Speaking on the sidelines of Edelweiss Credit Conclave, Seshagiri Rao, Joint MD & Group CFO, JSW Steel said that all players including bankers, Asset Reconstruction Companies (ARCs) and bankers must be flexible enough to find a solution.
“The problem is of ä cyclical nature as well as a structural issue,” he added.
On the other hand, Cyril Shroff, Founding Partner of Cyril Amarchand Mangaldas believes that the biggest challenge is acceptance of the issue [stressed loans]. “An environment of comfort is needed,” he said.
RK Bansal, Executive Director of IDBI Bank believes that 80 percent bad loan issue in road and power sectors will be resolved over a period of time and about 10-20 percent will have to be written off.
Banks, however, will have to take a hit, he added.
Below is the verbatim transcript of the full interview.
Q: First and foremost, let me start with the strategic debt restructuring (SDR). What is your estimate of the inadequacies of SDR? Do you think more needs to be done by way of changing rules?
Bansal: I think the experiment which we have been doing with SDR, initially of course we were hoping for us it could work in many cases but I agree with you, it has not worked in many case. I will tell you the reasons, one is, this so called upside because of the SEBI price formal, it does not work. When there is stress in the company in any case the value of the share is much low.
There are other issues, I think the resistance to the overall change of the ownership, I think the problem is we have called change of management but in India simply it becomes change of ownership. So, the real resistance to that – so my feeling is it will work, it will work in a middle-sized company, it will not work in the larger projects, larger cases which are in picture.
So, there we need perhaps some other solution. Many bigger cases which are there in fact which we are talking of stress, whichever industry you are saying, they don’t have SDR provisions, so we need promoter’s cooperation to go ahead with SDR.
Q: That was my next question, can it be done in a hostile fashion, can it be done only if the promoter cooperates because after all you need a resolution that the SDR will allow conversion of debt to equity?
Bansal: Certainly, to pass those resolutions for SDR you need promoter’s cooperation. The clauses which are there in adjusting cases mainly in the earlier restructured cases, so, actually whatever names you have heard in about SDR, about 15-20 cases, 90 percent of those are cases which were earlier restructured. So, they have some sort of a provision in the system.
However, otherwise the new cases which were not restructured, they don’t have those provisions. So, if we have to convert, we need the cooperation of the promoter.
Q: Is it legally possible to force a hostile promoter, a non-cooperative promoter to convert. Does the law need to change, do the regulations, notifications need to change?
Shroff: Short answer yes the law needs to change and what RK Bansal said is true that this is result of a lot of legacy agreements and documentation and that we are trying to superimpose a system that was subsequently evolved and there are the gaps that need to be filled. So, practically speaking, it is not possible to give full effect to the SDR mechanism without the cooperation of the company and the promoter.
However, I just want to add one more insight into this in terms of what is and this is the perception of what is driving the banks on the one side and what is driving the promoters on the other side. At this point, from a bank perspective or from the lender perspective, this is seen as somewhat of a soft option because it allows the postponement of how you sort of classify the assets. So, it is a bit of intellectual fudge that is sort of going on.
Q: Not anymore, the Reserve Bank of India (RBI) has told them to proactively provide 15 percent in the first year.
Shroff: It is certainly one of the drivers and secondly from the promoter or from the company’s point of view, it is not seen as the worst case scenario because there is a lot of other scenarios that are playing on in the marketplace at this point of time where there are far more severe consequences that can be visited and compared to that this is seen as a sort of a softer option.
So, there are enough drivers on both sides to cooperate. However, to answer your question squarely in terms of can you force it, there are severe limitations on doing it; the law will need to change.
Q: What exactly has to change?
Shroff: It will require effectively the ability to dispense with the consent even in the absence of contractual provisions. Some of what theoretically can happen under the Bankruptcy Code may do away with some of these issues of seeking consent because that is where legislation has stepped in.
Q: I am going to try and restrain you from jumping to that because first the act has to be passed, after that all the intermediate institutions, the plethora of National Company Law Tribunal (NCLTs), the tribunals have to be setup, the profession of investigating officers and agencies have to be setup. It does look like we are more than a year away from an ecosystem being created considering that we don’t have the Bankruptcy Code yet. What happens when you have an uncooperative promoter? Won’t he follow a scorched earth policy?
Jayesh: Most of the SDR cases are where Corporate Debt Restructuring (CDR) or Joint Lenders Forum (JLF) is sort to be done and contractually clauses were embedded allowing conversion. Now, if you don’t have the contractual ability, one other mechanism which used to work in the past and I say used in the past like maybe well before Sikka came in was you take a company in winding up, then you don’t need shareholders consent.
In the winding up you present the scheme of arrangements where only the creditors matter, where you are selling off the asset into a new entity, you create a new company effectively and you can restructure that debt.
In fact if you look at the JLF circular before the SDR, it talked about possibility of transferring equity of the company by the promoters to the lenders to compensate for the sacrifices. We haven’t seen those instances. Even when SDR was announced, for me it was little baffling as to why are we not forcing the promoter to do an equity-debt swap.
Q: Buy you yourself answered your suggestion of winding up. It is not worked or is not working now in the recent past. Effectively that obviates, that removes that as a way of solving the problem. So, we are falling back on SDR so how would you rewrite the SDR rules or any other laws?
Jayesh: Cyril Shroff rightly said that some change of laws is required and one key thing which SDR didn’t think through and which now some of the banks are suddenly waking up and really worrying if not spending sleepless nights is the promoter may have defaulted on PF contribution and what not other violations and suddenly the banks are now majority owners so their nominees will be Directors and in India the authorities love to go after the new guy in power.
Q: What can you do to ensure that the sins of the previous promoter are not visited on the bank Director?
Jayesh: Sounds like a very conceptual answer but far greater coordination between the various arms of the government and therefore also of the central bank. Lot of powers are already there, lot of laws are already there, it is just the coordination and enforcement which is lacking.
Bansal: That is a very relevant point and that is why, if you see, initially there was a feeling and as Mr Cyril pointed out that bankers were thinking that it was standard, so I can keep it for 18 months and borrowers were thinking, I am owning the company also and in any case, banks will not take action against me. And now, after clarity from RBI, banks are very clear and RBI advises very clearly that the adjusting promoter has to go away. Initially that feeling was not very clear. That has also hit the SDRs now.
The other thing is this problem about the statutory tools. So, now where we are very clear, we are going through a transparent process. Other agencies also came into picture in any case. So, now we are going through an advertisement. We are asking bids. Otherwise, promoters were bringing their own people here and there. And we are ensuring most likely in most of the cases that we exercise SDR, we change the management at that point of time. We do not want to wait for 12 months or 18 months. We want to find a buyer first and then go through the process.
Q: What changes are needed and if you can predict when the first SDR transaction will happen.
Rao: In my view, the SDR mechanism, the way it is structured, it is too rigid. What we are finding today, when we want to negotiate with the lenders, if anything which is a little different to what is written in the SDR mechanism, bankers are not taking a call on that. This is our experience. But at the same time. SDR is the ultimate – ultimate in the sense earlier, we have restructured or proposed to do something through JLR, all failed. That means management change is only way of doing through SDR route.
Contractually, assuming that there is a possibility of converting debt into equity at whatever value that comes through, eventually the decision making has to change in the company as Cyril pointed out, not only just change on control through shareholding or ownership, decision making also has to change and the driver seed should be who from the day the SDR comes into existence, that is also one of the important points.
Otherwise, we are destroying value further wherever SDR has happened. We have seen companies coming or managements coming and handing over the keys to them, that you have to now handle things. So, therefore, SDR in my view, if it has to be successful, before they take a call, that SDR has to be done, buyer has to be identified, all terms and conditions are to be done, contractually, they should be in a position to change the decision making to the new buyer and flexibility to accommodate what the buyer requires. Thereby value can be created.
One more point I would like to add. For instance assuming SDR is resorted to, subsequently, the asset is sold to asset reconstruction company (ARC) there is a possibility, the existing promoter which bankers are looking for change, he can buy again from ARC. That is to be blocked.
Q: They have blocked that the company put under SDR is not bought by the same promoter or his proxies. But ARC angle also has to be looked at. Anything you want to add to the process?
Gandhi: The problem in some of these companies as we see it is currently, equity value is very low. Debt burden is high and earnings before interest, taxes, depreciation and amortisation (EBITDA) is low. In order to convert to 51 percent of equity, you are going to convert a very small sliver of debt into equity. But the outstanding debt still remaining will not be serviceable by the EBITDA that is being generated. And that is the problem. So, we need to think those through.
Q: Those have been analysed and the takeaways are with all of us. There are steel plants, where if you after converting the minor sliver of debt into equity will be Rs 30,000-40,000 crore with the EBITDA probably Rs 3,000 crore or even less and therefore completely unable to service. But again, it would be the banker who would have to take the hit.
Gandhi: At any given point in time, you have to look at an asset and you have to think what is the value of this asset today. It does not matter what you put in the ground. You may have put in Rs 50,000 crore to create it or Rs 5,000 crore. The replacement value is one way to look at it and what is the going concern value is the other way to look at it. From an equity standpoint, you have to look at going concern value.