Finance Minister Nirmala Sitharaman gestures as she speaks during a news conference in New Delhi, India. (Photographer: T. Narayan/Bloomberg)
Finance Minister Nirmala Sitharaman gestures as she speaks during a news conference in New Delhi, India. (Photographer: T. Narayan/Bloomberg)

NARCL: Government To Back Bad Bank With Rs 30,600 Crore In Guarantees

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Union Finance Minister Nirmala Sitharaman, on Thursday, announced that the government will provide Rs 30,600 crore in guarantees to National Asset Reconstruction Company Ltd. to buy bad loans from banks.

The NARCL will purchase bad loans from banks under a 15:85 structure, where it will offer 15% of the net asset value in cash and issue security receipts for the rest. A part of these security receipts will be guaranteed by the government.

This, Sitharaman said, would help clean-up the books of banks. The assets being transferred to the NARCL are those against which full provisions have been made, she added. For the government, the guarantees will act as a contingent liability and won't add to the fiscal deficit immediately, Sitharaman added.

  • The value of bad loans being carved out of bank books for transfer to the NARCL is around Rs 2 lakh crore. About Rs 90,000 crore in bad loans will be transferred in the first phase.

  • The guarantee of Rs 30,600 crore will cover the entire pool of Rs 2 lakh crore.

  • The guarantee will represent the difference between the face value of the assets and the amount realised from sale or liquidation of assets via the NARCL.

  • The guarantee will be valid for a period of five years.

  • The government will get a guarantee fee of 0.25%, which will progressively rise over the years.

  • A 15% cash payment will be made to banks for the assets, after a valuation process. The remaining 85% will be paid in the form security receipts, which will be backed by the government.

  • An India Debt Resolution Company Ltd. will also be set up.

  • In NARCL, public sector banks will have 51% ownership.

  • In IDRCL, public banks will hold 49% stake, with private sector lenders holding rest.

Debasish Panda, finance secretary, said that the NARCL had completed the valuation process for the Rs 2 lakh crore worth bad loans shortlisted for sale.

"The valuation also the NARCL has done...where there is an 18% weighted average which has been accorded to this whole thing," Panda said.

This would mean that the Rs 2 lakh crore pool of bad loans could be valued at around Rs 36,000 crore on a weighted average basis. Any shortfall in recovery from these loans will result in invocation of the government guarantee, ensuring recoveries for banks.

The upfront cash payment by NARCL to banks will immediately be accretive for the profitability and capital of the banks, however ability of the NARCL to resolve these assets in a time-bound manner will be critical for future provision write-back by banks.
Anil Gupta, Vice President, ICRA Ltd.

Gupta added that it remains to be seen how the NARCL raises the cash of Rs 4,000-5,000 crore to be paid upfront to the banks.

Once the security receipts are issued, banks can sell-down these sovereign backed security receipts in the markets to realise cash, which would be beneficial for their profitability and capital, said Gupta. "However, the market appetite and the valuation of these receipts by market participants remains uncertain."

In a worst case scenario of low recoveries against the security receipts and invocation of the government guarantee in the fifth year, the present value of the receipts is unlikely to exceed Rs 15,000 crore today, Gupta said.

The NARCL is India's version of the bad bank which aims to consolidate bad loans from lenders and resolve them through a debt management company. The IDRCL, which will be managed by private sector professionals, will, in turn, oversee the management and resolution of stressed assets.

BloombergQuint had previously reported that 16 lenders, including 12 public sector banks and four private banks, will hold equity stake in NARCL, where Canara Bank will be the sole sponsor with a 12% stake.

The bad bank has applied for an ARC licence with the Reserve Bank of India, so it can start purchasing bad loans. Once the NARCL receives the RBI's licence, it will start with buying the 22 stressed accounts shortlisted by banks for sale in the first phase.

The total banking sector exposure to these accounts stands at over Rs 82,000 crore. This list includes large corporate accounts such as Videocon Oil Ventures Ltd., Amtek Auto Ltd., Castex Technologies Ltd., Jaypee Infratech Ltd. and Reliance Naval & Engineering Ltd., BloombergQuint had reported in June. These accounts are fully provided for, which will help banks sell them without any haircuts or further provisioning.

Watch EY's Abizer Diwanji analyse the funding structure.

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