Indian two thousand and five hundred rupee banknotes are arranged for a photograph in Mumbai, India (Photographer: Dhiraj Singh/Bloomberg)

Loan Sales To ARCs Drop To Around Rs 5,000 Crore In July-September

Asset reconstruction companies bought non-performing assets worth about Rs 5,000 crore from banks in the July-September quarter, two people familiar with the matter told BloombergQuint. Of this, around Rs 2,000 crore came from just one transaction – Edelweiss Asset Reconstruction Co Ltd.’s purchase of Essar Steel Ltd. loans from Indian Overseas Bank.

The quantum of sales during the just concluded quarter was lower than the Rs 6000-7000 crore in loans sold to ARCs during the April-June quarter, the two people quoted above said on the condition of anonymity.

Since there is no publicly available source on ARC sales, these numbers are usually based on industry estimates.

Banks sell bad loans to ARCs to reduce the burden of troubled assets on their books. The lack of traction in bad loan sales means that the attempt to clean up bank books remains at an impasse.

To be sure, the first half of the year generally sees lower sales as banks tend to offload more bad loans later in the year, said the first of the two people quoted above, a senior official at a large ARC.

In the last financial year, the total value of loans sold to ARCs stood at around Rs 35,000 crore, most of which was concentrated in the October-March period, the people quoted above said. The amount was closer to Rs 20,000 crore in financial year 2015-16.

The quantum of sales remains a fraction of what banks want to offload.

In September, State Bank of India alone put up loans worth Rs 3,554 crore for sale. In June, lenders like Allahabad Bank, United Bank of India and Andhra Bank had said they were looking to sell bad loans to ARCs.

The industry expected that as time passes and NPAs age, the provision requirement would increase, allowing banks to sell at a reasonable discount. However, banks have remained rigid during their negotiations. Moreover, ARCs themselves have become very selective in their purchases, since their business has now moved towards a focus on turnaround of stressed assets, rather than merely housing bad loans for a few years.

Sales to ARCs have remained weak despite the fact that large ARCs like Edelweiss ARC and Kotak Mahindra Bank’s Phoenix ARC have raised funds from international pension funds like CDPQ and CPPIB, respectively, and are well capitalised.

According to the people quoted above, most banks have also been so bogged down with the Insolvency and Bankruptcy Code and its application over the last few months. This means they have not been able to adequately focus on selling their bad loans to willing buyers.

Following a change in legislation which gave the banking regulator more powers to direct banks on bad loan management, the RBI, in June, asked lenders to take 12 large cases to the National Company Law Tribunal (NCLT) on an immediate basis for insolvency proceedings. These loans alone accounted for nearly a fourth of the bad loans of the banking industry as on March 31, 2016. Following this, in August, the RBI sent out a new list of corporate defaulters, where banks had to find out resolution strategies before December, failing which, they would also be sent for insolvency proceedings.

The revival of sales to the ARC industry is important for a banking sector which is struggling to tackle a large NPA problem. Listed banks had reported gross bad loans worth over Rs 8 lakh crore at the end of the June quarter, which is expected to worsen.

ARC sales have suffered over the years due to multiple factors. The most critical is the 15-85 norm introduced by the Reserve Bank of India in August 2015 which requires ARCs to pay at least 15 percent of the net asset value upfront in the form of cash, while issuing security receipts for the remaining amount. This was a departure from the earlier practice of putting up only 5 percent of the net value in cash.

Forced to shell out more money from their own pockets, ARCs started pricing assets lower than banks would have liked. Eventually, sales started dropping.

Another issue was the regulator’s new asset classification norms introduced in September 2016, which required banks to provide for security receipts held on their investment book for a very long time.

The norms pushed lenders to negotiate for more all-cash deals with ARCs to avoid holding security receipts and, in turn, setting aside more money as provisions. However, the market for all-cash deals has been limited, resulting in fewer deals being closed.

Banks have not been forthcoming when it comes to asset sales and that is something that continues to affect the industry. After a change in norms in September last year, banks had to look at their security receipts portfolio and provide for assets as if they were NPA. This slowed down deals even further.”
P Rudran, Chief Executive Officer, Ambit Flowers ARC

According to Rudran, who served as the chief of India’s first ARC, Asset Reconstruction Co Of India Ltd (Arcil), there is a need for more hybrid deals to come up in the ARC sale process.

“Maybe banks could close cash deals on condition that they would get a share of the returns if the recovery from an asset is higher than a certain percentage. This would incentivise banks to look at cash deals at reasonable valuation,” he said.