Inter-creditor agreement, which most banks are set to sign in a few days, is a great idea, but it may remain just that. When it comes to practice, it may be a case of dead on arrival.
The agreement, drawn at the behest of the finance ministry, is aimed at preventing minority lenders from blocking a resolution plan of distressed loans and find a resolution outside the bankruptcy court. Its design can defeat the purpose since minority lenders can approach bankruptcy courts if their interests are not addressed.
A directive from the Reserve Bank of India in February has changed the way lenders approach defaults. Banks have to initiate bankruptcy proceedings within 180 days of missing payments in any account above Rs 2,000 crore if they are unable to restructure. The catch is, 100% of lenders should agree for the resolution within 180 days.
For loans already in default when the circular was issued, the 180-day countdown begins from March 1 which gives banks time till August 31 to agree on a restructuring.
Lenders feel that the value of a company can be preserved if a solution is found outside bankruptcy court. The inter-creditors agreement aims to hasten adeal by binding all lenders to a majority-approved resolution plan. At a time, when bad loans are eating into profits and eroding value of bank assets, such a measure isa welcome move.
HOW EFFECTIVE WILL IT BE?
The agreement says that if 66% of lenders by value agree, the resolution plan would be binding on all. A dissenting creditor can exit by selling his share at a 15% discount of liquidation value or resolution value, whichever is lower. The lead bank has the right to buy it at a discount, but is under no obligation to do so. Or, the dissenting creditor can buyout all lenders by paying 125% of the resolution value or liquidation value whichever is higher. The dissenting creditor has the right to acquire distressed asset, but not obliged to do so.
Alternatively, the dissenting creditors can sell the loan facility to a bank or finance company at a mutually agreed price and not to an asset reconstruction company. There is no easy exit for the dissenting creditor.
Even a probationer in a bank Inter-creditor could tell you that a bank laden with bad loan would not want acquire a bad loan in its books even if it is at a discount. Similarly, there is a remote possibility of a dissenting creditor paying premium over an offer in a resolution plan to acquire a distressed asset. ARCs and distressed funds would be the only entities that would be interested in acquiring distressed assets.
But for the reasons better known to bankers, willing buyers are kept out.
Grievances of dissenting creditors are the most critical aspect that the agreement has failed to address. RBI has said that 100% of lenders should be on board with the resolution plan, failing which is part of the agreement is valid for 180 days. The agreement doesn’t cover foreign banks.
Interestingly, the agreement talks about arriving at the liquidation value in line with the IBC code and this will be disclosed to all lenders in the consortium.
What lenders have forgotten is that it was the disclosure of the liquidation value that resulted in lower bids for distressed assets. Thereafter, the bankruptcy regulator decided it should not be disclosed in the information memorandum.
An exit linked to liquidation value can set a benchmark for the bidder as well.
Lead bank, defined as the one with highest exposure, would finalise the resolution plan and charge other lenders in consortium a fee for their service.
Conservative lenders, who took a small share of risky loan, is forced go with majority.
If this is the price that small lenders have to pay for prudence, they may not settle for a raw deal.