When the Reserve Bank of India dropped a bombshell on the evening of June 13, ordering banks to take the top-12 defaulters to bankruptcy courts, it also laid the foundation for changing the way Indian banks engage with big business families hereon.
A week after the regulatory whiplash, bankers have buried the hopes of business as usual. While they are working out strategies to emerge from the unprecedented shock, the bankers find themselves walking alongside insolvency professionals in an unknown territory with little clue on how to go about resolving the problem.
But a positive outcome of this purgatorial step will be that for the first time in decades, there would be a level-playing field at the negotiating table between bankers and borrowers. And in all likelihood, it could make an ever-elusive resolution of bad loans a reality as the defaulters are now certain they stand to lose their crown jewels — howsoever faded they might be — if they do not cease to act irresponsibly.
The new bankruptcy procedure, which lays down timeline to recover from defaulters unlike discretionary and opaque ways of the past, capping of bank loans to conglomerates, and the increasing realisation to minimise the asset-liability mismatch, is promising a new Indian banking landscape.
“Going to the Insolvency and Bankruptcy Code (IBC) would be the new normal,” says Arundhati Bhattacharya, chairman, State Bank of IndiaBSE 0.52 %. “Business families will have to do their uttermost to protect their names. Once your name gets spoilt, you are not going to get any money anymore.”
Incidentally, the bankruptcy law provides for even suppliers to initiate insolvency proceedings. If no resolution is arrived at within 180 to 270 days, the assets have to be auctioned off to recover dues.
THE DIRTY DOZEN
If lenders fail to reorganise the Rs 2.5-lakh-crore worth of loans identified by the RBI with realistic cash-flow assumptions and sufficient hair-cut, the once venerable names, such as Bhushan SteelBSE 8.91 % and Ruias-owned Essar SteelBSE 0.41 %, will go through painful insolvency proceedings. Many others, such as Amtek AutoBSE -4.98 % and Videocon IndustriesBSE -4.98 % of Venugopal Dhoot, are in the queue staring at a similar fate.
The steel company owes banks Rs 44,000 crore and it is anybody’s guess how much it would be valued at now. The company delisted itself several years ago. Although the regulator has been kind enough to say upfront it will ease the provisions for losses arising out of these realistic restructurings, it could also lay bare the amount of value that banks have been hiding so far.
“Earlier also, a joint-lending forum (JLF) was in existence and the same bankers were part of the JLF when the resolution was being delayed unreasonably for a variety of reasons,” says Rajesh Gupta. “How the committee of creditors with same set of people will perform under the code is to be seen.”
EQUITY AND APPRAISAL
As bad loans mounted through the years to unseen levels, the government became the favourite whipping boy. The industry blamed the state and the judiciary for stifling growth due to “bad” policy decisions and “unreasonable” judgments. Cancellations of coal-block allocations and telecom licences were blamed for a wave of defaults, though questionable. This led to bankers withdrawing into a shell. But what was papered over was the poor underwriting standards and promoters gamings the system with thin equity.
Infrastructure projects provided room for promoters to float scores of entities where debt from one masqueraded as equity in another. Banks turned a blind eye to whether promoters actually had a skin in the game.
“Deficiencies in evaluation can be somewhat compensated for by careful post-lending monitoring, including careful documentation and perfection of collateral, as well as ensuring assets backing the promoter guarantees are registered and tracked,” former governor Raghuram Rajan had said.
“Unfortunately, too many projects were left weakly monitored even as costs increased.”
The socialistic past led to the Indian banks lending with compassion.
Borrowers managed to exploit the fear of loss in bankers’ mind to their advantage and benign lenders fell into the trap and waited for the tide to lift the failed businesses.
Stressed assets, i.e. bad loans and restructured loans, totalled 20% of the total loans in the system, according to the Economic Survey 2017. Many of these are longterm loans from banks which depend mostly on short-term funds. The banks, also blamed for ignoring the need to match asset and liability, may have to halt long-term loans, and wherever they do, may have to sell off them quickly.
“The large-scale distress being witnessed in banks’ infrastructure portfolio also raises issues about their ability to critically appraise such projects,” S S Mundra, deputy governor at RBI, has said. “The role for the banks in mature markets is to originate loans and then distribute to other willing players in the market.”
Beyond loan appraisals, banks have to build teams that would do forensic audit of promoters’ equity claims, and monitor the way funds are used, or misused.
LESSONS FROM RETAIL
What banks are entering is an unchartered waters. “As things stand now, a meaningful resolutions will need capital and IBC can’t create it,” says K C Chakrabarty, former deputy governor at RBI. “IBC will create further problems in the system. People have no idea how it will work. The infrastructure is not fully in place.”
But there are some related experience to borrow from for the banks. When retail lending was relatively new for Indian banks, they binged on it in the 1990s only to get burnt later with bad loans.
Their efforts to recover retail loans through goondas literally, following the example of Shylock, led to a social backlash. Banks became wiser and it also led to operationalisation of credit information bureaus which helped them do background checks before lending.
Something similar is also being built on the corporate front: the Central Repository of Information on Large Credits, or CRILIC, which can help banks get a handle on history of corporate borrowers.
Furthermore, banks can prevent promoters from gaming the system if they begin sourcing data from institutions like CIBIL, which has live feed on defaulters.
Uday Kotak, executive chairman of Kotak Mahindra BankBSE -0.75 %, sums up what’s coming to an end in the Indian economy with the RBI’s bankruptcy diktat. “Capitalism without financial failure is not capitalism at all, but a kind of socialism for the rich,” says Kotak. Big borrowers may not see Karnas in Indian banks, but Shylocks -enforcing contracts.