of the possible applications of sanctions can effect the chances of an
insolvent seeking to negotiate an informal arrangement with the creditors. The specter of
penalties and sanctions can lead to absconding debtors, and other modes of time delays.
Once the proceedings gather speed, the fear of their assets being attached can also lead to
the debtors avoiding an informal arrangement with their creditors.

        Continued fraudulent trading where there is an intention to defraud or mens rea
enables the company court to proceed against the directors or the persons in charge
including managers for the acts of fraud either against the company or the members of the
public. The normal criminal sanctions against the Companies Act against the directors,
former directors or managers by way of misfeasance, malfeasance or non-feasance actions.
These sanctions may be monitory penalties or civil imprisonment.

       Under the Sick Industrial Companies (Special Provisions) Act, the declaration of
sickness suspends the right of making recovery action or execution during the pendency of a
scheme of rehabilitation, akin to the provisions of Chapter XI of the Insolvency Law in USA.
Directors have a duty under Section 15 and 23 of the SICA to report industrial sickness to
the Board for Industrial & Financial Reconstruction.

        This procedure is applicable only to scheduled industries. It does afford the corporate
directors some protection during prosecution when their scheme or arrangement is pending
consideration.
46


     SECTION G       ATTITUDES TOWARD FINANCIAL DIFFICULTY AND INSOLVENCY


       [In this part we seek to discover underlying attitudes to debt; financial difficulty;
and insolvency as it affects both corporate borrowers and lenders. The response to
this section may, therefore, be expected to be founded on general impressions.]

G1.    From the Position of A Corporate Borrower

       (a)    If a corporate debtor is in financial difficulty, is there an attitude of
              ‘concealment’ or ‘denial’ toward the admission or exposure of that
              financial difficulty?

        Yes, there is an element of concealment under such circumstances. The attitude of
‘denial’ towards the admission or exposure of the financial difficulty in extremely common in
India. Since a disputed debt, is not considered a sufficient ground to wind up a Company,
most Corporate Debtors dispute the debt due when a winding up or insolvency action is
commenced.

        According to Section 15 of the sick Industrial Companies (Special Provisions Act,
1985), where an industrial company has become a sick industrial company, the Board of
Directors of the Company, shall, within 60 days from the date of finalization of the duly
audited accounts of the Company for the financial year or at the end of which the company
make to the Board for determination of the measures which shall be adopted with respect to
the company clause (2) says that the Central Government or the Reserve Bank or a State
Government or a public financial institution or a State level institution or a Scheduled Bank
may, if it has sufficient reasons to believe that any industrial company has become risk
(which may be due to heavy debt, among other debtors), make a reference in respect of
such company to the Board of determination of the measures which may be adopted with
respect to such company. Section 23 of the same Act describes the proceedings in case of
potentially sick industrial companies, misfeasance proceedings, Appeals and miscellaneous.
The criteria here is erosion of 50% or more of the Companies peek or the highest net worth
during the from financial years immediately proceeding the year in which accumulated
losses of the company have exceeded the said networth.

       (b)    If so, is the reason for this based on cultural or other factors?

       (c)    Is it likely that a corporate debtor would:

              (i)      volunteer the fact of its financial difficulty to a lender or group of
                       lenders; or

              (ii)     admit or concede it only if and when confronted by a lender or
                       group of lenders?

       (d)    If a corporate debtor is in financial difficulty, is it likely that the
              corporate debtor would:
              (i)   do nothing;
              (ii)  seek expert assistance and advice; or
              (iii) accept the appointment by a lender of an outside expert/advisor?
                                                                                            47


       (e)     If it was agreed between a lender and a corporate debtor that an
               expert/advisor would be appointed, is it likely that a corporate debtor
               would give the expert/advisor unrestricted access to all relevant
               financial and other information regarding the corporate debtor?

       (f)     In that situation, is it likely that the financial and other information
               regarding the corporate borrower would be:
               (i)    complete; and

               (ii)   accurate (particularly regarding the valuation of assets and the
                      assessment of liabilities)?

        If a corporate debtor is in difficulty it is likely that the corporate debtor would
approach the senior Lenders for some rehabilitation, waiver of compound or penal interest,
funding of the interest dues on a zero coupon rate or atconcessional terms. It would prepare
a scheme of arrangement or rehabilitation plan with the assistance of experts or an advisor
which it would submit to the senior Lenders.

        RBI has police guidelines for revival of sick industrial companies and the role to be
played by lead institutions or Operating Agencies appointed by the SICA for reviving
industries declared to be sick under SICA.When a Lender appoints an outside expert, the
court of the Board for Industrial & Financial Reconstruction (“BIFR”) would normally have to
intervene to render help to such expert or advisor to collect information on an unrestricted
basis. Depending upon the extent of the industrial sickness and the accumulated arrears or
losses, it is likely that the records of the company would be in disarray in such circumstances
reconstruction of accounts on the basis of actual transactions is laborious and difficult to
achieve. Large accounting firms render costly services and Lenders are wary of appointing
high cost expensive services in a rehabilitation scheme. Usually the Lenders, if they are
public financial institutions rely upon their own in-house expertise and staffing to ferret
information.

        Under the provisions of Section 18 several measures have been prescribed for
revival of a company. Even in the case of non-scheduled industries, not governed by
Schedule I of the Industries Development and Regulation Act and consequently under the
SICA; the provisions of Section 391 & 394 of the Companies Act for proposing a scheme of
rehabilitation is normally recoursed.

G2.    From the Position of Lenders

       (a)     Is it more common that the financial difficulty of a corporate borrower
               will be:
               (i)     volunteered by a corporate debtor; or

               (ii)   discovered by a lender (and, if so, how)?

       (b)     If a lender becomes aware that a corporate debtor is in financial
               difficulty, is it likely that the lender would seek to investigate the
               financial crisis of the corporate debtor itself and employ an
               expert/advisor to investigate the financial position?

       (c)     If so, is the expert/advisor likely to be:
               (i)      an independent professional; or

               (ii)   an ‘in-house’ employee of the lender?
48


       (d)    Is it likely that information regarding the financial position of a
              corporate borrower as discovered from the work of an expert/advisor
              would be:
              (i)    kept secret from other lender/s or creditors;

              (ii)    disclosed to other/selected lenders?

       (e)    If there were 2 or more lenders (not in a syndicate) involved with the
              same corporate borrower, is it likely that they would:
              (i)     join together to share information and endeavour to work out a
                      common approach to the financial problems of the corporate
                      borrower; or

              (ii)    act secretly and independently of one another?

       (f)    If there was a group of lenders (whether in a syndicate or not) involved
              with the same corporate borrower, is it likely that one of them would
              offer or seek to be the leader on behalf of them all?

       (g)    If so, is it likely that such a proposal would be agreed to by the other
              lenders?

        Lenders, for reporting requirements as financial covenants on the basis of which they
can compel a corporate debtor to furnish information on a monthly, bimonthly, quarterly or
six monthly basis. When the reporting is not done regularly the lenders discover the reasons
for default by sending an inspection team. Good corporates who have responsible norms on
corporate governance do volunteer the causes of their financial difficulty.

        Major corporates would seek to invite the lenders to examine the reasons for the
financial crises and also appoint experts to investigate these reasons. Only in the case
where the corporate lender does not appoint independent advisors or prevents access by
the Lenders would the Lenders seek directions from either a court or the BIFR for appointing
investigators to look into the financial crises.

        Due to high costs involved in appointing independent professionals the Lenders
normally engage their own salaried employees to visit the borrower and ascertain these
causes. Major financial institutions and banks have separate divisions dealing with industrial
sickness or recovery actions. These officers are nominated to investigate. Very rarely and in
exceptionally large borrowings independent auditors or industrial experts are requested to go
into the affairs of the company.

         Confidentiality agreements would be required to be executed by independent experts
if they are to go into the company’s working. Usually large borrowings are done on a
consortium basis and the covenants for reporting are commonly shared. It is, therefore,
difficult to keep a financial report secret from other lenders who are members of a
consortium. The report would be normally shared and debated among the lenders. There
would be a sharing arrangement to share the costs for appointment of an investigator and a
common working programme would be adopted to finalise a rehabilitation scheme. These
schemes are working under the directions of the managing or governing body of the Lenders
and decisions are usually taken independently of one another but with a common intent to
rehabilitate the company if it is financially viable. Normally at the time of commencement of
the lending one of the lenders, would be nominated as the senior lender or monitoring bank.
If unrelated lenders have lent monies to the corporate, directions from the court or the BIFR
would be required to nominate one of them to be the leader on behalf of all of them. This
appointment would be at times be contested in legal proceedings among the Lenders when
                                                                                             49


there is no agency agreed at inception, local major lenders who have sufficient experience in
working out settlements.

        When a foreign bank is involved, the consortium would normally include even these
foreign banks and the domestic lenders would work in combination with the foreign banks.
They would take the advise and response of the foreign lenders and try to work out a
satisfactory solution in consultation with the foreign lenders. The influence of the foreign
lenders will, however, depend upon the extent of the liability of the corporate borrower to the
foreign lenders.

       There is no market for trading of a junior or minor lenders debt in insolvent
circumstances and banks do not increase their exposure when industrial sickness is
experienced by them. It is, however, quite likely that the new sponsors or substitute
promoters, may buy out the minor debtors or lenders at a discount.

        The scheme of rehabilitation may enable a change of sponsors, a compulsory sale of
equity holding and change in management due to the sickness having been caused by the
promoters. This action of changing the equity ownership or augmenting the equity ownership
so as to dilute controls of existing sponsors, mergers, demergers and several actions can be
approved by a court or the BIFR based upon recommendations given by the Operating
Agency or lead financial bank. Lenders, therefore, do get some reliefs and can prevent the
perpetuation of industrial sickness directly relatable to the poor management skills of existing
promoters.
50


                                  SECTION H      WORK OUTS


      The concept of the informal ‘work out’ might be said to be based on a
combination of the following elements:
•     the fact that there is a significant size of debt owed to a number of different creditors
      (mostly these would be bank or other financial institution creditors) and the present
      inability of the corporate debtor to service that debt;
•     the attitude that it may be preferable to negotiate an arrangement for the financial
      difficulties of the debtor both between the debtor itself and the financiers (and
      perhaps other lesser creditors) and also between the financiers themselves;
•     the availability of relatively sophisticated refinancing, security and other commercial
      techniques that might be employed to alter, re-arrange or re-structure the debts of
      the corporate debtor or the corporate debtor itself;
•     the sanction that if the negotiation process cannot be started or breaks down there
      can be relatively swift and effective resort to the application of an insolvency law; and
•     the prospect that there may be a greater benefit for all through the negotiation
      process than by direct and immediate resort to the insolvency law.

       In relation to these elements:
       (a)     identify which of these elements are appropriate and relevant to this
               economy;
       (b)     which of these elements might be considered absent, ineffectual or of
               little consequence in this economy?
       (c)     which of these elements would be viewed as the least persuasive if a
               work out was contemplated?
       (d)     are there any other elements that are relevant to this issue in this
               economy?

        Of the five factors identified in the context of an informal work out a significant size of
the debt owed to the lenders and the inability of the corporate debtor to service with debt is a
significant factor. The Reserve Bank of India which is the central bank, and which lays down
the policy for banks in India for rehabilitation financing has issued guidelines for banks on
the basis of which they can deal to revive industrial concerns.

       Industrial auditors and borrower are aware that by negotiating they can obtain
waivers of penal and compound interest and rescheduling of their debts. These measures
however, do not apply to private financiers.

        There are no sophisticated devices for refinancing available presently in India but
there are adequate legislative procedures applicable for proposing a scheme of arrangement
or composition with creditors. The insolvency procedures in India are slow. Most borrowers
by resorting to seeking the protection from insolvency by seeking a declaration of industrial
sickness do get a respite against legal proceedings. The law requires to be strengthened in
relation to swift and effective resort to the application of an insolvency law and the sanction
of the break down of a negotiation process for ensuring financial viability. A debt market for
heavily discounted debt of a semi insolvent company has also to be created and junk bonds
may have to be legitimized in India. The process for presenting a negotiation scheme has to
be made the burden of a company or a creditor debtor rather than that of an operating
agency and if within the particular time frame the scheme of arrangement cannot be
proposed by the company or its workmen, which is found viable within a specified time
based upon the financial parameters which are publicly disclosed then industrial sickness
must convert to action for winding up and insolvency.
                                                                                               51


                         SECTION I       INSOLVENCY LAW REGIME


        [Note: It would be helpful in this section if, where it is relevant to the answer,
the relevant sections or articles of the insolvency law were identified]

I1.    Underlying Philosophy

       (a)     What is the underlying philosophy of the insolvency law of this
               economy? (For example is it distributive, rehabilitative or penal?)

        Corporate insolvency law has overriding objectives: to restore the debtor company to
profitable trading where this is practicable; to maximize the return to creditors as a whole
where the company itself cannot be saved; to establish a fair and equitable system for the
ranking of claims and the distribution of assets among creditors, involving a redistribution of
rights; and to provide a mechanism by which the causes of failure can be identified and
those guilty of mismanagement brought to book, and where appropriate, deprived of the right
to be involved in the management of other companies. To facilitate achievement of these
objectives the Two Acts governing insolvency law, and procedure in India:
a)      The Provincial Insolvency Act, 1920
b)      The Presidency Towns Insolvency Act, 1909, provide a battery of legal and
        administrative instruments and institutional structures. Therefore it can be said that
        the underlying philosophy of this country has the following objectives:
        1)      Rehabilitative
        2)      Distributive
        3)      Penal

       The Companies Act, adopts the rules of insolvency, as laid down in these laws and
provides the procedural law for corporate insolvency.

       (b)     Are there elements of more than one philosophy present in the
               insolvency law of this economy?

        Yes as already mentioned in (a) elements of more than one philosophy are present in
the insolvency law of this country.

       (c)     Briefly describe the relevant elements, and if applicable, any penal
               sanctions available.

       The four different elements of the philosophy of the insolvency law have been
incorporated in (a) Section 28 of the Provincial Insolvency Act which describes the effect of
an order of adjudication. This Section contains all the elements, distributive, rehabilitative etc.
The effects of an order of adjudication are:
1.     the insolvent to aid to the utmost of his power in the realisation of his property and
       the distribution of the proceeds among his creditors. (Distributive element).
2.     The whole of the property of the insolvent shall vest in the Court or its receiver and
       becomes divisible among the creditors. No creditor shall during the pendency of the
       insolvency proceedings have any remedy against the property of the insolvent in
       respect of the debt, or commence any suit or other legal proceedings, except with the
       leave of the court and on such terms as the court may impose. (Immunity and part
       rehabilitative element).
3.     Under Section 38 of the Provincial Insolvency Act, a composition or Scheme of
       arrangement can be proposed to the Court dealing with insolvency, for securing
       rehabilitation of the debtor.
52


4.     Part IV titled “Penalties” of the said act details the penalties that can be imposed on
       the insolvent under certain conditions. According to Section 69 if a debtor, whether
       before or after the making of an order of adjudication, fails to perform the duties
       imposed on him by Section 22 or does not cooperate in the delivery and possession
       of his property to the court or his creditors as the case may be, or fraudulently with
       intent to conceal the state of his affairs or to defeat the objects of this Act, keeps
       false books or tampers with the related records and documents and fraudulently with
       intent to diminish the sum to be divided among his creditors conceals any debts due
       shall be punishable on conviction with imprisonment, which may extend to one year.

        Section 22 of the Provincial Insolvency Act requires the insolvent debtor to produce
all books of account and give inventories of his property and list all creditors and debtors and
debts due to and from them, and submit to examination by the Court or the receiver and
execute such instruments or acts as required by the court or receiver.

        Section 71 provides that where an insolvent has been guilty of any of the offences
specified in Section 69, he shall not be exempt from being proceeded against therefore by
reason that he has obtained his discharge or that a composition or scheme of arrangement
has been accepted or approved.

         Section 72 provides that an undischarged insolvent obtaining credit to the extent of
fifty rupees or up wards from any person without informing such person that he is an
undischarged insolvent, shall on convictions by a Magistrate, be punishable with
imprisonment for a term which may extent to six months, or with fine or with both.

        The Presidency Towns Insolvency Act, 1909 also has similar provisions. Section 17
details the effect of order of adjudication. Section 23 contemplates a Scheme of
Arrangement or composition being proposed by an insolvent debtor for rehabilitation. Also
Section 102 to Section 105 deal with penalties as with Section 69 to 72 of the Provisional
Insolvency Act.Under the Companies Act the court established, has the jurisdiction to deal
with corporate insolvency. For Schedule I industries under the Industries Development and
Regulation Act, the BIFR deals with the distributive and rehabilitative aspects of insolvency.
BIFR has also got penal powers. However, if such company is not capable of revival then
the company court receives a report from BIFR to commence insolvency in accordance with
the Companies Act.

       Under the Companies Act there are similar provisions as are applicable to personal
insolvency under a special part namely Part VII dealing with insolvency.
Section 447 prescribes the effect of winding up order which is akin to the Provincial and
Presidential Insolvency Laws.

        Section 446 of the Companies Act, has among other things, barred the
commencement of a suit or other legal proceeding against a company in liquidation without
the leave of the court. An almost similar legal restriction is found in Section 17 of the
Presidency Towns Insolvency Act and Section 28(2) of the Provincial Insolvency act,
imposing a ban on creditors, to whom the insolvent is indebted, from commencing any suit or
other legal proceeding against the property of the insolvent in respect of the debt except with
the leave of the Insolvency Court.

       The provisions of Section 456 of the Companies Act declare that the custody of the
company’s property and its vesting is with the Official Liquidator upon the winding up being
ordered. The right to sue and be sued stands transferred to the Official Liquidator.

       No receiver can be appointed of properties, within the custody of the Liquidator.
                                                                                                    53


        Punitive provisions are also contained in Sections 531 to 545 of the Companies Act
wherein avoidance of fraudulent preference or transfers are stipulated. The shares transfers
made after the commencement of winding up can be avoided. Specific provisions for
offences by officers of the company in liquidation, offences for falsification of books and
frauds are also stipulated. The court has power to assess damages against delinquent
directors and prosecute delinquent officers.

       A rehabilitation scheme or a scheme of arrangement can also be proposed for
winding up under the Provisions of Sections 391 to 394 as a compromise arrangement or a
reconstruction scheme on principles akin to the law applicable to personal insolvency.

I2.     Jurisdiction in Insolvency Matters

        (a)     In which judicial category is insolvency law classified in the legal
                system of this economy? (For example civil, commercial or
                administrative.)

        (b)     Which Courts, tribunals or administrative bodies in this economy are
                competent to exercise jurisdiction in insolvency matters?

        (c)     Are any limitations placed on the jurisdiction of any of these bodies?

         Insolvency jurisdiction is a special jurisdiction. It is essentially civil in nature and there
are separate insolvency courts. The District Courts under the Provincial Insolvency Act have
jurisdiction to hear insolvency petitions. The High Court where the High Court has original
jurisdiction has got insolvency jurisdiction. The High Court in certain presidency towns like
Bombay, Calcutta and Chennai have got the insolvency jurisdiction under the Presidency
Towns Insolvency Act. The High Courts of Bombay, Calcutta and Chennai under its original
side jurisdiction have specific rules made for determining insolvency matters. The District
Court Rules under the Provincial Insolvency Act, therefore, stipulate the rules to be adopted
for insolvency proceedings. There are no pecuniary jurisdiction limitations on the District
Court under the Provincial Insolvency Acts or on the High Courts of Mumbai, Calcutta and
Chennai under the Presidency Town Insolvency Act.

I3.     Types of Insolvency Procedures

        (a)     What types of insolvency procedure are available in the legal system of
                this economy for the administration of corporate debtors in financial
                difficulty? (For example bankruptcy, liquidation (winding up),
                receivership, restructuring or other forms of administration.)

        (b)     Briefly describe the main features of each type of insolvency procedure
                for corporate debtors: including, for example the manner in which each
                procedure is initiated and administered, and the aims of each procedure.

        (c)     Identify the relevant legislation governing each type of insolvency
                procedure available for corporate debtors.

       S.425 of the companies Act lists the methods of winding up of a company. The
winding up (liquidation) of company may be either:
a)     by the Court; or
b)     voluntary; or
c)     subject to the supervision of the Court.
54


       In such cases all individual members of the corporate are regarded as contributories.
If any of such contributories are adjudged insolvent, his assignors in insolvency would
represent them for all the purpose of winding up.

      S. 433 of the Companies Act, describes the circumstances under which a company
may be wound by the court:

       Clause (e) of this section states;

               “If the company is unable to pay its debts” is a ground for
               winding up. Inability to pay its debts would be a case like,
               where a company’s entire capital was lost in heavy losses and
               no accounts were prepared and filed and no business was
               done for one year, the Registrar had fully made out a case of
               inability to pay debts. These debts however, would only include
               debts, incurred after the legal incorporation of the Company.

Winding up of Sick Industries Companies

         The Sick Industrial Companies (Special provisions) Act, 1985 (1 of the 1986) was
enacted to make in the public interest, special provisions with a view to securing the timely
detection of sick and potentially sick companies owning industrial undertaking, the speedy
determination by a Board of experts for adopting the preventive, ameliorative, remedial and
other measures which need to be taken with respect to such companies and the expeditions
enforcement of the measures so determined and for matters connected therewith or
incidental thereto. Under section 4 of the said Act a ‘Board for Industrial and Financial
Reconstruction is constituted to exercise the jurisdiction and powers and discharge the
functions and duties under the Act. The powers conferred by the Act are very wide and
include among other things the power to conduct an enquiry into the working of sick
industrial companies, and if it thinks fit record and forward to the High Court its opinion that it
is ‘just and equitable’ that the sick industrial company shall be wound up as per section 20 (I).

        Section 20 (2) provides that the High Court shall on the basis of the opinion of the
Board, order winding up of the sick industrial company. In effect the opinion of the Board
acts as an order to the High Court to wind up the company. This provision runs counter to
the well settled principle of company law that the discretion to wind up a company rests with
the Court and that event in cases, where the existence of grounds for making up a winding
up order is established. The court need not order winding up, of the company. Winding up
proceedings against sick companies were allowed to be continued order the BIFR may
express the opinion that the company be wound up, such an opinion of the BIFR can be
disputed only by showing that a viable scheme cab en formulated for keeping the company
advise.

        In such, suits, appointment of Court receiver in the usual order. It will not make any
difference in this position, if the loan is given by a bank or a nationalized bank and to a sick
undertaking. But in such cases courts give proper directions to the receiver as to the steps to
be taken by him for running the mortgage factory or for managing the other assets of the
corporate debtor.

      According to Section 434 of the Companies Act, a company shall be deemed to
beunable to pay its debts when
(a)   if a creditor, by assignment or otherwise to whom the company is indebted in a sum
      exceeding five hundred rupees then due, has served on the company, by causing it
      to be delivered at its registered office, by registered post or otherwise, a demand
      under his hand requiring the company to pay the sum so due and the company have
                                                                                              55


       for there weeks thereafter neglected to pay the sum , or to secure or compound for it
       to the reasonable satisfaction of the creditor.
(b)    If execution or other process insured on a decree or order of any court in favour of a
       creditor of the company shall be returned unsatisfactioned in whole or in part, or
(c)    if it is proceed to the satisfaction of the Court that the company is unable to pay its
       debts, the court shall take into account the contingent and prospective liabilities of
       the company.

        Under the abovementioned clauses, before a corporate can be sent to liquidation, it
must be “unable to pay its debts”. This presupposes that there exists a debt and the
company is unable to pay it. Prima facie this must relate to the solvency of the company. So
far as the creditor is concerned, who cannot obtain payment of his debts, he is entitled as
between himself and the corporate ex-debits justifier to an order for winding up, if he brings
his case within the Act. But he must first of all establish that there is a debt owed and
secondly, must satisfy the court that the company is unable to pay the same, several
creditors can also join hands in filing a winding up petition but not when their causes of
action are different.

       The procedure for winding up is described by the following section of the Companies
Act.

       Section 441. Commencement of winding up by the Court:
(1)    Where, before the presentation of a petition for the winding up of a company by the
       Court a resolution has been passed by the company for voluntary winding up, the
       winding up of the company shall be deemed to have commenced at the time of the
       passing of the revolution, and under the court, on proof of fraud or mistake thinks fit
       to describe winding up shall be deemed to have been validly taken.
(2)    In any other case, the winding up of a Company by the shall be deemed to
       commence at the time of the presentation of the petition for the winding up.

       S.443 Powers of Court on hearing petition – On hearing a winding up petition, the
Court may:
a)     dismisses it, with or without costs, or
b)     adjourn the hearing conditionally or unconditionally; or
c)     make any, interim order that it thinks fit,
d)     make an order for winding up the company with or any other order that it thinks fit.

      The Court may also refuse to order winding up altogether, if some other alternative
remedy is available to the creditors and they are acting unreasonably in seeking to have the
company wound up instead of pursuing that other remedy.

        Section 444. Order for winding up to be communicated to official liquidator and
registrar—where the Court makes an order for the winding up of a company the Court shall
forthwith cause intimation thereof to be rent to the official liquidator and the registrar.

          The object of this provision in to present an interregnum and to present a break in the
proceedings. It provides for the communication of the winding up order forth with to the
official liquidator so that he may take up the administration forth with.

        Under the scheme of the Companies Act, the official liquidator is the only liquidator
that can be appointed in winding up proceedings by Court.

       As explained above bankruptcy law is essentially relatable to personal insolvencies
of natural persons. Winding up procedures are applicable to corporates under the
Companies Act. Other forms like cooperative societies or statutory corporations are subject
56


to winding up or liquidation in accordance with their statutes of incorporation which may be
different from the Companies Act.

        Receivership is a procedure available under the Provincial Insolvency Act and the
Presidency Towns Insolvency Act. The appointment of a receiver is regulated by the original
side rules of the High Court or by the Civil Procedure Code (order 40). Schemes of
restructuring are the subject matter of insolvency courts or the company court dealing with
insolvency. The procedure for initiating the insolvency is as detailed above in the sections
referred above. The two legislations namely the Companies Act and the Sick Industrial
Companies (Special Provisions) Act have been identified above. The procedure for winding
up however is limited to the provisions of the Companies Act alone as the Board for
Industrial and Financial Reconstruction does not deal with the actual winding up of a
company. It has powers to only recommend the winding up in the event of failure of any form
of rehabilitation under the rehabilitation measures prescribed under Section 18 of the Sick
Industrial Companies (Special Provisions) Act, 1985.

I4.    Commencement of Insolvency Procedures

       (a)     Is it usual or customary in respect of a corporate debtor which is
               insolvent to attempt to negotiate an informal administration before
               formal insolvency procedures are commenced?

        No. It is not usual or customary in respect of a corporate debtor, which is insolvent to
attempt to negotiate an informal administration before formal insolvency proceedings are
commenced. A regulated method of informal administration as envisaged by Chapter 11,
under the American Insolvency Law, does not happen and is not provided for in India. Even
the English Insolvency law has similar provisions. Part 1 of the English Insolvency Act 1986
contains provisions to enable a company including one for which an administration order is
in force or which is being wound up, to enter into a voluntary arrangement with its creditors.
But in India, this does not happen because there is a breakdown of relationships on the
occasion of bankruptcy and insolvency.

        If there are few creditors then it is possible for an informal administration to be
worked out with the consent of such creditors provided, the creditors believe in the veracity
of the submissions of an insolvent debtor and are able to secure assets which are liquid or
capable of generating income which could be steadily applied in disposing of the creditors
claims. These situations are rare in India. Normally, creditors try and obtain an attachment
before judgement or an injunction or receivership so as to prevent a frittering away of the
assets of an insolvent.

       (b)     In relation to each type of insolvency procedure available in the legal
               system of this economy, who may commence the procedure? (For
               example the corporate debtor, secured creditors, unsecured creditors,
               directors, shareholders, the State.)

       If a company is insolvent, either in the absolute sense, or in the sense of being
unable to meet its liabilities as they fall due, the winding up procedure is usually resorted to
as the means of bringing about its orderly liquidation and dissolution. S.425 of the
Companies act, describes the modes of winding up.

       “The winding up of a company may be either
(a)    by the Court; or
(b)    voluntary; or
(c)    subject to the supervision of the Court.
                                                                                               57


       The commencement of the procedure for winding up by the Court is described by S.
439:
(a)    by the company; or
(b)    by any creditor or creditors, including any contingent or prospective creditor or
       creditors; or
(c)    by any contributory or contributories; or
(d)    By all or any of the specified in clauses (a), (b) and (c) whether together or separately;
       or
(e)    by the Registrar; or
(f)    in a case falling under S.243 by any person authorized by the Central Government in
       that behalf.

      S. 484 of the Act, deals with the process of voluntary winding up. The winding up
procedure can be commenced with a resolution passed at the general meeting.

        S. 522 of the Act, deals with the winding up under the supervision of the Court. Even
this winding up is commenced by the resolution passed by the company.

       A voluntary winding up is commenced either by the shareholders only when the
corporate purpose of the company has failed and there is no scope or need to proceed with
the functions of the company. The Registrar has rights to wind up a company if there are no
corporate filings and a mere shelf life of a company is sought to be maintained without any
business.

       (c)     On what basis may each type of insolvency procedure be commenced,
               or what requirements must be satisfied before the procedure may be
               commenced? (For example non-payment of debts; balance sheet/cash
               flow insolvency; trading losses; resolution by directors to enter
               insolvency procedure.)

(1)    S.433. Circumstances in which company may be wound up by the Court:
       (a)    if the company has, by special resolution, resolved that the company may be
              wound up by the court;
       (b)    if default is made in delivering the statutory report to the registrar or in holding
              the statutory meeting;
       (c)    if the company does not commence its business within one year from its
              incorporation, or suspends its business for a whole year;
       (d)    if the number of members is reduced, in the case of a public company, below
              seven, and in the case of a private company, below two;
       (e)    if the company is unable to pay its debts;
       (f)    if the Court is of opinion that it is just and equitable that the company should
              be wound up.

               Each of the grounds namely non-payment of debts, cash flow insolvency,
trading losses or the resolution of the company to enter insolvency are good grounds for
commencing corporate insolvency procedures.

(2)    In voluntary winding up the winding up proceedings can be commenced when the
       period, if any, fixed for the duration of the company by the articles has expired, or the
       event, if any, has occurred, on the occurrence of which the articles provide that the
       company is to be dissolved, or a resolution of shareholders is passed as a resolution
       to wind up the company (Section 484 of the Companies Act). The company should
       otherwise be solvent enough to discharge its debts (Section 488).
58


       (d)     How is each type of insolvency procedure commenced? (For example
               by application to the Court, by administrative act, by written notice to
               the business organization.)

       This question has been answered in (b) and (c).

       (e)     What is the usual time period between the commencement of formal
               insolvency proceedings and the declaration or imposition of a formal
               administration on the corporate debtor?

       The usual time period between the commencement of formal insolvency proceedings
and the declaration or imposition of a formal administration on the corporate debtor is usually
one day to four months (this is a statement based on experience).

       (f)     How effective is the judicial or court system (or administrative system)
               in relation to the handling of formal insolvency proceedings?

       Each high court which has a company court has an official liquidator attached to the
court and has a formal organization to support the procedures of insolvency. Insolvency
proceedings by the company court are quite effective though the detailed procedures of
insolvency are too time consuming and need to be shortened. The recommendations have
been made in the new Companies Bill for short or fast track insolvency procedures.

I5.    Effect of Insolvency Procedures

       (a)     In relation to each type of insolvency procedure available in the legal
               system of this economy, what is the effect on the corporate debtor, its
               constituent parts and its business relationships of initiation of the
               relevant insolvency procedure?

       (b)     If another insolvency procedure has already been initiated in relation to
               the corporate debtor, how does the initiation of a second procedure
               affect the first?

        As explained above an insolvency of a company has the same effect as an
insolvency of a natural person and suspends the rights of the directors or the company in
dealing with its assets other than with the regulation of the court. Fraudulent preferences or
transfers made during the insolvency or transfer of shares are voided.

        Only the official liquidator can enter into fresh legal contracts on behalf of the
company. The official liquidator has to be bought on record in each legal proceeding pending
with leave of the court. The decree will have to be passed against the official liquidator and
in the event of an unsecured claim only proofs in insolvency are the appropriate remedy as
unsecured creditors shall have to participate in insolvency.

        Only secured creditors can prove against the official liquidator outside of the
procedure of the insolvency law in normal civil proceedings. Remedies of persons in
contractual relationships are also only available with leave of the court as no execution
distress or warrant can be issued or executed against the company without the leave of the
court. When more than one insolvency actions are initiated since the official liquidator is an
officer of the court or is a corporation sole, all liquidation matters are determined by proofs of
insolvency before the official liquidator regulated by the company court. Multiple insolvency
matters are effectively consolidated in a single winding up action or procedure.
                                                                                              59


             SECTION J    CASE MANAGEMENT OF INSOLVENT ENTERPRISES


J1.    Administration of insolvency Procedures Generally

       (a)      In relation to each type of insolvency procedure available in the legal
                system of this economy, what are the administrative organs/entities
                involved in the implementation and management of that procedure?
                (For example a trustee, liquidator, receiver, government official.)

       (b)      What qualifications must each type of administrator of insolvency
                procedures possess? Is there a system of regulation of insolvency
                administrators in this economy?

       (c)      Are the creditors of a corporate debtor permitted to participate in the
                administration of the relevant insolvency procedure, and if so, how?
                (For example are the creditors permitted to assist the administrator, or
                supervise or dictate the conduct of the administration?)

Administration of Insolvency Procedures Generally

        As explained above in relation to corporate insolvency the official liquidator as an
officer of the court or the court receiver as an officer of the court are dealing with insolvency
related procedures.

       Under the Sick Industrial Companies (Special Provisions) Act, the Board for Industrial
and Financial Reconstruction as appointed by the Government and the Operating Agencies
being public financial institutions or banks administer the rehabilitation aspects of industrial
sickness of Schedule I industries as explained above. In special companies like banks or
non-banking financial companies the RBI administers or request for the winding up of
insolvent non-banking financing companies or banking companies.

        Since the insolvency administrators are appointed by the court, these officers are
usually qualified in law. There are no statutory qualifications under the Company Court Rules
for appointment of the Official Liquidator since it is a corporation sole and its employees are
supervised by the Company Court. The same provision is true of the Court Receiver which is
also a corporation sole created by the original side rules of the High Courts. Liquidators
other than the Official Liquidators employed in voluntary winding up should not be bodies
corporate. There are specific rules relating to official liquidator’s accounts and procedures
applicable for the official liquidator.

        These are contained in the Company Court Rules, 1959 which have been settled by
the Supreme Court of India. Part III of the Company Court Rules are extensive and Rules 95
to 338 dealing with all aspects of the liquidator’s functioning and the procedural rules in the
inter-action of the official liquidator and the Company Court, as also with unsecured and
secured creditors.

       The unsecured creditors of a corporate debtor can, in accordance with the
substantive rights contained in the Companies Act and the procedural rights given by the
Company Court Rules, participate in the administration of insolvency procedure.

       They can propose a scheme of arrangement and composition to rehabilitate an
insolvent company. This is equally true of the procedure under the Sick Industrial
Companies (Special Provisions) Act. By petitioning the Board or the Company Court with a
viable scheme of arrangement the Board or the Company Court can convene a general
60


meeting of the shareholders or the creditors to accept a scheme of arrangement and revive
the company. If a scheme of arrangement is sanctioned with a special majority then the
Company Court can monitor the scheme of arrangement and can suspend creditor claims if
they are not in accord with the revised or novated rights of the creditors pursuant to the
Company Court’s sanction. This is also true of the functioning of the BIFR.

        The Official Liquidator can call upon uncalled capital or calls for partly paid shares to
meet liabilities and the contributories would have to pay for such unpaid calls.

        The creditors can also petition the Company Court or the Official Liquidator to take
custody of the company’s properties and to prevent fraudulent actions on the part of persons
presently in management or the former directors. The Creditors are permitted to render
assistance to the court if they are secured creditors for seeking administrative directions
from the Court for the receiver. However, the Company Court normally dictates and directs
the Official Liquidator.

J2.    Powers of the Administrator

       (a)     In relation to each type of insolvency procedure available in the legal
               system of this economy, what are the powers given to each type of
               administrator by statute, at general law or pursuant to the terms of the
               appointment? (for example power to carry on the business of the
               organization, to pay creditors, to compromise claims of or against the
               debtor, to issue or defend legal proceedings, to obtain credit, to sell
               property, to execute documents on behalf of the debtor.)

       (b)     To what extent and in what circumstances may each type of insolvency
               administrator seek assistance, advice or direction in the conduct of the
               administration, and from what sources? (for example the Court, his
               appointor, the creditors of the debtor, a solicitor, accountant or other
               relevant person.)

         The powers of the Official Liquidator are provided in the Companies Act and the
procedural directions available to an Official Liquidator are stipulated in the Company Court
Rules, 1959 – Part III (Rules 95 to 338). The powers of the Official Liquidator under the
Companies Act are stipulated in Section 457 of the Companies Act and include the power to
litigate the Board, to carry on business for the beneficial winding up of the company, the
power of sale of property as a whole or in parts, the power to raise on the security of the
assets money required, and to take all steps for distribution of assets and winding up of the
affairs of the company. The power of executing contracts, inspecting the files of the company
with the Registrar without fee, proving and ranking the claims of creditors of the insolvent,
the authority to make negotiable instruments and to appoint agents are also statutorily
prescribed. These are statutory powers and are automatically available upon the
appointment of the official liquidator on demand of a winding up petition.

        As explained above the Official Liquidator can seek directions from the Company
Court for exercise of its powers and for the orderly winding up of the affairs of the Company.
For each kind of right or power made available to the Official Liquidator the Company Court
would have to give directions both on the administrative side and on the judicial side when
there is a contest or claim or petition moved by the creditor or the former directors or
secured creditors for reliefs. The Official Liquidator can seek the assistance of the court for
private advise and when directions are given to incur expenses and to enter into contractual
rights the Official Liquidator can do so.
                                                                                             61


J3.    Duties of the Administrator

       (a)     In relation to each type of insolvency procedure available in the legal
               system of this economy, what are the duties imposed upon each type of
               administrator by statute and at general law? (for example a duty to take
               possession of assets of the debtor, to realise those assets, to discharge
               the debt owed to his appointor, to call for proofs of debts owed to
               creditors, to adjudicate upon claims of creditors, to apply available
               assets in discharge of those claims, to report on the conduct of the
               debtor by the proprietors.)

        The provisions of Section 451 of the Companies Act indicate that the Official
Liquidator is to conduct the proceedings in winding up and to perform such duties in
reference thereto as the court may impose. Duties in relation to the drawing up the
statement of affairs of the company, reporting as an Official Liquidator keeping in custody
the assets of the company and distribution of the assets pursuant to the claims made and
under orders of the Court are the general duties. There are specific provisions as mentioned
above for the accounting by the Official Liquidator and there are special accounting rules
applicable. There is a power given to the Official Liquidator to examine the former directors
or managers and to take action against absconding persons who do not render accounts or
the statement of affairs of the company. The official liquidator has to realize assets, to pay
out dividends to the creditors equitably to call for proofs of the debts and to report generally
as is the normal law for liquidators.

J4.    Breach of Duty and Liability of Administrators

       (a)     What remedies and/or sanctions are available in the legal system of this
               economy in respect of breaches of duty or transgressions committed by
               each type of insolvency administrator?

       (b)     Have there been actual instances of breach of duty or transgressions
               committed by insolvency administrators?

       (c)     If so, give the details of any major cases and a summary of the action
               taken and the results.

        Under the provisions of Section 514 and 515 of the Companies Act any person who
agrees or offers to give any gratification for securing the appointment of a company
liquidator can be removed.

       Under Section 513 of the Companies Act a body corporate is not qualified for
appointment as a Liquidator though a firm of Chartered Accountants may be appointed as
Liquidator. The Company court has the power to remove a Liquidator on cause shown i.e.
some unfitness of the person or mis-feasance or mal-feasance or mis-appropriation or non-
observance of the wishes of the creditors in a company meeting. The courts have also
recognised the doctrine of conflict of interest of a liquidator.

        When a Liquidator other than an Official Liquidator is appointed (example in a
voluntary winding up), then the Liquidator has to furnish security in the sum and manner
directed by the Court. The Official Liquidator is subject to audit as directed by the Court (see
Rules 302 to 307 of the Company Court Rules). The Official Liquidator can take upon the
accounts of a Liquidator not being an Official Liquidator, especially when appointed by the
District Courts and detailed rules and books of accounts have to be maintained for
investments made and expenses incurred.
62


         Statutory forms for receipts and payment accounts are prescribed by the rules.
Accounts are to be filed on affidavit and the consequences of mis-statement and perjury will
be visited on a false affidavit by the Official Liquidator. The Judge in the Company Court has
the right to examine the Official Liquidator and if unsatisfactory accounts are maintained the
Official Liquidator and the individual employee can be personally held liable and subject to
prosecution sanctioned by the Company Court which may include criminal offences for mis-
appropriation.
                                                                                            63


                   SECTION K      ASSETS AVAILABLE TO CREDITORS


K1.    Assets Available to Creditors Generally

       (a)     In relation to each type of insolvency procedure available in the legal
               system of this economy, what assets of the corporate debtor are
               available to its administrator to satisfy the claims of its creditors?

Assets Available to Creditors Generally

        Under the provisions of the Companies Act, the official liquidator can take into
custody or control any property effects or actionable claims to which the company is or
appears to be entitled. The books of account or other documents of the company are also
taken into the custody of the liquidator. The district magistrate or the company court can give
notice to the party who is in possession of such property effects, actionable claims, books of
accounts or other documents for delivering possession of the official liquidator. In the event
of a secured creditor having established a receivership over his security then unless leave of
the court appointing the court receiver is taken, the official liquidator cannot take into his
possession and custody the security in the possession of the Court Receiver for secured
creditors.

        This is for the reason that the company is not entitled to the custody or control of
such property as it merely has an equity of redemption. Section 456 of the Companies Act
regulates this procedure. Equally a receiver cannot be appointed of assets in the hands of a
liquidator except by or with the leave of the company court under Section 453 of the
Companies Act.

K2.    Avoidance of Past Transaction Affecting the Assets of a Corporate Debtor

       (a)     To what extent and in what circumstances may the administrator of a
               corporate debtor take steps to recover assets of the debtor by
               overturning past transactions involving property of the debtor? (for
               example preferences given to certain creditors over others, invalid
               charges granted by the debtor, uncommercial transactions entered into
               by the debtor, profits on sales to and from the debtor at an undervalue
               or overvalue.)

       (b)     What powers or mechanisms are available to each type of administrator
               for investigation of the affairs of the corporate debtor, for examination
               of persons formerly involved in the management or control of the debtor,
               and for the discovery of assets of the debtor?

Avoidance of Past Transaction Affecting the Assets of A Corporate Debtor

        Any transfer of property, movable or immovable, delivery of goods, payment,
execution or other act relating to the property made, taken or done by or against a company
within 6 months before the commencement of its winding up, which had it been made, taken
or done against an individual within 3 months before the presentation of an insolvency
petition on which he is adjudged insolvent would be deemed in his insolvency a fraudulent
preference, shall in the event of the company being wound up have deemed to be a
fraudulent preference of its creditors and be invalid.

      Preference made not in the ordinary course of business or in favour of the
purchasers or encumbrancer in good faith and for valuable consideration is liable to be set
64


aside as void against the liquidator. Any transfer or assignment by the company of its
property to trustees for the benefit of creditors is also void.

       Any person preferred is subject to same liabilities as persons in management, who
have given a fraudulent preference (Section 533 of the Companies Act).

        Where a property has onerous covenants or constitute unprofitable contracts the
liquidator can disclaim such property within 12 months from the commencement of winding
up.

        Under Section 536 of the Companies Act any transfer of share made after the
commencement of the winding up is void. Any attachments, distress or execution put without
the leave of the court against the estate of the company after the commencement of winding
up or any sale without the leave of the court of any property or effects of the company after
such commencement is void under Section 537 of the Companies Act.

          Section 538 of the Companies Act prescribes offences by officers of company in
liquidation for offences against the company or creditors in relation to fraudulent removal of
property, concealment of property, non-maintenance of books, non-delivery of books, non-
delivery of the custody of movable and immovable property, suppressed value sales,
omissions in relation to the statement of affairs of the company, false claims of debts,
destruction or mutilation of records, making of false entries, fraudulent alteration of entries,
making of fictitious losses or claims, false representation or obtaining credit, fraudulent
punning or disposal of property of the company for obtaining credit not paid for. There are
independent penalties for falsification of books and frauds by officers under Section 539 and
540 which may extend to imprisonment for seven or two years respectively. There is a
liability for non-maintenance of proper accounts for upto one years imprisonment. In the
event of a person having fraudulently conducted business, Section 542 imposes a two years
imprisonment and a fine of Rs.5,000.

        The court can assess personal damages against the past directors or present
directors, managers, liquidators or officers of the company who have mis-applied or retained
property of the company or has been guilty of misfeasance or breach of trust in relation to
the company. This claim in damages is in addition to the criminal liability incurred. The court
can direct prosecution under Section 545.

        Under the Companies Act once a company is ordered to be wound up, Section 554
of the Companies Act requires a statement of affairs to be made to the official liquidator in a
prescribed form and verified by affidavit. Such a statement of affairs has to be made by the
present or past directors and/or the managers and would indicate the assets, cash and bank
balances, securities, debts and liabilities, names, residential addresses and occupations of
creditors, the debts due to the company and such information as the official liquidator may
require (Section 454). If a person fails without reasonable excuse to make such a statement
of affairs, he should be punished with imprisonment for a term which may extend to two
years or with fine of Rs.100 per day.

       (c)     What procedures may be employed by each type of administrator for the
               recovery of assets of the corporate debtor which are available for
               distribution to creditors? (for example initiation of legal proceedings,
               compensation from directors.)

       Answered above.
                                                                                            65


                          SECTION L      CLAIMS OF CREDITORS


L1.    Claims Admissible for Payment

       (a)     In relation to each type of insolvency procedure available in the legal
               system of this economy, what types of claims of creditors are properly
               admissible for payment in the context of that procedure? (for example
               liquidated debts, future debts, contingent claims, secured claims,
               unliquidated claims for damages, interest claims, costs of
               administration or of legal proceedings, periodical payments, debts owed
               by guarantors of the business organization.)

       (b)     At what date are the amounts of admissible debts computed?

       (c)     By what method are claims of creditors proven by those creditors in the
               context of each type of insolvency procedure?

       (d)     How are disputed claims made by creditors adjudicated upon? (for
               example by the administrator, or by a Court.)

        Under the provisions of rule 149 of the Companies Court Rules every creditor is to
prove his debt unless the judge in a particular case directs that any creditor or class of
creditors shall be admitted without proof. A debt may be proved by delivering or sending by
post to the liquidator an affidavit verifying the debt made by the creditor or by a person
authorized by him.

        A debt has to be proved and must be a debt proved in praesenti. In relation to the
future debts, unless the company is carrying on the business for the beneficial winding up of
the company through the official liquidator, future debts are not admissible unless they are
claims of secured creditors as continuing obligations or are proved and subject to discount
principles as explained below. Secured claims are normally proved outside of winding up
unless the security is waived or given up and the secured creditor proves in winding up. If a
claim for liquidated damages or unliquidated claim for damages is pending then a suit of
such a nature can be required to be continued by the Company Court and upon adjudication
the judgement debt would be admitted as a claim against the company. This would be
subject to the leave of the company court. Interest claims have also to be filed before the
company court as part of the proof.

        On any debt or sums certain payable at a certain time or otherwise wherein interest
is not reserved or agreed or which is overdue at the date of the winding up order, the creditor
may prove for interest at a rate not exceeding 4% p.a. from the time when the demand in
writing was made until the time of payment (Rule 156). If the interest however is contractual
then rule 156 has no applicability.

        Under rule 158 a creditor may prove for a debt not payable at the date of winding up
as if it were presently payable and may receive dividends equally with other creditors
deducting only thereout a rebate of interest at the rate of 4% p.a. computing from the date of
declaration of the dividend to the time when the debt would have become payable according
the terms on which it was contracted.

       The value of all debts and claims against the company as far as possible is to be
estimate according to the value at the date of the order of the winding up of the company or
the date of passing of a resolution for voluntary winding up.
66


        The creditor is liable to produce any negotiable instruments on the basis of which its
claims is filed. Alternatively, the claim has to be filed with an affidavit verifying the debt and
any voucher substantiating the debt. The official liquidator under rule 159 can call for the
production of vouchers referred to in an affidavit of proof or require further evidence in
support of the debt. After inspection, under Rule 163 the liquidator is to admit or reject the
proof in whole or in part and communicate the decision to the creditor. The creditor has a
right within 21 days of the date of the decision to appeal to the company court.

       Within 3 months from the date of submission of proofs, a certificate of the proofs filed
have to be submitted to the company court.

       In the event of a disputed claim, the company court would have to give leave to the
disputants and adjudicate the claim as if the civil suit were before it when evidence is
required for proof of dues.

        Periodical payments like rent or other payments which fall due at stated periods are
regulated by rule 157. Persons entitled to the rent or payments may prove for a
proportionate part thereof upto the date of winding up order or resolution as if the rent or
payment accrue from day to day. If the liquidator remains in occupation then the liquidator
shall remain liable for the rent during the occupation.

L2.    Priority and Payment of Creditors’ Claims

       (a)     In relation to each type of insolvency procedure available in the legal
               system of this economy, what principles apply to the division of
               available assets of the corporate debtor among those of its creditors
               entitled to payment? Is there a basic principle of equality of payment, or
               are rights of priority of payment enjoyed by secured creditors, or by
               certain classes of creditors over others? (for example costs of the
               administration, claims for taxes owed by the debtor, amounts owed to
               employees of the organization.)

       (b)     Give a brief account of the order of priorities, if any, of payment of
               creditors prescribed by the legal system of this economy.

        Rules 272 to 280 deal with sales by the official liquidator and dividends and return of
the capital by winding up by the court. No sale has to be made without the previous sanction
of the court. No dividend or return of capital is made without the sanction of the court.

        Under rule 174 of the Companies Court Rules, the court after hearing all evidence
may adjudicate the claims and settle list of creditors. This procedure is followed by the
company court as a High Court under rule 167 and by the district court under rule 174. Once
the claims are adjudicated then the distributable assets are ordered to be distributed by the
company court which settles list of contributories and the persons allowed claims pursuant to
proof.

        Once the total list of claims is drawn up and settled, there is a basic principle of
equality of payment. Since the secured creditors would not participate in the winding up and
remain outside winding up their property is not distributable by the winding up court. If,
however, the secured creditor has relinquished his security then it would receive equally
without preference.

       Under the provisions of the Companies Act and Section 529, the debts due as
workers due or secured creditors have an overriding preferential claim or priority to all debts.
                                                                                          67


       There are other statutory preferential payments for taxes, revenues and cesses,
wages or salary for past due prior to winding up or for period not exceeding 4 months when
there is a continuing employment for the beneficial winding up and for provident fund,
pension and other claims as stipulated under Section 530 of the Companies Act.

       Rules of insolvency for valuation of annuities and contingent liabilities as are
prescribed by the Provincial Insolvency Act and the Presidency Town Insolvency Act
continue to apply. Under Section 45 of the Presidency Town Insolvency Act a creditor may
prove for a debt not payable when a debtor is adjudicated and insolvent as if it were payable
presently and may receive dividends equally after deducting rebate. This same principle is
embodied in the company court rules. Mutual set off can also be proved before the company
court.
68


                  SECTION M INVESTIGATION BY ADMINISTRATORS


(a)    In relation to each type of insolvency procedure available in the legal system of
       this economy, what powers are given to, or duties imposed upon, each type of
       administrator to investigate, discover and report to a Court or to regulatory
       authorities of the government any breaches of the law by former management
       of the corporate debtor?

(b)    What methods are available to each type of administrator to exercise such
       powers or discharge such duties? (for example examinations of directors,
       powers to inspect books and records, obligations to report to government
       authorities.)

        The provisions of Section 531 and 545 have been set out in detail above. The
procedures for misfeasance, malfeasance and inspection and investigation have been set
out in detail. The powers of the official liquidator for investigation are stipulated in Section
457, which have been discussed above. Powers of discovery and reporting are available to
the official liquidator and the liability of the former directors is provided for under Sections
538 to 545 of the Companies and also discussed above.

        The company court can summon the directors and detailed rules are prescribed for
reporting to the company court for failure to perform duties in relation to the affairs of a
company in winding up and for past conduct.

        Rules 281 to 285 stipulate the procedures for termination of winding up. As soon as
the affairs of the company has been fully wound up the official liquidator has to file a final
account in the court and apply for the dissolution of the company subject to the final
accounts being approved by the court. The official liquidator has to pay the balance into a
public account post distribution made.

        The provisions of Section 551 deal with the conclusion of winding up. The conclusion
takes place on the date when the order for winding up has been reported to the Registrar of
Companies and the surplus, post distribution or unclaimed or undistributable amounts are
delivered to the company’s liquidation account in the Reserve Bank of India.

      The liquidator or the court suo moto can initiate the termination of the insolvency
procedure.
                                                                                          69


                   SECTION N      TERMINATION OF ADMINISTRATION


(a)    In relation to each type of insolvency procedure available in the legal system of
       this economy, by what means may the administration of the corporate debtor
       be terminated?

(b)    Who may initiate the termination of each type of insolvency procedure?

(c)    On what grounds may each type of insolvency procedure be terminated?

(d)    What are the consequences for the corporate debtor of termination of the
       insolvency procedure? (for example to whom does control of the debtor revert
       following termination of the procedure; or if the debtor no longer exists, what
       are the procedures for and consequences of its dissolution?)

        Once the insolvency is terminated pursuant to the conclusion of the winding up the
company is removed from the register of members. If however the insolvency results in
rehabilitation and restoration of the company’s health then a scheme for rehabilitation under
Section 391/394 has to be passed and the sanction order passed by the Company Court
thereunder terminates the insolvency. It is upon the sanction of the scheme for revival or
rehabilitation and the passing of the final sanction order, which terminates the insolvency
procedure.
70


             SECTION O      CONNECTION BETWEEN DEBTOR AND FORUM


(a)    In relation to each type of insolvency procedure available in the legal system of
       this economy, what connection must there be between the debtor organization
       and the law of the forum?

       Are any other requirements imposed in relation to a connection between the
       debtor and the forum before an insolvency procedure may be initiated? If so,
       briefly describe these requirements.

       Are any other requirements imposed in relation to a connection between the
       debtor and the forum before an insolvency procedure may be initiated? If so,
       briefly describe these requirements.

(b)    Are any particular rules or conditions imposed in the legal system of this
       economy regarding the opening or commencement of an insolvency procedure
       in cases where the connection between the debtor and the forum is limited to
       only one of the factors mentioned in (a) above?

         Under Section 10 the court having jurisdiction shall be (a) the High Court having
jurisdiction in relation to the place at which the Registered Office of the company concerned
is situate except to the extent to which jurisdiction has been conferred of any District Court,
subordinate to the High Court and (b) where jurisdiction has been so conferred, the District
Court in regard to which matters falling within the scope of the jurisdiction concerned in
respect of companies having registered offices in the District. The expression “Registered
Office” means the place which has longest been the registered office of the company during
six months immediately preceding the presentation of the petition for winding up.

       Consequently the registered office of the insolvent company or the Debtor Company
determines the place of instituting the insolvency procedure. Other requirements are not
relevant.

        The requirements stipulated for circumstances in which a company may be wound up
by the Court are as provided in Section 433 of the Companies Act which has been discussed
above. Inability to pay debts is a ground for commencement of an insolvency procedure and
a 21 days notice is required to be issued. If an execution process returns unsatisfied or if the
courts determines that the company is unable to pay its debts then it can order the winding
up of a company after notice has been properly issued.
                                                                                             71


                      SECTION P   FOREIGN/CROSS-BORDER ELEMENTS


P1.    Claims of Foreign Creditors

       (a)     In relation to each type of insolvency procedure available in the legal
               system of this economy, to what extent are the claims of foreign
               creditors recognised in the context of administration of that procedure?

       (b)     What principles or rules apply to the recognition and admission of
               claims by foreign creditors? (for example
               (i)    Are claims by foreign creditors subject to particular rules in
                      relation to priority of payment?

               (ii)      Do foreign creditors have to satisfy special or additional
                         requirements in order for their claims to be admitted?)

       (c)     What law is applied to establish the validity of foreign claims?

        The Indian insolvency procedure do not discriminate against debts due to foreign
creditors, as long as such debts have been lawfully incurred. The provisions of the Foreign
Exchange Regulation Act, 1973 provide certain specific requirements for contracting a
foreign debt and prior approvals of the RBI or the Ministry of Finance before contracting a
foreign debt should be in place. If these consents or approvals are filed with proof in the
appropriate insolvency court then the debt can be proved and the courts have even declared
that they have authority to pay in foreign currency.

         Foreign creditors are not given any specific special treatment for priority of payment.
If their debt is agreed to be paid in repatriable currency as declared at the time of the
consent from the Ministry of Finance or the RBI then the decree can be in foreign currency.
The law of India or the law governing the company would be applied in determining the debt
or the claim. The normal procedure of a proof of a claim will be applicable.

P2.    Jurisdiction Over Foreign Assets

       To what extent does the insolvency law of this economy claim jurisdiction over
       assets of a corporate debtor situated abroad?

         The provisions of the Companies Act do not have extra territorial jurisdiction and
extend to only the whole of India. If an Indian company has assets outside the territorial
jurisdiction of India then depending upon the rules of registration of the Indian company or
branch abroad in a foreign jurisdiction, foreign law may apply. An order of insolvency is a
judgement in rem and based on principles of reciprocity and private international law, new
proceedings may have to be instituted in foreign jurisdiction based on foreign law applicable
for the liquidation and winding up and sale of such assets, or branch or foreign company. If
an insolvency order is passed in India, the branch and its assets would be subjected to such
insolvency order, as a branch has no independent legal existence.

P3.    Foreign Insolvency Procedures

       (a)     To what extent do the rules of private international law of the legal
               system of this economy recognise insolvency procedures commenced
               in foreign jurisdictions?
72


       (b)     Under what circumstances, if any, may orders or judgments resulting
               from foreign insolvency procedures or administrations be recognized or
               enforced in the legal system of this economy?

         Indian law will not recognize foreign insolvency procedures over an Indian Company.
An insolvency order in order to be recognised against an Indian company has to be passed
by the Company Court and no foreign court has authority to declare an Indian company as
being wound up. A foreign court can at best pass a judgement against assets within its
jurisdiction. If the judgement is unsatisfied, based upon rules of reciprocity and recognition of
foreign judgements either the foreign judgement or decree may be executed in relation to
reciprocating territories or found a new cause of action based upon the judgement in India.
When a judgement is rendered as a judgement debt and is unsatisfied, insolvency procedure
can commence in India before the Company Court.

       As explained above no foreign court has authority as a Company Court to render a
judgement or order of winding up in a foreign jurisdiction with reference to Indian companies.
Therefore, the question of a foreign insolvency judgement of an Indian Company being
recognised in India does not arise.

P4.    Foreign Insolvency Administrators

       (a)     What recognition is accorded in the legal system of this economy to the
               status and capacity of insolvency administrators (for example trustees,
               liquidators, receivers) appointed in foreign insolvency procedures?

         Under the Civil Procedure Code and Sections 13 and 44A thereof, there are specific
grounds and provisions on the basis of which a foreign judgement can be recognised or
accepted by an Indian Court. Only judgements from a reciprocating country as is notified in
the Indian Official Gazette are recognised. A judgement in rem rendered by a foreign court of
a non-reciprocating territory will not be recognised for purposes of execution and will require
the institution of a new civil suit in India. Consequently the appointment of a receiver or a
trustee or a liquidator from a non-reciprocating territory will not be recognised by an Indian
court. In relation to reciprocating territories when the judgement is transferred or execution is
commenced of a decree from a reciprocating territory then Indian courts would give
assistance and would appoint local agents of a foreign trustee or receiver as requested for
execution or for enforcing a decree. When such decree remains unsatisfied then the
Company Court on a petition or a notice of an unsatisfied judgement or decree, may
commence winding up of an Indian company in India in the Indian Company court having
jurisdiction.

       (b)     To what extent are foreign insolvency administrators entitled to claim,
               take control of, and realise or deal with property of the corporate debtor
               situated within the jurisdiction of the legal system of this economy?

       Answered above.

P5.    Foreign Security Holders

       (a)     To what extent does the legal system of this economy recognise the
               validity of rights of security asserted by foreign creditors over assets of
               the corporate debtor?

       (b)     Are any special rules applicable to determine the validity, extent and
               ranking of such security rights?
                                                                                              73


       The Indian legal system recognizes security of non-resident creditors provided such
non-resident creditors have taken the consent and approval of the Ministry of Finance and
the RBI before the creation of security over the assets of a corporate debtor. The Foreign
Exchange Regulation Act, 1973 requires the foreign creditor to seek approval of the RBI for
creation of security in favour of the foreign creditor. The ordinary rules of ranking applicable
to domestic creditors will apply after the permission has been granted and the same rules
applicable in relation to secured or unsecured creditors will apply thereafter.

P6.    International Conventions

       (a)     To which international conventions having some application in
               insolvency matters is this economy a party?

       (b)     When were these conventions entered into, and what other states are
               parties?

       (c)     What observations can be made about the practical results achieved
               under these international instruments?

        Presently no information has been available on any special international conventions
of insolvency to which India has acceded. In view of the Company Court and the existing
Indian Law, international conventions will not hold the field as rules of private international
law declare that no convention has a priority over domestic private law which is inconsistent
with the convention or a treaty.

P7.    Cross-Border Insolvency

       Are there any other particular issues or special problems in the field of cross-
       border insolvency, not included in the answers supplied above, which have
       presented themselves before the courts of the legal system of this economy?

        In view of limited reciprocating territories there are severe disabilities in instituting
foreign insolvency actions in relation to Indian companies.

P8.    UNCITRAL Model Law on Cross-Border Insolvency

       (a)     Is the government of this economy aware of the UNCITRAL model law
               on cross-border insolvency, approved by the United Nations in June
               1997?

       (b)     If so, are you aware of whether the government has any proposals to
               enact the terms of the model law?

        The Government has not yet proposed to act on the UNCITRAL model for cross-
border insolvency.
74


                         SECTION Q     NEW DEVELOPMENTS


(a)    Are there any recent, imminent or proposed legislative, administrative, or
       practical reforms or developments or proposals in the legal system of this
       economy which impact upon the matters mentioned above?

        The Company’s Bill of 1998 proposes to amend the law of corporate insolvency by
following a short track method. The Company’s Bill is presently referred to the Standing
Committee of Parliament and is awaiting its approval.
                                                                                             75


      SECTION R INTER-RELATIONSHIP BETWEEN LENDERS AND BORROWERS IN
           CONTEXT OF FINANCIAL DIFFICULTY/INSOLVENCY OF THE BORROWER


        Annexed to this working guide is a copy of a recent initiative launched in Indonesia to
encourage private sector restructuring. In effect, this initiative proposes an informal (out of
court) “work out” style of corporate restructuring in appropriate cases. We do not put this
forward as a perfect model but it provides a good basis for examining the prospect of the
possible application of a similar scheme or model in the countries which are the subject of
this project.

        Thus, in this section we ask that you read the annexure [particularly the part headed
“1. Adoption of Principles”, paragraphs “a” to “i”] and, having considered those principles,
comment on their possible application and implementation in your economy. In particular we
would like to know the following:

(a)      by reference to each of the above paragraphs, comment on the suitability of
         their application in your economy;

(b)      state the difficulties that might be encountered in their application in your
         economy;

(c)      briefly state whether (and what) changes or additions might be required to the
         law in your economy for the application of the “work out” methodology and
         whether such changes or additions are a practical possibility.

       Finally, in this section, we would like to know you opinion generally on this initiative,
the areas that you regard as strengths; areas that are weak; and areas where you consider
modification and improvement might be made.

        Already answered in relation to Heading H. The Indonesian model and annexure was
not forwarded to us.
76


                        SECTION S     ASSESSMENT OF PROCESSES


        In this Section we ask you to assess, by reference to various rating scales, the speed,
cost and general efficiency of some of the procedures previously discussed in your economy.
Please give briefly reasons where any such assessment is rated at the lower or negative end
of the scale [indicated by an *]

S1.    Is the process for taking of security over land to secure corporate borrowing:

       Not expensive                                  Easy
       * Expensive               X                    Difficult                  X
       Very expensive                                 * Very difficult

       Very efficient                                 Quick
       * Efficient                X                   Slow                       X
       Inefficient                                    * Very slow

S2.    Is the process for taking of security over property other than land to secure
       corporate borrowing:

       Not expensive              X                   Easy                       X
       Expensive                                      Difficult
       * Very expensive                               * Very difficult

       Very efficient                                 Quick                      X
       * Efficient                X                   Slow
       Inefficient                                    * Very slow

S3.    Is the process for enforcement of security over land:

       Not expensive                                  Easy
       Expensive                  X                   Difficult                  X
       * Very expensive                               * Very difficult

       Very efficient                                 Quick
       * Efficient                                    Slow                       X
       Inefficient                X                   * Very slow

       The process is inefficient in that the time, cost of recovery over land is not properly
estimated and the final adjudication up to the Supreme Court can take any way between 8 to
20 years.
                                                                                     77


S4.   Is the process for enforcement of security over property other than land:

      Not expensive                              Easy
      * Expensive              X                 Difficult               X
      Very expensive                             * Very difficult

      Very efficient                             Quick
      * Efficient                                Slow                    X
      Inefficient              X                 * Very slow

       Even in relation to movable properly the process on account of interference by
workers, and the reluctance of the company to handover movable property renders the
process inefficient and slow.

S5.   Is the process for debt collection:

      Not expensive            X                 Easy
      Expensive                                  Difficult               X
      * Very expensive                           * Very difficult

      Very efficient                             Quick                   X
      * Efficient              X                 Slow
      Inefficient                                * Very slow

S6.   Is the process for winding up (liquidating) an insolvent corporate borrower:

      Not expensive            X                 Easy
      Expensive                                  Difficult               X
      * Very expensive                           * Very difficult

      Very efficient                             Quick
      * Efficient                                Slow                    X
      Inefficient              X                 * Very slow

S7.   Is the process for the possible re-structuring of an insolvent corporate
      borrower:

      Not expensive                              Easy
      Expensive                X                 Difficult               X
      * Very expensive                           * Very difficult

      Very efficient                             Quick
      * Efficient              X                 Slow                    X
      Inefficient                                * Very slow
78


S8.     What is the average time period between the filing of an application for the
        winding up (liquidation or bankruptcy) of an insolvent corporate borrower and
        the formal pronouncement that the corporate borrower will be liquidated:

             1–2 Months
             2–4 Months
             4–6 Months                                             X
             * Other

*Specify time period and give brief reasons

        The notice when replied to normally result in decision for attempting a winding up
between four to six months. Only after reply is received and a dispute of debt is determined
does the court reject a winding up petition. If the claim is admitted the matter is resolved
within four months for admission.

S9.     What is the average time period for the commencement of a formal procedure
        for the re-organisation or re-structure (including a composition) of an insolvent
        corporate borrower and the commencement of the implementation of an
        agreed formal plan of re-organisation or re-structure:

             2–4 Months
             4–6 Months
             8–12 Months                                            X
             * 12–18 months
             * Other

*Specify time period and give brief reasons.

        At least 8 to 12 months are required for consents from creditors to a scheme of
arrangement or composition being accepted and new capital infused. If the company is very
large it may result in the process being more than 12 to 18 months. The rehabilitation
measures at times require change in management, amalgamation and other reliefs which
are time consuming.

S10.    What is the average time period for the commencement of an informal
        procedure (a “work out”) for the re-organisation or re-structure (including a
        composition) of an insolvent corporate borrower and the commencement of
        the implementation of an agreed plan of re-organisation or re-structure:

             2–4 Months
             4–6 Months
             8–12 Months
             * 12–18 Months
             * Other

*Specify time periiod and give brief reasons.

        India does not have many informal workout experiences.
                                                                                            79


S11.   If there are relevant statistics available for the incidence of formal insolvency
       procedures for insolvent corporate borrowers do these show that the
       incidence for (a) liquidation/bankruptcy and (b) re-organisation/re-structure is:

             Very high                                     Very high
             High                                          High               X
             Low                 X                         Low
             * Very low                                    * Very low

S12.   What is your assessment of the predictability (positive, certain outcome) of the
       following processes in your economy:

       (a)     Security enforcement of land
                       Very high
                          High
                          Medium                               X
                          Low
                          * Very low

       (b)     Security enforcement of property other than land
                       Very high
                          High
                          Medium                               X
                          Low
                          * Very low

       (c)     Judicial handling of security enforcement
                       Very high
                          High
                          Medium
                          Low
                          * Very low

       (d)     Judicial handling of debt collection
                       Very high
                          High
                          Medium
                          Low
                          * Very low

       Both the judicial handling of security enforcement as well as the judicial handling of
debt collection varies from low to medium. This is so, because the courts in India have to
contend with several procedural delays, including specifically:
(i)    technical rules of evidence followed bt the Civil Court;
(ii)   provision for appeal and revision at different stages of the suit, appeal and execution;
80


(iii)   intentional delaying tactics adopted by borrowers taking undue advantage of the
        procedures of civil courts;
(iv)    banks and financial institutions have to generally wait in the line for their turn along
        with other litigants on account of backlog of different kinds of suits although their suits
        are for simple money claims and could be disposed off, with the least possible delays
        (this position is slightly different in some High Courts where ‘Commnercial Causes’
        are separately tried);
(v)     several vacancies in courts are not filled up on a prompt basis.

        (e)    Judicial handling of insolvency (liquidation) cases
                       Very high
                         High
                         Medium
                         Low
                         * Very low

        (f)    Judicial handling of cases of re-organisation/re-structure
                       Very high
                         High
                         Medium
                         Low
                         * Very low

				
DOCUMENT INFO
Shared By:
Categories:
Tags:
Stats:
views:24
posted:7/16/2011
language:English
pages:80
Description: Project Indian Co Operative Firms document sample