The Insolvency and Bankruptcy Code (IBC), 2016 rests on a foundational distinction between financial creditors (FCs) and operational creditors (OCs). This distinction shapes control, outcomes, and recoveries in insolvency proceedings. At its core lies a single economic idea — the time value of money (TVM). Yet, the way the Code interprets and deploys this concept raises serious questions about economic logic, creditor fairness, and the long-term health of India’s credit ecosystem.
How the IBC Classifies Creditors
The IBC accords primacy to financial creditors on the assumption that financial debt uniquely embodies TVM. Building on this, the law presumes that FCs possess superior commercial wisdom, greater risk appetite, and the capacity to defer repayment. As a result, FCs dominate the Committee of Creditors, control the resolution process, and enjoy priority in the distribution waterfall.
Operational creditors, by contrast, are largely excluded from decision-making and receive subordinate treatment, both procedurally and substantively. This hierarchy is not incidental; it flows directly from the belief that TVM distinguishes financial debt from operational debt.
What the Time Value of Money Really Means
TVM is not a legal construct but a basic economic principle. A rupee today is worth more than a rupee tomorrow because the future is uncertain. Inflation, default risk, missed investment opportunities, macroeconomic shocks, and even personal uncertainty all erode the value of delayed payments. Interest, therefore, is simply the price of waiting — a premium for uncertainty.
Crucially, every deferred payment embeds TVM. The principle does not discriminate based on who the creditor is or how the transaction is labelled. Whether a bank lends cash or a supplier delivers goods on credit, the economic substance is identical: present value is exchanged for a future claim carrying risk.
Operational Credit and Financial Credit: An Economic Equivalence
In the real economy, operational and financial debts are deeply intertwined. Nearly two-thirds of corporate bank lending takes the form of working capital loans, which primarily fund inventory purchases, supplier payments, and routine operating expenses. Supplier credit and working capital finance perform the same function — financing the operating cycle of a business.
Common commercial practices illustrate this clearly. Goods sold for cash are cheaper than goods sold on credit. The foregone cash discount when payment is deferred is, in substance, interest. A buyer may borrow from a bank to pay upfront, or the supplier may implicitly finance the buyer by extending credit. Economically, both transactions are equivalent.
The Supreme Court’s ruling in Pioneer Urban (2019), which treated real estate allottees as financial creditors because their payments had the “commercial effect of borrowing”, reinforces this logic. If that reasoning applies to homebuyers, it applies equally to suppliers whose capital is embedded in goods supplied on credit.
The Fragile Logic Behind Financial Creditor Primacy
The assumption that FCs inherently possess superior commercial wisdom is difficult to sustain. Operational creditors routinely manage production cycles, assess counterparty risk, and make pricing decisions under uncertainty. By contrast, resolution plans approved under the IBC often reveal limited insight into post-resolution business viability, and a significant share of cases still end in liquidation.
Notably, around 13 per cent of companies sent into liquidation have later been rescued through going-concern sales or restructuring, suggesting failures of judgment even within creditor-led processes. Moreover, many secured FCs have preferred immediate exit over long-term participation, undermining the claim that they naturally favour resolution over liquidation.
Misplaced Assumptions About Liquidation Incentives
The belief that OCs would push for liquidation to secure quick recovery is equally flawed. For suppliers, liquidation destroys demand by eliminating a customer. Resolution preserves the order book and future business relationships. In many cases, OCs have a stronger economic incentive than FCs to keep the enterprise alive.
Structural differences deepen this asymmetry. FCs are usually secured, diversified, and armed with sophisticated risk models. OCs are typically unsecured, face severe information asymmetry, and depend heavily on the debtor’s survival. Their vulnerability is systemic, not incidental.
Global Practice and the Missing Middle Ground
No major insolvency regime uses TVM as the basis to exclude an entire class of creditors from decision-making. Many jurisdictions ensure that unsecured creditors — predominantly operational creditors — have a meaningful voice in the resolution process.
A sound insolvency framework balances interests based on economic substance, not formal labels. All creditors extend capital, all bear uncertainty, and all contribute to enterprise value.
Why the Current Framework Needs Correction
By privileging FCs on a flawed understanding of TVM, the IBC risks unintended consequences:
- Disincentivising supplier credit
- Distorting working capital markets
- Raising the cost of doing business
- Weakening enterprise resilience
The law’s internal logic diverges from economic reality, undermining both fairness and efficiency.
What to Note for Prelims?
- Distinction between financial and operational creditors under the IBC
- Meaning of time value of money
- Committee of Creditors and its role
- “Pioneer Urban” judgment and “commercial effect of borrowing”
What to Note for Mains?
- Economic critique of FC primacy under the IBC
- Link between supplier credit and working capital finance
- Insolvency design and creditor incentives
- Comparative insolvency practices and creditor participation
- Impact of insolvency law on credit markets and ease of doing business
