Will RBI Let Banks Kick The Bad Loan Can Down The Road Again?

Two possible changes to a scheme for bad loan resolution could water down the tough stance taken by the Reserve Bank of India against stressed assets over the past two years.

Faced with more than Rs 6 lakh crore in loans that have already turned bad (and more that are stressed), the country’s lenders are lobbying hard for flexibility in rules under The Scheme For Sustainable Structuring of Stressed Assets (S4A), which is currently under review by the Reserve Bank of India (RBI).

One such change, which allows banks to classify the sustainable part of the loan as a standard asset as soon as the loan is restructured, is already in the works and final guidelines are awaited. A second change, which includes more flexibility in scheduling repayments on the sustainable part, is also under discussion, said two people familiar with the matter.

Put together, the two will mean that banks will have more incentive to restructure loans under the S4A scheme which, in turn, will allow them to bring down their reported level of non-performing assets. To be sure, banks would still take a significant haircut on the unsustainable part of the debt which means that the dilution will not be akin to the less stringently controlled corporate debt restructuring of yesteryears.

The Scheme And Possible Changes

The S4A scheme was introduced by the RBI in June 2016 after a previous scheme called Strategic Debt Restructuring (SDR) failed to take off. Under SDR, the RBI had asked banks to convert debt into equity and replace the management of a stressed account. However, banks were unable to push this through. Yielding to industry requests, the regulator then introduced the S4A scheme which did not require a change in management but included some stringent conditions.

• One condition under S4A was that atleast 50 percent of the company’s debt should be seen as sustainable
• The sustainable part of the debt should be serviceable with existing cash flows
• The RBI did not allow any rescheduling of the sustainable portion of the debt
• The classification of the account should remain what it was before the restructuring for atleast one year
• The unsustainable part of the debt should be converted into long term equity-linked instruments

Bankers are now asking that two of those key conditions be diluted.

For one, lenders are looking for flexibility in structuring repayments for the sustainable part of the debt. What this means is that while banks may not change the tenor of the loan, they may get flexibility within that tenor to schedule payments which match the business cycle of that company, explained one of the the people quoted above. For instance, they may be able to start principle repayments at a later date than what was originally planned, which will give the companies a breather.

But analysts are not sure this will help.

The second change in the S4A rules expected is the manner in which the asset is classified after its debt is restructured.

Under current rules, the RBI says that if there is no change in promoter, the asset classification will remain what it was before the restructuring until the account shows satisfactory performance for one year.

Bankers are now asking the RBI to allow them to upgrade these accounts to standard category as soon as the restructuring is done without actually waiting for payments to be regularized in these accounts.

The RBI in a statement on October 4 suggested that this will go through.

“...it is proposed to allow that portion of debt determined to be sustainable to be treated as a standard asset in all cases, subject to certain conditions. Detailed guidelines in this regard will be issued by end-October 2016,” said the RBI.

The second person quoted above, however, noted that a lot will depend on the conditions that the RBI imposes and whether provisioning requirements against such assets are in line with standard assets.

Do These Changes Kick The Can Down The Road?

Since the S4A rules were introduced, there have been only a handful of cases where banks have used the provision. Hindustan Construction Company is one such instance. However, reports suggest that more are under consideration. On October 6, Mint reported that Bhushan Steel, with nearly Rs 45,000 crore in debt, is in talks with lenders to use the S4A scheme. Air India is also thinking along similar lines, according to a PTI report on October 15.

If the bankers’ proposals are accepted, two things may happen:

1) The immediate change in classification may incentivize bankers to push through S4A restructurings in large accounts as it will lead to a drop in their reported non-performing assets ratio. Provisioning requirements on these accounts will also come down.

2) By rejigging the payments for the sustainable part of the debt, stressed companies may be able to manage their cashflows better. On the flip side, it could just defer stress in some accounts to a later date.

Pratip Chaudhuri, former chairman of State Bank of India, however, feels these changes are necessary to make the scheme feasible.