Essar Steel appeals could finally clear up two key remaining bankruptcy-code ambiguities – analysis - Debtwire

Essar Steel appeals could finally clear up two key remaining bankruptcy-code ambiguities – analysis

12 April 2019 - 12:00 am

The competing appeals on the Essar Steel India creditor-allocation levels could finally clear up two of the key remaining ambiguities encumbering India’s bankruptcy regime: whether judges can impose changes to a resolution plan and how a resolution plan should treat secured creditors with vastly different collateral claims.


The Supreme Court today threw the case back to the National Company Law Appellate Tribunal (NCLAT), rejecting State Bank of India’s 1 April appeal petition, seen by Debtwire, effectively calling on the apex bench to finally wrap up the distressed Indian steelmaker’s highly litigious, nearly two-year long court-supervised bankruptcy resolution process.


Instead, the top court may have delayed creditors receiving any recoveries, by setting aside today the need for resolution provider ArcelorMittal India to deposit funds towards the settlement, something a 9 April NCLAT order intimated might need to happen even, as the final allocation levels are still being determined.


After being approved by financial creditors on 25 October, the ArcelorMittal resolution plan for Essar Steel was sanctioned by the Ahmedabad National Company Law Tribunal (NCLT) on 8 March. But the sanction order included the “suggestion” that financial creditors agree to redistribute the INR 420bn (USD 6.07bn) allocated to them, including by equalizing Standard Chartered Bank with other secured creditors and improving the lot of trade creditors.


The suggestion was then broadly turned into a directive by the two-member National Company Law Appellate Tribunal (NCLAT) bench in a 20 March order, which compelled financial creditors to meet for the purpose of reconsidering the allocation levels.


When the financial creditors complied on 27 March, they voted in favor of forsaking around INR 10bn (USD 144.55m) of their allotment in favor of trade creditors but refused — with the support of 90% by value — to assign a higher payout to Standard Chartered, as reported.




Following today’s Supreme Court order, the NCLAT will now have to get back to working through pleas by Deutsche Bank and State Bank of India on the one hand, and quasi-secured Standard Chartered Bank and trade creditors on the other, over whether the distribution levels actually need to be revised.


The next NCLAT hearing on the matter is scheduled for 23 April.


“The uncertainty on allocation of funds offered in a resolution plan has an impact both on how lending decisions are made in distressed [situations] as well as standard scenarios and on the insolvency process since the allocation may be challenged and the plan approval will be delayed,” said AZB & Partners insolvency practitioner Piyush Mishra. “[An] SC judgment will help bring certainty.”


(AZB, a leading Indian law firm, has advised on various matter related to the Essar Steel resolution process, though not Mishra himself)


The arguments


SBI, in its 1 April Supreme Court appeal petition, argued that the two company-law benches overstepped their powers by interfering with the “commercial wisdom” of financial creditors, who are solely empowered by the Insolvency & Bankruptcy Code (IBC) to determine the correctness of a resolution offer. The NCLT’s power is broadly limited to vouching that the resolution process was executed properly.


The Indian bank justified StanChart’s token allocation in part by noting that the other secured creditors – the self-described “Project Asset Secured Lenders” – were backed by much more valuable collateral, and thus deserve to be granted superior recoveries.


“Standard Chartered Bank… has taken a commercial risk, to lend… against inadequate security based on its commercial wisdom and hence, cannot pass on its risk on account of imprudent lending on the [project lenders] who have acted prudently …,” SBI argued in the appeal petition.


The Supreme Court has already worked through the main other important challenges to the function of the IBC, including squashing last month the Reserve Bank of India’s blanket timeframe for defaulters to be referred for bankruptcy. Other core contentious issues resolved by the top court previously were upholding the constitutionality of the Code and the Section 12A ability of creditors to terminate a bankruptcy process; limiting the Section 29A eligibility restrictions; and endorsing the financial creditors’ exclusive sole right to vote on a resolution plan.


Then in a conceptually-related landmark ruling over the Swiss Ribbons insolvency, the Supreme Court on 25 January highlighted “…the importance of ensuring equitable treatment to similarly placed creditors.” It also recognized the NCLT’s and NCLAT’s powers to question determinations made by financial creditors – the committee of creditors (CoC) — at least in the case of whether to pull a company out of bankruptcy.


“If a plan drafted vitiates the Code, then [the law court benches] can recommend changes in the plan,” said another bankruptcy lawyer.




For the argument against the commercial-law benches’ right to meddle, SBI is relying in part on a Supreme Court order dated 5 February, which said that no law has been, “envisaged by the legislature to empower [the lower benches] to reverse the ‘commercial decision’ of the CoC much less of the dissenting financial creditors for not supporting the proposed resolution plan.”


As for justification of divergent distributions, the “Project Asset Secured Lenders” raise three key points: The nature, quality and value of their security interest is superior to StanChart’s; the project loans were utilized by Essar Steel to construct assets while StanChart’s loan was used by an offshore subsidiary for acquisitions; and lastly, the Essar Steel guarantee invoked by StanChart was obtained without the required consent from the project lenders.


To support their claim of a better security, the project lenders provided valuations from Duff & Phelps and RBSA Valuation Advisors showing that their claims are backed by assets providing a 99.66% loan-to-fair-value while StanChart’s are only 0.7% covered. The figures are even worse for Standard Chart in a liquidation scenario.


SBI’s appeal states that StanChart’s security is merely a shares pledge in an overseas vehicle, Essar Steel Offshore Limited. To treat those claims as pari passu with project lenders is “in the teeth of” the Swiss Ribbons order directing that “treatment has to be ‘equitable’ and not ‘identical’; that distribution has to be in accordance with the ‘relative ranking and interests’.”


Essar Steel’s Alvarez & Marsal-backed resolution professional, Satish Kumar Gupta, had initially classified StanChart as an unsecured financial creditor but — despite severe push back from other creditors — later reclassified the bank as secured, after looking through the loan documents and obtaining legal advice on the matter, according to a note to the published claims list dated 5 March.


The IBC puts the onus on a resolution professional to determine the nature and verification of claims against a bankrupt company.


SBI, in the appeal, stated that StanChart’s claim emanated from an approximately INR 3.50bn (USD 50.59m) loan backed by against a share pledge valued at INR 240m (USD 3.47m).


SBI – echoing concerns raised by Deutsche Bank in a late March letter to follow creditors – contends in the appeal changing the distribution levels could have larger ramifications.


“The failure to not recognise such distinction and paying creditors without reference to their security would tantamount to depriving a prudent creditor of its security in favour of an imprudent creditors [sic] and would have the cascading effect of the secured lending market of the country becoming an unviable avenue for the lenders in the country, in a complete departure from the centuries old economic practices,” the appeal states.


As is common for these kinds of appeals, the SBI filing contains a mix of points-of-law augments, some more fundamental than others.


The nub of the less fundamental challenges is over the NCLAT’s failure to provide the required reasoning for its directions, its failure to hear out the project lenders before giving the directions, and its seemingly contradictory 18 March and 20 March orders. While the earlier order expressly refrains from imposing a stay on the implementation the resolution plan, the latter order injuncts the distribution of proceeds, which amounts to self-review, a power not explicitly vested with the appellate bench.


Shardul Amarchand Mangaldas (SAM) is advising the committee of creditors. Cyril Amarchand Mangaldas (CAM) is the advisor to the resolution professional. Singhi & Co is advising Standard Chartered Bank. L&L Partners and S&R Associates are the legal advisors to ArcelorMittal India.


 by Pallavi Ail