Why Are Banks Selling Loans Of Insolvent Companies?

Masterstroke or fear of unintended consequences? Why are lenders exiting insolvent companies?

Empty State Bank of Mysore branch at Bangalore  Photograph: Namas Bhojani
Empty State Bank of Mysore branch at Bangalore Photograph: Namas Bhojani

Over the past week, two public sector banks have disclosed an intention to sell some of their loans to companies which are undergoing insolvency proceedings. Their decision to exit the insolvency process mid-way has raised questions and conspiracy theories but experts say that banks may be simply doing what is best for them commercially.

Among the banks that has chosen this route is the country’s largest lender.

  • State Bank of India (SBI), on January 16, said that it has put its entire loan exposure in Essar Steel Ltd worth Rs 15,431 crore on the block for sale to asset reconstruction companies (ARCs), non-banking finance companies (NBFCs), banks and other financial institutions.
  • On Monday, BloombergQuint reported that Central Bank of India has decided to sell its entire Rs 1,550 crore exposure to Bhushan Power & Steel Ltd. — another of the largest insolvent accounts.

Nilang Desai, partner at AZB Partners says this is merely an exercise in balance sheet management. As both Essar Steel and Bhushan Power & Steel have spent considerable time under the insolvency process, banks are trying to recover what they can at this stage. Such a sale will also help in addressing the uncertainty around providing for these accounts, he said in an interview with BloombergQuint.

“They have been in this process for about 18 months. They have seen through the bulk of the process. They have voted for resolution plan...the bidders are competing between themselves to up the bid. At this stage, banks are saying we are taking a call. They are not in business of restructuring a company, they are in the business of lending,” Desai says.

In particular, SBI’s decision to sell its loans to Essar Steel raised eyebrows because of the ongoing fight between Arcelor Mittal and the Ruia family to wrest control of the asset. Could SBI’s loan sale tilt the balance and give the ertswhile promoters a stronger hand?

It doesn’t matter, says Desai.

It is not SBI’s problem to maintain the ethics of IBC. Some people might like to point fingers at them that they should, but it is not their job.
Nilang Desai, partner, AZB & Partners

Long Legal Delays

The primary reason behind the delay in resolution is repeated litigation by parties involved in the insolvency process. The Ruia family, for instance, decided to submit a settlement plan after banks had selected ArcelorMittal as the successful bidder for the company. A decision on whether that plan should be considered is awaited.

In Bhushan Power’s case, Tata Steel Ltd, JSW Steel Ltd and Liberty House U.K. are awaiting a decision by the National Company Law Appellate Tribunal (NCLAT). The order by the appellate tribunal will decide whether lenders should consider Liberty House’s bid, even though this bid was submitted after the deadline for submission.

The resolution timeline in each of these cases has gone well beyond the maximum 270 days permitted under the Insolvency and Bankruptcy Code. In fact, of the twelve large accounts referred for insolvency in June 2017, only three have been resolved.

This has meant continued pressure on banks to provision against these accounts. As per RBI rules, banks have to step up provisions for each successive year that an account is an NPA. By the fourth year, 100 percent provision must be set aside.

Time Value Of Money

For some lenders it appears to just be a case of wanting to recover a lesser proportion of the money now rather than wait for a larger proportion at a later stage.

Apart from managing their books, banks may also be worried about the uncertainty, and the blame that may follow if the resolution process fails for some reason, said a person close to the developments. It would make sense for a public sector lender to exit the process now to avoid being questioned on the final resolution plan later, this person added.

According to a senior official at Central Bank of India, the bank is looking to exit Bhushan Power & Steel because of the uncertainty surrounding the case. The bank is asking for a reserve price of Rs 714 crore, which is less than half the book value of its exposure.

The decision, particularly by market leader SBI to sell its exposure in Essar Steel, has sent out a broader message.

According to a senior banker, who is a part of the committee of creditors, if SBI is successful in selling its exposure, it could spur an exodus of lenders from Essar Steel, which will eventually push down the price of the asset.

In its letter requesting bids for the Essar Steel exposure, SBI said that it will be offering the account at a minimum reserve price of close to Rs 9,600 crore. This is at an 18 percent discount to the Rs 11,313 crore that it stands to recover under ArcelorMittal’s resolution plan, which has already been finalised by the creditors.

While announcing the bank’s October-December 2018 quarter results this week, Rajkiran Rai, managing director and chief executive officer of Union Bank of India, said that Essar Steel’s insolvency proceedings are being watched closely. Union Bank is currently working with the expectation that the asset would be resolved within this quarter, he added. However, Rai said, the bank could decide to sell the account before March 31, if the proceedings were going to take longer than that.

Impact On Resolution Process

Another fear that bankers are grappling with is whether the new financial creditor, who will control the original lender’s voting share in the Committee of Creditors, would differ with the others. This could disrupt the resolution process, which has already seen considerable delays, said the second banker quoted above.

But Abizer Diwanji, head- financial services at EY said that there is very little a financial creditor can do at an advanced stage of the resolution process since most of the voting process is already over. Moreover, the creditor would have to be mindful of the impact on the returns of its investments in the account.

“The banks have made sure that IBC has maximized value for the creditor and now they are in favor of bringing in someone who is a financial creditor, whose IRR (internal rate of return) won’t get impacted if the resolution happens beyond one year,” Diwanji told BloombergQuint. “So, one should be independent of any of the conspiracy theories.”

To be sure, it may not be easy for banks to sell these loans.

SBI has already extended the deadline for submission of expression of interest twice till January 30 from January 18 earlier. The Ahmedabad bench of the NCLT, on January 31, is expected to pronounce an order to decide whether ArcelorMittal’s bid should be accepted or if the promoters of Essar Steel can settle with creditors.