Companies & Sectors
Asset reconstruction companies in India at an inflection point
Indian asset reconstruction companies (ARCs) present a bizarre mix of ageing and infancy. Fourteen out of 16 operating ARCs in the country have been in the business for over a decade. This period is sufficient for the industry to mature. However, the industry still displays infantile behaviour judging from an insignificant capital of Rs5,757 crore employed by the sector and assets under management of about Rs50,000 crore, relative to banking sector's non-performing assets (NPAs) of Rs3.10 lakh crore as March 2015, and low profitability vis-à-vis the underlying business risk (see Graph-1). The NPAs have galloped to Rs5.94 lakh crore as on March 2016, and this anomaly has only worsened. 
 
 
The recent guidelines issued by the Reserve Bank of India (RBI) are set to change the ARC business forever. Recently, three new ARCs have been added, and more are about to follow. Can the ARC business, which has languished for over a decade look up now?
 
Sluggish business
Indian ARCs are the by-product of tardy and inefficient legal system characterised by clogged and inefficient Debt Recovery Tribunals (DRTs), Debt Recovery Appellate Tribunals (DRATs) and higher courts, and public sector banks' high and growing NPAs. The Securitization and Reconstruction of Financial Assets and Enforcement of Security Interests (SARFAESI) Act, 2002 introduced ARCs as intermediaries to buy NPAs from bank on payment of a part of acquisition cost in cash with the remaining cost being deferred. The NPA acquisition and management by ARC is done through a trust, which issues security receipts (SRs) to the ARCs for the cash payment and to the seller banks for the deferred part. The SRs are redeemed out of the recovery from NPAs, and the unredeemed SRs due to recovery shortfall are written off without recourse to the ARC. The management fee of ARCs as a fixed percentage of total SRs outstanding ensures high returns to ARCs in case of low SR investment even with significant SR write off. In the initial years, low SR subscription and issue of senior SRs to ARCs led to NPA acquisition at bloated book values and gave high returns to the ARCs despite significant SR write off in the later years, which impacted the seller banks adversely. Hence, in September 2006, RBI made at least 5% SR subscription by the ARCs mandatory (5:95 structure). Having suffered due to SR write offs, banks continued to insist on all-cash or major-cash NPA sales during 2007-2013, with the result that 5:95 sales during this period remained sporadic.
 
The banks returned with 5:95 sales in FY-2014. The 5:95 structure based on management fee of 1.5% per annum could deliver to ARCs around 18-20% return over a five-year horizon even with just one-third recovery ratio (total recovery as percentage of acquisition cost). This led to highly aggressive bidding for NPA acquisition by some ARCs, which led to introduction of 15:85 structure in August 2014, mandating a minimum of 15% SR subscription by ARCs. The management fee was also linked to the NAV of SRs. The 15:85 structure with the prevalent management fee of 1.5% pa contributed 10% to the ARCs' yearly return as against 30% in 5:95 structure. Thus, for say five-year horizon and 20% return under the 15:85 structure, the ARCs not only had to achieve full SR redemption, but also earn upside income from the surplus after full SR redemption. Hence, the 15:85 structure induced efficient NPA bid pricing, which was substantially lower than in 5:95 structure, and did not enhance ARC's cash commitment with 15% SR subscription (see table below).
 
 
The banks did not accept 15:85 bid prices, which were fraction of 5:95 bid prices, and the NPA sales dried up, barring exceptions for consolidation and strategic reasons. To generate higher bid prices, the banks permitted high management fee of up to 3% per annum, and recovery incentives. However, these could not mimic 5:95 bid prices and the NPA sales remained muted as expected. (Read: RBI restores sanity
 
RBI’s September 2016 Guidelines
Banks' major incentive for sale of NPAs to ARCs was the end of further provisioning since the SRs were treated as investment, and needed to be marked down only if the net asset value (NAV) of SRs dipped below the issue price. According to the new guidelines, from FY2018, the banks holding more than 50% SRs will have to make provisions on the SRs treating these as loans, or to the extent of NAV shortfall if it exceeds normal provisioning. From FY2019, this guideline will apply even where ARCs hold 10% SRs. The new provisioning is meant to achieve true sale presumably through all-cash sales of NPAs. The moot point is when sales under 15:85 structure nose-dived due to low pricing, will the lower all-cash pricing fire the NPA sales?
 
The new guidelines permit "other banks, non-banking financial companies (NBFCs) and financial institutions (FIs) etc." also to bid for NPAs for "better price discovery" and at the same time require two external valuations of NPAs with a bank's exposure of Rs50 crore and above. For valuation, the banks are required to adopt cost of equity or average cost of funds or opportunity cost or some other relevant rate, subject to a floor of the contracted interest rate and penalty, if any as discount rate for arriving at reasonable realizable value of the NPA. The valuation principles dictate that the discount rate should relate to the cost of capital of the target asset for acquisition. For a risk proven target NPA, the discount rate should capture the risk profile of the NPA, and this is best left to the competing acquirers. The bank's cost of capital as discount rate implicit in the guideline and the seller's valuation bias will continue to overstate the asset value and the reserve price which does not leave any margin for the intermediary buyers, and perpetuate the valuation mismatch which has stunted 15:85 sales.  
 
 RBI has prescribed number of schemes for restructuring of stressed assets, and the banks invariably adopt those for financially distressed accounts, and sell only the left overs to ARCs. Hence ARCs' bid prices are at a significant discount to the loans outstanding consistent with the asset risk profile. This has also emerged from RBI statistics according to which the ARCs acquired NPAs at prices varying from 17.2% to 20.8% of loans outstanding during FY2010 to FY2013, when the acquisitions were largely cash based (see Graph-2). These deals at low percentage of loans outstanding happened as they were purely market determined. Interestingly, acquisition at these prices has not enriched the ARCs as is evident in graph-1.
 
 
The World Bank and IFC's 2014 Doing Business Report states that, "in India, resolving insolvency takes 4.3 years on average and costs 9.0% of the debtor's estate, with the most likely outcome being that the company will be sold as piecemeal sale. The average recovery rate is 25.6 cents on the dollar" (page 206). This is indicative of asset overstatement by the borrowers, which can only compound the banks' valuation bias and impede NPA sales. In the circumstances, will the new entrants fire up the market? We will examine that tomorrow.
 
(Rajendra M Ganatra, PhD is Managing Director & CEO of India SME Asset Reconstruction Co Ltd-ISARC. He had over 26 years of experience in project finance, asset reconstruction and financial restructuring. The views expressed in above article are personal)
 

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COMMENTS

Chaturvedi Vn Govind Baba

2 months ago

A VERY FAIR ANALYSIS AFTER A LONG TIME...LOOKS VERY UPTO DATE...INFO

Sunil Karunakaran

3 months ago

Superb article which brings out the present status and concerns of ARCs so lucidly and comprehensively. Really liked the views expressed regarding valuation and the fact that the increasing number of new ARCs assumes banks perennially churning out NPAs which is not good news for the banking sector. Hence the other issue raised regarding overstatement of assets needs to be appreciated and addressed urgently.

Satish Sharma

3 months ago

I think ARC 's should seriously look into the accounts which became NPA due to transient financial stress.I am at the affected end trying to request them to solve the issue but unable to do so.àll accounts should not necessarily end up with sale of assets customer needs to given a opportunity to rectify and come on to regular business especially if professionals are involved. I hope the arc understands the efforts put in to start a good venture and it is stuck due to administrative issues of the government. Looking at the above article they should support revivalbe projects and help them to come out of the NPA tag

Gopalakrishnan K B

3 months ago

Very Nice article with precise but informative description. Excellent presentation. Keep up Ganatra. Look forward to more incisive writings from you. Thanks and Regards

Baiju Mathew

3 months ago

Excellent article explains the subject, current status and issues going forward very well

Baiju Mathew

3 months ago

Excellent article explains the subject, current status and issues going forward very well

Arunava Ghosh

3 months ago

In addition to slow movements of DRTs, intervention of High Courts in debt recovery and SARFAESI matters has made the recovery process sticky and time consuming. Defaulters prefer to knock the door of High Courts against SARFAESI procedure to lengthen the legal process.

Sameer Kakar

3 months ago

Good article on present status and prospects of ARC'S. Pricing of NPA a big challenge for all stakeholders somehow the puzzle has not been solved.
On the recovery front the overburdened legal system is squeezing the blood...
Pl through some light on the New insolvency law's - whether you feel it will help ARC'S in light of the fact that u will have to approach DRT again for non corporate borrowers.

Sameer Kakar

3 months ago

Good article on present status and prospects of ARC'S. Pricing of NPA a big challenge for all stakeholders somehow the puzzle has not been solved.
On the recovery front the overburdened legal system is squeezing the blood...
Pl through some light on the New insolvency law's - whether you feel it will help ARC'S in light of the fact that u will have to approach DRT again for non corporate borrowers.

Sameer Kakar

3 months ago

Good article on present status and prospects of ARC'S. Pricing of NPA a big challenge for all stakeholders somehow the puzzle has not been solved.
On the recovery front the overburdened legal system is squeezing the blood...
Pl through some light on the New insolvency law's - whether you feel it will help ARC'S in light of the fact that u will have to approach DRT again for non corporate borrowers.

Sameer Kakar

3 months ago

Good article on present status and prospects of ARC'S. Pricing of NPA a big challenge for all stakeholders somehow the puzzle has not been solved.
On the recovery front the overburdened legal system is squeezing the blood...
Pl through some light on the New insolvency law's - whether you feel it will help ARC'S in light of the fact that u will have to approach DRT again for non corporate borrowers.

Sameer Kakar

3 months ago

Good article on present status and prospects of ARC'S. Pricing of NPA a big challenge for all stakeholders somehow the puzzle has not been solved.
On the recovery front the overburdened legal system is squeezing the blood...
Pl through some light on the New insolvency law's - whether you feel it will help ARC'S in light of the fact that u will have to approach DRT again for non corporate borrowers.

Kashif Mohammed

3 months ago

Could not agree more. Nicely put into words!

Kashif Mohammed

3 months ago

Could not agree more. Nicely put into words!

Kashif Mohammed

3 months ago

Could not agree more. Nicely put into words!

Samsung sued after Note 7 exploded in man's pocket in US
Adding to Samsung's woes over Galaxy Note 7, a man from Florida has sued the south Korean company after a Note 7 device exploded in his pocket while at work in Palm Beach Gardens.
 
Jonathan Strobel suffered severe and "deep second-degree burns" on his right thigh and thumb when the phone exploded, palmbeachpost.com reported on Monday.
 
The lawsuit has asked for $15,000 in compensatory damages from Samsung.
 
Strobel later received an email from the company, requesting him to surrender Note 7.
 
"Samsung is a big corporation and they control the information that's put out. They obviously knew what was wrong (with the phone). Unfortunately for Strobel, it was too late for the mandatory recall, Strobel's lawyer was quoted as saying.
 
The US government has officially recalled the Samsung Galaxy Note 7 smartphones after dozens of reported cases in which batteries exploded or caught fire.
 
The US Consumer Product Safety Commission said in a recall notice that the move will include about one million units of Note 7 that were sold prior to September 15.
 
"Consumers should immediately stop using and power down the recalled Galaxy Note 7 devices purchased before September 15, 2016, " the notice said.
 
"Contact the wireless carrier, retail outlet or Samsung.com where you purchased your device to receive free of charge a new Galaxy Note 7 with a different battery, a refund or a new replacement device," it added.
 
Samsung has received 92 reports of the batteries overheating in the US, including 26 reports of burns and 55 reports of property damage, including fires in cars and a garage.
 
On September 8, a man's Jeep caught fire in St Petersburg as he charged the phone in the vehicle.
 
The US Federal Aviation Administration has also issued a warning, asking airplane passengers to not use or charge their Galaxy Note7 devices on planes.
 
Globally, the South Korean company has sold about 2.5 million units of Note 7 since the device was officially released in August.
 
Samsung said last week that it will launch media advertisements to apologise for the "discomfort and concern" caused due to the ongoing global recall of its Galaxy Note 7 smartphones.
 
The world's largest smartphone maker said it will soon run an advertisement in major media outlets to offer an apology for causing discomfort and concern to its customers due to faulty batteries in some Note 7 smartphones.
 
Disclaimer: Information, facts or opinions expressed in this news article are presented as sourced from IANS and do not reflect views of Moneylife and hence Moneylife is not responsible or liable for the same. As a source and news provider, IANS is responsible for accuracy, completeness, suitability and validity of any information in this article.

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If you see Pink, you will see Red
Michael Ferreira was the President of our professional cycling association, taking over from Vijay Merchant. His words rang true last night at the Eros theatre in Mumbai where we saw the excellent movie, "PINK'.  "We Indians are the biggest hypocrites in the world".
 
First, a word about the ambience. There is still an old world charm to theatres like The Eros, The Regal and even fire traps like Central Plaza and Roxy. One longs for the days when 'Sunday 6:30' was a magic word. Permanent Seats! Dress codes. Wafers and Duke's Lemonade. Tickets for One Rupee, five annas. The Two-ten was too steep. And NO CLAPPING or WHISTLING. All gone with the wind.
 
Clark Gable has been replaced by Amitabh Bachchan. Thank God for small mercies. There is a saying that one must never do a movie with a child or an animal, show-stealers both. Ditto with Amitabh. He grows with age, in stature, in style, in delivery. Gone are the days of caricature roles; even Sholay was comic. Moreover, in Pink, there is, mercifully, no oafish character like Paresh Raval in 'Cheeni Kum'. The Bachchan effect rubs off on the others. One wishes that the pseudo-surreal photography inkling takes a break. It downplays the emotional views of the players.
 
There is a lesson for all. Above all, it lands a left jab to the solar plexus and an uppercut to the jaw of that filthy-minded, hypocritical Indian animal, the Shri Bhagwan-ka-Aadmi. The choice of locale could not be better. Delhi, now better known as the rape capital of the world.
 
Surprisingly, the film has little of violence footage, acknowledging the fact that rape scenes do not a movie make. Intriguing plot, sharp script, only two songs (as almost background music), low budget aka no song-and-dance nor glamourous sets, are all that are needed for a riveted-to-the-seat experience.  
 
*A widow is an easy catch.
*A divorcee is dying for it.
*The servant girl has a special duty to perform.
*All models are easy game.
*A girl in the gent's compartment is on the lookout.
*Only women of the night wait at bus stops after dark.
*When a girl says "No", she means "Yes".
 
 
Many more sick-male, stereotyped thoughts abound amongst the men in our midst. Pink has the courage to take those thugs head-on. Yet, there is a lesson for girls too. 'Being Mod' is risky business. Flirty behaviour one day can mess up their lives forever. There is no such thing as 'Just fun'. Danger, serious trouble lurks around every corner. The standard suggestion, at every police station, then is, "You came, You saw, You were conquered". Your bloody fault. See the cynicism plastered all over the movie. 
 
This movie must be shown in all the girls' schools. It is a MUST. The boys must understand that there is nothing macho in vulgar behaviour. It is criminal and will land you in jail.
 
The movie is, more-or-less, a standard courtroom thriller. Of course, there is the inevitable scene of the witness losing his, or her, cool under cross-examination; standard good lawyers' trick. It also saves the screenplay writer from thinking up intricate questioning; standard scripters' trick. Anger betrays guilt, as all lawyers will tell you. Be ready for the shouting matches that happen only in movies. Our courts are more sedate in reality.
 
Special mention for the judge. Diction better than the aging Amitabh's. The Police Inspector, whose face, under cross-examination, tells a thousand words. The touching moments of the final handshakes. The first scenes shown the last, (do not rush to the exit), all make for an entertaining evening. To reveal the ending, we can definitely tell you that the butler did not do it.
 
Why PINK? There is nothing blood red guilty nor innocent white driven snow. The truth always lies somewhere in between. Pink.

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COMMENTS

Bapoo Malcolm

3 months ago

Mr. Malik, Are legitimate DVDs out?

Bapoo Malcolm

3 months ago

Mr. Kamerkar, Why should there be a motive in quoting a person? Do you not quote Hitler, or Genghis Khan or Stalin or Marie Antoinette? And as a lawyer, "innocent until proven guilty". Ferreira said it, I remember it, I repeated it. Simply because it was topical. Anyway, thanks for liking the review. And saying so.

REPLY

Nilesh KAMERKAR

In Reply to Bapoo Malcolm 3 months ago

Appreciate your reply sir. Thank you!

Nilesh KAMERKAR

3 months ago

Nice article sir.

What could your motive be behind quoting the QNET scamster who has inflicted a serious fraud & ruined so many lives?

manish jain

3 months ago

superb

Veeresh Malik

3 months ago

Sir, why do you think the movie was named "Pink"? To find out, please search for the slang connotation of the term "pink", online urban. Wait, I shall tell you - it means, briefly, an unwilling young pink vagina forcibly occupied by a penis or penises, with racial connotations.


Next, why do you think the lady lost her cool and said, yes, I take money for sex, or do you think she was telling the truth, and either way, whether she took money or not, NO means NO is the punchline.

Two points most people misses. And the poem at the closing credits, check it out, the version with lyrics is online and strong.

And there were 4 songs. Means your theatre sliced 2 away.

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