The success of the bankruptcy law will depend on the jurisprudence that develops under the Insolvency and Bankruptcy Code
Over the last year, barely a week has gone by without a regulator announcing new measures to help resolve India’s problem of large and mounting non-performing loans/assets, or NPAs. These announcements are usually accompanied by endorsements from the government, as determined reminders that the resolution of the NPA problem is on the top of the government’s mind. Then why does India’s war on NPAs seem intractable? And why have Indian regulators not yet resolved a case that can be showcased as an example of what the recent regulatory measures can achieve?
The latest announcement came from the Securities and Exchange Board of India which said that companies that are pursuing acquisitions as part of resolution plans approved under the Insolvency and Bankruptcy Code, 2016 (IBC) would be exempted from open offer obligations typically applied under Indian takeover regulations. This came on the heels of another announcement earlier this month by the Reserve Bank of India (RBI), stating its decision to focus on 12 stressed accounts, totalling about 25% of the current gross NPAs and referring them to the IBC immediately. Prior to that, the government had cleared an ordinance to amend the Banking Regulation Act, giving the RBI more powers to direct banks to resolve bad loans.
A tough task
These measures, particularly the RBI’s direct involvement in referring cases to the IBC, do well to add attention and urgency to the NPA resolution efforts. However, they do not address some of the underlying characteristics of the Indian economy and the banking sector that make NPA resolution a Sisyphean task in India.
Take, for example, the fact that Indian banks need to accept significant haircuts to resolve the NPA cases as several of them are in sectors where market conditions are in a slump, such as steel, power and textiles. In this environment, it is difficult for banks to find suitable buyers of distressed assets at desired valuations.
The government will require immense political will to allow bankers to take the necessary haircuts (which will impact profitability negatively), without bankers fearing that their decisions will be questioned or investigated in the future.
The tight resolution timelines envisaged under the IBC cannot be achieved if bankers do not have the commercial flexibility and the autonomy to sell distressed assets.
Promoters can be a hurdle
Another issue not addressed by the recent regulatory changes is what role promoters play in delaying NPA resolution. The majority of businesses in India remain under the control of their founding promoters. A quick glance at the 12 cases mentioned earlier that have been selected for resolution by the RBI confirms that this rings true for these cases as well. In India, business continuity and turnaround of distressed assets require the ongoing involvement of promoters, which makes them a key stakeholder in any NPA resolution. Unlike more developed markets, in India, bankers cannot make significant management changes in distressed companies as promoters closely control key aspects of a business such as relationships with suppliers, customers and regulators. It becomes critical that promoters should agree to and be involved in any resolution process. However, the RBI does not regulate promoters and other shareholders, and hence cannot force resolutions on to them. Promoters understand this conundrum and have used it to their advantage in the past.
How ready is the framework?
Then there is the question of whether the institutional framework within which the NPAs will have to be resolved is ready to handle this complex task. This framework includes the National Company Law Tribunal (NCLT), the adjudicating authority for corporate insolvency cases under Section 60 of the IBC. It also refers to the network of ‘insolvency professionals’ (IPs), a special class of professionals, who will be appointed by the NCLT and in charge of managing the debtor company, whilst being accountable to the committee of creditors and the NCLT. The severe capacity constraints of the NCLT in handling the present and past backlog of cases is well recognised. It is also unclear how long it will take the NCLT judges to ramp up their understanding of the complex bankruptcy environment to allow them to handle the cases in an expedient and fair way. Regarding IPs, it is critical for the Insolvency and Bankruptcy Board of India to quickly develop a robust way to select the most qualified IPs. Apart from their technical capabilities, it will be crucial to ensure that the IPs are truly independent and do not allow promoters or other key stakeholders to manipulate the resolution process in any unfair manner. India has a mixed track record of regulating professional services, and the quality and independence of the IPs is critical to the successful implementation of the IBA.
The various regulatory changes implemented over the last a few months are steps, albeit small, in the right direction. However, the success of the bankruptcy law in India will depend on the jurisprudence that develops under the IBC over the next few months. We have to wait and watch how the various players, including bankers, promoters, the government, IPs, auditors, lawyers, valuers and liquidators, behave in the next few cases. The hope is that institutional capacity will strengthen; there will be greater alignment in the interests of the promoters, creditors and buyers of distressed assets; and, finally, the government and banks will show a strong political will to settle a few cases quickly and transparently. Only then can the value of the distressed assets be maximised and capital and other productive resources get redeployed efficiently.
Over the last year, barely a week has gone by without a regulator announcing new measures to help resolve India’s problem of large and mounting non-performing loans/assets, or NPAs. These announcements are usually accompanied by endorsements from the government, as determined reminders that the resolution of the NPA problem is on the top of the government’s mind. Then why does India’s war on NPAs seem intractable? And why have Indian regulators not yet resolved a case that can be showcased as an example of what the recent regulatory measures can achieve?
The latest announcement came from the Securities and Exchange Board of India which said that companies that are pursuing acquisitions as part of resolution plans approved under the Insolvency and Bankruptcy Code, 2016 (IBC) would be exempted from open offer obligations typically applied under Indian takeover regulations. This came on the heels of another announcement earlier this month by the Reserve Bank of India (RBI), stating its decision to focus on 12 stressed accounts, totalling about 25% of the current gross NPAs and referring them to the IBC immediately. Prior to that, the government had cleared an ordinance to amend the Banking Regulation Act, giving the RBI more powers to direct banks to resolve bad loans.
A tough task
These measures, particularly the RBI’s direct involvement in referring cases to the IBC, do well to add attention and urgency to the NPA resolution efforts. However, they do not address some of the underlying characteristics of the Indian economy and the banking sector that make NPA resolution a Sisyphean task in India.
Take, for example, the fact that Indian banks need to accept significant haircuts to resolve the NPA cases as several of them are in sectors where market conditions are in a slump, such as steel, power and textiles. In this environment, it is difficult for banks to find suitable buyers of distressed assets at desired valuations.
The government will require immense political will to allow bankers to take the necessary haircuts (which will impact profitability negatively), without bankers fearing that their decisions will be questioned or investigated in the future.
The tight resolution timelines envisaged under the IBC cannot be achieved if bankers do not have the commercial flexibility and the autonomy to sell distressed assets.
Promoters can be a hurdle
Another issue not addressed by the recent regulatory changes is what role promoters play in delaying NPA resolution. The majority of businesses in India remain under the control of their founding promoters. A quick glance at the 12 cases mentioned earlier that have been selected for resolution by the RBI confirms that this rings true for these cases as well. In India, business continuity and turnaround of distressed assets require the ongoing involvement of promoters, which makes them a key stakeholder in any NPA resolution. Unlike more developed markets, in India, bankers cannot make significant management changes in distressed companies as promoters closely control key aspects of a business such as relationships with suppliers, customers and regulators. It becomes critical that promoters should agree to and be involved in any resolution process. However, the RBI does not regulate promoters and other shareholders, and hence cannot force resolutions on to them. Promoters understand this conundrum and have used it to their advantage in the past.
How ready is the framework?
Then there is the question of whether the institutional framework within which the NPAs will have to be resolved is ready to handle this complex task. This framework includes the National Company Law Tribunal (NCLT), the adjudicating authority for corporate insolvency cases under Section 60 of the IBC. It also refers to the network of ‘insolvency professionals’ (IPs), a special class of professionals, who will be appointed by the NCLT and in charge of managing the debtor company, whilst being accountable to the committee of creditors and the NCLT. The severe capacity constraints of the NCLT in handling the present and past backlog of cases is well recognised. It is also unclear how long it will take the NCLT judges to ramp up their understanding of the complex bankruptcy environment to allow them to handle the cases in an expedient and fair way. Regarding IPs, it is critical for the Insolvency and Bankruptcy Board of India to quickly develop a robust way to select the most qualified IPs. Apart from their technical capabilities, it will be crucial to ensure that the IPs are truly independent and do not allow promoters or other key stakeholders to manipulate the resolution process in any unfair manner. India has a mixed track record of regulating professional services, and the quality and independence of the IPs is critical to the successful implementation of the IBA.
The various regulatory changes implemented over the last a few months are steps, albeit small, in the right direction. However, the success of the bankruptcy law in India will depend on the jurisprudence that develops under the IBC over the next few months. We have to wait and watch how the various players, including bankers, promoters, the government, IPs, auditors, lawyers, valuers and liquidators, behave in the next few cases. The hope is that institutional capacity will strengthen; there will be greater alignment in the interests of the promoters, creditors and buyers of distressed assets; and, finally, the government and banks will show a strong political will to settle a few cases quickly and transparently. Only then can the value of the distressed assets be maximised and capital and other productive resources get redeployed efficiently.
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