Mumbai: Banks are set to take a controlling stake in a microfinance institution, or MFI, based in Andhra Pradesh by converting part of its debt into equity in a development that could set a precedent in India’s ailing Rs 22,500 crore microlending industry.
The proposal by a group of lenders led by Indian Overseas Bank is likely to be finalized at a meeting of the corporate debt restructuring (CDR) cell later this week, according to three persons, two of whom are bankers and one is a microfinance industry official. All three declined to be named.
Around 20 banks, including State Bank of India, are part of the consortium that has agreed to convert a significant portion of the outstanding debt into equity within three months from the implementation of CDR.
Mint has reviewed a copy of the document prepared by the lenders for one of the MFIs after a joint meeting held on 28 May. The MFI in question can’t be named because of the sensitive nature of the talks that are currently under way.
Banks are planning to convert part of the debt into equity directly, but in case all members of the consortium do not agree to this proposal they will do this through the preferential share route. This essentially means that banks will convert their holdings into shares at a later stage.
As a precondition to implementing CDR, banks also want their nominees on the boards of microlenders besides having a say on the appointments of the chief financial officer and other key officials in the company.
A CDR is an agreement between a group of banks and a borrower under which the lenders generally extend the term of repayment and reduce the interest rate.
If individual banks are taking a direct stake exceeding 5%, they will need the approval of the Reserve Bank of India.
“Some companies are opting for conversion of debt into equity as it is necessary to improve the capital position to support operations and attract further investments,” a senior industry official said. He did not want to be named as the proposal is still under the consideration of banks.
Five companies going in for CDR are Trident Microfin Pvt. Ltd, Share Microfin Ltd, Asmitha Microfin Ltd, Spandana Sphoorty Financial Ltd and Future Financial Services Ltd.
Banks want to convert part of their exposure to one of the five MFIs directly into equity while in the case of four others they will acquire equity by way of convertible preferential shares.
The deadline for completion of the CDR process is 6 June. Around Rs 5,000 crore worth of debt is being restructured.
MFIs give tiny loans at an interest rate of at least 24% from money borrowed from banks at 10-12%. Nearly one-fourth of India’s microlending industry is concentrated in Andhra Pradesh.
A state law promulgated in October severely restricted the operations of MFIs, leading to a sharp fall in the repayment rates or collection of loan instalments from borrowers to 10-15%.
It also forced them to stop fresh loan disbursals. Banks, too, stopped lending to these firms due to the uncertainty in the sector.
Analysts said the move could set a precedent.
“Banks may want to take control of these companies to the extent that these firms are able to chart out a path of recovery, by taking stake and having a major say in appointments. What this indicates is that the road for recovery for these companies is long,” said Vaibhav Agarwal, vice-president, research, Angel Broking Ltd.
The Rs 5,000 crore CDR package hit a roadblock in April when lenders insisted on a personal guarantee from promoters. A personal guarantee is an assurance that makes the promoter liable for debt obligations in case of a loan default.
Banks, however, relaxed their stance on personal guarantees as most of the MFI promoters restructuring loans under CDR declined to give personal guarantees, fearing that they would be taken to court by banks in case of defaults by their companies.
Instead, MFI promoters have been asked by banks to pledge 100% of their shares to avail of the restructuring facility.
“Lenders felt that the insistence of personal guarantee is one thing that is coming in the way of otherwise accepting of the restructuring package under CDR mechanism for which breakthrough has to be made,” the note that Mint reviewed said.
Senior industry officials said banks will have a major say in the daily operations of microlenders once restructuring takes place but, according to them, the reluctance of banks to resume lending to the troubled companies remains a thorny issue.
“They (banks) will have a larger say in the running of MFIs,” said Alok Prasad, chief executive officer of Microfinance Institutions Network. “However, the critical issue is that unless banks restart lending to the industry, the survival of the sector is difficult. There is a need to distinguish between the MFIs in Andhra Pradesh and those outside Andhra Pradesh.”