Three years into the bad loan cycle, recognition of stressed assets has progressed but resolution has crawled. The result – banks are sitting on over Rs 10 lakh crore in bad loans, with recoveries still some distance away.
To speed up the process of repairing their balance sheets, lenders have come up with a new plan. In a nutshell, the plan involves setting up an asset management company (part promoted by the banks), which raises an alternative investment fund (from banks and other investors), which then acts as a market maker and also buys bad loans itself.
The scheme, called ‘Sashakt’, was recommended by a bankers’ committee and accepted by the government yesterday. Bankers hope the new structure, if it works, will help in price discovery of stressed assets and take them off the balance sheets of banks.
“There is a need felt for an AMC that is professionally run and that can manage the large assets for resolution. Someone has to take the initiative,” State Bank of India Chairman Rajnish Kumar told BloombergQuint in an interview while explaining the need for yet another bad loan resolution mechanism.
How Bankers Hope The Structure Will Work
The process, as explained by people familiar with the proposal, will work something like this:
- An AMC would be set up with a board of industry veterans to give it credibility.
- This AMC would raise and manage an alternative investment fund. Investors in this fund could include banks like State Bank of India but also domestic and global stressed asset funds.
- When a stressed account comes up for sale, the AMC would conduct due diligence and recommend a floor price.
- This floor price would be assessed by the investment committee of the AIF before it is approved. The AIF will furnish 15 percent of the floor price upfront in cash.
- Once approved, an auction under the ‘Swiss challenge’ method would follow, allowing outside asset reconstruction companies and stressed asset funds to bid for the asset at a price higher than the floor price.
- Should the asset be purchased for a higher price by a third party, that party will pay banks and repay the 15 percent paid upfront by the AIF.
- If no other bidder emerges for the asset, the AMC will continue to hold it.
On paper it’s a very good scheme but implementing it will be a challenge, said Siby Antony, executive chairman at Edelweiss Asset Reconstruction company.
Where Will The Funds Come From?
The first challenge for banks would be to find a set of industry experts willing to form the governance committee of the AMC, which is at the centre of the Sashakt plan. Even if that hurdle is cleared, capital would need to be raised for the AMC and then the AIF.
Kumar does not believe this will be a challenge. The equity contribution for the AMC can come from banks and domestic funds. Private investors will hold at least 50 percent of the AMC, Kumar said.
The larger pool of capital would be needed by the AIF.
A presentation made by banks to the finance ministry says that there are about 200 accounts with an exposure of Rs 500 crore or more. The total exposure across these accounts stands at Rs 3.1 lakh crore. If one assumes an estimated recovery of 40 percent, the AIF would need to raise about Rs 1.2 lakh crore over a period of time, Kumar explained. He added that, as a start, SBI is willing to contribute Rs 10,000 crore to the AIF.
If you look at the presentation, accounts of Rs 500 crore and above, the estimate is about Rs 3 lakh crore. The amount needed would be what is the average percentage estimated recovery. So the amount can vary. Suppose if it is 40 percent, you need Rs 1.2 lakh crore in funds for recovery.Rajnish Kumar, Chairman, SBI
Anthony questions whether a large AIF can be raised in such a short period of time and whether return expectations of investors in such funds would be met.
“AIF investors look for at least returns of 20 percent plus in Indian rupee terms. Foreign investors look for dollar returns of 13-14 percent. So if one has to get this return, then the pricing is very crucial,” Anthony said.
The Pricing & Debt Aggregation Challenge
One of the reasons that deals between banks and stressed asset investors have not closed is because banks are wary of agreeing to large haircuts. Apart from the lack of adequate capital, bankers have also been reluctant to take decisions for fear of being questioned by investigative agencies.
With an AMC structure, the responsibility of determining the haircut on a stressed account gets transferred to the board of the AMC and the investment committee of the AIF.
Kumar said that this will help bring back an institutional mechanism to make collective decisions. Until recently, bankers used the Joint Lenders’ Forum to make decisions related to consortium loans but this forum was dismantled by the RBI earlier this year. “In the absence of any regulatory mechanism, ultimately it is upon the banks to work out a consensus arrangement and work out the rules through which they are willing to work,” said Kumar.
According to the presentation made by banks, an inter-creditor agreement would be signed, authorising the lead bank to implement a resolution plan. This, they hope, will address the challenge of getting all bankers on board a resolution plan.
Price discovery and debt aggregation have been the key challenges for the existing asset reconstruction companies, said Anthony while adding that he is not convinced these challenges will be immediately addressed. “Unless there is a direction from the government or the regulator, that the lead bank is empowered to do this....I think that is crucial.”
Kumar is hopeful that bankers will come to an agreement.
As far as inter-creditor agreement among the lenders is concerned, we will move very fast. On AMC, there is interest and the hope is that in the next three to six months, we should be able to see the first deal coming through.Rajnish Kumar, Chairman, SBI
The Size Of The Problem
The attempt to find another solution to the stressed asset problem comes against the backdrop of an unabated rise in bad loans.
Gross non-performing assets of listed banks rose to Rs 10.3 lakh crore at the end of the March 2018 quarter. This number is set to rise further. The RBI, in its latest Financial Stability Report, cautioned that gross bad loans may rise to 12.2 percent of total loans by March 2019 from 11.6 percent as of March 2018.
While bad loans have risen, banks have been unable to sell these loans to private asset reconstruction companies and stressed asset funds as initially envisaged. Assets being managed by ARCs are roughly Rs 2 lakh crore or only a fifth of the bad loans on bank books, Anthony estimates.
The size of the problem is large and that is why new schemes are being considered, he said while adding that the success of the plan will depend on banks being willing to sell assets at the right price.
There are 27 ARCs in the country and at least four or five of them are very large and have a lot of dry powder. New ones are being set up by KKR, Blackstone, Birla and others. All are coming into the market with huge resources. What is not available is good assets at the right price.Siby Antony, Executive Chairman, Edelweiss ARC