Amendments to liquidation process in India & likely litigation funding boom

(With inputs from Hitoishi Sarkar)

The Insolvency and Bankruptcy Board of India (Liquidation Process) (Fourth Amendment) Regulations, 2020 were notified on 13th November. These regulations allow the liquidator to assign or transfer an asset to any person, in consultation with the stakeholders’ consultation committee, provided that the liquidator’s attempts to sell such assets have failed.

Two new regulations: 30A and 37A have been inserted.

Regulation, 37A states:

A liquidator may assign or transfer a not readily realisable asset through a transparent process, in consultation with the stakeholders’ consultation committee in accordance with regulation 31A, for a consideration to any person, who is eligible to submit a resolution plan for insolvency resolution of the corporate debtor.

What this means is that “any asset included in the liquidation estate which could not be sold through available options and includes contingent or disputed assets and assets underlying proceedings for preferential, undervalued, extortionate credit and fraudulent transactions” can now be assigned to a third party.

This should help create a robust market for third party funding of litigation (particularly in the context of insolvency) in India. As the IBBI’s discussion paper noted, such assignment of assets by the liquidator is already allowed in countries like UK, Australia, Honk Kong and Singapore. The litigation funding market for liquidation claims is fairly developed in most of these jurisdictions

Airline insolvencies in India- Part II

Hitoishi Sarkar*

The COVID-19 pandemic has unarguably impacted the financial stability of the aviation industry immensely. The International Air Transport Association (IATA) predicted losses totaling $84 billion for the aviation industry in 2020. At its low point in April, air traffic ran at 95 per cent below 2019 levels. At the time of writing of this post, almost 23 airlines have collapsed due to COVID-19.

A pertinent issue which has engaged stakeholders across the spectrum is that of refund for flights cancelled due to the pandemic. The issue is incredibly complex from the standpoint of regulators as the rights bargain is challenging to rise up to. For instance, if regulators insist on airlines issuing traditional full refunds to passengers, while it may be a significant reiteration of the supremacy of passenger rights but will also irreparably damage the ability of the aviation industry to recover from the current financial stress.

Several airlines across the world have refused to offer refunds for cancelled tickets and have instead insisted on issuing vouchers to passengers of cancelled flights. As per reliable calculations, U.S airlines alone have issued vouchers to the tune of USD 10 billion to customers. The International Air Transport Associations (IATA) estimates that airlines across the world owe approximately $35 billion to passengers for cancelled flights.

Typically, regulations across jurisdictions often mandate refunds to passengers to customers in such situations with the customer having the discretion to decide whether or not the refund is to be retained in a credit shell. However, airlines have raised concerns about enforcing these regulations while the entire industry struggles to stay afloat. For instance, Airlines for Europe (A4E) and other airline associations in Europe are calling for an amendment to the European Commission’s EC 261 Air Passenger Rights Regulation, that would allow airlines to issue refundable vouchers or delayed reimbursements instead of traditional refunds.

Indian airlines have also resonated similar demands with almost all major airlines issuing credit shells instead of traditional refunds. The issue assumes much more significance for the financially stressed Indian aviation industry, which already operates on paper-thin margins and unreasonably high operating costs.

This post seeks to delineate the Indian regulatory framework with regard to refund of cancelled airline tickets and analyze the recent decision of the Supreme Court of India on this issue through the lens of airline insolvencies. The latter part of this post will also briefly touch upon how regulators elsewhere around the world have dealt with this issue.

The Indian Credit Shell Dilemma

In the wake of the COVID-19 pandemic, most Indian airlines have refused to refund the fare amount to customers for cancelled flights. The reason is comprehensible considering that most Indian airlines have not structured their business models to be able to withstand even regular shocks, such as elevated fuel prices or economic downturns, let alone once-in-a-century events such as the present pandemic. Even major players in the Indian aviation industry are known to have precarious liquidity levels. Thus, there is considerable apprehension that if Indian airlines are forced to offer traditional refunds in these extraordinary circumstances they will be pushed to the verge of bankruptcy as the quantum of funds used in providing refunds will far exceed the revenues from new bookings and thus push several airlines to the brink of insolvency.

The regulations governing refunds for cancelled flights is relatively unambiguous in India. The Directorate General of Civil Aviation (DGCA) which is the primary regulatory body in the field of Civil Aviation in India vide Civil Aviation Requirements (CAR) Section 3 Air Transport Series ‘M’ Part II Issue I mandated that the option of holding the refund amount in a credit shell by the airlines shall be the prerogative of the passenger, and not a default practice of the airline. Likewise, Civil Aviation Requirements Section 3 – Air Transport Series ‘M’ Part IV Issue I also obligates airlines to refund the airfare or to provide an alternative flight in the event of a flight cancellation.

Thus, it is evident that airlines’ present policy of creating credit shells by default instead of offering cash refunds fall foul of the Civil Aviation Requirements (CARs) and is thus unsustainable in law.

What is the catch?

The idea of mandating cash strapped airlines in a developing country to offer full cash refunds in the midst of a pandemic may look quite attractive from the standpoint of the supremacy of passenger rights. However, the wider impacts of such a measure will cause more harm than good.

Prior to the COVID-19 outbreak, India‘s aviation industry’s economic contribution was estimated at $35 billion, supporting 6.2 million jobs and contributing 1.5 per cent to the GDP in India. Even if conservative estimates are to be taken the disruptions in air travel from COVID-19 could reduce about 575,000 jobs and $3.2 billion in GDP supported by the air transport industry in India. Thus, an aggressively pro-passengers rights regulation in these times will only aggravate the already stressed financial situation in the Indian aviation sector. 

It is pertinent to note that if airlines are forced into bankruptcy through refund regulations which do not account for the present extraordinary circumstances, it may lead to cessation of their operations. As we have discussed in our forthcoming chapter, an airline insolvency is far complex than insolvency in other industries. This is for the reason that if an airline turns insolvent and ceases operations, there are several issues that would need the immediate attention of the state machinery. For instance, passengers booked through the airline who may be left stranded due to the cessation of operations would need to be repatriated. Likewise, the issue of providing refunds to passengers who had booked through the airline for travel at a future date will also need to be addressed. The issue of mobility of assets also adds significant complexity to airline insolvencies.

The Supreme Court’s ruling

In Pravasi Legal Cell v. Union of India, a three-judge bench of the Supreme Court of India was called upon to adjudicate on whether the refusal by airlines to offer traditional refunds was arbitrary and violative of the Civil Aviation Requirements.

The Court reiterated that in ordinary course modalities and timelines for a refund on cancellation of tickets are governed by the CARs. However, the Court ruled against strict enforcement of the CARs noting that it would further restrict/reduce their operations and may further jeopardize the possibilities of generation of cash by airlines which can further adversely affect/delay the refund cycle.

After consultation with relevant stakeholders, the Court issued an eight-point direction in its order, thereby effectively carving out a middle ground for all parties. The directions of the Court were as follows:

  1. For tickets booked during the lockdown for travel during that period, the airline shall refund the full amount collected without any cancellation charges.
  2. If tickets have been booked during the lockdown through travel agents, in all such cases full refund shall be given by airlines immediately. The agents shall immediately pass on the amount to the passengers.
  3. In all other cases, airlines will refund the amount to the passengers within 15 days. If due to financial distress that is not possible, then airlines shall provide credit shell to passengers for bookings done personally or through agents, and that shall be used for future bookings before March 31, 2021. Passengers will have the option to utilize the credit shell on any route of their choice or can transfer the credit shell to any person, including the travel agent through whom they have booked the ticket, and airlines shall honor such transfers.
  4. In all cases where credit shell is issued there shall be an incentive to compensate the passenger from the date of cancellation up to June 30, 2020, in which event the credit shell shall be enhanced by 0.5% per month of the fare collected till June 2020. Subsequently, the incentive shall be enhanced by 0.75% per month up to March 31, 2021.
  5. After the expiry of the March 31, 2021 deadline, the amount has to be refunded to the consumer.
  6. In cases where passengers have purchased the ticket through an agent, and credit shell is issued in the name of passenger, such credit shell is to be utilized only through the agent who has booked the ticket. In cases where tickets are booked through agent, credit shell as issued in the name of the passenger which is not utilized by 31st March, 2021, refund of the fare collected shall be made to the same account from which account amount was received by the airline.
  7. Even for international travel, when the tickets have been booked on an Indian carrier and the booking is ex-India[1], if the tickets have been booked during the lockdown period for travel within the lockdown period, immediate refund shall be made.
  8. If the tickets are booked for international travel on a foreign carrier and the booking is ex-India during the lockdown period for travel within the lockdown period, full refund shall be given by the airlines and said amount shall be passed on immediately by the agent to the passengers, wherever such tickets are booked through agents. In all other cases airline shall refund the collected amount to the passenger within a period of three weeks.

Following this, the  Directorate General of Civil Aviation vide circular dated October 7, 2020 issued guidelines mirroring the eight points provided by the Supreme Court. Thus, the Supreme Court’s ruling in Pravasi Legal Cell is a welcome development as it resonates the United Nations Conference on Trade and Development’s (UNCTAD) recommendation to “devise amicable solutions which are acceptable to both the customers and the industry itself.”

How have regulators elsewhere dealt with the issue of refunds?

Several countries have introduced regulatory policies to ensure that consumer rights are not sidelined under the garb of financial stability of airlines and have introduced regulatory measures to ensure that passengers right to refund are not adversely impacted.

For instance, China has established a free ticket exchange policy for all tickets purchased before January 2020. Likewise, the United States warned airlines of their obligation to refund cancelled tickets to consumers.  The European Union has also issued a recommendation to make travel vouchers an attractive alternative to cash reimbursement, allowing for vouchers to be issued with a validity of 12 months after which the reimbursement is actionable.

Conclusion

Covid-19 has highlighted the need to balance various stakeholder interests. However, balancing these interests is significantly more complex in a country such as India with low per capita incomes as not all consumers will be in a position to accept a voucher or a delayed refund. The Supreme Court’s ruling in Pravasi Legal Cell has laid to rest all speculations on how Indian airlines are to pay the estimated sum of Rs 6,000 crores which they owe to passengers as refund payments. The Court’s ruling also serves as a textbook example of how stakeholder interests can be effectively addressed in these extraordinary circumstances.

The pandemic has also brought to light the need for India to think about the position of airline customers in the event of an airline insolvency. As the Jet Airways episode has demonstrated, Indian regulations lack clarity on how repatriation is to be carried out if an airline turns insolvent and ceases operations thereby leaving passengers stranded. However, the scenario is not all gloomy. The Cape Town Convention Bill, 2018 is a welcome development in this regard as once enacted it will override several IBC (Insolvency and Bankruptcy Code, 2016) provisions and account for industry specific complexities associated with airline insolvencies. The enactment of the Bill will significantly ease aircraft financing and leasing in India. Recently, India also amended the Aircraft Act, 1934 which seeks to provide statutory status to the DGCA, the Bureau of Civil Aviation Security (BCAS), and the Aircraft Accidents Investigation Bureau (AAIB).  Thus, there is considerable hope that the Indian regulatory structure will address these concerns in the near future.

See Airline Insolvencies in India – Part I.


[1] “Ex” is a Latin prefix meaning “out of” or “from. “Ex-India” signifies that the flight originates out of/from India.

* Hitoishi Sarkar is an undergraduate student of Law and Arts- Year III, Gujarat National Law University, Gandhinagar.

Airline insolvencies in India – Part 1

While Covid-19 has highlighted the need to balance various stakeholder interests generally, some adversely impacted sectors (like airline companies) might also need to engage with insolvency procedures. In a forthcoming book chapter, I along with Hitoishi Sarkar, have detailed airline insolvency cases in India before and after the IBC and provided an overview of legal developments that can be expected in the area. In a two-part series, we will discuss legal issues and developments regarding airline insolvencies in India. This first part briefs the chapter.

Airline insolvencies are more complex than insolvencies in other sectors because of the international mobility of assets and passenger interests. As has become all too clear in the aftermath of Covid-19, when an airline becomes insolvent, travel tickets that passengers might have paid for become worthless; and there are additional welfare costs when such passengers are stranded abroad. Thus, more specific solutions than what we have under the general insolvency framework might be required.

The Cape Town Convention and the Aircraft Equipment Protocol establish an international legal system for security interests in aircraft equipment and is aimed at easing asset-based financing in the aviation sector. Although the primary aim of these legal instruments is to ease secured asset-based financing in the aviation industry, they also have insolvency-related provisions incorporated into them to deal with situations where the debtor turns insolvent. Though India is a signatory to the Cape Town Convention, there is no local legislation that gives effect to the provisions of the Cape Town Convention, and thus the repossession of the aircraft from India is subject to extant Indian laws. Insolvency proceedings in India, including those in the aviation sector, are governed by the IBC. On 8 October 2018, the Indian government proposed the enactment of the Cape Town Convention Bill, 2018 (Bill), which when enacted will give primacy to the provisions of the Convention on International Interests in Mobile Equipment (Convention) and Protocol to the Convention on International Interests in Mobile Equipment on Matters Specific to Aircraft Equipment (Protocol). The proposed enactment is designed to override any conflicting provision contained in any other law in force, especially the IBC and its moratorium provisions. This is a welcome change as it will align the Indian position with that of the Convention and Protocol to which India acceded in 2008.

Another area that needs attention is cross border insolvency law. As the Jet Airways case shows, a cross-border framework is important and more so for airline companies. Cross-border insolvency protocols are something that could work on a case to case basis but a legislative framework will provide certainty to both Indian companies and overseas creditors and suppliers working with Indian companies. The Indian government released draft guidelines on this in 2018 and it is expected that this will be an area of ongoing interest in the post-Covid-19 time with corporate insolvencies surging across the world.

The string of pre-IBC cases we discuss in the chapter also speaks to the promise that an informal restructuring regime can bring to the airline insolvency sector. The aviation sector features prominently in the list of  26 sectors selected by the KV Kamath Committee (set up by the RBI to make recommendations on the one-time restructuring of loans hit by Covid). However, as our chapter outlines, a restructuring regime even beyond Covid-19 will be useful generally, and for the aviation industry specifically.

Finally, it would be useful for India to think about the position of airline customers in the event of an airline insolvency. This will be explored in more detail in Part II of this two-part series on airline insolvencies in India.

IBC off the books

Anjali Sharma and Bhargave Zaveri have published an interesting analysis of the functioning of NCLTs in India during the lockdown imposed due to Civid-19 and compared this with the pre-lockdown period and also a period after the lockdown was lifted.

One of their findings provides an interesting insight. As they say in their article:

In the pre-lockdown period, while a large number of hearings were getting scheduled, nearly 82% of these resulted in a next hearing date being given. During the lockdown period, this changed. The disposal rate improved significantly, from 17.9% to 54.5%.

They explain the improvement as follows:

One possibility is that during the lockdown, since the NCLT was hearing urgent matters only, they had to be disposed of. The second is that the pre-lockdown scheduling of nearly 40-50 cases per courtroom per day, was unrealistic. It resulted in a few matters getting actually heard and a next date being given in the remaining. Since the number of hearings getting scheduled during the lockdown period were low, these matters were actually getting the attention of the court, which resulted in an improved disposal rate. Finally, it is also possible that the manner in which courts have dealt with hearings in the lockdown period changed. They were less amenable to allowing re-scheduling.

Their third and final explanation is particularly interesting from the perspective of the role of courts/ tribunals in the effectiveness of India’s insolvency resolution framework. In a previous article, I had noted that part of the failure of India’s Sick Industrial Companies Act (SICA) was due to the tribunals’ and courts’ tolerance of delays. Has the NCLT (the designated adjudicating authority under the IBC) fallen into the same habit? This may not entirely be the case; but if indeed a tendency to tolerate has set in, it should be curbed consciously by the NCLT members. The surge in bankruptcy cases once the suspension of filings under the IBC is lifted will be a strain on the NCLTs and they will do well to caution against unnecessary delays.

Guest post: Board diversity (in India) and Covid-19

Urja Dhapre (III Year, B.Com. LL.B. (Hons.),Institute of Law Nirma University, Ahmedabad)

In recent years, diversity in the board of directors has been a pivotal avenue of research for companies as a valuable instrument of enhancing corporate governance and social responsibility. With the directors holding multiple positions as a trustee, agent or manager, it becomes imperative for a company to have the optimal blend of expertise, skills, and experience on its board.

In today’s scenario, the companies across the globe are confronting the daunting degree of disruption created by the COVID-19 pandemic, and are pressing on their most basic needs- such as adjusting to new working conditions; consolidating the capacity of workforce; maintaining productivity; and a sense of belonging with the mental and physical health of their employees. The aspect of boardroom diversity, in such circumstances, is receding as a strategic priority for companies.

This post argues that innovation and resilience, the two major qualities of a diverse board, will act as a catalyst for companies to better position themselves when the pandemic subdues. To that end, this article highlights the need for Indian companies to have a diverse board, and emphasizes the scope of such diversity. Further, it also suggests a new array of changes required for a company to equip robust corporate governance practices.

Expanding the perspective of diversity

In India, the interplay of diversity and board composition has been progressive. The Companies Act, 2013 [‘Act’], mandated that listed companies have at least one-woman director on their board [Section 149(1) proviso 2]. This proviso came in the light of the government encouraging more woman participation at different levels. This was followed by the Securities and Exchange Board of India [‘SEBI’] amending the Listing Obligations and Disclosure Requirements, 2015 [‘LODR Regulations’] mandating the top 1000 listed companies to appoint at least one woman independent director on a company’s board with effect from April 1, 2020 [Regulation 17(1)(a)]. SEBI’s report on corporate governance noted the rationale behind this provision was to improve gender diversity and sequentially to create a positive impact on the decision-making process of the boards. The LODR Regulations further incorporated a governance policy on diversity, leaving it open for the companies to have an internal diversity policy [Regulation 19(4)].

As these regulations in India are driving the dialogue on gender diversity, the Institutional Investor Advisory Services has released a study [‘IiAS Study’] on the composition of women in Indian boards. The study states the Nifty 500 companies have 17 % women directors [777] out of the total number of directors [4,657] as of March 30, 2020. Of the 777 directorships, 71% are independent directors [548]. This portrays a significant increase in the female representation on boards in Nifty 500 companies elevating from 5% in 2012 to 17% in 2020.

Although the broad reaction of corporate India on having to inculcate at least one woman on every board has been substantially positive, a key question which arises here is whether the concept of diversity is only limited to gender?

Market trends have shown that diversity takes various forms and can be broadly classified into two elements: one is social diversity (e.g., gender, ethnicity/race and age diversity) and the other is professional diversity (cognitive diversity). Across the globe, diversity in the boards has been an upward trajectory, gradual but progressive (see here, here and here). Their boards are advancing on the fronts of gender diversity but have not embraced other forms of social or professional diversity to the same extent. In almost all jurisdictions, the concept of diversity has attenuated to gender diversity.

In this regime where the contemporary regulations have revitalized the focus of gender diversity in boardrooms, there still exists an ample room for progress in efficiently recognizing and incorporating all the tangents of diversity.

Corporate governance and Diversity

The layout of corporate governance in a company is established on four strong pillars of Transparency, Accountability, Fairness and Responsibility. The composition of a company’s board is positively co-related to these principles. Contemporary studies have justified that diversity increases development, with the IiAS Study recognizing diversity as a key component to channel the company’s innovation towards growth.

In a report prepared by McKinsey and company, it was observed that the board of directors bears the preponderance of direct influence on operations and on driving business outcomes. Companies with a diverse board are likely to have a higher financial performance because of an in-depth consumer insight and strengthened employee engagement.

The co-relation of diversity and governance can be witnessed by Section 166(2) of the Act which casts a fiduciary duty upon the directors to promote the objects of the company for the benefit of its members as a whole, and in the best interests of the company, its employees, the shareholders, the community and for the protection of environment. This section displays a shift in the Indian corporate governance structure from shareholder primacy model towards a stakeholder centric model. This structure is strengthened with a diverse board by catering to the needs of stakeholders to effectively recognize their interests. The top-level management comprising different demographic backgrounds further helps the stakeholders to better connect with the company because of a sense of belonging.

Diversity enriches the availability of information, variant perspectives, and the greater chance for debates smoothens the quality of business judgment and the results of board deliberations. Dr. Yılmaz Argüden, a leading strategist has rightly commentedif everybody thinks in the same way, what is the need of a board? It may as well be a one-man show. It is the combination of complementary talents and experiences of the members that enables boards to steer the company toward success and long-term stability.’

In a company’s constant quest for growth, an egalitarian culture with a heterogeneous group of individuals at the board will aid the company to achieve the fundamentals of corporate governance.

What causes a problem in India: Lack of will or skill?

One of the major impediments lies in the construction of the Indian boards, which is not as diffused as other countries, but rather adopts the prevalent nomenclature of a family-centric composition. According to the PrimeData report, out of the 1,723 companies listed on the National Stock Exchange, 425 companies have women directors appointed from a promoter group or their own family. Moreover, as per the IiAS Study, there are 16 directorships held by directors under the age of 30, all of whom belong to the promoter group.

A board’s weak composition in India can be further witnessed by the fact that the long-tenured directors have personal or business ties with the Chief Executive Officer. It moreover, suffers from board pathologies such as groupthink or low-effort norms. This negatively impacts the board performance and oversight by deteriorating the independence of board members and the possibility of them expressing their variant views.

Another issue which arises is the requirement of only one-woman director on the board leading the majority to exert more influence on the group. These under-represented women are seen as tokens where the only value they are supposed to bring on-board is the fact that they are women.

Although the existing regulations in place embodies a step in the right direction, a statutory compulsion for companies for a palpable concept like diversity might be counterproductive. A required outcome might not be achieved as companies can pay lip service to the provisions by appointing their related parties on the board (particularly in promoter led companies) thereby diluting its effect. So, are companies adhering to the regulatory push only for the purpose of checking the box as a formalistic requirement?

Suggestions

The critical fix which corporate India needs is for companies to appreciate the merits of diversity and follow the spirit of the regulations. The need for distinct perspectives around the boardroom table has never been more evident. Companies need to respond rapidly to a raft of challenges with escalating customer expectations and advancing technologies as well as more current challenges presented by the pandemic. For companies to be successful tomorrow, a greater level of alignment will be required between the board, employees, consumers and the community. This can be achieved if the members of the board are diverse across various metrics (like skill, age, experience etc) rather than just gender.

PSUs in India (and August 15th wishes)

Most Indians are rightly proud of the liberalisation of the market in the 1990s.

However, Public Sector Undertakings (PSUs) in India have lingered on. PSUs in the banking sector have been in the news lately for their piling non-performing assets.

A recent news piece highlights a more fundamental problem of government control in these entities. Oil and Natural Gas Corporation Limited (ONGC) has asked India’s market regulator (SEBI) to exempt it from rules requiring the listed companies to populate 50% of their board with independent directors. Apparently the power to appoint independent directors rests with the government and this has not been delegated to the company board in question. While I don’t think the mere presence of independent directors on the board will guarantee high quality governance, this disinterest in compliance simply reflects a disregard for good governance by the government.

The government has made noises about privatising PSUs barring a few in strategic sectors but not much has happened on that front as of now. To the extent that we retain PSUs, they should be able to function effectively.

Also, happy independence day India! Here’s to steps and leaps in the right direction.

Space bankruptcies

As India opens up to the space sector it is important to consider a number of aspects (there was an excellent webinar hosted by NALSAR’s Center for Air and Space Law on this and you can read about it here). However, we should not forget about bankruptcy being an important factor in the mix for an industry’s success.

OneWeb’s bankruptcy filing reminds us that satellite companies will be high risk and failures should be expected. In this instance however, India’s Bharati Enterprises along with the UK government put together a bid to buy  OneWeb. The sale was later approved by the US bankruptcy court but Cfius approval remains pending.

While streamlining the tasks of Indian National Space Promotion and Authorisation Centre (In-SPACe), the new regulator, it will be important to ensure that unnecessary hurdles to restructuring under the IBC are avoided.

Draft Environmental Impact Assessment Notification 2020 India

Have Corporates & the State Forgotten About Duties to the Environment And Communities?

* Paridhi Srivastava

Environmental protection regulations in India are widely criticized for being a mere lip service to achieving India’s sustainable development goals. The present draft of the Environmental Impact Assessment (EIA) Notification 2020 proposed by the Ministry of Environment, Forests and Climate Change, Government of India is, nonetheless, yet another example of a water down of the principles of India’s environmental protection regulations embodied in the earlier EIA Notification 2006, which aims to strike a balance between economic viability and sustainable development.

The EIA Notification 2006 was introduced with a core objective of strengthening India’s environmental protection framework and amplifying the voice of communities directly affected by the vagaries of climate change by conducting a holistic environmental impact assessment of industrial and infrastructure projects prior to commencement of operations. Based on a rigorous pre-clearance evaluation under the EIA Notification 2006, no projects are approved without proper assessment of their environmental impact and oversight of local communities. However, the draft EIA Notification 2020 now proposes a dilution of the process of obtaining an environmental clearance prior to commencement of operations. It further exempts a majority of mid to large sized projects from public scrutiny and consultation with locally affected communities prior to the grant of the environmental clearance. The government’s reasoning behind the amendments is to expedite and standardize the process of environmental clearance. But it results in a deviation from the “precautionary principle” of environmental laws to the “polluter pays principle”by not only reducing the frequency of periodical monitoring of environmental impacts of projects but also legalizing projects that have caused significant environmental damage in the past to continue operations upon payment of a monetary penalty without imposing any corrective actions.

The draft EIA Notification 2020 is being introduced with an objective of “ease of doing business”, along with easing the government’s efforts in clearing projects during the period of lockdown to serve as a fillip to India’s economic growth, albeit in the short-term alone. In the long run, the draft EIA Notification 2020 has the potential to derail the environmental governance of industrial and infrastructure projects in future unless corrective and punitive actions are imposed at later stages of post-operational environmental impact monitoring under the draft EIA Notification 2020. Otherwise, this will not only impact India’s sustainable development but also affect the long-term sustainability of businesses striving amidst an ever-changing environment in the long-term caused due to the ailing effects of climate change.

Empirical evidence supports how economic viability in the short-term at the cost of the concerns of the environment and society leads to eventual degradation in economic growth of a business, which fails to mitigate environmental risks in future. For instance, Raghuram Rajan, in his book ‘Third Pillar: Why Markets and the State Leave the Community Behind’ provides effective economic arguments to demonstrate how neglecting social and environmental issues is not just myopic but dangerous to the markets. He argues that India’s weakest pillar is, undoubtably, the state. When the state should have been using specific policy interventions to balance the needs for social and environmental change, long-term sustainability with economic growth, especially in a post-pandemic world, it is instead obscurely introducing a policy plagued with a myopic vision of economic viability only.

While environmental activists’ voices are drowning in the midst of pressing concerns related to the outbreak of COVID-19, there is a lot that businesses enlightened with “purpose beyond profit” can do to protect themselves from the anticipated, unregulated economic activity perhaps triggered by the draft EIA Notification 2020, which may be supportive of India’s economic targets in the short-term, but will be a hindrance to the projected economic growth rates in the long-term.

Businesses in India are also subject to the normativity of section 166(2) of our Companies Act, 2013, which places a duty on the boards of Indian companies to serve shareholder and stakeholder (i.e., employees, communities and the protection of environment) interests pluralistically, without any hierarchy or preferences. While Indian corporates do support, with much publicity and bloviation, that the purpose of a business is beyond profit, there has been a dearth of “active engagement” with shareholders, stakeholders and policymakers to prove that it is in reality more than just brouhaha. With a growing trend of environmental, social and governance centric (ESG) investing in the economic and investment world, there is a burgeoning pressure on investors and corporations to demonstrate their “response-ability” toward environmental impacts and community involvement through active engagement with such stakeholder concerns. While corporate social responsibility (CSR) activities are a convenient mode of validating corporate legal humanity, environmental and social responsibility, another enabling and impactful mode of demonstrating active engagement can be through explicitly considering stakeholder interests in policy lobbying activities in the corridors of power!

Businesses placing shareholder and stakeholder interests pluralistically so as to support a long-term vision of economic growth must vocally demonstrate their duties to the wider group of stakeholders affected by the exploitative business activity hitherto encouraged by the draft EIA Notification 2020 under the short-sighted approach to hit India’s missed economic growth targets due to the COVID-19 pandemic. Supporting the voices of environmental activists, citizens, local communities, long-term visionary businesses should rise to the occasion and spearhead the campaign by actively engaging with these issues in their policy lobbying activities. Businesses aware of their duties under section 166(2) of the Companies Act, 2013 should ensure that the draft EIA Notification 2020 not only serves short-term profitability but also long-term growth of businesses for their shareholders and stakeholders, especially the environment and local communities, which are impacted by myopic policies deregulating economic activity at the cost of sustainable development.

Instead of entirely opposing the draft notification or simply providing band-aid solutions, businesses can advocate for a possible middle-ground to balance the much-needed short-term economic viability of business activity with long-term sustainability from an ESG perspective. Possible suggestions to the proposed policy could be imposing mandatory preliminary requirements on businesses prior to commencement of their industrial or infrastructure projects, such as, obtaining a prima facie in-principle clearance based on a statement of purpose of the project in respect of its environmental sustainability, resource consumption, employee relations and involvement of local communities. An analysis of the business operations self-governed by their statement of purpose during the phase of preliminary clearance can then be used at the later stage to further enhance the process of post-facto environmental impact assessment and public scrutiny.  If the operations of the project deviate from the statement of purpose without adequate explanation, corrective actions must be imposed on the company prior to the grant of the post-facto environmental clearance with or without invoking any penal consequences, depending upon the gravity of the violation.

With this in mind, businesses determined to prove their commitments to an ESG vision and long-term sustainability should take this opportunity to actively engage with stakeholder concerns around the draft EIA Notification 2020, which is currently open for public comments and objections until 10 August 2020.

** The importance to re-align the attention of the business environment from short-term profit generation at the cost of sustainable development to long-term value creation amidst the greatest social and environmental changes of our time has been discussed in detail in my paper titled ‘A Sustainable & Inclusive Capitalist’s Epoch: A Modern Economic & Investment Theory for the Benefit of our Common Future?’ forthcoming in an upcoming issue of a leading business law journal. My paper discusses the current legal and regulatory framework in the UK, USA, EU and India on environmental, social and governance (ESG) issues, and also the ways to encourage sustainable and inclusive capitalism through, inter alia, active engagement with ESG issues as part of a fiduciary’s duties.


The author is a corporate lawyer practicing with a law firm based in Mumbai, India and a graduate of the Class of 2018 at the National Academy of Legal Studies and Research (NALSAR) University, Hyderabad, India. She may be reached at psriva95@gmail.com. All views expressed in this article are solely the personal views of the author.

CSR Non-Compliance: Will criminal sanctions help?

  Anik Bhaduri*

[ This post provides a brief overview of a larger article – Anik Bhaduri, “CSR Non-Compliance: Will criminal sanctions help?” (2020) 31(7) I.C.C.L.R. 381.]  

      

“Corporations have neither bodies to be punished, nor souls to be condemned, they therefore do as they like” 

Edward, First Baron Thurlow, Lord Chancellor of England, During the impeachment of Warren Hastings (1788-95) [Quoted in William Dalrymple, The Anarchy (Bloomsbury 2019) 1.]

One of the fundamental debates in corporate law scholarship concerns the aims of the business corporation, and its relationship with the state. While the established view treats the corporation as an institution bound solely to its shareholders and all developmental activity is left to the state, there has recently been an increasing demand for the greater involvement of corporations in ensuring the welfare of the society. As income inequality is increasing across the world, the idea of Corporate Social Responsibility (“CSR”) is rapidly gaining ground – more and more companies (and recently even institutional investors) are departing from the notion of the profit-making company, and committing themselves to ‘giving back to the society’.

            While the idea of CSR is growing in popularity, there is no consensus regarding how it is to be implemented in practice. Throughout the Western world, CSR is largely discretionary – companies can choose whether to engage in CSR and in what manner, while the role of the government is confined to encouragement and advocacy of responsible business behaviour. In India, however, the government chose to play a far more active role – §135 of the Companies Act (2013) mandates all firms to contribute a specified percentage of their annual turnover to CSR projects, and also laid down what kind of activities would be considered CSR. Last summer, the Companies Act was amended to include a provision under which firms could be fined and their directors could be imprisoned for failure to comply with the requirement of mandatory CSR. Although the amendment has not yet been implemented, it implied a staggering change in the relationship between the business corporation, the state and the society at large. In my paper “CSR Non-compliance: Will criminal sanctions help?”, I argue that penalizing non-compliance with the mandatory CSR requirement is unlikely to increase CSR expenditure by firms, and might bode ill for the markets. 

Discourages socially responsible behaviour

            Firms often commit to building a reputation of being socially responsible with a view to appealing to a wider consumer base and lead to high revenue. Such a commitment usually involves high economic costs – dumping sewage into a river and paying meagre salaries to employees is economically efficient, but an eco-friendly or an employee-friendly firm has to incur a higher expenditure on the treatment of industrial sewage before its discharge or on ensuring work-life balance for the employees with an increase in pay or perks. Moreover, firms trying to attract consumers also need to make sure that their commitment towards the social cause is known to the public, and have to spend on ‘cause-related marketing’. This often leads to short-term losses for the firms, but once a firm establishes its reputation as socially responsible, the profits outweigh the losses, and the firm can earn profits for its shareholders while also taking into account the interests of its stakeholders.

            When the firm is incurring these short-term losses, it might be difficult for the firm to spend on CSR activities as envisaged in §135. In the current ‘spend or explain’ regime, the directors have an opportunity to explain the circumstances to the shareholders, but punishing non-compliance by imprisoning the directors is likely to discourage directors from opting for socially responsible practices, or from taking risks in general and would lead to short-termism in business strategy.

Why do firms not comply?

            The central presumption behind introducing penal sanctions is that firms take advantage of the ‘spend or explain’ regime by not spending the requisite amount. The data, however, indicates that firms intend to spend the required amount (or perhaps even more), but simply cannot do so because of practical hurdles.

            Most firms in India seem to have been “willingly co-opted into performing public functions” – a number of firms have recognized the interests of various stakeholders in their CSR vision, and recognize it as part of their business interests, but are unable to actually engage in CSR activities because of a failure to identify the right projects or to partner with the right organisations for their CSR spending. An overwhelming chunk of the total CSR expenditure in India is on issues like education and healthcare, on which the government is already spending millions, while hardly any of the CSR expenditure goes into projects aimed at reducing child mortality or malnutrition, despite the stark reality that almost a third of all Indian children are malnourished. The absence of proper channels between the firms and non-government organizations or government agencies that work on social issues makes it impossible for corporations to contribute to social welfare, and penalizing non-compliance is unlikely to enhance the CSR contributions by corporations.

Corporate tax?

            Although economists like Piketty and Schilling have argued for progression taxation by a Robin Hood state as the ideal solution to the problem of wealth inequality, taxation is usually an unpopular option among the public. During the passage of the Companies Bill in the Parliament, the government repeatedly assured the opposition that the mandatory CSR provision would not be used as a corporate tax, but the penalization amendment seems to depart from that promise – corporations are required to keep the unspent amount earmarked for CSR to a government account or to face penal sanctions.

            If implemented, such a provision would reduce the incentive of firms to integrate CSR into their business strategy – corporations may prefer to treat the amount as a tax and transfer it to the government instead of taking the risk of engaging in CSR projects that they may not be able to finish within the allocated time. Redistribution through taxation is usually inefficient as the government incurs heavy administrative costs in the collection as well as the dissemination of funds on various projects, and one of the chief arguments behind CSR is its cost-efficiency. Moreover, the government can only act ex post facto to compensate those adversely affected by the activities of a firm from the profits of the firm, while socially responsible behaviour on the part of the firms avoids such harm in the first place.

            Moreover, such corporate taxation under the guise of mandatory CSR would allow the government to step into the business arena and ‘tell corporations what societal problems to focus on’. We are already halfway there, even without the penal provisions in place – just a few weeks back, the government issued a notification informing corporations that expenditure on the promotion of sanitation and disaster management would now be considered CSR expenditure in light of the ongoing pandemic. The unbridled discretionary power in the hands of the government to decide what counts as CSR and what does not allow it to extract funds from corporations as and when required, which benefits neither the shareholders nor the stakeholders. For instance, a concern for stakeholders would typically involve increased expenditure on ensuring the well-being of employees during the lockdown, or giving back to the communities affected by the business activities of the firm, but it is difficult to see how contributing to the disaster management fund of the government benefits the stakeholders affected by the business of the firm.

            The need of the hour is a development in the practice of stakeholder management, which remains deplorably low in India even after seven years of the enactment of the Companies Act which made CSR mandatory. It is imperative that corporate executives engage in dialogue with the representatives of various stakeholder groups with a view to understanding how the firm’s business affects them, and how any adverse effects may be mitigated. Without such engagement, we cannot possibly end the frequent instances of corporations forcibly acquiring tribal lands and disposing their sewage into rivers but still complying with the legal requirement of CSR, and the term CSR shall continue to remain a farce.

* Anik is a fourth year student of NALSAR University of Law, India. The author is thankful to Prof. Umakanth Varottil and Dr. Akshaya Kamalnath for their valuable inputs.

The middle seat

I’ve been watching the airline bankruptcies/ restructuring efforts around the world with interest so it was great to watch a webinar put together by INSOL International, on the topic. One of the questions put to each of the panellists (from South Africa, USA, Australia and UK) was what the future looked like for airlines. It was interesting to hear that South Africa had only allowed domestic business travel. Australia and New Zealand have opened up domestic travel to everyone. Some international flights have resumed as well. But the question is whether airlines can sustain flights running on low capacity. Even if there is demand, there has been a push to keep the middle seat vacant. Different countries have taken different approaches.

This week, India’s Bombay High Court ruled that airlines were not required to fly with empty middle seats as long as they complied with the Aviation regulator, Directorate General of Civil Aviation’s (DGCA) guidelines on measures to be taken to prevent spread of the coronavirus.

The relevant portion of the DGCA guidelines states:

c. If physical distancing cannot be achieved due to passenger load, then additional protective measures should be provided to the individual occupying the intervening seat like ‘wrap around gown’ …along with mask and face shield.

These guidelines were made after the Supreme Court order dated 25th May, 2020, saying that the DGCA “is free to alter any norms he may consider necessary during the pendency of the matter in the interest of public health and safety of the passengers rather than for commercial considerations”.

Although the Supreme Court order suggests that commercial considerations should not be a factor, I would think that it should be, albeit secondary to health and safety considerations. If alternative safety measures allow us to ensure that spread of Covid-19 is prevented, while keeping airlines viable, that should be the preferred choice. Airlines running with empty middle seats would raise prices and make flying inaccessible to many people. As the string of airline insolvencies across the world shows, the sector is bleeding and government bail-outs will not be enough to save the airlines (and with it, the livelihoods of employees).