Mumbai: Securities and Exchange Board of India (Sebi) is examining Reserve Bank of India (RBI) norms that mandate rating the resolution plan of a stressed asset to ascertain whether they may be in conflict with rules issued by the markets regulator.
Sebi is examining whether evaluation of resolution plans by credit rating agencies will lead to violation of the markets regulator’s rules related to investment advisory, said three people aware of the development, requesting anonymity.
Emails sent to Sebi and RBI seeking comments did not elicit a response.
A 12 February central bank circular on handling stressed assets mandated independent credit evaluation (ICE) of residual debt in cases where the resolution plan involves change of ownership or restructuring of large accounts. These are accounts where aggregate exposure of banks is Rs100 crore and above. In cases where the exposure is Rs500 crore and above, credit evaluation has to be done by two rating companies.
Lenders must directly engage rating companies for this assignment, the central bank circular said. These resolution plans pertain to companies before they are brought under the Insolvency and Bankruptcy Code (IBC).
“There is a concern whether such an activity will be covered under Sebi credit rating agency regulations or not. CRAs are governed and regulated by Sebi and Sebi norms for rating agencies do not speak about rating a resolution plan, so an amendment to Sebi norms may be required. In addition, there is an issue of conflict of interest. A rating agency under Sebi norms is required to rate a debt instrument for its entire lifetime. Can the same CRA apply for rating a resolution plan if it has been rating the underlying debt instrument," said one of the three persons.
Experts tracking regulatory developments said that conflict of interest could also arise in cases where rating agencies conducting ICE of the resolution plan for a company had rated its debt facilities earlier. Additionally, there is a need to clarify if the insight derived from evaluating resolution plans will be used to evaluate ratings of banks.
“India has very limited number of CRAs--four large firms and three smaller firms. There may not be enough players to avoid conflict of interest especially in a resolution plan of more than Rs500 crore which requires two rating agencies. Further there could also be a conflict with investment advisor regulations as rating the resolution plan could be in a grey area and can be construed as investment advice," said a second person.
Rating agencies do not share similar concerns.
“This will be akin to any other product. Here, we will just evaluate on the basis of the available information and resolution plan shared by banks. We won’t be dictating haircuts or how much would be the sustainable portion. We will rate as per the scale provided in the RBI guideline," said a senior official of a leading rating agency, requesting not to be named.
According to RBI guidelines, resolution plans (RP) which receive a credit opinion of RP4 or better for the residual debt will be considered for implementation. RBI has provided a seven-scale range with RP4 denoting moderate credit risk.
Sumit Agrawal, a former Sebi official and partner at Suvan Law Advisors, said that currently credit rating agencies are required to continuously monitor the rating of securities throughout the debt instrument’s lifetime, which might raise a conflict of interest situation when rating companies are asked to rate a resolution plan too.
“There are certain restrictions in CRA norms for instance, a rating agency cannot rate securities issued by entities connected to a promoter. CRAs also cannot make statements akin to recommending buy, hold or sell on any securities. These conflicts of interest safeguarding provisions may require a tweaking to make it commensurate with rating a resolution plan which may be considered as providing advice on financial products or securities under SEBI (Investment Advisers) Regulations, 2013. SEBI may come up with a detailed circular on it," he said.