Background - Pre-packaged insolvency (a "pre-pack") is a kind of bankruptcy procedure, where a restructure plan is agreed in advance of a company declaring its insolvency. It is an arrangement where the resolution of a company’s business is negotiated with a buyer before the appointment of insolvency professional. According to the IBBI Chief “Pre-pack is like pre-cooked food, you bring it to the venue, heat it and eat it… Many of the tasks are accomplished beforehand and these acquire sanctity on commencement of the Formal process.

Pre-Pack has been in existence in developed countries like the US and the UK for many years and has enjoyed a fair bit of success. It has emerged as an innovative corporate rescue method that incorporates the virtues of both informal (out-of-court) and formal (judicial) insolvency proceedings. It seems to be preferred hybrid framework, as it empowers stakeholders to resolve the stress of a CD as going concern, with the minimum assistance of the State. It is considered fast, cost efficient, and effective in resolution of stress, much before value deteriorates, with the least business disruptions and without attracting the stigma attached with the formal insolvency process. It seems to be a viable alternative to the current corporate insolvency process.

India currently has about 6-7 lakh companies that are classified as MSMEs. They are critical for India’s economy and they contribute significantly for the country’s gross domestic product besides providing employment to a sizeable population. Also, MSMEs in India have relatively suffered most during the current pandemic times.

The government has cautiously introduced the pre-pack regime only for MSMEs, which is welcome, the debtor will continue to control and run the enterprise till resolution happens. In normal CIRP, the RP comes in and takes over on the day of the admission itself. M. S. Sahoo, Chairperson, Insolvency and Bankruptcy Board of India (IBBI) said the objective of introducing pre-pack for MSMEs is that it is a cost effective mechanism and quickens the process for resolution of MSMEs. The pre-pack for MSMEs are based on debtor in possession model unlike the normal CIRP where it is RP in possession. This will give lot of flexibility to existing promoters of MSMEs.

A pre-pack is the resolution of the debt of a distressed company through an agreement between secured creditors and investors instead of a public bidding process. This system of insolvency proceedings has become an increasingly popular mechanism for insolvency resolution in the UK and Europe over the past decade. Under the pre-pack system, financial creditors will agree to terms with a potential investor and seek approval of the resolution plan from the National Company Law Tribunal (NCLT).

Legal Framework

The Insolvency and Bankruptcy Code (Amendment) Ordinance, 2021 was promulgated by the President on the Fourth day of April 2021 and on April 9, 2021 IBBI (Pre-Packaged Insolvency Resolution Process) Regulations, 2021 was notified by the IBBI.

Key features of them are as:

Eligibility Criteria for Pre-Packaged Insolvency (Section 54A):

• A corporate debtor classified as a MSME under the MSME Development Act, 2006
• A corporate debtor, who commits a default of Ten Lakh Rupees or more referred to in section 4, subject to the following conditions, that––
• No PPIRP or CIRP during 3 years preceding the initiation date;
• Not undergoing CIRP;
• No order of liquidation passed;
• and Eligible u/s 29A to submit plan;

Pre-initiation duties of RP (Section 54B):

• Prepare a report in Form P8, confirming whether the corporate debtor meets the requirements of section 54A,
• the base resolution plan conforms to the requirements referred to in clause (c) of sub- section (4) of section 54A;
• file such reports and other documents, with the Board, as may be specified;

Base Resolution Plan:

It is resolution plan prepared by CD, submitted to RP for further consideration of COC members within 2 days of commencement of insolvency. If COC rejects the same, RP invites prospective resolution plan and under the Swiss Challenge model, invited prospective resolution plans will be compared to the base resolution plan. Ultimately, the most feasible plan, which fulfils the prescribed criteria, shall be sanctioned for the resolution of the corporate debtor.

The adoption of Swiss Challenge Model will ensure that pre-pack mechanism retains competitive tension such that promoters propose plans with least impairment to rights and claims of creditors,

Application to initiate pre-packaged insolvency resolution process (Section 54C and Regulation 14):

• Convene meeting of financial creditors by issuing 5 days advance notice along with list of creditors in Form P2.
• A corporate debtor file an application with the Adjudicating Authority for initiating pre- packaged insolvency resolution process in Form P4 along with-
• the declaration in Form P6
• the name and written consent of RP in Form P1and his report in Form P8
• a declaration regarding the existence of any transactions of the corporate debtor in Form
• Information relating to books of account of the corporate debtor and such other documents relating to such period as may be specified.
• The Adjudicating Authority shall pass an order within a period of fourteen days of the receipt of the application.
• The pre-packaged insolvency resolution process shall commence from the date of admission of the application.

Registered valuers (Regulation 38):

• The resolution professional shall within three days of his appointment, appoint two registered valuers to determine the fair value and the liquidation value of the corporate

• The resolution professional and registered valuers shall maintain confidentiality of the fair value and the liquidation value.

Declaration of Moratorium, Public announcement List of claims and preliminary information memorandum (section 54E& 54G and Regulation 19 & 20):

• A period of moratorium is declared by AA along with order of admission and public announcement is made by RP within 2days of his appointment in Form P9.
• The corporate debtor shall within two days of commencement date submit a list of claims in Form P10 and a preliminary information memorandum to the RP.

Management of affairs of corporate debtor (section 54H Regulation 50):

• During the pre-packaged insolvency resolution process period, the management of the affairs of the corporate debtor shall continue to vest in the Board of Directors or the partners, as the case may be, of the corporate debtor.
• The corporate debtor shall not undertake any of the following actions without obtaining prior approval of the committee, namely:-
• transaction above a threshold as decided by the committee; and
• any other matter as decided by the committee and not covered under section 28.
• The corporate debtor in consultation with the resolution professional shall prepare a monthly report and forward it to the members of the committee with the following details:
• details of legal proceedings having a material impact on the business of the corporate debtor;
• details of key contracts executed during the reporting period; and
• any other relevant matter(s) that may have a material impact on the business of the corporate debtor.
• RP shall make an application in Form P14 if the committee of creditors decided to vest the management with him.

Committee of creditors (Section 54-I):

• The resolution professional shall, within seven days of commencement date, constitute a committee of creditors and first meeting will be held within 7 days of constitution.
• A meeting of the committee shall be convened by giving not less than three days‘ notice in writing to every participant.
• A meeting of the committee shall quorate if members of the committee representing at least thirty three percent of the voting share are present either in person or by video conferencing or other audio and visual means.
• The resolution professional shall circulate the minutes of the meeting by electronic means to all members of the committee and authorised representative, within twenty-four hours of the conclusion of the meeting.

Consideration and approval of resolution plan (Section 54K):

• The base plan submitted by corporate debtor to the RP will be presented for COC approval and in case of rejection RP shall invite resolution plans in Form P11 not later than twenty-one days from the pre-packaged insolvency commencement date.
• Where a resolution plan is approved by the committee, the resolution professional shall submit an application, along with a compliance certificate in Form P12, to the Adjudicating Authority for approval.
• This is also to be noted that in case of MSME section 240A of the IBC will be applicable and accordingly the promoter himself can file the resolution plan.

Time-limit for completion (Section 54D):

• PPIRP shall be completed within a period of 120 days commencement However the resolution professional shall submit a resolution plan, as approved by the committee of creditors, to the Adjudicating Authority within a period of 90 days. Where no resolution plan is approved by the committee of creditors the resolution professional shall file for termination of the process in Form P13.

List of Forms to be File:

Forms	Purpose
Form P1	Written consent under regulation 7(1)
Form P2	List of creditors of corporate debtor under regulation 14
Form P3	Approval of terms of appointment of resolution professional under regulation 14(5)
Form P4	Approval for initiating pre-packaged insolvency resolution process under regulation 14(7)
Form P5	Written consent to act as authorised representative under regulation 15(iii)
Form P6	Declaration by director/partners under regulation 16(1)
Form P7	Declaration regarding existence of avoidance transaction(s) under regulation 16(2)
Form P8	Report of the insolvency professional under regulation 17
Form P9	Public announcement under regulation 19(2)
Form P10	List of claims under regulation 20
Form P11	Invitation for resolution plans under regulation 43
Form P12	Compliance certificate under regulation 49 (1)
Form P13	Application for termination of pre-packaged insolvency resolution process under regulation 49(4)
Form P14	Application for vesting management with resolution professional under regulation 51

CIRP vis-a-vis a Typical Pre-pack:

A key difference between pre-packs and CIRP is that the existing management retains control in the case of pre-packs while a resolution professional takes control of the debtor as a representative of financial creditors in the case of CIRP. The other differences are enumerated below:

Parameter	CIRP	Typical Pre-pack
Objective,	Going Concern Resolution failing which, Liquidation	Going Concern Resolution
Transparency	More	Less
Flexibility	Less	More
Cost Effectiveness	Less	More
Time Effectiveness	Less	More
Disruption to Business	More	Less
Conducive for Group Insolvency	Less	More
Value Maximisation	Yes	Yes
Possibility of Resolving Stress	Less	More
Supremacy of Stakeholders	Yes	Yes
Regulatory Benefits	Yes	Generally, No
Role of Court and IP	More	Less
Binding Outcome	Yes	Generally, Yes

Benefits and Challenges:

Benefits:

• Quick Resolution: It is difficult to keep a company going on in a stressful state for long. If stress is not resolved quickly, its value may erode and ultimately disappear making resolution difficult. Longer time not only makes rescue difficult but also increases costs of resolution.
• Cost Effective: Since the CD continues with the existing management during pre-pack, it avoids the cost of disruption of business as it does not shift management to IRP to RP and then to successful RA and continues to retains employees, suppliers, customers, and investors.
• Value Maximization: The value depletion is aggravated due to the public nature of a formal insolvency process, whereby the reputation and brand of the CD suffers. Pre-pack preserves value by cutting down these elements of the formal process. This is often key to saving small businesses that cannot withstand the costs of a prolonged insolvency, and thereby helps in maximizing value.
• Job preservation: Since a pre-pack may commence at the earliest sign of distress, it facilitates continuity of its operations without any job loss.
• Group resolution: Given that resolution of a group of companies can be value-adding as compared to a separate insolvency proceeding for each company in distress; many jurisdictions are contemplating to make available an enabling framework for the same.
• Lighter on Courts: The courts usually have limited infrastructural capacity and can perform its obligations within its limits. A pre-pack has the potential to reduce litigation, due to its informal and consensual nature.

Challenges:

• Promoters Attachment with his Company: In MSME sector the business are run in a family kind of setup where every member of the family is contributing towards the running of the business. In some companies the extended family is also involved. In such cases the closure of a business would be like a death knell to the family also. In these circumstances the promoter would not want to get into the pre pack insolvency.
• Promoter is the Management: As stated earlier, in MSME sector the business are run in a family kind of setup where every member of the family is contributing towards the running of the business. Every function is in some way or the other is being managed by the family members. If the resolution by a third company is received there will be no personnel to manage the affairs of the company. Also in MSME sectors it is very easy to divert the entire operations of the company in no time as the entire business is sometimes confined to one mobile only.
• Pre-packs lack transparency: Private negotiation and understanding among a set of stakeholders prior to commencement of formal process, which contribute to advantages of pre-pack, is often a source of concern. The nature of pre-pack administrations leads to a lack of transparency before the sale as the parties work to secure the future of the business without risking the confidence of creditors, customers and employees. Unsecured creditors feel disenfranchised by this secrecy, particularly where the purchaser is connected to the insolvent company.
• Marketing of pre-pack companies for sale is insufficient: It is important to improve creditors’ perceptions that they are getting the best deal available. This should improve confidence in pre-pack administration and in the insolvency regime more generally.
• More must be done to explain the valuation methodology: Where there is a connected sale the purchase price often exactly matches the valuation figure. This leads to the suspicion that a purchaser has set a valuation as an indicator of how much it is prepared to pay, rather than the market value of the assets in question. The valuation was often limited to certain assets, normally the assets and property, but not the intellectual property or goodwill. More could be done to explain the valuation methodology.
• No consideration is given to the future viability of the new company: The insolvency practitioner has no legal requirement to look at the future viability of the new business emerging from a pre-pack sale. His/her only legal responsibility is to the creditors of the old business.
• Phoenixing: Sale of business and assets of the CD to connected parties has resulted in harsh criticism from some market participants with some going to the extent of calling it a “sham to simply ditch debt”. The reason for such criticism is ‘phoenixing’ of companies “whereby companies are successively allowed to run down to the point of winding up, only to rise phoenix-like from the ashes as a new company formed and managed by an almost identical group of persons and utilising a company name similar to that under which the former company was trading.” It observed that often the connected party may be the only party willing to make the best or only offer for the business. They may see it as their livelihood and want to ‘have another go’. ‘Having another go’ can be a good thing only if that party has learnt from its previous mistakes.

Opinion

Prepack is a good initiative for MSME enterprises but there is a concern relating to the capacity and infrastructural constraints of NCLT to handle proceedings which may arise on account of pre-pack. Though prepack is lighter for the AA, the number of pre-packs could be overwhelming. The pendency of applications for admission, which is huge, may increase once the suspension of application for CIRP in respect of COVID-19 period default expires. Government needs to further augment the NCLT’s infrastructure so that prepacks can be implemented in time bound manner.

Conclusion

A pre-pack is only viable in a turnaround situation if the three key ingredients of turnaround are addressed during the process:

• restructuring (the Administration process itself)
• refinance (new and/or replacement money), and
• management (both people to take the business forward and a properly structured game plan)

If used correctly, the pre-pack administration can benefit all parties. The secured and unsecured creditors of the old company benefit through the sale process. The business going forward has the best possible kick start free from historic debt. The onus however, is on directors and Insolvency Practitioners alike, to avoid inappropriate behavior and ensure the best possible deal really does taken place.