Stepping up debt recovery

Amendments in debt recovery laws bring the rules in line with the recently introduced Insolvency and Bankruptcy Code, though it will take some time before changes are seen on the ground

Passage of the Enforcement of Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Bill, 2016 in the Rajya Sabha last week has finally given the banking sector something to cheer about.

India’s stressed assets situation reached record highs of $ 133 billion in 2015, a five- fold increase since 2011, giving banks plenty to worry about. The Supreme Court’s concerns over the Kingfisher- Mallya story have further highlighted the extreme need to remedy the nation’s debt recovery structure.

The Bill seeks to incorporate certain important provisions into four laws — the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 ( Sarfaesi Act); the Recovery of Debts due to Banks and Financial Institutions Act, 1993; the Indian Stamp Act, 1988; and the Indian Depositories Act, 1996, to modernise the process of asset securitisation.

The Bill also seeks to bring the current debt recovery framework in line with the Insolvency and Bankruptcy Code of 2015, aiming to create a more functional environment for asset reconstruction companies (ARCs).

“Having a well- defined law is the first step. With these amendments, we can now hope to see a framework that will create a competitive, transparent and efficient market for distressed assets. As with most new legislative change, the proof will be in the taste of the pudding,” said Reshmi Khurana, managing director and head for South Asia at Kroll, the multinational corporate investigations and risk consultancy.

Under the new regime, non- institutional process of transferring stressed assets between banks and ARC’s exempt from stamp duties. This makes the asset reconstruction process more feasible and gives the banks a real opportunity to get their books in order.

Alongside the liberalisation of foreign investment norms and expected evolution of the ARC market, the Bill also extends the powers of the Reserve Bank of India (RBI) to regulate these entities. The central bank is authorised to audit, of ARC boards for illegality or non- competitive behaviour.

The Bill also creates a central registry to replace the previously decentralised system of registration, at both the central and state levels. This will make the process of undertaking due- diligence exercises simpler and more convenient. The changes make the process of registration with this central registry mandatory, to enforce securitisation of assets.

“The mandatory registration of requirements in a timely manner. This will help in establishing clarity on priority of claims and minimise competition which arise due to information asymmetry,” said Divyanshu Pandey, partner, J Sagar Associates.

The Bill further mandates a maximum of 30 days ( 60 days after extension) for a District Magistrate to clear an application for possession made by a secured creditor under Sarfaesi. It also clarifies the jurisdiction of Debt Recovery Tribunals ( DRT’s), backbone of the recovery structure. The amendments propose an online mechanism for these tribunals, including filing of applications and documents in online form.

Under the new system, debtors challenging DRT orders will first have to deposit half the adjudicated sum before approaching the appellate tribunal.

The Bill also brings hire purchase and financial leases under the Sarfaesi ambit. The changes also allow new classes of creditors, such as bondholders who subscribe to secured nonconvertible debentures, to seek remedies under debt recovery laws. This is expected to strengthen the bond market in the coming days.

Other amendments to Sarfaesi allow secured creditors the opportunity to take control of an indebted company ( if the amount of debt is equal to or greater than 51 per cent of the net worth of the concern) and restore its business to recover the necessary dues.

With liquidity issues still existent, the situation of non- performing assets might still be a worry even after the introduction of the new amendments but the changes are bound to improve the scenario for the banking sector.

“The impact of these legislative changes will only be visible on the ground over the next 12 to 18 months,” said Vaidyanathan.

When banks return to retail lending

Banks burdened by NPAs in areas such as infrastructure seem to be back in the retail game, after a retreat in the years since 2005-06. How will this play out?

With an increase in the bad loans burdening the books of the banking sector, commercial banks once again seem to be focusing on the retail lending business. While broadly defined as lending to individuals, retail lending covers a host of loans: those meant for investment in housing, those for purchases of consumer durables and automobiles and those for education, deferred payments on credit card expenditures or unspecified purposes.

The post-liberalisation changes in banking practices included an increased emphasis on retail lending, which transited from being a risky and cumbersome business to one considered easy to implement, profitable and relatively safe. In some instances, such as housing, the income earned (rent received) or expenditure saved (stoppage of rent payment) from the investment is seen as providing a part of the wherewithal needed to service the loan.

In other areas, confidence that future incomes to be earned by the borrower would be adequate to meet interest and amortisation payments provides the basis for enhanced retail lending.

Too much exposure

The result of the transition in perception has been a sharp increase in the share of retail lending in total advances since the early 1990s. After having risen gradually from 8.3 per cent of total outstanding bank credit at the end of 1992-93 to 12.6 per cent in 2001-02, the share of personal loans rose sharply to touch 23.3 per cent at the end of 2005-06 (Chart 1). This was a time when total bank credit too was booming.

It is to be expected when there is a sharp increase in lending to a few sector of this kind, those who would have earlier been considered risky or not creditworthy could enter the universe of borrowers.

Not surprisingly, by this time the fear that overexposure could result in an increase in defaults had begun to be expressed.

Addressing a seminar on risk management in October 2007, when the subprime crisis had just about unfolded in the US, veteran central banker and former chair of two committees on capital account convertibility, SS Tarapore, warned that India may be heading towards its own home-grown sub-prime crisis (‘Sub-prime crisis brewing here, warns Tarapore’ BusinessLine, October 17, 2007).

Banks too began to hold back as reflected in a gradual decline in the ratio of personal loans to gross bank credit from 23.3 per cent to 15.6 per cent in 2011-12. While this was still above the level at the beginning of the previous boom, the decline in share did suggest that the retail lending splurge had moderated.

However, more recently, this decline in the share of retail lending has reversed, rising from 15.6 per cent in 2011-12 to 16.6 per cent in 2014-15. Figures on rates of growth tell a clearer story.

According to Care Ratings, over the financial years ending March 2015 and March 2016, while overall non-food credit grew at 8.6 and 9.1 per cent respectively, personal loan growth rates were 15.5 and 19.4 per cent respectively.

Over the financial year ended March 2016, the home loan segment grew by 19.4 per cent, vehicle loans by 22 per cent, and credit card outstanding by 23.7 per cent.

House of cards

The reason for this turn are not difficult to find. First, the other major area of growth in bank lending has been infrastructure, which today accounts for a large proportion of the non-performing assets on the books of the bigger banks. So banks have been seeking out new avenues of lending. With industry not performing too well and agriculture languishing, retail lending emerges as the preferred choice.

Second, since retail lending was discouraged in the period prior to financial liberalisation, the exposure of the retail sector to debt is still quite low.

The ratio of personal loans to personal disposable income has indeed increased in India, from 2.4 per cent at the end of 1995-1996 to 13 per cent in 2007-08, and it still is at a historically high level of around 12.5 per cent (Chart 2).

However, this is extremely low when compared with, say, South Korea, where in 2013, when it faced a housing loan crisis, the ratio of household debt to household disposable income was around 150 per cent.

While that may be far too high a figure for a country like India with a much lower per capita income to approach, it has considerable headspace in this area.

Finally, default rates on retail lending, even if increasing, are still quite low. In the case of the State Bank of India for example, NPAs in its retail loan portfolio are placed at a little above 1 per cent, whereas the aggregate NPA ratio is above 6 per cent according to recent estimates. So shifting to retail lending seems a sound idea.

Segments of concern

That of course depends on the degree to which increasing exposure in the retail market requires diversifying the retail portfolio of banks. As of now, housing loans overwhelmingly dominate that portfolio, accounting for well above 50 per cent of the total (Chart 3).

With loan-to-value ratios in housing still low in many cases, and housing serving as good collateral, NPAs in this segment are among the lowest. There are three other areas that account for a reasonable share of personal loans outstanding: automobiles, education and credit card outstanding.

Of these, while the automobile loan segment is not a high default area, education is definitely proving to be so. Government policy mandates provision of education loans of up to ₹4.5 lakh without collateral.

So recovery too is difficult. Yet the inability to find jobs after financing education with loans is resulting in rising defaults, which, according to reports, average 8 per cent of such loans.

Moreover, well over a quarter of retail lending is in the “others” category, and possibly includes personal loans for unspecified purposes advance without collateral or lending against shares, etc. by banks trying to build their retail portfolio.

Here too, rising default is a probability as aggregate lending increases and recovery difficult.

That prospect notwithstanding, it is more than likely that India would witness another retail lending boom, led by banks trying to maximise their presence in this ostensibly underexploited area.

That may well result in exposure of a kind that warrants the fears expressed earlier by the late SS Tarapore.

Axis Bank cuts funds based lending rate by 15 bps

Axis Bank’s one-year MCLR will now be at 9.35%, down from 9.5%

Mumbai: Axis Bank Ltd on Tuesday reduced its marginal cost of funds based lending rate (MCLR) by 15 basis points (bps) across all tenors and its base rate by 5 bps, with effect from 18 April.

One basis point is one-hundredth of a percentage point.

In a statement, the lender said that its one-year MCLR will now be at 9.35%, down from 9.5% the bank had announced as on 1 April.

Two-year MCLR is set at 9.45%, while three-year rate is set at 9.5%, the bank said.

Axis Bank’s reduced base rate will be at 9.45%, for all its existing borrowers.

Even with the latest round of rate reduction, Axis Bank’s one-year MCLR is higher than that of State Bank of India (SBI), which had set it at 9.2% as on 1 April.

Axis Bank is the first lender to reduce its lending rates after the Reserve Bank of India (RBI) announced a 25 bps reduction in repo rates on 5 April and new liquidity measures making it easier for banks to access funds. The measures are expected to have reduced the cost of funds for banks.

RBI introduced MCLR on 17 December, and the guidelines mandated that banks must price incremental loans using MCLR.

Under MCLR, banks will need to consider their marginal cost of funds, or the cost incurred on incremental deposits across different maturities. To this, banks will add their operating costs, the negative carryover of their cash reserve ratio balances with the central bank and a tenure premium. MCLR is only applicable for new customers, while existing customers may choose to shift to it from the current base rate system.

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RBI on Tuesday decided that from 1 April, fixed rate loans upto three years

RBI on Tuesday decided that from 1 April, fixed rate loans upto three years shall be priced with reference to MCLR (Marginal Cost of Funds based Lending Rate), whereas Fixed rate loans of tenor above three years will continue to be exempted from MCLR system.

Rating agency Moody’s said on 20 Dec’15 that the measures will reduce pressure on net interest margins (NIMs) of banks. However, ahead of RBI policy meet on 5 April, such measures in addition to expected Repo rate reduction would be positive for the industry as their cost of funding would go down.

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 (source: bit.ly/1MPoSke). 

Bonds beat bank loans

Borrowing through corporate bonds and commercial paper (CP) has exceeded loans disbursed by banks so far in FY16, reports Bhavik Nair in Mumbai. Bank loans include those to individuals and therefore, the data suggests a whole host of companies may have stayed away from banks. Typically, banks lend more in a year than is borrowed in the bond and money markets.

However, money raised via CPs and corporate bonds have touched Rs 3.55 lakh crore thus far in FY16, which is higher than the non-food credit by banks which is approximately Rs 3.03 lakh crore. Companies have tapped the bond markets primarily because it is cheaper to borrow there. The difference in borrowing rates has been anywhere between 50-100 basis points. Shashikant Rathi, EVP, capital markets, Axis Bank, points out the shift in borrowings to the corporate bond market from the banking system has been seen across sectors.

Banks are seeing subdued demand for term loans and project finance given investment activity is sluggish.

Moreover, the sharp drop in prices of commodities and lower inflation has brought down the demand for working capital too.

Moreover, their loans are priced higher than bonds and CPs prompting companies to opt for the latter.

In 2015, banks reduced their base rates close to 60-70 basis points. For example, State Bank of India brought its base rate down to 9.70% from 10% at the beginning of the 2015. However despite this their loans remained more expensive than borrowings in the bond market since yields fell more sharply. For example, immediately after the cut in the repo rate by 50 basis points on September 29, by the central bank, short-term CP rates fell by 50-75 basis points. Primarily, companies which enjoy a rating above AA- have moved to corporate bond market since, as Rathi points out, yields here are lower by 150-200 basis points.

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