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Analysis of the RBI Guideline, 2019 in the light of the rising NPAs

The rise in the number of non-performing assets, commonly known as NPA has led to an adverse impact on the economy of our country. The banks act as an intermediary between the depositor and the borrower thereby exhibiting the need to be protected from the stressed assets.

This led the Reserve Bank of India to frame certain guidelines on the Resolution of stressed assets. The circular dated June, 7 2019 which provides for the Prudential Framework for resolution of stressed assets by banks. This article seeks to understand the salient features of the present circular and provide for a critical analysis of the distinct features of the same.

What led to the demise of the circular of February 12, 2018?
It all began in the year of 2017 when the RBI decided to issue an Ordinance which introduced Section 35AA in the Banking Regulation Act of 1949. This empowers the RBI with the prior authorization of the Central government to issue directions for the purpose of initiating the insolvency resolution process in respect of a specific default under the Insolvency Bankruptcy Code, 2016.

Eventually, this led to the introduction Framework for resolution of stressed assets in the month of February, 12 2018 which has now been declared to be ultra vires as it provided for the resolution of stressed assets in general and not for specific assets. Along with this, it did not discuss the statutory responsibilities of non-banking Financial institutions and did not have â€˜due regardâ€™ to the objectives behind the formation of these financial institutions.

Features of the circular dated June 7, 2019
The circular has the following set of features:
a) The circular provides for a review period of 30 days. During this period, the borrower is required to study the borrower account carefully along with determining the procedure of implementation of the resolution plan.

b) The RBI authorizes the lenders[1] to implement the resolution plan in case of any instance of default. Therefore, the lender is required to implement the resolution plan even if there is no default that has taken place.

c) The June 7 circular has mandated the formation of an inter-creditor agreement (ICA) whereby the decision of lenders representing 75% of the credit facilities (fund based as well as non-fund based) and 60% of the lenders by number shall be binding upon all lenders. In addition to this, the ICA may provide for the rights and duties of the majority lenders, treatment of lenders on a priority basis in terms of cash flows and securities and the protection of the rights of the dissenting lenders.

d) The reference date on the basis of aggregate exposures has been provided for. According to this, the reference date for the aggregate exposure of Rs. 20 billion and above is June 7, 2019, for an aggregate exposure of Rs. 15 billion and above but less than Rs.20 billion, the reference date shall be January 1, 2020 and for aggregate exposures of less than Rs. 15 billion, the reference date is yet to be announced.

e) The revolving credit facilities are now treated differently for the purposes of being declared as NPA.

f) The RBI authorizes the lenders to formulate the board policies which is required to include the resolution plan that has to be implemented by the lender in case of any default.

g) The June 7 circular provides for an additional provisioning of 20% in case of a delay in the implementation of the resolution plan by 180 days from the end of the review period and an additional 15% in case of a delay by 365 days from the commencement of the review period. This accounts for a total additional provisioning of 35%.

Analysis
a) The NBFCs are not subject to the review period. Therefore, in case of calling upon a default, the NBFCs are at an advantage of proceeding with an immediate implementation of the resolution plan. However, this acts as a disadvantage to the other lenders as they will be unable to monitor the account of the borrower and amount to a hasty decision which might turn out to be bad for the process of implementation of the resolution plan.

b) The circular provides for a non-exhaustive list of instances of default. The lenders are required to monitor the performance of the borrower and study the actions the lenders are required to understand the instances of default and are required to call for one. This is yet another advantage to the lender as it speeds up the procedure of recovery and prevents a default by larger amounts and allows the lenders to study the account of the borrower on a regular basis

c) Lastly, the additional provisioning acts as a bad remark in the balance sheet of the lender as it shows the high amount of loan losses which is not good for the health of the lender.

Conclusion
The RBI is the boss of every other bank and therefore assumes the responsibility of directing the banks to take certain steps in the event of a crises (NPA being one such crises). By the means of the circular of 2019, the RBI seeks to resolve the rising NPA crises. The circular creates a positive and negative impact on the NBFC. Not being subject to review period provides the NBFC with the discretion to call for a default and implement the resolution plan. whereas, on being hit with the highest number of NPAs, a higher provisioning will amount to a further decrease in the profits of the NBFCs. Unlike the circular of February 12, the present circular has addressed the problems faced by the NBFCs.

End-Notes
[1] Lenders to include Scheduled Commercial Banks (excluding Regional Rural Banks), All India Term Financial Institutions (NABARD, NHB, EXIM Bank, and SIDBI), Small Finance Banks, Systematically Important Non-Deposit taking Non-Banking Financial Companies and Deposit taking Non-Banking Financial Companies.