PSUs and insolvency

Source: The post “PSUs and insolvency” has been created, based on “PSUs and insolvency” published in “BusinessLine” on  26th March 2026.

UPSC Syllabus: GS Paper-3- Economy

Context: The Insolvency and Bankruptcy Code, 2016 (IBC) was enacted to provide a time-bound framework for insolvency resolution of corporate entities in India. The Code applies uniformly to companies irrespective of whether they are privately owned or government owned. However, the recent insolvency proceedings involving Cauvery Neeravari Nigam Limited (CNNL) have revived the debate regarding whether Public Sector Enterprises performing sovereign or essential public functions should be exempt from insolvency proceedings.

Issues over applicability of IBC to Public Sector Enterprises performing sovereign functions

1. Some Public Sector Enterprises argue that insolvency proceedings against them may disrupt essential public services that are necessary for public welfare.
2. They contend that certain enterprises function as implementing agencies of government policies rather than as commercial profit-oriented entities.
3. They further argue that subjecting such enterprises to insolvency proceedings may interfere with the constitutional responsibilities of the State.
4. This issue gained prominence in Hindustan Construction Company Limited v. Union of India, where the Supreme Court observed that statutory bodies such as the National Highways Authority of India (NHAI) perform important public functions and therefore cannot be subjected to liquidation under the IBC framework.

Significance of the issue

1. The issue is significant because a large number of Public Sector Enterprises in India are currently facing financial stress and operational inefficiencies.
2. The 16th Finance Commission Report (2026–31) highlights concerns about the financial condition of both State and Central Public Sector Enterprises (PSEs).
3. Out of 1,107 State Public Sector Enterprises (SPSEs), around 541 are either incurring losses or reporting zero net profits.
4. A considerable number of these enterprises are also non-operational, indicating inefficiency and underutilisation.
5. Nearly half of the State Public Sector Enterprises are either loss-making or non-operational according to recent fiscal assessments.
6. The aggregate losses of State Public Sector Enterprises are estimated to be approximately ₹1.14 lakh crore.
7. Loss-making Central Public Sector Enterprises have recorded annual losses exceeding ₹51,000 crore.
8. The electricity distribution sector alone has accumulated outstanding debt of more than ₹7 lakh crore.
9. These figures highlight the urgent need for financial restructuring and improved accountability mechanisms in Public Sector Enterprises.

Arguments in favour of exempting PSEs from IBC proceedings

1. Public Sector Enterprises operating in sectors such as irrigation, electricity distribution, and transport infrastructure provide essential services that directly affect citizens and economic stability.
2. Subjecting such enterprises to insolvency proceedings may disrupt the delivery of essential public services.
3. Certain Public Sector Enterprises function primarily as instruments of government policy implementation rather than as independent commercial entities.
4. Applying insolvency proceedings to such enterprises may interfere with the discharge of sovereign responsibilities of the State.
5. Liquidation or restructuring of such enterprises under the IBC framework may adversely affect long-term infrastructure development objectives of the government.

Arguments against granting exemption to PSEs from IBC

1. The Insolvency and Bankruptcy Code does not distinguish between private companies and government companies at the stage of admission of insolvency proceedings.
2. Allowing exemptions to Public Sector Enterprises may weaken the principle of ownership neutrality embedded in the Code.
3. Such exemptions may create moral hazard by encouraging fiscal indiscipline and delayed payments to contractors and lenders.
4. Exemptions may also reduce investor and creditor confidence while dealing with government enterprises.
5. The IBC framework is primarily a resolution mechanism and therefore it can support restructuring and revival of distressed Public Sector Enterprises rather than merely leading to liquidation.

Institutional concerns emerging from the controversy

1. Questions have emerged regarding whether the National Company Law Tribunal (NCLT) has the institutional capacity to determine whether a particular Public Sector Enterprise performs sovereign functions.
2. Frequent intervention by High Courts in such disputes leads to fragmentation of the insolvency resolution timeline envisaged under the IBC framework.
3. The absence of a clear statutory definition of sovereign function under the IBC creates ambiguity and results in inconsistent judicial interpretations across cases.

Way Forward

1. There is a need to clearly define the scope of sovereign functions under the Insolvency and Bankruptcy Code to avoid ambiguity in its implementation.
2. A sector-specific insolvency resolution framework should be developed for Public Sector Enterprises engaged in essential public services.
3. Governments should strengthen financial discipline in Public Sector Enterprises through performance audits and accountability mechanisms.
4. Persistently loss-making and non-operational Public Sector Enterprises should be considered for closure, privatisation, or asset monetisation wherever appropriate through structured use of the IBC mechanism.

Conclusion: A balanced approach is required to ensure that essential sovereign functions remain protected while Public Sector Enterprises continue to remain accountable to creditors and financial discipline. Clear legislative guidance regarding the applicability of the Insolvency and Bankruptcy Code to Public Sector Enterprises will help maintain the balance between public purpose and commercial responsibility.

Question: Can Public Sector Enterprises (PSEs) invoke sovereign functions to avoid insolvency proceedings under the Insolvency and Bankruptcy Code, 2016 (IBC)? Examine the constitutional, economic, and institutional implications.

Source: BusinessLine