The insolvency and bankruptcy code is broken. It must be repaired, immediately
While 4,540 insolvency cases were admitted for the Corporate Insolvency Resolution Process (CIRP), significant recovery only materialized in a handful of cases, such as Essar Steel and Bhushan Power and Steel . The average achievement was 40%; than for the 100 most important cases, 36%. The Videocon resolution, in which creditors agreed to a 95% haircut, has sparked a protest from the National Company Law Tribunal (NCLT), which must approve the Cirps.
In the absence of a market for corporate bonds, large projects in India are financed by the banks. The project developer must convince the loan sanction committee or, more realistically, the political masters of the bank or consortium of banks, to sanction the loan. The form this persuasion takes is common knowledge. If the project is funded by the bond market, the bonds issued for the project would be reviewed by various analysts and brokerage houses and any padding in the cost of the project would be identified.
Banks have sanctioned inflated project costs, the project developer removes the padding when setting up projects and builds up a war chest with which to buy political patronage, protection and private wealth. The inflated cost of the project makes it difficult for the project to be competitive in terms of pricing the output of the project and requires a higher debt service than expected. This is an intrinsic bias towards project failure and its conversion into a non-performing asset on the bank’s books.
When the projects were small, Indian developers managed to play with the system and survive, even though they seemed less than effective compared to their rivals, say in China. When loan amounts are large, as is the debt service obligation, the fungibility of money for a group with many projects and several loans from several consortia is insufficient to avoid bankruptcy.
Until the enactment of the IBC, the promoters continued to control their bankrupt businesses, sometimes persuaded the banks to restructure the loans, thus turning up the cost of the project and becoming viable, and, in any case, lived and the alpine heights of Davos with plumbs.
IBC meant that banks could strip failed promoters from their businesses. This is a good thing. But when banks try to recoup their outstanding loans by selling the underlying assets, either as a going concern or through liquidation, they find themselves with the mirror image of the original sin of sanctioning project costs. inflated – that of giving up assets worth thousands of crores. rupees for a fraction of their value to other large industrial groups.
Between original sin and terminal sin, it is the common man who is pressed and wrung out. He takes note of the bank recapitalization that must follow when the banks fail to recover the funds they had lent, as well as the interest.
Is there no alternative to the people who finance the primitive accumulation of capital by entrepreneurs going from the small fry to the big tycoon? Should the Indian state follow its own imitations of the 21st century colonial plunder, in the early days of capitalism, by European powers, the forced enclosure of the commons by landowners as pasture for their sheep, the cession of public lands for the construction of private railways by American presidents, including Abraham Lincoln?
There is no need to justify large periodic loan cancellations to industrial groups as the price to pay for having an industrial sector that produces what society needs, creates jobs and generates taxes. The growing number of unicorns in India shows that entrepreneurs can get rich legitimately without having to default on their loans or steal their own businesses. Indeed, the richest in the world are what they are because investors are happy to reward them for creating wealth and income by absorbing the shares of their companies.
So how do you tackle the initial and terminal sins of Indian banking? A market for corporate bonds and a secondary market for bank loans would go a long way in repairing original sin. Once the possibility of covering project costs is reduced, viability would improve and fewer loans would become non-performing.
The way to redeem terminal sin is to reorganize our Asset Reconstruction Companies (ARCs). These were created under the Sarfaesi Act of 2002 and, according to RBI, their regulator, do not have the right to purchase the underlying assets of bad debts.
CRAs should be removed from the scope of Sarfaesi and simply be legal persons governed by the Companies Act. They should be free to buy bad debt and / or the underlying bad debt assets. Patient capital in ARCs should own NPAs and resolve the underlying assets, whether as a going concern or by selling them piecemeal, to the buyer who values each coin the most. It would take time, longer than the banks would like to wait. Competition among CRAs should pay banks a decent price.
The proposed bad bank owned by the banks should be an ARC model.
The opinions expressed are those of the author