Management of Stressed Assets.

Objectives. 1.To understand the need for effective management of stressed assets. 2. To know What are non performing assets? 3.To understand the assets classification, when to recognise the interest/charges as income. 4.To know provisioning norms for NPAs. 5.Having understood the concepts, to know how to prevent the slippages in assets.- rephase, reschedule, restructure process. 6.To understand the process of reduction of NPA out of court-compromise formula. 7.To know the process of corporate debt restructure large borrowal accounts where substantial bank funds are blocked. 8.To know rehabilitation of large sick industrial units. 9.To know other legal SARFEASI,DRT,Civil suit remedies for recovery in NPA accounts.-

10.To understand NPA reduction through write off of non recoverable dues and sale of entire assets Preamble. Main objective and focus of any lending is sustainable quality of assets .Proper due diligence at sanctioning level and proper post disbursement supervision will ensure performance of assets. Asset performance is measured by the regular flow of interest/charges income and repayment of principal dues. Delay and default cause the assets to become a problem or stressed or non performing. Ensuring quality of assets has assumed greater proportion with the introduction of new Income Recognition and Asset Classification (IRAC) norms Global financial crisis impacted the corporate ,retail and SME leading to substantial

addition to NPA.RBIs mandated 70% loan loss coverage ratio by Sep,10 have added to the woes of banks. Except a few banks, all the public sector banks (PSBs) had shown rising NPAs consecutively in the last three years, said a report of the Parliamentary Standing Committee on Finance tabled recently in the Lok Sabha. . Banks need to step up efforts to resolve their existing non-performing assets and tighten their credit management systems, said the Reserve Bank of India in the Report on Trend and Progress of Banking in India 2010-2011.Proper identification of parties and assessment of credit proposals are essential to prevent the malady of NPA, Classification of Assets. Income recognition, Asset Classification(IRAC) and provisioning norms are applied first as per RBI circular UBD MC No 3 dt 1 st July ,2009 With a view to moving towards international best practices and to ensure greater transparency, '90 days' overdue* norms for identification of NPAs have been made applicable from the year ended March 31, 2004. As such, with effect from March 31, 2004, a non-performing asset shall be a loan or an advance where: (i) Interest and/or instalment of principal remain overdue for a period of more than 90 days in respect of a Term Loan. (ii) The account remains 'Out of order' for a period of more than 90 days, in respect of an Overdraft/ Cash Credit (OD/CC). (iii) The bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted, iv) In the case of direct agricultural advances as listed in Annex 1, the overdue norm specified at para 2.1.5 would be applicable. In respect of agricultural loans, other than those specified in Annex 1, identification of NPAs would be done on the same basis as non-agricultural advances. (v) Any amount to be received remains overdue for a period of more than 90 days in respect of other accounts. RBI further says that the classification must be on an ongoing basis and should be done every quarter so as to reflect the correct position of banks P&L and balance sheet reflects correct position of provision. Treatment of an asset as NPA should be on record of recovery and not on deficiencies like non submission of stick statement, non renewal of facilities,

 Treatment of NPA is borrower wise and not facility wise. In the case of bank finance given for industrial projects where moratorium is available for payment of interest, payment of interest becomes due only after the moratorium or gestation period is over. a.Standard Assests. Standard assets are those which are regular in repayments of interest and instalments due as per sanction. They are accounts where there are no problems.The accounts are monitored to ensure the compliance of all terms and conditions specified in the sanction. Substandard. With effect from 31 March 2005 a substandard asset is one which has remained NPA for a period less than or equal to 12 months. All the recovery measures are relevant in substandard assets also. If the entire over dues are recovered by way of cash recovery, the account can be upgraded to standard category immediately. Similarly if the account is classified as NPA due to technical reasons, the account shall be upgraded on clearance of technical reasons. Doubtful assets If the asset remained in substandard category for 12 months, it is classified as doubtful assets. All corrective recovery measures like restructure and rehabilitation can be initiated after looking in to promoters sincerity, wherewithal, capability and capability to achieve turnaround and also based on objective assessment. Sub standard and doubtful assets which are restructured/rescheduled can be upgraded to standard category after one year from the first payment of principal or interest whichever falls earlier subject to satisfactory performance for the period of 12 months. Loss Assets. A loss asset is one where loss has been identified by the bank or internal or external auditors or the RBI inspection. In loss assets realisable value of securities is less than 10% of balance 0ut standing/dues.

In respect of accounts where there are potential threats to recovery on account of erosion in the value of security and existence of other factors such as, frauds committed by borrowers, it will not be prudent for the banks to classify them first as sub-standard and then as doubtful after expiry of 12 months from the date the account has become NPA. Such accounts should be straight away classified as doubtful asset or loss asset, as appropriate, irrespective of the period which has remained as NPA Income Recognition and Provisioning norms. Income recognition Income from non-performing assets (NPA) is not recognised on accrual basis but is booked as income only when it is actually received. Therefore, banks should not take to income account interest on NPA interest on advances against term deposits, NSCs, IVPs, KVPs and Life policies may be taken to income account on the due date, provided adequate margin is available in the If any advance including bills purchased and discounted becomes NPA as at the close of any year, interest accrued and credited to income account in the corresponding previous year, should be reversed or provided for if the same is not realised This will apply to Government guaranteed accounts. Interest accrued in respect of non-performing advances should not be debited to borrowal accounts. * Provisioning In respect of loss asset, full provision at 100 per cent should be made if the expected salvage value of the security is negligible. For doubtful assets provision should be for 100 per cent of the extent to which the advance is not covered by the realisable value of the security to which the bank has a valid recourse should be made and the realisable value is estimated on a realistic basis. In regard to the secured portion, provision may be made , at the rates ranging from 20 per cent to 100 per cent of the secured portion depending upon the period for which the asset has remained doubtful:

 In respect of substandard assets general provision of 10 per cent on total outstanding should be made without making any allowance for DICGC/ECGC guarantee cover and securities available. General provisioning requirement for all types of standard advances shall be 0.40 per cent. However, direct advances to agricultural and SME sectors which are standard assets, would attract a uniform provisioning requirement of 0.25 per cent of the funded outstanding.

Management of NPA. The basic objective is to maximise recovery of dues under the credit portfolio through effective credit monitoring for preventing the assets from slipping in to non performing and to maximise recovery in NPAs. A.Preventive step I.Post sanction supervision. IT is the first preventive step. It involves; Ccompliance with the terms and conditions of sanction. Ensuring end use of funds. Adequacy of credit on an ongoing basis Monitor the health of the unit and detect signs of weakness in the financial position of the borrower. .In case of Term Loan: Loan to be disbursed as per the schedule approved by the bank. Disbursement of installments related to actual progress in implementation of the project. Progress in project implementation should be as per schedule. Monitor costs being incurred, borrowers contribution, reasons for cost overrun, time overrun, if any.

 In case of Cash Credit: If sanctioned along with Term Loan - Must be disbursed only when the unit commences commercial production. Periodical Inspection: Enables bank to keep check on the stocks charged to the bank. Obtain first hand information about the functioning of the unit. Periodical Inspection Hypothecation Account. Annual review To be done by bank To scrutinise Balance Sheet, P & L Account, Tax Returns of borrower Undesirable features to be discussed with the borrower Credit report of the borrower to be updated on a regular basis. Mechanism to initiate corrective action early. B. Early Alert System.-corrective step-pre NPA stage. Reserve Bank of India has issued broad guidelines on preventing slippage to NPAs by recognising the problems and on corrective measures to restructure the accounts after an objective assessment of the viability of the unit and promoters intention. Bank should put in place a system that captures early warning signals in respect of accounts showing first signs of weakness Recovery policy. Banks should have its own recovery policy with the basic objective to maximise recovery of dues with all interest and charges. Banks guiding principles are broadly as under. 1.Continuous and regular monitoring is the first step. 2.Timely assistance for any mismatch in cash flow of the customers in running the day to day business. 3.If in the opinion of the bank the problems leading to delay or default are genuine the bank will initiate corrective steps to improve the asset quality by way of restructuring/rescheduling with offer of concessions and additional finance. 4.Legal remedy for recovery is considered as the last resort. Based on its recovery policy and assessment of individual accounts the bank may reschedule/rephase/restructure with a view to put the accounts showing incipient sickness back to health.

C.Reschedulement/rephasement.(Pre/post NPA stage.) 1.Rescheduling. It is changing the pattern of debt service obligations with a ballooning schedule( graded increase in increase in instalments) or descending schedule with out considering any enhancement in repayment period and quantum of out standing i.Retaining the existing period. ii. No additional exposure ii.Rephasement IT is rescheduling with enhancement in repayment only. iii.Restructuring. a.Changing existing repayment period b.Changing existing exposure c.Changing the nature and quantum of existing facilities. Restructuring of an account may involve : i.Refund of penal interest. iiReduction in interest rate with or without retrospective effect. iii.Funding of core irregularity as working capital term loan iv.Funding of unpaid interest as Funded Interest Term Loan(FITL) v.Reschedulement of existing term loan vi.Fresh/ additional TL/working capital facilities. vii.While restructuring an account, efforts should be made to obtain personal guarantee of promoters Restructuring is a very comprehensive package sanctioned after a through viability study which will ensure that the borrowing unit makes a turnaround

and our dues are paid as per revised sanctioned terms.This is done in cases of potential NPA as well as substandard and doubtful accounts. .. The accounts classified as 'standard assets' should be immediately re-classified as 'sub-standard assets' upon restructuring However Sub standard and doubtful assets which are restructured/rescheduled can be upgraded to standard category after one year from the first payment of principal or interest whichever falls earlier subject to satisfactory performance for the period of 12 months. Corporate Debt Restructuring. In spite of their best efforts and intentions, sometimes corporates find themselves in financial difficulty because of factors beyond their control and also due to certain internal reasons. For the revival of the corporates as well as for the safety of the money lent by the banks and FIs, timely support through restructuring in genuine cases is called for. However, delay in agreement amongst different lending institutions often comes in the way of such endeavors. Based on the experience in other countries, a Corporate Debt Restructuring System was evolved, and detailed guidelines were issued by RBI in 2001. One of the main features of the restructuring under CDR system is the provision of two categories of debt restructuring under the CDR system. i.Accounts, which are classified as standard and sub-standard in the books of the creditors, will be restructured under the first category (Category 1). i. Accounts which are classified as doubtful in the books of the creditors would be restructured under the second category Objective The objective of the Corporate Debt Restructuring (CDR) framework is to ensure timely and transparent mechanism for restructuring the corporate debts of viable entities facing problems, outside the purview of BIFR, DRT and other legal proceedings, for the benefit of all concerned. In particular, the framework will aim at preserving viable corporates that are affected by certain internal and external factors and minimize the losses to the creditors and other stakeholders through an orderly and coordinated restructuring programme Stand Still clause

 Both the parties commit themselves not to take recourse to any other legal action during the 'stand-still' period. The CDR mechanism will cover only multiple banking accounts / syndication / consortium accounts of corporate borrowers with outstanding fund-based and non-fund based exposure of Rs.10 crore and above by banks and institutions. Structure CDR system in the country will have a three tier structure: CDR Standing Forum and its Core Group CDR Empowered Group Reference to Corporate Debt Restructuring System could be triggered by any or more of the creditor who have minimum 20% share in either working capital or term finance, or by the concerned corporate, if supported by a bank or financial institution Prudential and Accounting Issues As per RBI guidelines the dues to the bank are fully secured. The repayment period of the restructured advance including moratorium period, if any, doesnt not exceed 15 years in the case of infrastructure advances and 10 years in the case of other advances. Promoters sacrifice and additional funds brought by them should be minimum of 15% of the banks sacrifice. Personal Guarantee is offered by the promoter except when the unit is affected by the external factors pertaining to the economy and industry, The restructuring under consideration is not a repeated restructuring. The following elements eligible for computation of recompense: Principal Amount: The Amount of waiver granted to a borrower in the repayment of the principal amount to a lender. Interest: Any reduction in the applicable rate of interest payable by the borrower to the lender. Interest reduction will be reckoned by the difference in the rate of interest based on the contractual rate. Commission: Any reduction in the commission or other charges/ fees charged to the borrower. Debentures: Debentures will include all kinds of debentures that are restructured under the CDR package.

Right of recompense Country has seen very volatile interest rate market from 8% to 21% in last 10 years. Since concession in interest is true lender must have recompense for economic loss. Right of Recompense is stipulated invariably in all CDR cases, where large sacrifices are envisaged from the lenders. The quantum, nature and timing of recovery is being examined for the purpose of giving well defined formula to the borrower so that the clause does not remain open ended. D.Exit measure. In spite of best efforts of bank and the borrowers it may be quite possible that the enterprise could not be brought to good health enabling the borrowing units to generate income to meet the various repayment obligations and upgrade the asset to performing one. In such cases or where borrowing units may not be viable for rehabilitation or when promoters are unable to bring in their contribution for revival, banks look to the option of exiting from the account with some sacrifices. The bank may feel that any revival plans may amount to sending good money after bad money. Bank then explore the possibility of amicable settlement out of legal system. It works out a Compromise formula.

Compromise Settlement. It is an agreement by mutual consent with or without sacrifice. It is a non legal remedy for reduction of NPA when all effort to bring it to order fails. Normally the bank would like to recover the entire dues with unapplied interest with interest at contracted rate without any sacrifice. In a few cases bank may consider accepting a lesser amount with waiver of portion of interest, The short fall is written off in banks books. Criteria Main factor for a negotiated compromise settlement is maximisation of recovery i.When the borrower is willing to settle the dues in one lump sum with certain sacrifice on the part of the bank ,bank may go in for it considering the time value of money.

ii.Legal cost may be prohibitive. iii.When the units viability is doubtful and in the opinion of bank the promoters assets are inadequate. iv.When there is no security available or realisation of available security is difficult v.No compromise if the securities are adequate to cover the dues. Other guiding factors.. a.Total dues b.Margin money and other recoveries held. c.Realisable value of securities d.Reasons for failure of business e.Means of borrowers. f.Mode of payment of agreed amount g.Impact on profit h.Period of recoveryAs a matter of principle the bank would like to receive the full agreed amount at the earliest time in one bullet payment looking in to the time involved in sale of securities. E. Legal Recovery Process. i.SARFAESI Act. Considering the long delay involved in civil cases and the amount of funds blocked in such cases ,it was felt to speed up the recovery process by enacting an act which substantially reduces the legal process. and enforcement of securities. The act deals with the following aspects 1.Enforcement of security interest by secured creditor. 2.Transfer of NPAs to asset reconstruction co

3.To provide a legal frame work for securitisation of assets Enforcement of security interest Guidelines. 1.Contractual dues should not be less than Rs.1 lacs. 2.Default must have occurred i.e account should have been classifies as NPA 3.Securities charged must be clear, specific, charged and enforceable. 4.Lending bank must be a sole banker or in the case of consortium consent of lenders representing not less than 75% amount of dues. 5.Action must be within limitation time. 6.Even in case of BIFR and suit filed accounts also action under this act can be taken. Service of notice./ process of enforcement Once the account is classified as NPA 60 days notice need to be served to all the borrower/guarantors. Notice is the first legal step to be initiated. Notice should contain the contractual dues and details of security assets i.e moveable or immoveable securities charged to the bank. Notice to be served at the place where the borrower or his agent actually resides or carries on business by i.Registered post. ii.courier. iii.any other means of transmission of documents like fax or electronic e mail service iv.By affixing copy of the demand notice on secured assets. If notice returned un served ,service should be effected by publishing the contents of the demand notice in two leading newspapers ,one in vernacular language having sufficient circulation. If borrower on receipt of notice represents to the bank or raises any objections, the bank shall reply the representation within one week of receipt of such representation /objection.

 If no representation is received and the borrower fails to discharge the liabilities within the notice period the bank may take recourse as set out in the act. Authorised officer can take possession of secured assets in the presence of two witnesses and take inventory of assets. AO should take steps for protection and preservation of the properties. Properties should be valued and proceed with sale by following the usual process of sale tendering, public notice etc. ii. Debt Recovery Tribunal.(DRT). This legal step to be initiated when efforts through compromise settlement and under SARFAESI act fail,. DRTs were established in 1993 by an Act of Parliament for expeditious recovery of debts in excess of Rs 10 lakh due to banks and financial institutions (FIs). Proper serving of summons on the defendants. speeds up the suit process. After examining the case the presiding officer issues recovery certificates to be executed after obtaining the assets details from bank RO can order any judgement debtor to declare on affidavit all his assets In spite of exclusive court was set up to speed up the legal process for recovery of banks dues ,still there has been considerable delay. The reasons for such delay are broadly as follows: The number of cases handled by DRTs has increased manifold, but sufficient number of DRTs has not been established. In many DRTs, the posts of presiding officers have been vacant for quite a while, resulting thereby in large pendency of cases. Often, the borrowers and guarantors raise frivolous issues leading to prolonged hearing and, consequently, delays. Once the case is decided by the DRT, the presiding officers issue recovery certificates which are to be executed through recovery officers appointed by the DRT. Sufficient number of recovery officers is not available to handle the large number of cases.

iii.Other legal processes/recourse. Bank may file suit in any civil court of jurisdiction for recovery of its dues After obtaining decree, bank has to file an execution petition with the court. Bank can apply to the court under order 21 Rule 41 of Civil Procedure Code requiring the judgement debtor to declare on affidavit the assets in his possession. If the dues are covered under mortgage of securities the bank can file mortgage suit to recover its dues. Summary suit.Under the provisions of civil procedure code a summary suit can be filed in following cases. i.When suit against the borrower is on promissory note ii.when bank is covered by letter of guarantee where no tangible security is enforced. Recovery agents. Banks may appoint/engage professional experts for recovery with experience to exercise execution decree. They have however no power for any compromise or strike any deal with the borrowers. iii..BIFR (Board for f Industrial and Financial Reconstruction) This was a special legislation enacted in public interest for: timely detection of sick and potentially sick companies; and speedy enforcement of remedial measures. The board is set up under Sick Companies Special Provision Act 1985 to take up rehabilitation of Sick Industrial Companies.It is a quasi legal body with powers to initiate steps against erring promoters who fail to abide by the provisions of SICA.It has powers to summon and over ride provisions of Cos Act, Who can approach? .Industrial Co registered under Companies Act for not less than 5 years who has accumulated losses in any financial year equal to more than its net worth is considered as Sick Industrial Co and it should be:

1.Engaged in the manufacturing /processing activity employing 50 or more workers 2.Registered for 5 years or more. 3.Whose Net worth has been completely eroded 4.Registration with the board must be within 60 days from the date of meeting of Cos board or AGM which considered the Co as sick. Effect of reference No recovery action can be initiated against the Co and guarantors. All pending cases will be suspended during the pendency with BIFR. Limitation clause is also suspended. Legal proceedings can be initiated or continued with the permission of BIFR

What BIFR does? The boards initiative involves the following i.Financial reconstruction ii.Merger and amalgamation. iii.Change in or take over of management. iv.Rationalisation of work force. Draft Rehabilitation Scheme is prepared by the Co based on the above and submitted to BIFR. The board then appoints Operating Agency (OA),who scrutinises to ensure that the same is as per BIFR guidelines..Detailed techno economic viability is undertaken by external agency. Meeting of inter institution is called for to finalise reliefs and concessions. The scheme is then sanctioned by BIFR and it appoints Monitoring agency who may be OA or nay other bank or FI who will monitor the implementation. The sick Co is out of BIFR When after rehabilitation scheme the Cos net worth comes to positive. BIFR takes the opinion that the Co may be wound up.

Write off and assets transfer. When the bank finally exhausted all processes of recovery through non legal and legal forms and still left with some dues where there are no scope for recovery, the bank writes off the left over dues in the account. Sale of stressed assets. It is an assignment of secured debts by seller bank to any other institution like banks/FI/Assest Recovery Co.along with security interes Eligible accounts. 1.Accounts classified as NPA. 2.Accounts which action for recovery under SARFAESI is taken or suit is filed. 3.Current outstanding is Rs. 1 Crs and above. 4.NPAs should be older than 2 years in selling banks books. 5.Selling bank to ensure enforceability of security documents and registration of charges. Benefits to selling bank. 1.Reduces the NPA level and unlock the provisions. 2. Bank can set of losses in one sale against capital gains on another. 3.ARCs with expertise and focus enhances the value of recovery. Process of transfer. Accounts which are eligible and identified for sale go through the following processes. 1.Unit visit by selling banks officials.

2.Inviting expression of interestfrom intending buyers. 3.Execution of non disclosure agreements. 4.Allowing due diligence by the intending buyers. 5.Submission of bids. 6.Approval of reserve price and estimated sacrifice. 7.Opening of bids. 8.Conclusion of sale transaction