New norms may make loans cheaper for hotels

New norms may make loans cheaper for hotels
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First Published: Sun, Jul 19 2009. 10 24 PM IST

Risk profile: A file photo of a Marriott hotel under construction in Bangalore. The proposed guidelines aim at bringing clarity in the classification of banks’ commercial real estate exposure. Hemant
Risk profile: A file photo of a Marriott hotel under construction in Bangalore. The proposed guidelines aim at bringing clarity in the classification of banks’ commercial real estate exposure. Hemant
Updated: Sun, Jul 19 2009. 10 24 PM IST
Mumbai / Bangalore: The cost of bank loans for firms engaged in the business of hotels and hospitality may decline, with the Reserve Bank of India (RBI) proposing to keep such loans out of what is considered to be banks’ commercial real estate (CRE) exposure.
According to 7 July draft guidelines released by RBI, bank loans to entrepreneurs for acquiring real estate for their business would not be classified as CRE exposure. The central bank had sought comments and suggestions from banks on the proposed guidelines by 16 July.
Currently, bank loans to companies for acquiring real estate for hotels and hospitality are treated as CRE exposure and attract a risk weight of 100%. Depending on the risk weight, banks are required to set aside capital for loans.
Under RBI norms, banks’ capital-adequacy ratio, a measure of financial strength expressed as the ratio of capital to risk-weighed assets, is 9%. This means that for loans carrying 100% risk weight, banks need to set aside Rs9 worth of capital for every Rs100 they lend.
Risk profile: A file photo of a Marriott hotel under construction in Bangalore. The proposed guidelines aim at bringing clarity in the classification of banks’ commercial real estate exposure. Hemant Mishra / Mint
If these projects are not treated as CRE, their risk weights would vary according to the ratings of the borrower or the ratings of the project for which the loan would be given.
For instance, if a firm has an AAA rating, the loan would attract a risk weight of 20%. The risk weight could go up to 50% for an A-rated company.
For 20% risk weight, banks would be required to set aside Rs1.8 worth of capital for every Rs100 loan; and for 50% risk weight, the capital requirement will be Rs4.5.
Lower capital requirement brings down the cost of funds for banks and makes loans cheaper for the borrowers. According to bankers, the rate may come down by 100-200 basis points. One basis point is one-hundredth of a percentage point.
“The new guidelines, if implemented, will benefit companies in the business of hotels and hospitality that are currently classified under CRE,” said Rajesh Shah, senior vice-president (credit), Axis Bank Ltd, India’s third largest private bank. “Indian Hotels Ltd, East India Hotels Ltd and ITC Ltd, which have good ratings, will be able to take advantage of Basel II norms.”
The rating-based capital requirement rules are being implemented under international capital norms known as Basel II. Under Basel I, all risk weights were 100%. But Basel II, being implemented by Indian banks, starting 1 April, encourages banks to rate their loans and set aside capital accordingly. Commercial real estate exposure, however, never falls below 100% risk weight.
While exposure to best rated firms could free up capital for banks as the capital-adequacy requirement would go down, under Basel II, they would need to set aside additional capital to take care of operational risks.
“Loans extended for construction of a cinema theatre, establishment of an amusement park, hotels, and hospitals, cold storage, educational institutions, restaurants, etc., to those entrepreneurs who themselves run these ventures would not be classified as CRE exposure,” RBI’s draft guidelines said.
In the case of a hotel, it said, the cash flows would be mainly sensitive to the factors influencing the flow of tourism, not directly to the fluctuations in real estate prices.
Under the guidelines, only those loans will be considered as CRE exposure where the lending is collateralized by mortgages on commercial real estate such as office buildings, retail space, multi-purpose commercial premises, multi-family residential buildings, industrial or warehouse space and hotels, and where the prospects for repayment depend on the income generated by the asset. However, even on these loans, if the repayment depends on the borrower’s operating profit or the quality of goods and services, the exposure may not be classified as CRE.
Besides, banks’ investments in mutual funds, private equity funds and venture capital funds that park money in real estate companies would be classified as CRE exposure.
Though such exposure would not be directly linked to the creation or acquisition of CRE, the repayment from such investments would essentially come from the cash flows generated by commercial real estate.
The proposed guidelines aim at bringing clarity in the classification of banks’ CRE exposure and help banks in differentiating certain kinds of infrastructure lending.
All special economic zone (SEZ) funding is currently classified as infrastructure lending, but RBI has proposed that loans disbursed for purchase of land for setting up and developing SEZs would be classified as CRE exposure. Such loans, however, would carry all concessions available for infrastructure lending.
Banks prefer a project to be classified under infrastructure lending because the risk weight of an AAA-rated infrastructure project is only 20%.
“Banks have an internal cap on how much they can invest in infrastructure projects and how much they can invest in CRE projects. Now we will have to consider which project falls into what category,” said an executive director of a Mumbai-based bank who didn’t want to be identified.
Param Desai, a research analyst with Mumbai-based brokerage Angel Broking Ltd, said, “These guidelines, if implemented, will make it easier for borrowers to get construction finance for a larger variety of projects. Construction finance has been a major concern for most developers during the downturn because most banks are cagey to lend to projects, unless they have a definite action plan and deadline to finish.”
anirudh.l@livemint.com
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First Published: Sun, Jul 19 2009. 10 24 PM IST
More Topics: Tourism | Real estate | Hotel | Loans | RBI guidelines |