Valuation under the Insolvency and Bankruptcy Code (IBC), 2016

by  Adv. Priyanka Sampathy  

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Understanding the Implications of the Insolvency and Bankruptcy Code, 2016

The Insolvency and Bankruptcy Code (IBC), 2016, introduced a comprehensive framework for resolving insolvency of companies in India. One of the crucial aspects of this process is accurate and timely valuation of the corporate debtor’s assets. This valuation plays a pivotal role in maximizing the value of assets for creditors and ensuring a fair outcome for all stakeholders involved.

Objectives of Valuation under IBC

The IBC emphasizes achieving several key objectives through valuation:

  • Maximizing Asset Value: Accurate valuation helps identify the true worth of the corporate debtor’s assets. This allows for maximizing the recovery for creditors and potentially facilitating a successful revival plan.
  • Facilitating Resolution Process: A clear understanding of the asset values helps guide decisions throughout the insolvency resolution process. This includes determining the viability of a revival plan, negotiating debt settlements, and ensuring fair liquidation proceeds.
  • Transparency and Fairness: Valuation by qualified professionals using recognized standards fosters transparency and fairness for all stakeholders involved in the insolvency proceedings.

People Also Read: Decoding Business Value: Financial Reporting Valuation

Key Concepts in IBC Valuation

  • Fair Value vs. Liquidation Value: The IBC focuses on determining two primary asset values:
    • Fair Value: This refers to the estimated price achievable for an asset in an arm’s length transaction between willing buyers and sellers in an orderly market.
    • Liquidation Value: This represents the estimated amount realized from selling the assets on a piecemeal basis, factoring in disposal costs.
  • Registered Valuers: The IBC mandates that only registered valuers, certified by the Insolvency and Bankruptcy Board of India (IBBI), can conduct valuations for insolvency proceedings. These professionals possess relevant qualifications and expertise in asset valuation.
  • Valuation Standards: Registered valuers must adhere to internationally accepted valuation standards during the process. This ensures consistency, accuracy, and reliability in the valuation reports.

People Also Read: Essentials of Valuing Physical Business Assets

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Methods and Approaches in Insolvency Valuation

1. Fair Value Method

Description:

  • Fair value represents the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. This method considers market conditions and the asset’s condition.

Pros:

  • Reflects current market conditions.
  • Provides a realistic estimate of value.

Cons:

  • May not account for distress sale conditions in insolvency.

2. Liquidation Value Method

Description:

  • Liquidation value is the estimated amount that can be realized quickly through the sale of an asset, typically under distressed conditions. Due to the urgency of the sale, it is lower than fair value.

Pros:

  • Useful for estimating recoveries in a forced sale scenario.
  • Provides a conservative estimate that ensures creditors receive a minimum value.

Cons:

  • May undervalue assets if not conducted properly.

3. Comparable Company Analysis (CCA)

Description:

  • This approach involves comparing the subject company’s assets with those of similar companies that have recently been sold. It uses market multiples derived from comparable transactions.

Pros:

  • Reflects market trends and comparables.
  • Provides a benchmark based on actual transactions.

Cons:

  • Requires reliable and recent data on comparable companies.

For detailed information on our Valuation Services, click here

Fair Value vs. Liquidation Value

  • Liquidation Value: This refers to the amount realized by selling an asset (or group of assets) piecemeal, in a forced sale scenario. It considers costs associated with preparing the asset for sale and the disposal process itself. Two scenarios govern liquidation value:
    • Orderly Transaction: This assumes a typical marketing period for selling the asset.
    • Forced Transaction: This scenario involves a shortened marketing period, potentially impacting the selling price. The valuer must clearly disclose the assumed premise of value.
  • Fair Value (IFRS): International Financial Reporting Standards (IFRS) define Fair Value as the price received when selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.

Indian Accounting Standards (Ind AS) and Fair Value

Ind AS 113 aligns with IFRS in defining Fair Value. Here’s a breakdown of key aspects:

  • Exit Price Focus: Fair Value reflects the expected selling price, not the original purchase price, from a market participant’s perspective.
  • Asset Characteristics: Fair Value considers factors like an asset’s condition, location, and any restrictions on its use.
  • Market Considerations: Fair Value emphasizes the “principal market” with the highest volume of activity for the asset being valued. If a principal market doesn’t exist, the “most advantageous market” is considered. This maximizes the potential selling price while factoring in transaction and transportation costs.
  • Highest and Best Use: Fair Value considers the most profitable way to utilize the asset, either on a standalone basis or in combination with other assets.
  • Market Assumptions: The valuation reflects assumptions that market participants would make when pricing the asset, considering factors like risk.

Fair Value Hierarchy

Ind AS 113 establishes a hierarchy for valuing assets based on the reliability of inputs:

  • Level 1 Inputs: These are readily available, unadjusted quoted prices for identical assets in active markets.
  • Level 2 Inputs: These are observable market data other than Level 1 inputs, including quoted prices for similar assets or market data like interest rates and credit spreads. Adjustments may be needed based on the specific asset.
  • Level 3 Inputs: These are unobservable inputs used when relevant market data is unavailable. They should reflect market participant assumptions and be based on the best available information.

Choosing Valuation Techniques

The valuer should select techniques that maximize the use of Level 1 and 2 inputs, minimizing reliance on Level 3 unobservable inputs. This ensures a more accurate and reliable Fair Value estimate.

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Specimen Format of Appointment Letter for Valuation

Date: [Date]

Reference No.: [Reference Number]

To: [Name of Valuer]

Subject: Appointment as Registered Valuer to Determine Fair Value and Liquidation Value

Dear [Name of Valuer],

This letter confirms your appointment as a Registered Valuer by [Your Company Name] (hereinafter referred to as “the Appointing Party”) to determine the Fair Value and Liquidation Value of the assets of [Name of Corporate Debtor] (hereinafter referred to as “the Corporate Debtor”) under the Insolvency and Bankruptcy Code, 2016 (IBC).

(a) Reference of the Quotation:

This appointment is based on your quotation dated [Quote Date] with reference number [Quotation Reference Number].

(b) Brief Description of the Engagement:

The purpose of this engagement is to estimate the Fair Value and Liquidation Value of the assets of the Corporate Debtor in accordance with the provisions of the IBC. This information will be crucial for the ongoing insolvency proceedings.

The following sections outline the details of this engagement:

(c) Brief about the Company:

[Provide a brief description of the Corporate Debtor, including its industry, size, and any relevant financial information.]

(d) Purpose of Engagement:

As mentioned above, the primary purpose of this engagement is to determine the Fair Value and Liquidation Value of the Corporate Debtor’s assets.

(e) Scope of Engagement:

Your scope of work will include, but is not limited to:

  • Reviewing relevant financial statements and other documents of the Corporate Debtor.
  • Performing a site visit to inspect the assets (if necessary).
  • Conducting market research to determine relevant valuation benchmarks.
  • Applying appropriate valuation methodologies to estimate Fair Value and Liquidation Value.
  • Preparing a comprehensive valuation report that clearly outlines your findings and methodologies used.

(f) Timeline for Completion of Assignment:

The estimated timeline for completing this assignment is [Number] business days from the date of this letter. We understand the importance of timely completion and appreciate your cooperation in adhering to this timeframe.

(g) Engagement Fees and Billing Arrangement:

Our agreed-upon fee for this engagement is [Total Fee Amount] (inclusive of [GST]%, if applicable). We will submit invoices upon completion of specific milestones within the project.

(h) – (l) Additional Terms and Conditions:

The remaining sections of this letter will address additional terms and conditions typically included in such appointments, including:

  • Non-disclosure of Confidential Information
  • Conflict of Interest
  • Limitation of Liability
  • Legal Action Limitation
  • Termination of Engagement
  • Governing Law
  • Assignment

We look forward to a successful collaboration with you. Please don’t hesitate to contact us if you have any questions or require further clarification on the details outlined above.

Sincerely,

[Your Name]

[Your Title]

[Your Company Name]

Maximize Recovery, Minimize Risks: Maximize asset recovery and minimize risks with our comprehensive services under the Insolvency and Bankruptcy Code, 2016. Our tailored solutions help you optimize outcomes while ensuring compliance with regulatory requirements. Contact us to mitigate your insolvency risks effectively.

The Valuation Process under IBC

The IBC outlines a structured approach for conducting valuations:

  1. Appointment of Registered Valuers: The resolution professional appointed to oversee the insolvency process selects two registered valuers with relevant expertise in valuing the specific assets of the corporate debtor.
  2. Physical Verification and Valuation: The appointed valuers conduct a thorough physical verification of the assets. They then employ internationally accepted valuation methodologies to estimate the fair value and liquidation value of each asset, considering relevant market data and financial information.
  3. Reconciliation and Finalization: If the initial estimates from the two valuers differ significantly, a third registered valuer may be appointed to provide an additional assessment. Ultimately, the fair value and liquidation value are finalized by averaging the two closest estimates.
  4. Valuation Report: The registered valuer(s) prepare a comprehensive valuation report documenting the entire process. This report includes details like the valuation methodology used, key assumptions made, and the justification for the final value estimates.

People Also Read: Process of Obtaining a Registered Valuer Report

The Crucial Role of Accurate Valuation in the IBC Process

The Insolvency and Bankruptcy Code (IBC), 2016, established a comprehensive framework for dealing with corporate insolvency in India. Within this framework, accurate valuation of a company’s assets plays a critical role in achieving fair and efficient outcomes for all stakeholders involved. Here’s why accurate valuation is so important:

Maximizing Value for Creditors:

  • Accurate Recovery: A fair and accurate valuation of assets ensures creditors receive the maximum possible recovery from their loans during liquidation. This minimizes financial losses and fosters trust in the IBC process.

Facilitating Effective Resolutions:

  • Informed Decisions: Knowing the true value of assets allows all parties involved to make informed decisions throughout the insolvency process. This includes determining the viability of revival plans, negotiating debt settlements, and formulating fair liquidation strategies.

Ensuring Transparency and Fairness:

  • Level Playing Field: Conducting valuations by qualified professionals using recognized standards creates a level playing field for all stakeholders. This transparency fosters trust and minimizes the potential for disputes arising from biased or unreliable valuations.

Benefits for Different Stakeholders:

  • Creditors: Recover the maximum possible value from their loans.
  • Corporate Debtor: A realistic valuation helps assess the viability of a revival plan, potentially allowing the company to restructure and continue operations.
  • Investors and Potential Buyers: Transparent and reliable valuation reports provide a clear picture of the asset’s worth, facilitating informed investment or acquisition decisions.

Consequences of Inaccurate Valuation:

The flip side of inaccurate valuation can be detrimental:

  • Reduced Recoveries: Undervaluation leads to creditors receiving less than they deserve.
  • Unsuccessful Revivals: Overvaluation can lead to unrealistic revival plans that ultimately fail.
  • Disputes and Delays: Significant valuation discrepancies can trigger legal disputes, delaying the resolution process and eroding value.
  • Reputational Damage: Inaccurate valuations can damage the reputation of all parties involved, hindering future investment and participation in the IBC process.

The IBC’s Approach to Accurate Valuation:

To ensure accurate valuations, the IBC framework incorporates several safeguards:

  • Registered Valuers: Only qualified and certified professionals can conduct valuations for insolvency cases.
  • Valuation Standards: Registered valuers must adhere to internationally recognized valuation standards, promoting consistency and objectivity.
  • Dispute Resolution Mechanism: Stakeholders can challenge inaccurate valuations through a designated Tribunal or judicial intervention.

By emphasizing accurate valuation, the IBC strives to create a fair and efficient insolvency resolution system that benefits all stakeholders involved. It fosters trust, transparency, and ultimately, a healthier financial environment for businesses in India.

Challenges in Valuation IBC Addressing

The Insolvency and Bankruptcy Code (IBC), 2016, recognizes the importance of accurate valuation in achieving fair and efficient outcomes for insolvency proceedings. However, valuation can be a complex process susceptible to challenges. Let’s explore how the legal framework of the IBC addresses these challenges:

1. Registered Valuers and Standards:

  • Qualification and Expertise: The IBC mandates that only registered valuers, certified by the Insolvency and Bankruptcy Board of India (IBBI), can conduct valuations for insolvency cases. These professionals possess relevant qualifications (like a postgraduate degree in finance or valuation) and pass a designated valuation exam, ensuring a base level of competency.
  • Strict Ethical Codes: Registered valuers are subject to a code of conduct outlined by the IBBI. This code emphasizes principles like independence, integrity, and objectivity, minimizing the risk of bias or manipulation in valuations.
  • Standardized Valuation Practices: The IBC adheres to internationally accepted valuation standards. These standards provide a framework for valuers to consistently estimate fair value and liquidation value, reducing subjectivity and promoting transparency.

2. Dispute Resolution Mechanism:

The IBC acknowledges that valuation disagreements can arise. To address this:

  • Opportunity to Challenge: Stakeholders who disagree with the valuation report have the right to raise concerns with the resolution professional.
  • Appointing an Additional Valuer: If the initial valuation estimates differ significantly, the resolution professional can appoint a third registered valuer to provide another assessment.
  • Tribunal or Judicial Intervention: If disputes persist, stakeholders can approach the National Company Law Tribunal (NCLT) or seek judicial intervention for a final resolution on the valuation.

3. Curbing Misconduct:

  • Penalties for Valuers: The IBC and the Companies (Registered Valuers and Valuation) Rules, 2017, establish penalties for misconduct by registered valuers. These can include suspension or removal from the register, serving as a deterrent against deliberate undervaluation or overvaluation.
  • Conflict of Interest Disclosures: The legal framework mandates disclosure of any potential conflicts of interest a valuer might have with the corporate debtor or other stakeholders. This transparency helps identify and mitigate biases that could influence the valuation.

4. Enhancing Transparency and Accountability:

  • Valuation Report Requirements: Registered valuers are required to prepare a comprehensive valuation report that details the methodology used, key assumptions made, and the justification for the final value estimates. This transparency allows stakeholders to understand the rationale behind the valuation.
  • Role of Resolution Professional: The resolution professional appointed to oversee the insolvency process has the responsibility to ensure the valuation is conducted fairly and accurately. They can reject reports with apparent discrepancies and request revisions.

By implementing these legal measures, the IBC strives to create a framework that promotes accurate, reliable, and unbiased valuations within the insolvency resolution process. This fosters trust among stakeholders, facilitates efficient decision-making, and ultimately contributes to a more robust insolvency and bankruptcy system in India.

The Legal Framework of the IBC Supporting Accurate Valuation

The Insolvency and Bankruptcy Code (IBC), 2016, along with related regulations, establishes a robust legal framework to ensure accurate and reliable valuations within the corporate insolvency resolution process. Here’s a breakdown of key legal provisions:

1. The Insolvency and Bankruptcy Code (IBC), 2016:

  • Section 46(2): This section empowers the Adjudicating Authority to order an independent expert, which can be a registered valuer, to assess the value of transactions in case of applications to avoid undervalued transactions.
  • Section 59(3)(b)(ii): In instances of voluntary liquidation or proposals for winding up a company, this section mandates the declaration of insolvency to be accompanied by a valuation report prepared by a registered valuer.
  • Regulation 27 read with Regulation 35 of the IBBI (Insolvency Resolution Process for Corporate Persons) Regulations, 2016 (“CIRP” Regulations): This regulation stipulates that within seven days of their appointment, the resolution professional must appoint two registered valuers to determine the fair value and liquidation value of the corporate debtor’s assets. The timeframe for completing the valuation is also outlined, requiring it to be done within seven days of the valuers’ appointment, but not exceeding 47 days.
  • Regulation 35 of the IBBI Regulations, 2016: This regulation specifies that any assets to be sold by the liquidator must be valued by a registered valuer.

2. The Companies (Registered Valuers and Valuation) Rules, 2017:

  • Rule 18: This rule empowers a committee constituted under Rule 19 to recommend valuation standards for the purposes of the IBC.
  • Rule 19: This rule establishes a committee responsible for recommending valuation standards that promote uniformity within the insolvency system. The committee deliberates on valuation bases, approaches, reporting styles, financial instruments, the scope of work, and the valuation of intangible assets.

People Also Read: Mastering Intangible Asset Valuation

3. The IBBI (Insolvency Resolution Process for Corporate Persons) Regulations, 2016:

  • Regulation 26: This regulation applies to fast-track insolvency resolution processes. It mandates the resolution professional to appoint one registered valuer within seven days of their appointment to determine the fair value and liquidation value of the corporate debtor.
  • Regulation 34: This regulation complements Regulation 26 by requiring the appointed registered valuer, in accordance with Regulation 26, to submit a valuation report to the resolution professional.

4. The IBBI (Voluntary liquidation process) Regulations, 2017:

  • Regulation 3(1)(b)(ii): This regulation governs voluntary liquidation and mandates that the declaration of insolvency submitted by the directors must be accompanied by a valuation report prepared by a registered valuer.

These legal provisions, along with the role of registered valuers and adherence to valuation standards, create a comprehensive framework within the IBC that promotes accurate and fair valuations in corporate insolvency proceedings. This, in turn, fosters a more efficient and transparent insolvency resolution system that benefits all stakeholders involved.

Case Studies: Valuation under Insolvency Proceedings

Case Study 1: Hotel Gaudavan Private Limited

In the insolvency case of Hotel Gaudavan Private Limited, the incorrect determination of liquidation value led to significant legal disputes. The undervaluation of assets resulted in reduced recoveries for creditors and highlighted the importance of accurate and transparent valuation processes​.

Case Study 2: Jet Airways

During the insolvency resolution of Jet Airways, the appointed valuers faced challenges due to the airline’s complex asset structure, including aircraft, real estate, and intangible assets like brand value. The use of multiple valuation methods, including fair value and liquidation value, ensured a comprehensive and accurate assessment that facilitated an informed resolution plan​.

Conclusion

Valuation plays a critical role in the successful implementation of the IBC. By ensuring accurate and timely valuation by qualified professionals, the IBC strives to achieve fair and efficient outcomes for all parties involved in corporate insolvency proceedings. This promotes a healthy financial environment and fosters a culture of business revival in India.

Stay compliant with the Insolvency and Bankruptcy Code, 2016, and secure the future of your business. Our experienced professionals provide guidance and support throughout the insolvency process, ensuring adherence to legal frameworks and protecting your interests. Reach out to ensure a smooth and compliant resolution.

Frequently Asked Questions

Q1. What is valuation under IBC, 2016?

A1. Valuation under IBC, 2016 doesn’t directly relate to insurance but rather focuses on determining an asset’s fair market value. This estimated value helps assess if replacing the asset would be costlier than its current worth.

Q2. What’s the purpose of valuation under IBC, 2016?

A2. The primary objective is to determine the asset’s value in the current market. This helps establish:

  • Loan amount eligibility: The valuation can influence the maximum loan amount you can borrow for a mortgage secured by the asset.
  • Closing cost estimation: Knowing the asset’s value helps estimate the closing costs and attorney fees associated with the transaction.

Q3. Why is valuation important under IBC, 2016?

A3. IBC valuation plays a crucial role because it directly impacts:

  • Loan amount: A higher valuation can potentially lead to a larger loan.
  • Financial planning: Knowing the asset’s value allows for better financial planning regarding closing costs and future investments.

Q4. What information does an IBC valuation report contain?

A4. An IBC valuation report typically includes a detailed description of the following:

  • The property itself (land, building)
  • Any existing structures on the property (buildings, sheds)
  • The condition and details of any equipment present (pumps, generators)
  • The condition and details of any vehicles or machinery on-site (forklifts, trucks)

Q5. Why is valuation important in the IBC process?

Ans5. Accurate valuation of a company’s assets plays a critical role in the IBC process. It helps maximize recoveries for creditors, facilitates informed decision-making throughout the resolution process, and ensures fairness for all stakeholders involved.

Q6. What are the two primary types of valuations conducted under the IBC?

Ans6. The IBC focuses on determining two main asset values:

  • Fair Value: This represents the estimated price achievable for an asset in an arm’s length transaction between willing buyers and sellers in an orderly market.
  • Liquidation Value: This reflects the estimated amount realized from selling the assets on a piecemeal basis, factoring in disposal costs.

Q7. Who can conduct valuations under the IBC?

Ans7. Only registered valuers, certified by the Insolvency and Bankruptcy Board of India (IBBI), can conduct valuations for insolvency proceedings. These professionals possess relevant qualifications and expertise in asset valuation.

Q8. What are the steps involved in the valuation process under the IBC?

Ans8. The process typically involves:

  1. Appointment of Registered Valuers: The resolution professional appoints two valuers to assess the assets.
  2. Physical Verification and Valuation: The valuers conduct a physical inspection of the assets and estimate fair and liquidation value using recognized valuation methodologies.
  3. Reconciliation and Finalization: If initial estimates differ significantly, a third valuer might be appointed. The final value is determined by averaging the two closest estimates.
  4. Valuation Report: The registered valuers prepare a comprehensive report documenting the entire process and justifying the final value estimates.

Q9. What are some of the challenges associated with valuation under the IBC?

Ans9. Challenges can include:

  • Data Limitations: Access to complete and reliable financial data about the assets can be limited, especially in distressed situations.
  • Subjectivity in Valuation Methods: Certain valuation methodologies involve a degree of subjectivity in interpreting market data or making assumptions. This can lead to variations in estimates.

Q10. What are the potential consequences of inaccurate valuations under the IBC?

Ans10. Inaccurate valuations can have serious consequences, including:

  • Lower Recoveries for Creditors: Creditors might receive less than they are entitled to.
  • Unsuccessful Revival Plans: Overvalued assets might lead to unrealistic revival plans that ultimately fail.
  • Disputes and Delays: Significant discrepancies in valuations can trigger legal disputes, delaying the resolution process.

Q11. How does the legal framework of the IBC address these challenges?

Ans11. The IBC framework incorporates several safeguards to ensure accurate valuations:

  • Registered Valuers and Standards: The system relies on qualified professionals who adhere to recognized valuation standards.
  • Dispute Resolution Mechanism: A mechanism exists for resolving disputes arising from valuation disagreements.

Q12. What role does technology play in valuation under the IBC?

Ans12. Technology can play a significant role in enhancing efficiency and accuracy. For example, data analytics tools can help analyze large datasets of market information, leading to more informed valuation decisions.

Q13. Where can I find more information about valuation under the IBC?

Ans13. You can access resources from the Insolvency and Bankruptcy Board of India (IBBI) website (https://www.ibbi.gov.in/) or consult legal professionals specializing in insolvency and bankruptcy law.

Q14. What are the anticipated future developments related to valuation under the IBC?

Ans14. The future might see the adoption of new valuation standards or the use of innovative technologies to further enhance the efficiency and accuracy of valuations within the IBC process.

Optimize your insolvency resolution processes with our end-to-end services under the Insolvency and Bankruptcy Code, 2016. From initial assessment to resolution implementation, we provide comprehensive support to streamline proceedings and maximize value realization. Connect with us to navigate insolvency challenges effectively.

Adv. Priyanka Sampathy

Adv. Priyanka Sampathy

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Priyanka Sampathy is a legal consultant who prioritises ethical and professional conduct while striving to achieve desired outcomes. With over 15 years of independent practice, she has significant expertise in handling legal cases. Her exceptional communication skills enable her to express arguments in a clear and persuasive manner, both in writing and verbally, in Hindi, English, and Telugu.

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