01 Sep 2019
IBC offers little respite to resolution of stressed construction companies
The resolution of stressed construction companies remains fairly challenging despite the implementation of the Insolvency and Bankruptcy Code 2016 (IBC), according to ICRA ratings. About 202 construction entities facing financial stress have entered the corporate insolvency resolution process (CIRP) and are falling behind considerably, leaving creditors with a high margin to cover up.
Of the 202 companies, 59 have either achieved resolution or ordered liquidation. The other 143 entities are currently in the process to resolve the matter. According to the ratings, a sample of 15 large companies entered the resolution process where financial creditors have made claims amounting to Rs 1.3 trillion. These companies are either close to the 270-day deadline or have crossed it without a proper settlement, which may result in the liquidation of these firms. The liquidation value, however, covers less than 10 per cent of the creditor’s amount as they do not own any sizeable fixed assets and a large part of their borrowings comprise working capital debt. In most cases, even after resolution, the lenders have faced a significant haircut.
“Timely initiation of the resolution process is critical for a construction company to realise maximum value for its creditors,” says Shubham Jain, Senior Vice-President and Group-Head, Corporate Ratings, ICRA. “Weak liquidity during the interim period could result in deterioration in operational performance, leading to cost overruns, termination of contracts, liquidated damages, penalties, invocation of bank guarantees, etc, which will further increase financial liability.”
A major factor that impedes smooth resolution is the existence of sizeable, non-fund based exposure. Construction companies are required to give clients bank guarantees (BGs); these are generally much higher than fund-based exposure. For stressed entities, the risk of invocation of a guarantee is also higher as the stretched financial position constricts their execution capabilities, which could lead to underperformance as per contractual obligations. The invocation of the BG converts a non-fund based exposure to a fund-based one and increases the overall liability for the company, thus aggravating the stress faced by the entity. The challenges faced will consequently delay resolution and significantly reduce realisable value.