Essar Steel Insolvency: Real Deal Or Window Shopping?
In India, important economic legislation has a habit of jumping off the deep end.
The rules to operationalise the Companies Act, 2013, the first big company law rewrite in over 50 years, were being finalised on the midnight before the law came into force.
The Goods and Services Tax, rates for which were announced barely a month before implementation, has plunged small Indian businesses into sink-or-swim mode.
And now the Insolvency and Bankruptcy Code (IBC) will pass one* of its first important tests by attempting to resolve an asset with no less than Rs 44,000 crore in debt. In just over a year of its enactment.
The Essar Steel matter is trial by fire.
It has all the ingredients of a potboiler.
- A promoter that is a large Indian business family group reluctant to let go of the asset despite its inability to repay the debt.
- A large clutch of Indian lenders led by State Bank of India and a foreign lender too in Standard Chartered.
- A resolution process that's begun, with five big metal companies and Essar's promoter family, the Ruias, expressing interest in the asset.
- And an outcome that virtually no one can foresee.
The Bid Process
The 5 interested parties (the bidders)—Tata Steel Ltd., Arcelor Mittal, Vedanta India Ltd., Sumitomo and SAIL—will now have to present resolution plans to the resolution professional.
Before that, an information memorandum will have to be circulated, site visits organised, books opened up. As it's an unlisted company, limited current information is available on Essar Steel.
Who will ensure the bidders get all the information they need to present competitive resolution plans (bids)? After all, they are competing with an insider—the Ruias.
- What are the asset parameters?
- Are there any poison pills?
- Who takes responsibility of the data provided?
- Who will offer reps and warranties?
These are just some questions bidders will grapple with.
From financial statements to material litigation to liquidation value, the IBC regulations list all the information to be provided in the memorandum. Some resolution professionals are also creating a data room to give bidders access to more meaningful information, says bankruptcy lawyer Alok Dhir in a phone chat. But he agrees that in cases where the promoter is permitted to bid, other bidders will be at a disadvantage and this may hurt bid pricing.
In cases where promoters are also permitted to bid, they clearly have more information as against the unconnected resolution applicants and due to this information asymmetry, the other resolution applicants may discount their bid prices, due to which values achieved under the IBC are not necessarily the best value for the assets/corporate debtor.Alok Dhir, Managing Partner, Dhir & Dhir Associates
The promoter is an insider, one can’t help that. It’s like that everywhere, says a financial sector expert who didn’t want to be identified.
He believes the promoter has an advantage only when taking a point of view on contingencies. Otherwise, bid prices will be similar he says, drawing a distinction only between strategic and financial players.
Conventional wisdom suggests the bidder that offers the best price for the company i.e.: smallest haircut for the lenders, should prevail.
But will the resolution professional and thereafter the committee of creditors consider other criteria? The law doesn’t require it. All it says is the committee may “approve any resolution plan” with or without modifications and that the plan needs 75 percent approval.
The committee of creditors may approve a resolution plan by a vote of not less than seventy five percent of voting share of the financial creditors.
The committee may approve any resolution plan with such modifications as it deems fit.
There is complete freedom to the committee of creditors to decide which bid they want to pick and what parameters to apply. It would obviously have commercial considerations in mind. That would certainly involve best pricing, terms of payment (period), financial status and proven track record of resolution applicant and his ability to sustain deferred payouts under the resolution plan and withstand industry cycles.Alok Dhir, Managing Partner, Dhir & Dhir Associates
Will Ruias Let Go Easily?
More scenario gazing, more questions. What if the Ruias offer to match the best bid? Sure, they'd have to explain how they now have the money to support this if till March they didn't. And maybe they'll cite the Essar Oil Ltd. sale to explain their new-found financial might.
But would a resolution professional and the committee of creditors make room for such a situation? Will they lean towards the comfort of returning the company to the hands that built it?
If such a possibility were to arise, would it be necessary for the bid to beat the restructuring plan which the Ruias claim the company was close to finalising with lenders before it ended up in the insolvency process?
If the terms of the bid, which would necessarily include an upfront payment and debt repayment plan, are no better than the half-finalised restructuring plan, would this process be considered a failure?
The proposed restructuring plan details are not in the public domain. So only the company and its lenders would be able to make that comparison. The Ruias, of course, know how to better the restructuring plan. Other bidders don't.
The Litmus Test
As it unfolds, this resolution process will answer some critical questions, setting precedent for all the other large insolvencies the RBI has lined up.
In the face of promoter reluctance to sell, can the lenders prevail?
How many bidders will eventually show keenness to tangle with the Ruias in seeking to capture control?
Will the Ruias participation vitiate, or at least complicate, the process?
Will price be the final determinant in such a bid process or will "other factors" come into play?
Will the bid necessarily better the claimed restructuring terms?
If the Ruias make the best bid and win back the asset, no matter the legitimacy of the process, will it be deemed a farce?
Will this end up being a window shopping exercise for the other bidders?
Many lawyers don’t share that cynicism.
How is this different from pre-packs so popular in the U.S.? How is it different from the CDR/JLF processes, which still exist? Just because we have a new law that doesn’t mean promoters should not be allowed to participate in the process. Unless, of course, they have been classified as willful defaulters, etc.Jayesh Shah, Co-Founder, Juris Corp
Dhir echoes that.
The process of IBC should not be looked at through morally coloured glasses but a commercial call to be taken by the creditors keeping all the facts in mind to help them decide what is best for them in their own interest, he says.
Promoters are as much entitled to be resolution applicants for the corporate debtor. In my view, they can offer the best value considering their long-term involvement with the asset and the information asymmetry with unconnected resolution applicants. However, if the committee of creditors is of the view that the existing promoters have acted with mala fides or are not appropriate (for any other reason) to be handed back the assets, then it is free to reject their bid even if it is the highest bid.Alok Dhir, Managing Partner, Dhir & Dhir Associates
*The Bhushan Steel resolution process (more than Rs 40,000 crore in debt) is also underway but it’s not clear yet whether the promoters have thrown their hat in the ring.