Sell bad debts early, let ARCs take part in IBC: RBI committee

A committee appointed by the Reserve Bank of India (RBI) to recommend ways to revive the asset reconstruction companies (ARCs) sector suggested an early sale of bad debts to ARCs, direct acquisition of such from the market as well as letting the ARCs be a bidder in the insolvency and bankruptcy process.

Once an asset is acquired by ARCs, they should be also allowed to lend money to the stressed assets so that they can be nursed back to health and dues recovered later on.

The committee to review the working of ARCs, headed by former RBI executive director Sudarshan Sen, also suggested in its report that if 66 per cent of the lenders (by value) agree to sell an asset to ARCs, “the same may be binding on the remaining lenders and it must be implemented within 60 days of approval by majority lenders.”

If a lender fails to comply with this requirement, it should be penalised with 100 per cent provisioning on the loan outstanding.

The committee argued that banks more often than not sell vintage loans to ARCs which makes recovery and revival of business difficult. For example, banks and other investors could recover only about 14.29 per cent of the amount owed by borrowers in respect of stressed assets sold to ARCs during the FY 2004 – FY 2013 period. About 80 per cent of the recovery made by ARCs came through the “deployment of measures of reconstruction that do not necessarily lead to revival of businesses.”

Therefore, banks must aim to sell stressed assets at an early stage, while the regulator must clarify on sale of all categories of loans at the special mentioned account (SMA) stage (less than 91 days overdue).

To incentivise lenders selling loans at an early stage, the regulator RBI must be prepared to allow dispensation to lenders on an ongoing basis to “amortise the loss on sale, if any, over a period of two years.”

Banks’ resolution plans for accounts worth Rs 100 crore in default must include a sale to ARCs as an option. If the non-performing asset (NPA) is more than two years old, and they are yet not part of the list identified for sale, the reason should be documented by banks, it said.

Sale of assets to ARCs must be done through an online platform in order to bring transparency and uniformity in the process, the committee said, suggesting the use of the infrastructure created by the Secondary Loan Market Association (SLMA) for this purpose.

There should be a reserve price for accounts above Rs 500 crore and for all such accounts, two bank-approved external valuers should carry out a valuation to determine the liquidation value and fair market value. For accounts between Rs 100 crore to Rs 500 crore, one external valuer will suffice.

“The final approval of the reserve price should be given by a high-level committee that has the power to approve the corresponding write-off of the loan,” the report suggested.

Section 5 of the SARFAESI Act, and other related provisions, should be amended to allow ARCs to acquire assets directly from banks and financial institutions, but also from other entities allowed by the Reserve Bank. These may include non-banks, as well as alternate investment funds, foreign portfolio investors, mutual funds, or even retail investors.

“The Committee recommends that ARCs may be allowed to participate in the IBC process as a Resolution Applicant either through a SR trust or through the AIF sponsored by them,” it said.

The purpose of the acquisition should be for reconstruction purposes only.

In cases where ARCs have acquired 66 per cent of debt of a borrower, they should be given two years of moratorium on proceedings against the borrower by other authorities. Government dues including revenues, taxes, cesses and rates due to the Central Government, State Government or local authority must be deferred in such cases, the report said.

Importantly, the report suggested that the ARCs, through alternate investment funds floated by them, “should be allowed to sponsor SEBI registered AIFs (alternate investment firms) with the objective of using these entities as an additional vehicle for facilitating restructuring/recovery of the debt acquired by them.”

These radical sets of recommendations assume importance at a time when the government itself has formalised an ARC through banks.

The committee urged the RBI and the government to view the report in a “holistic manner” as the recommendations are “interlinked and interdependent.” The exhaustive report covered all key areas of ARCs while making key recommendations in the areas of acquisition, securitisation and reconstruction of financial assets and liquidity and trading of security receipts, as well dwelling on tax treatment and regulations.

Apart from getting vintage loans, the ARCs also suffer from lack of debt aggregation, non-availability of additional funding for stressed borrowers, difficulty in raising funds by the ARCs on their balance sheet, etc.

“Also, ARCs have lacked focus on both recovery and acquiring necessary skillsets for holistic resolution of distressed borrowers,” the report said.