The RBI deputy governor said stakeholders should at least discuss whether there was value to building something like this as the US had built the LSTA over a period of time. South Korea had built a similar structure during the crisis and it then became an industry standard for loan sales.
It was in the interest of banks to create primary market liquidity in selling loans. That would be also useful for ARCs which may have an interest in secondary markets for these assets.
The loan sales could occur for risk transfers perhaps even prior to default because recovery adds stress for players who want to come in even before an IBC (Insolvency and Bankruptcy Code) filing takes place. It would be helpful in calculating expected credit losses, Acharya said.
Meanwhile, rating agency CRISIL in a report on ARCs said gross non-performing assets are expected to rise to Rs 9.5 trillion by the end of March 2018 and stressed assets are expected to be at Rs 11.5 trillion. This provides significant business opportunity for ARCs.
Given that banks are expected to make higher provisioning over and above the provisions made for stressed assets, they may sell the assets at lower discounts, thus increasing the capital requirement.
The existing capital base of ARCs will not support in absorbing the stressed assets available in the market and they are expected to be a part of the multi-platform business model with co-investors/large funds to bring in capital, and stay relevant.
The structural changes are expected to improve recovery prospects. The recovery rate, which is a good indicator of the effectiveness of ARCs, is expected to rise from 38 per cent earlier to around 44-48 per cent, CRISIL said.
In the last three years, the activity of ARCs has grown substantially. According to the Reserve Bank of India’s Report on Trend and Progress of Banking in India, the book value of assets acquired rose from Rs 1,598 billion in 2014 to Rs 2,627 billion in 2017. Similarly, security receipts issued by SCs and ARCs also grew from (worth) Rs 520 billion in 2014 to Rs 940 billion in 2017.
Banks look towards ARCs as acquirers of their stressed accounts for numerous reasons. One is that some ARCs hold a significant exposure in a stressed company, therefore in certain cases it makes sense that one ARC consolidates the various banks’ credit exposure to the company.
As in the case of Essar Steel and Edelweiss ARC; where now Edelweiss ARC is the fifth largest lender to the steel giant after having bought Essar Steel’s NPA accounts from various banks like HDFC Bank ICICI Bank, Axis Bank and Bank of Baroda.
Another reason is that some banks have issues with their capital requirements, and therefore selling an NPA account to an ARC—even at a discount having already made provisions—would help maintain or improve the banks’ capital.
Lenders have made appropriate provisions for these NPA accounts over time, and therefore are willing to sell their exposure at a discount.