Developing the Asian Markets for Non-

Performing Assets – India’s Experience

Presented By: Mr. S. Khasnobis

November 11, 2003

FAIR III – Session V

 Agenda

NPAs in the Indian Banking System

ARCs – Indian Context

ARCs – Legal Framework

India’s Premier ARC - Arcil

FAIR III – Session V

 NPAs in the Indian Banking System

 Indian banking system witnessed gradual increase in

levels of NPAs in the post-liberalisation period
 Shake-up in real sector

 However NPA levels did not threaten to undermine the

banking system
 Tightening of prudential and capital adequacy

norms by the regulator

 Selective recapitalisation support and mergers of

weaker institutions
FAIR III – Session V
 While the problem is not as intense…

Factors Korea Thailand Malaysia Indonesia Japan India

Rapid deregulation
Regulatory failure
Deteriorating macroeconomics
Aggressive lending practices *
Peak level NPAs 30% 40% 25% 50% 20% 15%
High Meduim low / Non-existent

* Including exposure to bubble sectors

FAIR III – Session V

 …NPA “stock” merits a systemic
response

120,000 8.5%

100,000
8.0%

80,000
Rs in crore

7.5%
60,000 Gross
NPA
7.0%
40,000 Net NPA
(%)
6.5%
20,000

- 6.0%
1999 2000 2001 2002

•Gross NPA levels on the rise

•NPA holding cost = 25% of the net profit of the banking system
FAIR III – Session V
 Agenda

NPAs in the Indian Banking System

ARCs – Indian Context

ARCs – Legal Framework

India’s Premier ARC - Arcil

FAIR III – Session V

 ARC – Indian model

 ARCs in India are set up as a non-government

vehicle
 Minimal government participation in the ARC
resolution process
 Market forces to consolidate and attractively package
lender interests
 Create investors’ interest
 Support from the banking system – an essential
requirement

FAIR III – Session V

 ARC – Indian model

 Fiscal Incentives to banking system

 Tax set-offs on sale of asset to ARCs

 Gains from buy-back of high yield government

bonds to be used for set-off of losses from asset

transfer to ARCs
 Provision for operation of multiple ARCs

FAIR III – Session V

 The business model – Indian context

ARCs - Generic business models

Immediate sell
Rapid Risk & Rewards
down of debt to
Disposition transferred to
third party
Agency the investor
investors

Focus on
Debt Risk & Rewards
Asset
Resolution retained by the
Management
Agency banking system
& Resolution
FAIR III – Session V
 Indian ARCs – a Debt Resolution
Agency (DRA)

 Expeditious resolution of NPA “stock”- a priority

 Indian NPA profile suggests
 Recoveries from NPAs would be over a longer

time-frame as against rapid realisation

 Predominantly in industrial sector (Low exposure to

“bubble” sectors – Real estate/ Capital Markets)

 Banking landscape necessitates debt-aggregation
 One borrower, many lenders (inter-creditor issues)

 Different security classes and structures

 Moral hazards related issues

FAIR III – Session V

 Indian ARCs –Debt Resolution
Agency (DRA)

 Markets for NPAs – Non-existent

 Absence of market makers (limited participation of
foreign lenders in Indian credit market)
 No pricing bench marks

Debt aggregation and resolution approach is likely to

succeed
 Focus on recoveries from NPAs

 Improved leverage over debtor through aggregation

 Eliminates moral hazards

 Regulatory empowerment

FAIR III – Session V

 Structured along the DRA model

Management
Acquisition & Sell Down
Resolution
Sell asset Sell debt
Banks/FIs ARCIL Investor
SRs Proceeds
Restructuring

Time line
Company
t=0 t=1 t=5
Value capturing at resolution stage becomes critical for final exit
FAIR III – Session V
 Agenda

NPAs in the Indian Banking System

ARCs – Indian Context

ARCs – Legal Framework

India’s Premier ARC - Arcil

FAIR III – Session V

 Addressing the NPA levels

 Proactive response of government and Central

Bank – aimed at NPA resolution
 Setting-up of Corporate Debt Restructuring

(CDR) forum
 Enactment of “Securitisation and

Reconstruction of Financial Assets and

Enforcement of Security Interest (SARFAESI)
Act, 2002”
 Proposed formation of National Company Law

Appellate Tribunal
FAIR III – Session V
 Addressing “stock” and “flow” problem

Regulatory
Regulator Central Bank
Empowerment

Self Debt
Agencies empowered CDR ARC Aggregation
body

Resolution Restructuring Asset Sale

strategies
Access to legal mechanisms

Regulation Special Court Tribunal

FAIR III – Session V
 Legal Framework (1/2)

 Act introduced two important new initiatives to bring

about structural reforms to the Indian credit market
 Setting up of Asset Reconstruction Company

 Enforcement of securities without the intervention of

the court
 ARCs requirements
 Registered with Central Bank

 15% capital adequacy

 Arcil is the first ARC which has been granted license

by the Central Bank

FAIR III – Session V
 Legal Framework (2/2)

 ARCs empowered to take following measures for

the purpose of asset reconstruction:-
 Take possession of secured assets

 Sell or lease a part or whole of the business of

the borrower
 Change or take over of the management of the
business of the borrower
 Rescheduling the payment of debt payable by
the borrower
 Settlement of dues payable by the borrower

FAIR III – Session V

Enforcement of Security Interest…

FAIR III – Session V

…without court intervention

No
intervention of
court
Overcoming
cumbersome
procedural
delays
Expeditious
recovery

FAIR III – Session V

 Agenda

NPAs in the Indian Banking System

ARCs – Indian Context

ARCs – Legal Framework

India’s Premier ARC - Arcil

FAIR III – Session V

 Arcil brings together the complementary
strengths of the three largest players in the
Indian financial sector

Equity participation Shareholding

State Bank of India 24.5%
IDBI 24.5%
ICICI Bank 24.5%
Other private sponsor 26.5%
banks Total 100.0%
 Sponsors hold 40 % of NPAs of the system
 Private sector character- 51% shareholding with
private banks/ institutions
FAIR III – Session V
 Resolution

Building
Blocks
Approach Structure

Investor

FAIR III – Session V

 Resolution strategy framework

 Loan management strategy

 Restructuring of loan based on transparent policy

 Maximise overall recovery value

 Fair treatment to all stakeholder

 Settlement

 Asset management strategy – Asset restructuring

 Sale of business/collateral

 Preservation and enhancement of value of

business/collateral
 Orderly disposition through transparent process
FAIR III – Session V
 Participation from Indian banking system
at initial stage – key to value retention

25%

15%
Return
Expectations

Rerating Rerating as normal debt

T=0 T=1 Time

NPA Implementation A performing asset
of resolution

Banks can capture value by staying invested

in the assets till the resolution stage
FAIR III – Session V
 Resolution strategy framework

High
Settlement with
Restructuring
Management quality

Existing promoters

Strip sale of Sale of business/

Low
Assets Induction of JV partner

Low Industry viability High FAIR III – Session V

 Resolution

Building
Blocks
Approach Structure

Investor

FAIR III – Session V

 Transaction structure - Asset Specific
Trust
Banks/ FIs

Sale of loan
assets

Purchase
ARCs/ Reconstruction thru’
Consideration Trusts Restructuring / Borrower
Asset sale / M&A

Cash
Scheme realization
Borrower wise

SRs Redemption
of SRs
QIBs
Payment for (Banks/FIs)
Subscription to SRs

FAIR III – Session V

 Pooling and sale/ Securitisation at Subsequent
Stage – Exit for original investors

Scheme Scheme
Borrower A Borrower B

Borrowers
QIBs QIBs
(Banks/FIs) (Banks/FIs) A,B
Pooling of
Redemption SRs
of Original Cash
SRs realization
Master Trust
/ Scheme
Payment for Redemption
SRs
subscription of SRs
to fresh SRs
Investors
FAIR III – Session V
 Resolution

Building
Blocks
Approach Structure

Investor

FAIR III – Session V

 Distressed debt investment opportunity
CORPORATES INVESTORS

Restructuring fund/private
Direct investor Distressed equity option
Company

Partner with ARC

Direct from
Bank / ARC Securitization

Asset Pool Fund level

Large
Portfolio
FAIR III – Session V
Ideally suited for all classes of investors
 Geared to unlock value

 Indian economy buoyant and future outlook is positive

 Right time to tackle NPA problem

 Maximize value and distribute it back to the system

 Re-energize the financial sector

 Unlock under utilized productive assets

 A ‘Win-Win’ model - provides a medium-term structural

banking sector solution

FAIR III – Session V

Thank You

FAIR III – Session V