If, there is any sector that is under maximum stress today it is banking. And, the sole reason for this is monumental loans given in the past that turned in to non-performing assets [NPAs]. For public sector banks [PSBs], these are Rs 476,000 crores on March, 2016 [up from Rs 267,000 crores on March, 2015].
In the past, their managements suffered from inertia of two types; first, they won’t recognize the existence of the problem and second, despite recognition they would do nothing to solve it. Raghuram Rajan – the tough governor, Reserve Bank of India [RBI] forced them to clean up their balance sheets. As a result, some 20 banks who would have otherwise made a profit of Rs 140,000 crores from operations during 2015-16 have ended up with loss of around Rs 18,000 crores primarily due to heaving provisioning in their books.
Concurrently, RBI took steps to give them some respite. First, it was a scheme nick-named 5/25 introduced in December 2014, under which maturity of loans given to infrastructure companies could be extended up to 25 years. Six months later, this was followed by a scheme for “Strategic Debt Restructuring” [SDR]
Under SDR, banks can convert debt in to equity and take control of a company and sell off the assets. The assets should be disposed off within 18 months from the date of acquiring control. If, the bank is not able to dispose off assets, then it has to make provisions for entire debt. But, banks are struggling to dispose off many stressed assets they have acquired. They have also expressed inability to make full provision for the loan within the deadline.
RBI has now come out with a “Scheme for Sustainable Structuring of Stressed Assets” [S4A] to settle large accounts involving borrowings of Rs 500 crores or more. The scheme is aimed primarily at projects in steel, power and infrastructure etc which turned NPAs due to external factors and where no malfeasance is seen.
Under S4A, lenders will first segregate existing debt of a company into “sustainable” [the share which can be serviced even if cash flow remains the same as now] and “unsustainable”. The amount of sustainable debt will be determined by an independent agency based on techno-economic viability study. The unsustainable portion should not be more than 50 per cent of total debt at the time of recast. It will be converted into equity or redeemable cumulative optionally convertible preference shares.
The banks will not grant any fresh moratorium on interest or principal repayment, or reduction of interest rate for servicing of sustainable debt portion. Any resolution plan should be agreed upon by a minimum of 75 per cent of lenders by value and 50 per cent of lenders by number in the consortium. Both promoters and banks will have to take equal haircut in the process. The bank will need to provide for 20% of total debt or 40% of unsustainable debt whichever is higher.
Where the resolution plan does not involve a change in promoter or where existing promoter is allowed to operate and manage the company as minority owner by lenders, the principle of proportionate loss sharing by the promoters should be met. If, there is no change in the existing management, the banks can also convert a portion of the unsustainable debt into coupon yielding debt instrument.
Equity shares thus acquired should be marked to market on a daily, or at least on a weekly basis for listed firms. In case the company is not listed, banks should take the lowest value after working out a prescribed rule the central bank outlined.
A close look at the scheme reveal that this is nothing but skulduggery and playing with jargon to make it look robust. A loan is taken for a given project say setting up of an integrated steel plant. That is a composite entity and cash flow generated from its operation are to be used for amortizing the loan. Either the loan can be serviced [sustainable] or it can’t [un-sustainable]’.
It defies logic to bifurcate it into two parts viz., a portion that is ‘sustainable’ and the other which is ‘un-sustainable’? Yet, by allowing such bifurcation, RBI is actually asking the bank to literally extinguish 50% of the total debt albeit by proclaiming it as ‘un-sustainable’ and converting it into equity. With this, the remaining 50% debt should automatically become sustainable.
The banks will pay a heavy price by having to make a provision of 20% of total debt. Still, they are being goaded to accept on the pretext that this is better than 100% provisioning, they will have to make [over 3 years though] in the absence of S4A. But, 20% hair-cut theory too is imaginary. The actual loss could be much more.
With a major slice of loan converted to equity, the bank will have majority ownership. The extant promoter who is reduced to minority shareholder will have no incentive to turn around the project. The worth of equity held by bank would be reduced to the piece of paper on which it is written. And, there is no guarantee that the other 50% so called sustainable debt could be serviced at all.
Apart from loosing the entire debt, there is a further risk of bank having to extend more loans to the promoter [possible de jure once NPA tag goes away, consequent to restructuring under S4A] in the name of turning around the project. Even these fresh loans could be at risk as the latter would be prone to using them for paying off the old ones [so called “ever-greening” of loans].
A stipulation that the restructuring will be coordinated and monitored by an independent agency and would be transparent though good does not inspire much confidence. This is because under the scheme, there is hardly any accountability on the promoter. The irony is that in the past, promoters were allowed to go scot free and even now, their wings are not being clipped. Any scheme that does not hold the promoter accountable will not work. So, what is the way out?
The projects for which RBI is contemplating relief are those which suffered due to economic down-turn [these are not willful defaulters]. Now, that the economy is doing well with growth rate of 7.3% in 2014-15 and 7.6% during 2015-16 and government has already taken steps to de-stress the concerned sectors [steel, power etc], these projects should soon get into a position of generating adequate cash flow. The regulator can wait till then and promoters given moratorium on interest or principal repayment during the interregnum.
Alternatively, banks can take full control of company in lieu of the debt. Considering that these investments were fundamentally sound but were only victims of down-turn and today their stocks are beaten down, there is no reason why they should not get buyers [the experience under SDR is not a good indicator as the time frame of less than one year was too short; due diligence exercise itself takes several months].
Even in an extreme scenario of banks not finding takers, they can run the enterprise with a core group of independent professionals [there is no dearth of persons with experience and expertise available in the respective fields]. Once turn-around happens, at a suitable opportunity, the bank can sell the equity to a potential buyer.
All of this is well within the realm of possibility. However, for it to actually happen, the government and RBI should shun age-old mindset of being soft towards promoters and become sensitive to protecting resources that belong to the people of India.