India: RBI allows banks to sell stressed assets to NBFCs, other lenders

Photo: Aniruddha Chowdhury/Mint

Banks can now sell their stressed assets to other lenders, non-banking financial companies and financial institutions in addition to distressed-asset buyers, a move the banking regulator said will speed up the resolution of bank bad loans.

The Reserve Bank of India (RBI), in guidelines issued on Thursday, asked local banks to frame clear policies for stressed-asset sales so that they quickly clean up their balance sheets that collectively hold Rs.6.3 trillion in non-performing assets (NPAs).

RBI also asked top management of banks to review and identify assets for sale at the beginning of the year. Early identification, the central bank said, will help banks in getting better prices.

Allowing a wider range of buyers for stressed assets apart from asset reconstruction companies (ARCs) or securitization companies (SCs) will also help in better price discovery, said the central bank.

Experts say permitting banks to buy stressed assets is a mistake.

“Banks should not be in the business of buying and resolving stressed loans. They should ideally be incentivised to sell these loans to someone who is a specialist in the space,” said Saswata Guha, director, financial institutions, Fitch Ratings.

In 2014, RBI had released a framework in which it had liberalized the rules for selling stressed assets by permitting, for example, leveraged buyouts for specialized entities and other steps to enable better functioning of ARCs.

But the scheme was not much of a success, mainly because banks and such firms couldn’t agree on valuations, and the low capital of the ARC industry. Sales of stressed assets by banks to ARCs or SCs fell to Rs.19,700 crore (book value of stressed assets) in fiscal 2016 compared with Rs.40,000 crore a year ago, according to a July report by consultant EY.

The latest rules also require banks to auction such assets publicly and give prospective buyers at least two weeks to inspect the assets.

RBI has further asked banks to outline clear policies on how they propose to value assets that are to be sold. This is mainly regarding defining cases where an internal valuation would be accepted. However, for assets where the banks have exposure of at least Rs.50 crore, RBI has mandated two external valuation reports.

The central bank now plans to restrict the investment of banks in security receipts that are backed by their own stressed assets.

That is to address a key failure of the existing asset-sale policy where banks tend to retain a significant interest in the ‘sold’ asset by investing in security receipts.

At the end of March 2015, banks and financial institutions that sold stressed assets ended up holding as much as 82% of security receipts which ended up in their books as investments, showed RBI data.

From the beginning of the next financial year, if a bank has invested in more than 50% of security receipts created against the sale of its own stressed assets, it has to set aside more money as provisions. From financial year 2018-19, this threshold of 50% will be reduced to 10%, RBI said.

“Suffice to say that this would kill SR-based (security receipt-based) sales of bad loans completely. If banks do not have an incentive of lowering provision requirements, it will discourage them from entering any discussions at all. Besides, at the core of a good stressed asset market is turnaround planning, which seems to be missing right now,” said Abizer Diwanji, partner and head, financial services, EY.

According to the chief of a leading ARC, there needs to be clarity on whether this provision requirement will be effective prospectively or not.

“If it is retrospective, the banks will have large provisions to make on their books. As of now, about Rs.80,000 crore worth of SRs are there with banks,” the ARC chief said on condition of anonymity.

RBI also said that banks should offer the first right of refusal to asset reconstruction or securitization companies that have already acquired the highest and at least 25% share of the asset to enable them to aggregate debt faster.

The central bank also clarified that its existing guidelines do not prohibit banks from taking over standard accounts from securitization or reconstruction companies. Thus, banks may buy back assets where a successful restructuring plan has been implemented. However, RBI has also clarified that these restructured assets can’t be those which the banks themselves had earlier sold.

To be sure, there has been increased interest from foreign funds and even local banks in setting up stressed asset funds, simply because of the huge size of bad loans which these firms believe can be turned around.

Last month, Piramal Enterprises Ltd said that it had tied up with Bain Capital Credit to invest up to $1 billion in stressed and restructured assets. ICICI Bank Ltd and Apollo Global Management, too, tied up to look at multiple ways of investing in troubled firms, while Brookfield Asset Management Inc. signed a memorandum of understanding with State Bank of India, in July, to raise up to Rs.7,000 crore to invest in stressed assets. In March,CPP Investment Board signed an agreement with Kotak Mahindra Group to launch a $525 million fund to invest in stressed asset firms.

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This story was first published on Livemint