Revival and Rehabilitation of Sick Companies

A company with accumulated losses equal to or exceeding its net worth is classified as a “sick company.” Under the Companies Act, 2013, a comprehensive legal procedure has been laid out for the revival and rehabilitation of such companies. This process is crucial as it provides a pathway for financially distressed companies to regain stability and avoid the drastic measure of winding up. The framework ensures that sick companies can seek relief, concessions and restructuring opportunities to overcome financial difficulties.

What is a Sick Company?

According to the now-repealed Sick Industrial Companies (Special Provisions) Act, 1985, a sick company is one that has been registered for at least five years and has accumulated losses that are equal to or exceed its net worth. In financial terms, net worth refers to the total value of a company’s assets after deducting its liabilities. When a company’s financial condition deteriorates to the point where its losses surpass or match its net worth, it is considered sick.

The Companies Act, 2013, has incorporated similar provisions for identifying sick companies, ensuring that timely measures can be taken to revive and rehabilitate them. The goal is to prevent the loss of government revenue, jobs and creditor investments that typically result from winding up a company.

The Need for Revival and Rehabilitation of Sick Companies

Revival and rehabilitation of sick companies involve taking corrective actions to improve the financial health of a struggling company. The importance of this process lies in its ability to:

1. Preserve Jobs and Economic Stability: Winding up a company can lead to significant job losses, affecting the livelihoods of employees and contributing to economic instability.
2. Safeguard Creditors’ Interests: Creditors, both secured and unsecured, stand to lose their investments if a company is wound up. Revival provides an opportunity to recover debts through restructuring and reorganisation.
3. Maintain Market Confidence: A robust framework for revival and rehabilitation helps maintain investor confidence in the market, as it demonstrates that mechanisms are in place to support companies in distress.
4. Prevent Wastage of Resources: Winding up a company often results in the liquidation of assets at distressed prices, leading to a waste of resources. Rehabilitation allows for better utilisation of assets through restructuring.

Legal Framework on Revival and Rehabilitation of Sick Companies under the Companies Act, 2013

The procedure for the revival and rehabilitation of sick companies is prescribed under Chapter XIX, Sections 253 to 269 of the Companies Act, 2013. This framework provides a structured approach to identifying sick companies and implementing rehabilitation schemes. Below, we explore each step of the process in detail.

Step 1: Determination of Sickness

The first step in the revival process is determining whether a company qualifies as a sick company. This determination is made by the tribunal based on an application filed by the company or its creditors. The key steps in this process are as follows:

1. Filing an Application: Any secured creditor representing 50% or more of the company’s outstanding debt can file an application with the tribunal for the determination of sickness. The application can be filed if the company has failed to:
   • Pay the outstanding debt amount within thirty days of receiving a demand notice from the creditor.
   • Secure or compound the debt as required by the creditor.
2. The creditor must provide evidence that the company has defaulted on its obligations, leading to the application for determination of sickness.
3. Tribunal’s Order: Upon receiving the application, the tribunal examines the facts, circumstances and documents presented. Within 60 days, the tribunal issues an order determining whether the company is sick. If the tribunal concludes that the company is indeed a sick unit, the subsequent steps for revival and rehabilitation are initiated.

Step 2: Application for Revival and Rehabilitation

Once a company is identified as sick, it or its secured creditors can file an application with the tribunal to initiate revival and rehabilitation measures. The application must be accompanied by:

1. Audited Financial Statements: The company’s financial statements for the preceding financial year must be submitted to provide a clear picture of its financial condition.
2. Draft Rehabilitation Scheme: A draft scheme outlining the proposed measures for revival and rehabilitation should be submitted. If the company has not prepared a draft scheme, it must declare this in the application.
3. Other Required Documents: Any additional information or documents required by the tribunal must be provided, along with the prescribed fees.

This application sets the stage for the tribunal to assess the feasibility of reviving the sick company and to determine the appropriate course of action.

Step 3: Appointment of Interim Administrator

Upon receiving the application for revival, the tribunal takes the following actions:

1. Hearing Date: The tribunal sets a date for a hearing to determine the company’s sickness and to discuss the revival measures.
2. Appointment of Interim Administrator: Within seven days of receiving the application, the tribunal appoints an interim administrator to oversee the process. The interim administrator’s responsibilities include:
   • Conducting a meeting with the committee of creditors within 45 days of the tribunal’s order.
   • Assessing whether the revival and rehabilitation of the sick company are feasible based on the draft scheme submitted.
   • Submitting a report to the tribunal within 60 days of the order date, detailing the findings and recommendations.

If the company has not submitted a draft scheme, the interim administrator may be instructed to take over the company’s management temporarily, with the existing staff and management providing necessary assistance.

Step 4: Formation of Committee of Creditors

The interim administrator is responsible for forming a committee of creditors, which plays a crucial role in the revival process. The committee’s composition and responsibilities include:

1. Composition: The committee consists of representatives from each class of creditors, with the total number of members not exceeding seven.
2. Participation: The interim administrator can require directors, promoters or key managerial personnel to attend meetings and provide necessary information or documents.
3. Deliberation: The committee reviews the draft rehabilitation scheme and provides input on its feasibility and potential modifications.

The committee’s role is to represent the interests of all creditors and ensure that the revival scheme is fair and viable.

Step 5: Tribunal’s Order on Revival and Rehabilitation

Following the hearing and review of the interim administrator’s report, the tribunal makes a decision regarding the company’s future:

1. Approval of Revival Scheme: If the tribunal determines that the company can be revived, it will approve the draft scheme or direct the preparation of a new scheme. The tribunal may also appoint a company administrator to oversee the implementation of the scheme.
2. Winding Up: If the tribunal concludes that revival is not feasible, it may order the winding up or dissolution of the company.

The tribunal’s decision is based on a thorough evaluation of the company’s financial condition, the viability of the proposed measures and the input from the creditors’ committee.

Step 6: Appointment of Company Administrator

If the tribunal approves the revival scheme, it appoints a company administrator to oversee its implementation. The company administrator’s responsibilities include:

1. Execution of the Revival Scheme: The administrator is responsible for executing the measures outlined in the rehabilitation scheme. This may involve restructuring the company’s operations, financial management and governance.
2. Management Oversight: The tribunal may authorise the administrator to take over the company’s management temporarily to ensure that the revival process is carried out effectively.
3. Expert Assistance: The administrator can seek assistance from financial, legal and management experts to implement the scheme successfully.

The company administrator plays a pivotal role in ensuring that the revival plan is executed smoothly and that the company regains its financial stability.

Step 7: Preparation of Revival and Rehabilitation Scheme

The company administrator, in collaboration with the company’s management and creditors, prepares a detailed revival and rehabilitation scheme. The scheme may include the following measures:

1. Financial Reconstruction: Restructuring the company’s finances, including debt restructuring, infusion of fresh capital and renegotiation of loan terms.
2. Management Changes: Appointing new management or reorganising the existing management to improve efficiency and decision-making.
3. Amalgamation or Merger: Amalgamating the sick company with a healthier company to consolidate resources and improve financial stability.
4. Sale or Lease of Assets: Selling or leasing non-core assets or business units to generate funds and reduce liabilities.
5. Takeover: Arranging for the takeover of the sick company by a solvent company that can inject fresh capital and expertise into the business.

The revival scheme is a comprehensive plan designed to address the underlying causes of the company’s financial distress and to set it on a path to recovery.

Step 8: Submission of Scheme to Tribunal

Once the revival and rehabilitation scheme is prepared, the company administrator submits it to the tribunal for approval. The following steps are involved:

1. Creditors’ Approval: The administrator presents the scheme to the committee of creditors at a meeting convened within 60 days of the administrator’s appointment. Separate meetings are held for secured and unsecured creditors, who must approve the scheme by the following thresholds:
   • Unsecured Creditors: Representing one-fourth of the amount payable by the company to them.
   • Secured Creditors: Representing three-fourths of the amount payable for the financial assistance provided.
2. Tribunal’s Sanction: If the scheme is approved by the creditors, the administrator submits it to the tribunal for sanction. The tribunal may sanction, modify or reject the scheme based on its evaluation.

The approval of the revival scheme by the creditors and the tribunal is a critical step in the revival process, as it sets the stage for the implementation of the proposed measures.

Sanction and Implementation of Revival and Rehabilitation of Sick Companies Scheme

Once the tribunal sanctions the revival and rehabilitation scheme, it becomes binding on all stakeholders, including the company, its employees, shareholders, creditors, guarantors and any amalgamating company. The key steps in the implementation phase are as follows:

1. Authorisation: The tribunal authorises the company administrator to implement the scheme. The administrator is responsible for executing the measures outlined in the plan and ensuring that the company adheres to the timeline and objectives set forth in the scheme.
2. Reporting: The administrator must submit periodic reports to the tribunal on the progress of the implementation. These reports help the tribunal monitor the effectiveness of the revival efforts and make adjustments if necessary.
3. Modification of Scheme: If challenges arise during implementation or if the scheme fails to achieve its objectives, the company administrator or the company’s secured creditors can apply for modifications to the scheme. The tribunal reviews such applications and decides on the appropriate course of action.

The successful implementation of the revival scheme is essential for restoring the company’s financial health and ensuring its long-term viability.

Winding Up of the Sick Company

If the revival and rehabilitation scheme is rejected by the creditors or fails during implementation, the tribunal may order the winding up or dissolution of the company. The winding-up process involves:

1. Report by Administrator: If the creditors reject the proposed scheme, the administrator submits a report to the tribunal within 15 days, recommending winding up.
2. Tribunal’s Order: Based on the administrator’s report and the overall assessment of the company’s financial condition, the tribunal may order the winding up of the company. The winding-up process involves liquidating the company’s assets, settling debts with creditors and dissolving the company.

Winding up is considered a last resort, as it leads to the loss of jobs, government revenue and creditor investments. The revival and rehabilitation process aims to prevent this outcome by providing a structured approach to rescuing financially distressed companies.

Rehabilitation and Insolvency Fund

To support the revival and rehabilitation of sick companies, the Companies Act, 2013, provides for the establishment of a Rehabilitation and Insolvency Fund. This fund is allocated for the following purposes:

1. Revival and Rehabilitation: Financing the revival and rehabilitation efforts of sick companies, including the implementation of approved schemes.
2. Liquidation: Supporting the liquidation process in cases where revival is not feasible, ensuring that the winding-up process is carried out efficiently and in accordance with the law.

The Rehabilitation and Insolvency Fund serves as a financial safety net for companies undergoing revival and rehabilitation, providing the necessary resources to implement the prescribed measures.

Penalties for Non-Compliance Related to Revival and Rehabilitation of Sick Companies

The Companies Act, 2013, imposes strict penalties for non-compliance with the provisions related to the revival and rehabilitation of sick companies. Penalties may include:

1. False Statements: Providing false statements or information to the tribunal or administrator is punishable by imprisonment for a term of seven years or more, along with a fine of INR 1 lakh.
2. Violation of Tribunal Orders: Violating any order issued by the tribunal or the appellate tribunal can result in severe penalties, including imprisonment and fines.

These penalties underscore the importance of transparency, honesty and adherence to legal procedures during the revival and rehabilitation process.

Conclusion

The revival and rehabilitation of sick companies are critical components of corporate governance and financial management. The Companies Act, 2013, provides a comprehensive legal framework for identifying, reviving and rehabilitating companies facing financial distress. By following the prescribed procedures, companies can avoid the drastic measure of winding up and instead pursue a path to recovery.

The roles of the tribunal, creditors and administrators are central to the success of the revival process. Through collaborative efforts, transparent communication and adherence to legal requirements, sick companies can overcome financial challenges and emerge stronger. The process not only protects the interests of creditors and employees but also contributes to the overall stability and growth of the economy.