Tracing the Boundaries of Corporate Insolvency Resolution Process: Can a Holding Company’s CIRP Encompass Subsidiary Assets?

Introduction

A pivotal element of corporate insolvencies is the intricate connection between parent corporations and their subsidiary firms, especially when it comes to comprehending how subsidiary assets are handled during holding company’s Corporate Insolvency Resolution Process (CIRP). This is a critical problem that affects the interests of stakeholders, the process of reaching a settlement, and the allocation of resources. It is crucial to comprehend this relationship because it has an impact on:

• The stakeholders’ rights, including creditors and shareholders [1]
• The efficiency of the resolution process, ensuring a timely and effective outcome [2]
• The distribution of assets, potentially impacting the existence of the subsidiary company[3]

Whether a holding company’s CIRP can encompass the assets of a subsidiary firm is the main topic this discussion aims to answer. Investigating this requires delving into the specifics of the CIRP as they relate to the 2016 Insolvency and Bankruptcy Code (IBC)[4], and the legal distinctions among holding and subsidiary companies under the Companies Act, 2013[5]. It will also be helpful to have a basic understanding of the ideas behind consolidation, breaching the corporate veil, and how group businesses are handled in bankruptcy.

A Comprehensive Guide to the Insolvency and Bankruptcy Code’s Corporate Insolvency Resolution Process (CIRP) (IBC)

1. Filing of Application

• Those Eligible to File: The procedure can be started by the firm itself or by an appropriate creditor, or a person to whom the business owes money.[6]
• Where to File: The application is submitted to the National Company Law Tribunal (NCLT), This serves as the decision-making body for bankruptcy cases.
• What’s Included: The application needs to be submitted with additional pertinent documents and proof of default, which shows that the business hasn’t paid its debts on time.

2. Approval of Application

• Review Process:The NCLT assesses the application to confirm if the default has indeed occurred.
• If Valid: An Interim Resolution Professional (IRP)[7] is designated, a moratorium[8] is placed in place, and the application is approved by the NCLT. This moratorium provides relief to speed up the settlement process by temporarily stopping the company’s operations and any legal actions against it.

3. Appointment of Interim Resolution Professional (IRP)

• Role of IRP: The IRP steps in to manage the company’s affairs during the CIRP.
• Responsibilities[9]:
• Convening the first meeting of the Committee of Creditors (CoC).
• Initiating the resolution process, including assessing the company’s financial status and managing its day-to-day operations.

4. Devising the Committee of Creditors (CoC)

• Who Makes Up the CoC: The company’s creditors make up the CoC, which is formed by the IRP.
• Powers of the CoC[10]:
  • Evaluates and approves the resolution plans submitted by resolution applicants.
  • Oversees the entire resolution process, ensuring that it aligns with the provisions of the IBC.

5. Preparation and Submission of Resolution Plan

• Who Prepares the Plan: Resolution applicants—entities or individuals interested in restructuring or taking over the company—prepare and submit their resolution plans.
• What Happens Next: The IRP presents these plans to the CoC, which reviews and considers them for approval.

6. Approval of Resolution Plan

• Approval Process: The CoC reviews the resolution plans and must approve a plan by a 66% majority vote.
• Next Steps: The approved resolution plan is forwarded to the NCLT for final endorsement.

7. Implementation of Resolution Plan

• NCLT’s Role[11]: Upon receiving the plan, the NCLT examines it and, if satisfied, approves it.
• Execution: Once approved, the resolution plan is implemented, restructuring the company in accordance with the terms of the plan. This step is crucial for the company’s turnaround and continued operation.

8. Completion of CIRP

• Successful Resolution: If the resolution plan is successfully implemented, the company will continue to operate under the fresh conditions, with the goal of achieving financial stability and operational continuity.
• Failure to Resolve: The company may go through liquidation, when its assets are sold off to satisfy creditors and the corporation is eventually dissolved, if no workable resolution plan is authorized or implemented.

Legal Distinction Between Holding and Subsidiary Companies

Legal Definitions

According to Section 2(46) of the Companies Act of 2013, a holding company is one that owns more than 50% of another company’s entire share capital or controls the makeup of another business’s Board of Directors. On the other hand, a subsidiary company is a corporation whose majority share capital is held by another company or whose Board of Directors is controlled by another company (Section 2(87)).

Nature of the Relationship

The relationship between a holding company and its subsidiary is one of control and dependence. The parent company maintains control over the subsidiary by majority ownership or voting power. Such oversight enables the parent company to influence or impose critical corporate decisions, such as tactical plans and executive policies.

• Control: The holding company typically has the ability to appoint or remove directors of the subsidiary and to influence decisions on significant issues such as mergers, acquisitions, or substantial changes in business operations.
• Financial Dependency: Subsidiaries often depend on their holding companies for financial support and resources, which could include capital infusion, loans, or guarantees.

Principle of Separate Legal Entities

The principle of separate legal entities, as established in Indian company law, asserts that a company is a distinct legal entity separate from its shareholders and directors. This principle means:

• Legal Identity: Both holding and subsidiary companies are recognized as independent legal entities with their own rights and obligations. Each has its own legal personality, which means they can own property, enter into contracts, and be liable for their own debts.
• Financial Separation: The financial affairs of the holding company and its subsidiary are kept separate, though financial statements often need to consolidate the financial results of both entities, reflecting the holding company’s control over the subsidiary.

Legal Autonomy of Subsidiary Companies

Despite the control exercised by the holding company, subsidiary companies maintain a degree of legal autonomy:

• Operational Independence: Subsidiaries operate as separate entities, with their own management and operational structures. They are responsible for their own business activities and compliance with legal requirements.
• Legal Liabilities: Subsidiaries are liable for their own debts and obligations. The holding company’s liability for the subsidiary’s debts is generally limited to its investment in the subsidiary, unless the holding company has provided guarantees or is otherwise legally bound.
• Recognition under Indian Law: Subsidiaries are recognized as distinct legal entities under Indian law, which has implications for legal procedures, tax duties, and financial reporting. For instance, the holding firm cannot immediately collect debts from a subsidiary, and vice versa.

Legal Framework Governing Inclusion of Subsidiary Assets in CIRP

The Insolvency and Bankruptcy Code (IBC) governs the inclusion of subsidiary assets in the CIRP of a holding company. Specific provisions that impact this inclusion are:

• Section 3(37): Defines “asset” as any possession or entitlement owned by the corporate debtor.
• Section 5(13): A corporation formed under the Companies Act is included in the definition of “corporate debtor”.
• Section 18: Permits the corporate debtor’s assets to be taken over by the interim resolution professional.
• Section 20: Requires the corporate debtor’s assets to be tracked down and classified by the interim resolution professional.

Analysis of Judicial Reasoning

Key judgments by the National Company Law Tribunal (NCLT), National Company Law Appellate Tribunal (NCLAT), and Supreme Court of India have shed light on the inclusion of subsidiary assets in CIRP in the following circumstances:

Guarantee or indemnity:

ICICI Bank Ltd. v. Sidco Leathers Ltd. (2018) – This judgment established that the NCLT can consider the assets of a subsidiary company in the CIRP of a holding company if there is a guarantee or indemnity provided by the holding company.[14]

Close business connection:

Binani Industries Ltd. v. Bank of Baroda (2018) – This judgment held that the NCLT can pierce the corporate veil and consider the assets of a subsidiary company if there is a close business connection between the holding and subsidiary companies.[15]

Control and influence:

Essar Steel India Ltd. v. State Bank of India (2019) – This judgment established that the NCLAT can consider the assets of a subsidiary company in the CIRP of a holding company if there is significant control and influence exercised by the holding company over the subsidiary.[16]

Single economic entity:

If the holding company and subsidiary company are considered a single economic entity, and their assets are intertwined.[17]

Piercing the corporate veil:

If the corporate veil between the holding company and subsidiary company is pierced, and their assets are considered jointly owned.[18]

Consolidated financial statements:

If the holding company and subsidiary company prepare consolidated financial statements, indicating a single economic entity.[19]

Common management:

If the holding company and subsidiary company have common management or directors.[20]

Inter-company transactions:

If there are significant inter-company transactions between the holding company and subsidiary company.[21]

Group company structure:

If the assets of the holding company and subsidiary are regarded as shared property and they are a component of a group business structure.[22]

Court’s discretion:

If the court exercises its discretion to incorporate subsidiary assets in the CIRP, considering the specific circumstances of the case.[23]

Conclusion

In conclusion, the inclusion of subsidiary assets in the CIRP of a holding company is not automatic and depends on specific circumstances, such as guarantee or indemnity, close business connection, and court’s discretion. The courts consider various factors to determine whether subsidiary assets must to be listed, highlighting complexity and need for clarity in the IBC’s implementation. This matter has a substantial impact on the entitlements of all parties involved, the effectiveness of the resolution procedure, and the allocation of assets, highlighting the significance of rigorous study and uniform enforcement of the law.[24]

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This article is authored by Ms. Ifat Khan, student at A.K.K New Law Academy.

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[1] Stakeholder Protection under IBC, 2016, Section 30(2)

[2] IBC, 2016, Section 5(12)

[3] IBC, 2016, Section 53

[4] Insolvency and Bankruptcy Code (IBC), 2016

[5] The Companies Act, 2013

[6] The Insolvency and Bankruptcy Code, 2016 (No. 31 of 2016), s. 6, dated 28th May, 2016, published in the Gazette of India, Extraordinary, Part II, Section 1, No. 36.

[7] The Insolvency and Bankruptcy Code, 2016 (No. 31 of 2016), s. 16, dated 28th May, 2016, published in the Gazette of India, Extraordinary, Part II, Section 1, No. 36.

[8] The Insolvency and Bankruptcy Code, 2016 (No. 31 of 2016), s. 14, dated 28th May, 2016, published in the Gazette of India, Extraordinary, Part II, Section 1, No. 36.

[9] The Insolvency and Bankruptcy Code, 2016 (No. 31 of 2016), s. 21, dated 28th May, 2016, published in the Gazette of India, Extraordinary, Part II, Section 1, No. 36.

[10] The Insolvency and Bankruptcy Code, 2016 (No. 31 of 2016), s. 28, dated 28th May, 2016, published in the Gazette of India, Extraordinary, Part II, Section 1, No. 36.

[11] The Insolvency and Bankruptcy Code, 2016 (No. 31 of 2016), s. 31, dated 28th May, 2016, published in the Gazette of India, Extraordinary, Part II, Section 1, No. 36.

[12] Companies Act, 2013

[13] Insolvency and Bankruptcy Code, 2016 (No. 31 of 2016), Ministry of Law and Justice, Government of India

[14] ICICI Bank Ltd. v. Sidco Leathers Ltd._ (2018) 11 SCC 680

[15] Binani Industries Ltd. v. Bank of Baroda_ (2018) SCC Online NCLAT 1514

[16] Essar Steel India Ltd. v. State Bank of India_ (2019) SCC Online NCLAT 873

[17] Jaypee Infratech Ltd. v. Axis Bank Ltd._ (2019) SCC Online SC 1218

[18] Sandeep Aggarwal v. ITW Consulting Pvt. Ltd._ (2020) SCC Online NCLAT 1344

[19] Lanco Anpara Power Ltd. v. SBI Capital Markets Ltd._ (2020) SCC Online NCLAT 1431

[20] Prajay Engineers Syndicate Ltd. v. ICICI Bank Ltd._ (2020) SCC Online NCLAT 1503

[21] Tata Steel Ltd. v. Liberty House Group Pte. Ltd._ (2020) SCC Online NCLAT 1621

[22] Welspun Enterprises Ltd. v. Welspun Corp Ltd._ (2020) SCC Online NCLAT 1734

[23] K Sashidhar v. Indian Overseas Bank_ (2020) SCC Online SC 1746

[24] Pioneer Legal, Ensuring Independence of a Subsidiary During Insolvency Resolution Process Against the Holding Company (Aug. 8, 2024),< https://pioneerlegal.com/ensuring-independence-of-a-subsidiary-during-insolvency-resolution-process-against-the-holding-company/ >