Mumbai: Slowing economic growth is crimping the ability of companies to repay their debt, in turn adding to the bad-loan burden of banks, but at least one entity is anticipating a business opportunity out of this gloomy scenario.
The expectant beneficiary is Asset Reconstruction Co. India Ltd (Arcil), India’s oldest and largest buyer of dud loans from banks.
Arcil expects to acquire Rs 1,000-1,300 crore of assets this year, up from Rs 20-24 crore in the last fiscal, managing director and chief executive officer P. Rudran said in an interview.
Bad debts in the banking industry have crossed Rs 1 trillion and are rising as slowing economic growth, which fell to 6.5% in the last fiscal from 8.4% in the previous year, and high interest rates cause borrowers to default on their debts.
“We are observing the capacity to sustain NPAs (non-performing assets) of banks,” Rudran said.
Business for asset reconstruction companies (ARCs) is expected to also come from banks shifting to Basel III regulations, the new international accounting practices enforced by the Bank for International Settlements (BIS), which would require banks to raise an estimated Rs 2.7 trillion by March 2017.
Being the majority owner of public sector banks that control more than 70% of the banking industry, the government has to bear the responsibility to top up their capital.
Banks can also raise resources themselves by liquidating their bad debts and this is what Arcil is counting on.
“The banks, for their own interest, will have to liquidate these assets as that would help them boost their capital,” Rudran said.
Another potential opportunity is on the horizon. A government advisory group on ARCs suggested in December that they be allowed to buy bad debts from non-banking financial companies (NBFCs) as well. This will enlarge the pool of assets available for ARCs and will give them better negotiating power as well.
The Reserve Bank of India (RBI) is yet to approve the plan.
“We are equipped to acquire Rs 2,000 crore worth of assets this year. However, it all depends on how much banks are willing to sell,” Rudran said.
Last year was a bad year for the asset reconstruction industry as a whole, Arcil included, he said.
India’s banks have traditionally been reluctant to sell bad loans, which ARCs seek to acquire at a discount to their face value and then try to recover the money from defaulters.
India has more than 50 ARCs, with Arcil controlling more than 70% of the distressed assets market.
Rudran said banks tend to use the market as a price-discovery mechanism—to get an idea of how much their bad debts are worth—when they aren’t really interested in selling their bad debts.
“They (banks) could be offering Rs 10,000-12,000 crore of assets, but sell not even Rs 2,000 crore. They are not selling their assets, rather they are announcing the auctions (of bad debts) for a price discovery,” said Rudran.
The entire business model is dependent on the portfolios of banks and housing finance companies, and price negotiation are hectic. Deals often fall through because of differences on valuations—the price at which banks are willing to sell their bad loans and the price that ARCs are willing to pay.
Bankers in turn complain that ARCs offer prices as low as 20-30% of the face value of bad loans and that is not acceptable to them.
“When banks give loans, they do their own valuation of assets that are mortgaged. Banks feel the prices offered by asset-reconstruction companies are too low and we can realize better value using our own mechanism,” said a senior banker with a public sector banks who did not want to be named. “ARCs and banks have the same recovery mechanism, they (ARCs) have the advantage of aggregation of assets and nothing more.”
One more issue between banks and ARCs is that the banks prefer to get cash; for larger assets, ARCs issue security receipts (SRs) that they redeem after recovering loans from defaulters.
“Against SRs we have to book mark-to-market (MTM) provisions and there is no guarantee that the money will be recovered and those SRs will be redeemed,” said another senior executive with a public sector bank who, too, didn’t want to be named. “It’s as good as keeping the asset with us and trying to recover on our own.”
MTM is valuing an asset at its current market value rather than the historic value at which it was acquired.
ARCs, by aggregating assets from different banks, could offer a bunch of assets to a customer. For example, a bank may have a part of a factory mortgaged to it by a defaulter and the rest of the assets could be with another bank. ARCs can aggregate these assets and offer a full factory to a customer willing to buy it.
According to the latest available Reserve Bank of India data, the book value of assets acquired by ARCs at the end of June 2011 was Rs 74,088 crore.
Banks’ reluctance to offer their assets to ARCs will have to change because bad debts are piling up in the banking industry and sooner or later, they may have to dispose of these assets.
“It depends at what price the NPAs are sold. If you take a long-term view, three to five years, on these assets, most of them get recovered so banks will not like to sell them at a steep discount,” said Hatim Broachwala, analyst at Karvy Stock Broking Ltd. “However, in public sector banks, there is a huge amount of bad debts. They might like to liquidate some of that to ARCs, but not private sector banks if the prices offered are too low.”