Committee of Creditors- Roles, Responsibilities & Functions

Committee of Creditors- Roles, Responsibilities & Functions

Committee of creditors. It may sound like a high-functioning group of financial experts. Or perhaps a round-table conference of discussions related to matters of corporate banking. 

Or perhaps you cannot fathom what it may be. Whether you're a layman trying to further your knowledge or entering the banking world, it is essential to understand this terminology.

What is a committee of creditors?

In simple terms, a committee of creditors is a group of people representing a company’s creditors during a bankruptcy proceeding. Consequently, this committee is majorly responsible for a company’s future and/or possible reorganization.

This committee decides whether a company should be liquidated with immediate effect and will enter deals with debtors and other creditors. 

It functions based on the administrative decisions taken by the insolvency resolution professional. However, they may question the resolution plan if the need arises.

The following are the major roles and responsibilities of a committee of creditors:

  1. To take important decisions regarding the future of the company.
  2. To approach the adjudicating authority and initiate legal proceedings against the debtor.
  3. To change the resolution approach, if necessary.
  4. To initiate proceedings for liquidation of a company. This can also be done in cases of suspected fraud or foul play.
  5. In case of dissatisfaction with the resolution plan, they have the authority to replace the insolvency professional.

A committee of creditors consists of both secured and unsecured creditors. Secured creditors are associated with credits backed by collateral. 

An example of a secured creditor is a bank. Unsecured creditors are associated with credits not backed by collateral. 

These credits carry a higher amount of risk, as there is no collateral for the creditor to fall back on. 

Examples of unsecured creditors are contractors and customers. It is important to ensure that the committee of creditors is adequately represented by unsecured creditors as well.

How Does the Committee of Creditors function?

Secured creditors usually get paid back first. This is because they can directly lay claim to the collateral on their loans. 

Unsecured creditors have more or less power depending on how much they are owed. The court will have the final verdict on a fair decision for all parties involved. 

The committee members can seek professional advice as a part of their work (legal counsel, accountants, appraisers, etc.). 

An important role of the committee of creditors is determining whether the company needs to be liquidated immediately. 

This is decided based on whether the repayment would be possible if the company's assets were sold or if it remained in operation.

What is bankruptcy?

Wikipedia defines bankruptcy as a legal procedure through which people or other entities who cannot pay debts to creditors are relieved of some or all of their debts.' 

A debtor initiates a bankruptcy proceeding. The term 'bankruptcy' is often wrongly used as a synonym for 'insolvency.' 

Insolvency refers to a state of being unable to pay debts. Bankruptcy is a legal proceeding which is imposed by a court order. Hence, it is wrong to use the two words interchangeably.

The committee of creditors makes all the important decisions in the Corporate Insolvency Resolution Process (CIRP). 

The CIRP is a recovery scheme for creditors. There are two methods used to evaluate the corporate insolvency of a company:

1. Cash-flow Test 

This checks whether the company can pay its debts currently or in the future.

2. Balance Sheet Test

This is the value of a company’s assets less than its liabilities.

Once the evaluation is done, a CIRP process can be initiated by the committee of creditors or by a single creditor. The committee will then decide whether the debtor is capable of repayment or not. 

Repayment capability will be evaluated by IRPs (Insolvency Resolution Professionals). IRPs will evaluate a company’s assets and liabilities and determine the defaulter’s repayment ability.

Proceedings of a CIRP 

Before applying for a CIRP, certain necessary documents have to be produced. Once the documents are approved, the creditors can apply for a CIRP.

1. The committee of creditors or individual creditors must approach the National Company Law Tribunal (NCLT). This confirms their entry into the CIRP proceedings. 

The creditor/creditors must show proof of payment defaults by the debtor. The defaulted debt must be upwards of one lakh rupees. The application is either accepted or denied by the NCLT. The NCLT should pass the order within fourteen days.

2. Once the approval comes through, the creditors can make a demand for the repayment of debt. It is then open to the debtor to defend the claim.

3. Once the debtor enters the CIRP proceedings, an Insolvency Resolution Professional is appointed. 

The company management is then placed under an interim resolution professional. From this time, until the CIRP proceedings are completed, the management will not have any control over the company's activities.

4. In addition to this, a moratorium is sanctioned. The moratorium prohibits certain activities. These include:

  • Transfer of the debtor’s assets
  • Beginning any new legal matters on the debtor.
  • Termination of the supply of basic goods and services

5. The moratorium lasts until the debtor enters the CIRP.

6. The IRP lists and verifies the claims made by the creditors. The committee of creditors is officially formed within 30 days after entering the CIRP proceedings. 

This is in case a single creditor initiates the CIRP proceedings. If this creditor is found to be true, the claims made will allow other creditors to enter the proceedings and form a committee.

7. The committee of creditors appoints another resolution professional. This individual will carry out the remainder of the CIRP proceedings. The committee may also decide to appoint the same person if they agree to do so.

8. Within 180 days of the initiation of the CIRP, a resolution plan has to be formulated. The proposed resolution plan should satisfy the criteria of the IBC (Insolvency and Bankruptcy Code). This is the duty of the resolution professional.

Once the plan is proposed, there are two outcomes:

1. The plan is approved – In this case, the resolution professional must coordinate all legal proceedings and obtain necessary documents. The resolution plan should adhere to the criteria laid down by all stakeholders/creditors/employees involved in the CIRP.

2. The plan is not approved – If the resolution plan is not approved, the NCLT is obliged to order the liquidation of the corporate debtor. Once liquidation is approved, the committee of creditors appoints a liquidator. The liquidator is responsible for selling the debtor’s assets, which are shared among the stakeholders.

Read more,

Valuation Under Companies Act

Plant And Machinery Valuation

Valuation Under Sarfaesi

Conclusion

It is plain to see that the committee of creditors plays a huge role in deciding the fate of a company in debt. 

It is the creditors, secured or unsecured, that are responsible for the future of the company. Together with IRPs and the law, the committee of creditors is the main deciding factor in a debtor company’s operation or reorganization.

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