Bad Bank: Government Guarantee A Bonus, Not An Imperative, Say Bankers

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Bankers are drawing up a plan to create a national asset reconstruction company even as they await clarity on the role the government is willing to play in this process.

A ‘bad bank’ like entity was proposed by Finance Minister Nirmala Sitharaman in the Union Budget. In comments thereafter, officials said the government will not be capitalising on this entity but may consider providing a guarantee against the security receipts issued.

The plan to create an ARC is not dependent on a government guarantee against the security receipts, though any such assurance will be benefit lenders, according to four bankers who spoke on the condition of anonymity.

The proposed nationalised ARC will be capitalised largely by public sector lenders and will be able to aggregate bad loans for quicker resolution. Private sector lenders will be allowed to participate if they wish to, however, the initial contribution will come from public sector lenders, the bankers said. Banks will make sure that each lender acquires a less than 10% stake in the national ARC, to avoid being tagged as a sponsor. According to regulation, a sponsor bank cannot conduct bilateral deals with an ARC where they hold a 10% stake or more.

Lenders will look to sell accounts that carry a 70-100% provision coverage ratio for this purpose. Loans with outstanding dues worth Rs 500 crore and above will be selected for these sales and banks will likely sell assets worth up to Rs 1-1.5 lakh crore, said the bankers quoted above.

Last week, the Indian Banks’ Association (IBA) circulated a letter among all member banks seeking detailed information about stressed corporate loan accounts with outstanding exposure of Rs 500 crore and above. This includes fund based, non-fund based and any exposure to bonds issued by the borrowers. BloombergQuint has reviewed a copy of the letter.

According to the IBA’s letter, banks cannot include exposures to non-bank lenders, mutual funds, broking firms in this list. Any kind of quasi-equity investments, fraud accounts, unsecured exposures, accounts under liquidation and any accounts expecting resolution under the Insolvency And Bankruptcy Code, must also be excluded. Banks are also expected to share information regarding the provisions made against each of these accounts as of Dec. 31, 2020.

Emails sent to a spokesperson at the Finance Ministry and the Indian Banks Association on Tuesday were not answered.

A Market-Pricing Mechanism

The national ARC intends to follow a market-based price discovery process to ascertain the value of the asset, the bankers quoted above said.

This is a departure from a previous plan to sell the loans at net book value, where the provisions are adjusted against the loan amount. According to the first two of the four bankers quoted above, lenders were not in favour of doing a net book value transfer, since it does not give any incentive to bankers to sell the account. Lenders are hoping they can recover slightly more than the net book value of the asset if a market-based mechanism is followed, the bankers said.

A Swiss challenge option will also be provided to private ARCs in the market, if they feel that they can take over the account at a higher price. The national ARC will have a right of first refusal, where it can match what the private ARCs are offering.

The assets will be sold under the 15:85 structure, where the ARC will pay 15% of the decided price in cash and issue security receipts worth 85%. An asset management company would be created under the nationalised ARC, which will manage the account till a suitable buyer is found for the account, the bankers said.

The ARC would conduct the resolution process within a time-bound manner, trying to sell the account within five years of acquisition, to settle the security receipts held by the banks. A small percentage of the sale proceeds would be used to pay the AMC a fee for managing the account, the bankers said.

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