Introduction

Shortly after Indian law enforcement authorities started investigating Nirav Modi, Firestar Diamond Inc., a company owned by him in the United States of America, along with its affiliates and subsidiaries filed for bankruptcy in a New York Court. The filing made under Chapter 11 of the Federal Bankruptcy Code (“Code”) cites “liquidity issues and supply chain challenges” due to government actions in India as reasons for the filing. By taking this strategic step, Modi has applied the 4C’s principle commonly followed in the diamond trade. He’s demonstrated a shrewd ‘clarity’ of thought and action. His filing appears to be an attempt to ‘cut’ through the Indian legal process and Modi has shown his ‘colours’ that he’s unlikely to cooperate with Indian authorities. He has also made it fairly obvious that Indian authorities will have to use a lot of legal and diplomatic might to get this high ‘carat’ defaulter back home.

What does Chapter 11 filing mean and what are its effects?

Chapter 11 filings are to seek reorganisation of a company under the bankruptcy laws of America. Amongst its desired features is the automatic stay granted against all concurrent proceedings. Consequently, it requires all creditors to cease collection attempts and makes many post-petition debt collection efforts void or voidable. In fact, during the pendency of such filing, any attempts to recover a debt or take other action against the debtor can lead to penal action against the person initiating such action. Unlike other filings, where liquidation proceedings can immediately be commenced, under Chapter 11, the debtor is given sometime within which to propose a reorganisation plan indicating, how it intends to make the company profitable again. Notably, in Chapter 11 filings, the debtor remains in control of its business operations as a ‘debtor in possession’ Hence, often times such filings are made with the objective of prolonging the inevitable liquidation process, and till that time keep debtors at bay.

Implication on the Nirav Modi investigations in India

Interestingly, the documents publicly available and filed with the Chapter 11 petition acknowledge the allegations of unauthorized loans granted by Punjab National Bank (“PNB”) to Nirav Modi led to the filing. However, and surprisingly, the filings do not reflect PNB amongst the creditors of Firestar. In fact, in the official statement issued by one of the companies it has said that the company is “not in any way involved with any of the alleged conduct [overseas].”In denial of its multi-billion dollars obligations in India, the bankruptcy filing states that the funds available with the Modi companies would be sufficient for distribution to the creditors, including even the unsecured creditors.

Hence the first issue before Indian investigative agencies is to ascertain whether, and how much, money raised from the loans issued by PNB has been transferred to these American companies. And while a special Court in India recently permitted the Enforcement Directorate to issue Letters Rogatory to identify Modi’s assets overseas, even if such assets have been purchased by transferring monies borrowed from Indian banks, such properties can now not be attached by Indian enforcement agencies till the Chapter 11 proceedings are underway. Yes, it is a bit of a stalemate!

Suggestions

Notably, Bank of India and Union Bank have approached the New York Court seeking approval to participate in the proceedings and receive copies of the notices filed. This may be a preemptive steps as the Court has convened a meeting of creditors for March 30^th. What might help these banks is to demonstrate to Court that Modi’s Chapter 11 filing is nothing but an “extraordinary exercise of forum shopping”, something which found favor with Court in another diamond company bankruptcy filing.

These banks, together with the Indian authorities may also approach the New York Court praying for vacation of the automatic stay owing to extra-ordinary circumstances and the fact that recovery action has already begun in India and, therefore, stay on attachment of the assets will be prejudicial to the recovery exercise underway by Indian governmental authorities. Notably, the automatic stay does not extend to criminal action against the debtor and therefore Indian authorities need to act with deftness. The Indian authorities should also consider applying before the New York Court to press for the immediate appointment of a ‘trustee’ for Modi’s companies to prevent any further diversion of assets.

As a nation which has adopted for the first time a Bankruptcy Code, we need to take a closer look at our legislation and also explore what recourse we can take in such cross-border insolvency situations. Presently, sections 234 and 235 of the Indian Insolvency and Bankruptcy Code, 2016 enable the Government to make agreements with other countries so that liquidators and resolution professionals may apply to such countries where Indian debtor’s/defaulter’s assets are located for the purposes of recovery.

Conclusion

In the aftermath of Nirav Modi and the 31 other debtors who have fled the country, a fortnight ago the Government passed the Fugitive Economic Offenders Bill, which targets defaulters above Rs. 100 Crores. While the Bill does not apply retrospectively, even for acts committed prior to the Bill, an application can be made to declare the offender a fugitive. Under the proposed legislation all assets, and not just proceeds of crime, can get confiscated and in such cases the offender cannot pursue any civil disputes. While this is surely a step forward, we need to ask ourselves: is this enough and will it help bring back Nirav Modi and others to book in India?

At a macro level, we need to step away from the political blame game and take a closer look at our internal processes and see how some of our biggest debtors get away, leaving us having to chase behind them. Answers to some of these questions may be like looking for diamonds amongst the coal. But we now have no option than to dirty our hands and act or else we are likely to lose billions more of national wealth and much of the Indian lustre and sparkle.

Satvik Varma is a litigation counsel and corporate attorney based in New Delhi. A graduate of Harvard Law School, he’s licensed to practice both in India and New York.

First Published in The Economic Times 22.03.2108.

4C Image –courtesy–GIA; Nirav Modi Image–courtesy–Jagran.com; US Bankruptcy Court Image Courtesy-alamy.com