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7Th September
2016
 |
| RBI (The Total Investment & Insurance
Solutions) |
The Reserve Bank of India (RBI) on 1
September 2016 issued Guidelines on Sale of Stressed Assets by
banks. The Guidelines are an attempt to improve the framework
for sale of stressed accounts by banks. The essence of the Guidelines is urging
banks to create mechanism for timely identification of stressed accounts and
take appropriate actions to ensure there is low vintage and better price
realisation for banks.
The guidelines view the world with
rose-tinted glasses. Currently the non-performing asset (NPA) levels in the
financial system are extremely high and are causing sleepless nights to the
Boards of banks and financial institutions. In such times where there is a dire
need for quick resolution, the Guidelines are optimistic about finding takers
for bad assets and creating dynamic market for the same outside of ARCs as
well. While this is the core area for ARCs and special situation funds (which
the guidelines do not make a mention of at all), there may be very little or no
motivation for other non-banking financial companies (NBFCs) or banks to
acquire bad loans.
The Guidelines also seem to suggest that the
sale of junk should be undertaken by an open auction process, which will result
in price discovery. The existing Framework for Revitalising Distressed
Assets in the Economy as
applicable to banks and issued on 26 February 2014 mentioned that there were
practically challenges in sale of assets through auction process. The bidding
process is quite costly and the due diligence takes long. The framework urged
for creating transparency in the auction process and required prescription of
sufficient disclosures for seamless auction process. Unfortunately, none of
these issues from the 2014 Framework are addressed in the new Guidelines. We
highlight the prescriptions of the recently issued Guidelines in this
article. The Total Investment
& Insurance Solutions
Process of identification of stressed
assets
The Guidelines mandate the banks to do the
following:
1. Early identify stressed assets and special
mention accounts and make them available for sale.
2. Identify and list internally, once a year
(preferably at the beginning of the year), specific financial assets available
for sale to other institutions.
3. Doubtful assets above a threshold should
be identified and reviewed by the board or its committee to make them available
for sale.
4. The sale should be undertaken through
e-auction process, so as to attract wide variety of buyers and enable larger
participation from prospective buyers.
5. At the time of sale, specifications should
be provided for acceptance of internal or external valuations. In case of exposure
beyond Rs50 crores, take 2 external valuation reports.
6. Banks should provide adequate time for due
diligence with a floor of 2 weeks’ time.
7. Cost of valuation to be borne by banks
Eligible buyers of banks’ junk
Banks can sell the stressed assets to:
a. Asset reconstruction companies;
b. Other banks;
c. Non-banking financial companies;
d. Financial institutions.
Preference will be given to asset
reconstruction companies as buyers.
Swiss Challenge Method
This is the prime focus of the Guidelines. As
in case of government tenders and bidding, Swiss Challenge Method is envisaged
to be introduced for sale of stressed assets as well. The mechanism is as
follows:
1. Prospective buyer gives a bid to the bank
for acquisition of assets;
2. Where a prospective buyer offers more than
the minimum percentage specified in the bank’s policy in the form of cash, the
bank shall be required to publicly call for counter bids from other prospective
buyers, on comparable terms;
3. Once bids are received, the bank shall
first invite the securitisation companies (SCs) and reconstruction companies
(RCs), if any, which has already acquired highest significant stake to match
the highest bid. Asset Reconstruction Companies (ARCs) acquiring majority stake
and bidding highest will be given a right of first refusal for acquiring the
assets
4. The order of preference to sell the asset
shall be as follows:
a. The SC or RC, which has already acquired
highest significant stake;
b. The original bidder and
c. The highest bidder during the counter
bidding process.
5. In any event, preference will be given to
asset reconstruction companies to acquire the assets
6. Bank may sell to the winning bidder
otherwise make provision which would be higher of the two:
a. The discount on the book value quoted by
the highest bidder; and
b. The provisioning required as per extant
asset classification and provisioning norms
Investment in security receipts (SRs)
Banks typically sell the stressed assets to
the ARCs and then hold them in the form of security receipts. This is a way of
creating a façade whereby the banks continuing to hold the bad assets as
investment. The guidelines state that where banks continue to hold 50% or more
of security receipts with the underlying of the assets it sold to the ARCs,
then higher of the below mentioned provisioning norms shall apply
a. Provisioning rate required in terms of net
asset value declared by ARCs
b. Provisioning rates as applicable to banks
The above provisions will become applicable
from 1 April 2017. The threshold of 50% investment in SRs will be reduced to
10% from 1 April 2018.
In addition, banks will be required to do
disclosure of SRs acquired and the disclosure goes 8 years backward. The Total Investment & Insurance
Solutions
Buy-back of refurbished junk
The Guidelines state that the Banks should
have a board approved policy to buy-back financial assets from asset
reconstruction companies once the asset has become standard after successful
implementation of the restructuring program by the ARCs and after satisfactory
performance of the asset during the specified period. The Total Investment & Insurance
Solutions
However, banks cannot buy-back the assets
they sold to the ARCs. This means banks can buy someone else’s refurbished junk
but cannot buy-back its own.
Banks to formulate policies
In light of the Guidelines issued, banks will
be required make changes in their policies dealing with stressed assets. The
following are the changes or policies required:
1. Banks to lay down board approved policies
and guidelines for sale of stressed assets, which would include
a. Types of financial assets to be sold
b. Norms and procedures for sale
c. Valuation procedure to be adopted and
policy for valuation either to be taken internally or externally.
d. Delegation of powers for undertaking the
sale of financial assets
e. Discount rates used for valuations will be
provided for in the policy
f. Minimum percentage/ floor of cash expected
in case of sale
2. Banks will require a board approved policy
for buy-back of financial assets. The policy should provide for facets such as
type of assets that may be taken over, due diligence requirements, viability
criteria, performance requirement of asset, etc. The Total Investment & Insurance Solutions
3. The existing NPA policies should be
reviewed and revised in lines with the Guidelines.
Selling of bad loans is not a thriving
business where price discovery is the primary agenda, neither is broadbasing
investors in junk the agenda. However, the Guidelines do focus on sensitising
the banks by saying a stitch in time will save nine.The Total Investment & Insurance Solutions
