Simplified but brace for higher provisions. RBI’s latest move to attack impaired loans is probably negative in the short term as it would require banks with large impaired corporate loans to make higher provisions mostly by FY2019/20. All previous dispensation formats like SDR, S4A, flexible restructuring and JLF have been dismantled and large impaired loans need to be resolved immediately post default else to proceed under the IBC framework. The short-term focus is on large ticket loans (>`20 bn).
Banks with corporate loans in a bit of bother with revised changes in guidelines
Key features of the revised framework: (1) early identification of stress (SMA-0/1/2) with information on default on weekly basis to CRILC. All existing dispensation formats like SDR (Strategic Debt Restructuring), Scheme for Sustainable Structuring of Stressed Assets (S4A), Flexible Restructuring (5:25) and JLF (Joint Lending Forum) have been withdrawn. (2) Implementation of a resolution plan (RP) immediately post default. The RP should have an investment grading post changes in repayment terms/ownership and rating upgrades should be post successful demonstration of repayment. (3) If RP is not implemented with the said timeline, lenders need to file insolvency application under the IBC process within 15 days from the expiry of the timeline. (4) Large default cases to be referred under IBC if not resolved in 180 days.
The pace of resolution rather than the recognition in itself may have been the core contention
The timing of the guideline suggests that RBI is probably not too happy at the pace of resolution of NPLs despite the availability of a wide range of tools with bankers through SDR, S4A, Flexible Restructuring and JLF. Recognition should not be a big issue considering that the RBI has been indicating that the overall stress recognition has significantly improved since the Asset Quality Review in 3QFY16 and reasonably stringent annual financial inspection being conducted post this review. Most dispensation formats have not reached the desired outcome and RBI probably feels that the IBC is cleaner, faster and less susceptible to misuse by bankers.
The Insolvency Code gets the upper hand; liquidation risks now far higher than before
The document has been quite silent on the progress of these dispensations, the challenges faced by banks in implementing the decision and the rationale to choose IBC over others. Given that the IBC code is still in its infancy, we believe that it would have been useful to see the outcomes of cases, recovery rates under this mechanism and the challenges faced while implementation referred under this code before this emerges as the default process for resolution of loans. Note that the risk of liquidation is extremely high in this process and stringent rules on promoter participation can result in substantially higher provisions than previously estimated. As per unauthenticated media reports, we note that the final bidders for most assets that have moved to NCLT for resolution have been far lower than the number of bidders who had shown interest at the time of inviting “expression of interest”.
Banks likely to be extra cautious on repayment terms to prevent incidents of default
Corporate defaults, across key industries occur during an economic slowdown and usually on a cohort basis. Identifying resolutions at that time would be a challenge forcing liquidation as the only viable option making it a big risk of this resolution process. We do hope to see the following in the medium term: (1) banks to be prudent in lending and reduce occurrence of excessive leverage. This could lower banks’ contribution to huge changes in economic cycles. (2) Repayment terms are likely to mirror cash flows with some margin of safety, and (3) emergence of distressed equity market and corporate bond market to ease cyclical pains.
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