Mumbai: Banks are gearing up to tighten the screws on debt restructuring for companies. Top bankers met in Mumbai on Monday to discuss how to make the covenants for corporate debt restructuring (CDR) packages stricter so promoters of companies can’t abuse the provision.
The meeting took place after the finance ministry directed the corporate debt restructuring cell, a forum where banks meet to finalize debt restructuring packages for ailing companies, to be stricter towards incompetent managements who apply for debt restructuring or firms that are in financial difficulties due to diversion or misuse of funds, The Economic Times newspaper reported on 18 May.
In a debt restructuring, banks increase the repayment period, lower the interest rate and convert short-term working capital loans into longer tenure term loans.
The finance ministry wrote to the cell to deter unscrupulous promoters from taking advantage of the provision.
The bankers exchanged views on CDR, rather than finalize any measures, said two bankers who were present at the meeting on Monday. The core groups of banks will meet separately to finalize the details, they said, declining to be identified.
Bankers discussed if promoters could be held more accountable by increasing their liability in a restructured package. Presently, in any restructured deal, a promoter has to bring 15% of the package up front as banks extend the repayment period, reduce the rate of interest and take a hit on their balance sheets.
They also discussed if the number of promoter shares to be pledged with the banks could be increased. Presently, the norms on debt restructuring stipulate that promoters pledge either their entire stake holding or at least 51% of the paid-up capital of their companies, whichever is lower, in favour of the lenders with voting rights.
Bankers discussed if the paid-up capital portion could be raised to 100%, which automatically nets the promoters’ entire shareholding, said a bank chairman who was at the meeting.
Bankers also wanted more equity rather than the long-term cumulative convertible preference shares that promoters usually issue, as these will not yield any dividend unless a company is profitable. Preference shares can be converted to equity at a future price if the promoters don’t repay the loans.
Also, for such preference shares, banks have to book nominal losses if the share prices go down. Equity capital does not involve booking such mark-to-market losses, and give banks a greater say in the management.
“There was a view that preferential shares should be least preferred instruments and banks, if absolutely necessary, should convert loans in the restructured entities into equity shares that gives them more management control,” said another banker who was at the meeting. “If conversion takes pace to preferential share route, it should be used highly judiciously.”
Analysts welcomed the move.
“Presently, a sizeable portion of bank’s restructuring books are by promoters trying to take advantage of the lenient CDR rules. If the intention is to curb these unscrupulous promoters from accessing CDR facility, it might help to some extent but it cannot be stopped altogether,” said Hatim Broachwala, analyst with Fortune Financial Services (India) Ltd. “However, it will help banks a lot to minimize losses.”
The overall restructured loan portfolio of banks will touch Rs 2 trillion by March 2013, rating agency Crisil Ltd said in a recent note. A sizeable proportion of the restructuring will comprise large-ticket corporate exposures, and total restructured loans will account for 3.5% of the banking sector’s total advances as at March 2013, it said.