(Source: BloombergQuint)

BQExplains: What RBI’s New Bad Loan Resolution Framework Means

The Reserve Bank of India has released a new overarching framework for bad loan resolution, to be used across the Indian banking sector. The new rules put an end to a series of stressed asset schemes which had been introduced over the past few years. Instead, a strict 180-day timeline has been prescribed over which banks must agree on a resolution plan. And if they fail to do so, large stressed accounts must be immediately referred for resolution under the Insolvency and Bankruptcy Code (IBC).

BloombergQuint spoke to bankers, analysts and lawyers to understand what this means.

Existing Schemes Replaced With IBC

A key change that will impact banks immediately is the fact that most existing stressed asset schemes have been subsumed by the new framework.

This means that schemes such as Corporate Debt Restructuring (CDR), Strategic Debt Restructuring (SDR), the Scheme for Sustainable Structuring of Stressed Assets (S4A), and the Flexible Structuring of Long Term Loans will no longer exist. The Joint Lenders’ Forum (JLF), which had been set up to coordinate resolution of large consortium loans, has also been disbanded.

VG Kannan, chief executive officer of the Indian Banks’ Association said that the new rules give full flexibility to banks to restructure but with clear boundaries.

The RBI has opened up a much larger ground with full freedom for banks to restructure accounts, but with clear boundaries....Without a difference in treatment of the account, bankers will agree to cooperate better in resolution. The only fear is that of the vigilance investigations after the case is fully resolved.
VG Kannan, CEO, Indian Banks’ Association

Dinabandhu Mohapatra, chief executive officer of Bank of India told BloombergQuint that the new framework was inevitable since India now has a bankruptcy law and the experience with previous schemes was not encouraging.

It is a natural follow up, particularly in view of past experiences under the CDR/SDR/S4A and other schemes. Recent developments like introduction of the Insolvency and Bankruptcy Code has allowed for a comprehensive framework. This is in sync with best practices across developed economies.
Dinabandhu Mohapatra, MD & CEO, Bank of India

While the new rules provide a cleaner framework for stressed asset resolution, there may be some transition pain for banks. Veena Sivaramakrishnan, partner at law firm Shardul Amarchand Mangaldas explained that in cases where a restructuring scheme has not been implemented, banks would need to go back to the drawing board.

The Revised Restructuring Framework has replaced all the existing schemes. Existing accounts under these schemes, if not restructured and “implemented”, will now be governed by the Revised Restructuring Framework and lenders would need to go back to the drawing board to ensure that the restructuring meets the norms under the Revised Restructuring Framework. The transitioning may see some initial hiccups, but ought to be smooth, given the consolidated framework now in place.
Veena Sivaramakrishnan, Partner, Shardul Amarchand Mangaldas

Banks Brace For A Further Hit

The new framework is expected to help with early recognition and resolution of bad loans. While this may be positive for the banking sector in the long run, in the short run, banks may come under additional pressure.

The new framework specifies that banks must report defaults on a weekly basis in the case of borrowers with more than Rs 5 crore in bank debt. Once a default has occurred, banks will have 180 days within which to come up with a resolution plan. Should they fail, they will need to refer the account to the IBC within 15 days.

The strict timelines could mean that a larger number of accounts go into insolvency. Haircuts that banks may need to take and the probability of liquidation in some accounts may also rise, said Saswata Guha of Fitch Ratings.

We would expect non performing loans to rise since the benefit that some restructuring schemes offered has been withdrawn. A far larger number of accounts will now be referred for insolvency and the risk of larger haircuts and liquidation will also rise following these guidelines. We expect much of the recapitalisation amount to get used up for resolution rather than growth.
Saswata Guha, Director - Financial Institutions, Fitch Ratings

Under the new scenario, corporate lenders, which have already been under pressure due to rising bad loans and increased provisions, could take another hit. According to Bank of Baroda Capital Markets, the new rules will be a short-term negative for corporate lenders.

This is a short-term negative for the corporate lenders, as RBI has forced them to recognise and provide for NPAs very quickly - this would sharply increase NPA provisions and constrain profitability. This move might be seen as harsh by most banks as many accounts were already being referred to the NCLT for resolution. Over the long term, this would be seen as positive for the sector as banks’ balance sheets become cleaner and more transparent. 
Clyton Fernandes, BOB Capital Markets

What Are The Concerns?

As with any other framework, some concerns are emerging on the practicality of the new rules.

One aspect flagged off by experts is the expectation that a restructuring plan must be agreed upon by all banks involved in large accounts. This rarely happens and could lead to individual banks approaching the National Company Law Tribunal on their own. This may be one aspect that needs a relook, said Siby Antony, chief executive officer of Edelweiss Asset Reconstruction Company.

RBI has removed the many constraints on debt restructuring, which is a great step. What has come is a very simplified restructuring circular which gives the necessary freedom to bankers. One issue that pops out is that all lenders are required to sign a restructuring plan for it to be approved. Else the account goes to NCLT. Nowhere in the history of Indian debt restructuring have 100 percent of the lenders involved, agreed to one plan. That might be something which needs a relook.
Siby Antony, CEO, Edelweiss ARC

Some concerns have also been raised about the strict timeline of 180 days prescribed by the RBI for finalising a resolution plan. In the case of large consortium loans, where a number of lenders are involved, agreeing upon a plan may be tough over this time period.

Moody’s Investors Service, however, believes the time given is adequate and the framework will help the Indian banking system to move towards time bound resolution of stressed loans.

The process still provides over one year to resolve the problem assets -- initial 180 days to implement the Resolution Plan, and then another 270 days (180+90 days), if required, under the IBC. As such, the timeline should be sufficient to come up with a viable solution. Furthermore, once IND-AS is implemented, banks will be required to provide “life expected credit losses” once an asset becomes stressed. As such, the ability of the banks to take appropriate haircuts, and more quickly, will increase.
Alka Anbarasu, Senior Analyst, Moody’s Investors Service