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Banking sector review: RBI's S4A better than SDR! Will lenders, stakeholders gain?

The new norms are positive for both lenders and borrowers in the long term. Yet it would be banks and other existing stakeholders, rather than corporate borrowers, who stand to lose in the short run.

Aprajita Sharma  New Delhi     Last Updated: June 15, 2016  | 10:52 IST
RBI's S4A better than SDR! Will lenders gain?
Raghuram Rajan, Governor, RBI (Photo: Reuters)

Stocks of lenders and debt-ridden companies have been rallying ever since the RBI announced a scheme for sustainable structuring of stressed assets, which allows banks to convert up to half the loans held by corporate borrowers into equity or equity-like securities.
Experts believe net-net the scheme, dubbed as Scheme for Sustainable Structuring of Stressed Assets (S4A), is positive for both lenders and borrowers in the long term. Yet it would be banks and other existing stakeholders, rather than corporate borrowers, who stand to lose in the short run.
"It's very likely that promoter stakes will be diluted further under the new guidelines. This could be to such an extent that shareholders might begin to bear the brunt," said Nikhil Kamath, Co-Founder & Director, Zerodha.

ALSO READ: RBI eases stressed asset restructuring rules

Kamath added that in its current form, the reform could favour promoters more than the underlying lenders because banks have to provide for the loss of interest from their profit, while promoters get away with lower interest payments.
"Banks appeared to be close to forcing some promoters to sell off their non-core assets. Now suddenly, they have lost some of their power to arm twist. Promoters will now demand bankers their right to convert debt into equity instead of the other way round," said Kamath.
What the scheme is all about
The RBI's new loan restructuring window allows banks to bifurcate the debt of stressed borrowers into sustainable and unsustainable portions. Part A would be based on servicing capacity and Part B on equity/quasi equity instruments. There will be an 'Overseeing Committee' set up by Banks' Association in consultation with RBI which will review the process and act as an advisory body.
The new guidelines are better than the Strategic Debt Restructuring (SDR) scheme as entire corporate debt need not be classified as non-performing assets, and existing promoters can also continue. In SDR, banks had the option to convert debt into equity and take control of the company to sell off the assets.
Provisioning requirement
Under the norms, banks are required to maintain a minimum of 20 per cent provision on the total loan outstanding or 40 per cent of the unsustainable portion of the debt at the time of S4A.
Banks have to provide 100 per cent of the expected losses on unsustainable portion (in excess of the minimum requirements prescribed, that is 20 per cent of total or 40 per cent of unsustainable portion) over the period of four quarters.
Brokerage Emkay Global believes while the provisioning requirement for banks will increase in the next four quarters, the new norms will help reduce provisions substantially over a longer period of time.    
"Provisioning costs may remain elevated in next four quarters, mainly led by higher mark to market losses on conversion of unsustainable debt to equity. However, this front loading of provisioning/haircut may still be beneficial in the medium to long term compared to enduring the stress on the entire loan exposure over a longer period of time," said the brokerage.
"As for provisioning requirement, while there will be no immediate relief to banks, the norms are likely to reduce incremental provisioning requirement substantially over next 1-5 years provided sustainable portion of debt is serviced satisfactorily and there is no further decline in fair value of non-sustainable portion," said rating agency Icra to PTI.
The rating agency also said the new guidelines will help in reducing the reported gross NPA levels by 30-100 basis points, from the current level of 7.7 per cent as on March 2016, after a lag of one year, following satisfactory performance of sustainable debt portion.
Steel sector to benefit most
"Banks have taken significant mark down of debt in the steel sector. So, there would be positive developments from this book but this will be offset by weakness in the power sector as that portfolio has not seen any stress from a reporting perspective," said broking firm Kotak Institutional Equities.
Emkay lists three factors for a successful Implementation

  1. Ability of banks to apportion loans into sustainable and unsustainable
  2. Availability of un-impaired capital of banks
  3. Ability of banks to ensure that promoter's skin is still in the game after implementation of the scheme.
Preferred picks
Emkay Global
Axis Bank and ICICI Bank are better placed. In the banking sector our preferred picks are defined by the strength in capital, positioning to grow retail book, liquidity and return ratios. Hence, our order of preference is HDFC Bank, Indusind Bank, Yes bank and Axis Bank.
Larger banks will benefit the most given the size of their NPLs.
Most large indebted companies could benefit from this reform, especially the plethora of infrastructure companies with huge debts on their books.


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