Moral hazarding has no place in a tough-as-nails situation as collections and turnaround.
A bank’s business is to lend money, collect it until the last rupee, hopefully on time, every time. On the liabilities side, the regulations permit it to raise deposits from the market, which in turn it uses as the engine to fund its lending business (and the larger economy, consequently).
We should stop second-guessing bankers’ ability or intent in their credit underwriting. Businesses could become stressed ones, due to a variety of reasons, including an industry cycle shift, poor business strategy or execution, lack of demand, bad intent of the entrepreneur (which the law provides to be handled differently).
The Insolvency and Bankruptcy Code, 2016 (IBC) is the bankruptcy law of India which allows debtors and creditors (including the banks) to seek for the particular stressed business to be sold to another set of promoters; potential new owners of such a business would bid for it, only if they see business feasibility in continuing with that particular set of business or the intrinsic value of its assets.
If the banks want to sell their defaulting or stressed loan portfolio to someone else who can manage to turn it around, then it presumes that the incoming buyer would buy that portfolio at a discount and that the banks would have to provide in their accounts, for their write-offs according to the regulatory guidelines. In this case, the promoter of the current stressed business will continue to run the business.
Structurally, Asset Reconstruction Companies (ARCs) are better suited for restructuring and/or turning around indebted companies. ARCs are registered with Reserve Bank of India under section 3 of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002.
Cynics might argue that there has not been much done by ARCs in India. The counter view would be that most of bad loans are emerging of late, thanks to regulatory pressures, being cleared and booted out of lenders’ books.
The Indian Banks Association, formed in 1946, is the industry body of all banks in India. This industry lobby body, which has the chief executives of all banks as its members, has proposed to the government to set up a “bad bank” concept. This is purportedly to reduce the impact of the losses that the banks will face due to provisioning for non-performing assets and the re-capitalisation of banks that the government may be forced to spend on. This proposal envisages the government setting up an asset reconstruction company (ARC) with capital of about Rs 10,000 crore and to buy assets at book value. The expected current NPAs to be moved into this new bad bank is over Rs 70,000 crore.
Asking the government to fund a new entity to house the “bad loans” can be simplified by provisioning for the bad loans on the bankbooks and seeking additional capital infusion from the investors (government in most cases). This would be a transparent and direct way of telling public investors how their investments are being spent.
Turn-around specialists (with specific sectoral skills) are needed for the task of ARCs and not just experts with credit underwriting or collections expertise. We cannot misplace our sense of gratitude to the bankers and have nationalisation of entire financial services sector cadre, by appointing those retiring, across every firm being restructured.
Also, if the PSBs want to have their own AMC/AIF/ARC, the big question is if the regulators would permit each bank in the country to have their own AMC/AIF/ARC. Isn’t it giving a legal sanctity to move a bad loan from one account to another entity that the original bank owns? And what precedence would that bring on in terms of governance?
The regulatory boss for AIF is SEBI, while the RBI governs banks and ARCs. So it would be prudent norm to have ownership of AIF/ARC tightly controlled, so that banks don’t own them all. It is essential have clear demarcated roles and regulatory lines that the regulated entities need to toe.
The Financial Sector Legislative Reforms Committee (FSLRC 2012) had argued for having a regulatory architecture that also had in mind of setting up a resolution agency, which was outside the scope of banking regulator. Assuming the same argument for dealing with NPAs, the banks would have sold their stressed asset portfolio to an outside ARC (which under FSLRC framework, would be regulated by a different regulator).
There are enough AMC/AIF/ARCs in the market today. If there is no appetite for them to take over bad loans, it could be a sense of misplaced pricing that’s not attracting them to pick those pools of potential assets that can be turned around. ARCs will buy those pools of stressed assets, only if they see continued viability of those pools being recovered.
Moral hazarding has no place in a tough-as-nails situation as collections and turnaround. Let the banks concentrate on their core capability and reason for existence — to lend money and to recover them.
After all, even if a bank fails, we don’t liquidate or sell them to an ARC.
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