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The Kamath Committee Report and the RBI's Loan Recast Scheme, Explained

Dec 18, 2021 10:01 AM 5 min read

Indian banks have reportedly approached the RBI seeking more time for borrowers to meet the benchmarks set by the Kamath Committee’s report on one-time debt restructuring (OTDR) of stressed assets.

Some lenders have approached the Central Bank directly and the Indian Banks' Association (IBA) has also made a formal request.

The current deadline for the loan recast scheme - last extended in August 2021 - is October 2022. Banks are apparently eager for this to be pushed further to March 2023.

What is Loan Recasting?

As the term suggests, a “loan recast” is when a lender and borrower mutually agree to rework the terms of a loan - terms like periodic payments, interest rates, loan tenor, or even an all-out temporary moratorium on payments.

Last August, the RBI green-lighted a one-time restructuring window for stressed loan accounts of individuals and companies alike.

This was in light of the First Wave of COVID-19 and the nationwide lockdown, which hurt revenues of companies across sectors. The Central Bank's own systemic risk survey acknowledged these problems, listing (1) tourism and hospitality, (2) construction and real estate, and (3) aviation as the three most adversely affected sectors. The economic volatility also invariably hurt individuals, many of whom were confronted by job losses and furloughs.

Ergo, a loan recast was deemed necessary to (1) provide relief to pandemic-hit borrowers and (2) avoid more NPAs in a system that was already plagued by a mountain of legacy bad loans.  


What Was the Kamath Committee?

In August 2020, the RBI set up a five-member committee headed by former ICICI Bank Chairman KV Kamath to recommend sector-specific financial parameters that could serve as benchmarks for the recast process.

A month later, the Committee came out with its recommendations. Five financial parameters were pitched for consideration: (1) current ratio, (2) debt service coverage ratio (DSCR), (3) average DSCR, (4) total debt/EBITDA, and (5) total outside liabilities/adjusted tangible net worth.

All in all, loans from 26 sectors were to be covered under the OTDR resolution plan. Sector-specific ceilings were framed for each of the above parameters based on how severely the sector was hit by the pandemic. For example, real estate entities were able to avail the highest debt/EBITDA ratio under the Kamath Committee plan.

Again, the RBI's loan recast scheme could be availed for personal as well as corporate loans. The former includes education, housing, auto and consumer credit loans. Moreover, loans from non-banking entities, like NBFCs and HFCs, were also covered. For details on who could avail what and for how long, read our earlier coverage of this topic.

FYI: OTDR wasn’t a one-off scheme. A similar facility (“Resolution Framework 2.0”) was launched by the RBI in May this year for individual borrowers and MSMEs (1) having aggregate exposure of up to ₹25cr ($3.3m) and (2) who had not availed of restructuring under the earlier framework.


Delayed Deadlines and Reluctant Receptions

While the Central Bank’s OTDR scheme may have been well-intentioned, it didn’t particularly elicit great enthusiasm from India Inc. Only 1% of non-MSME corporate borrowers were even looking to avail the scheme in 2020, according to CRISIL.

Why the hesitancy?

One, in the weeks following the Kamath Committee report, the country was gradually reopening and economic activity was inching towards pre-pandemic levels. There was a tacit agreement among companies - and, indeed, GoI - that the worst of the pandemic was over and that 2021 would be a year of strong economic recovery and growth (of course, as we now know, this was reckless optimism).

Two, availing OTDR could hurt borrowers' long-term credit ratings, possibly impacting their ability to raise debt in the medium-to-long term. And nobody wants to have a bad credit rating.

Three, OTDR would have merely involved a loan recast. Many companies found the loan moratorium scheme and the Emergency Credit Line Guarantee Scheme (ECLGS) more helpful to meet immediate expenses.

And four, the scheme was anyway available only for loans that turned sour post-March 2020. To put that in context, less than 6% of banking credit was likely eligible for OTDR. Basically, companies that were doing relatively well until the pandemic struck could rely on the scheme; ones that were already in stress before March last year had to look elsewhere for aid.

Either way, accepting the Kamath Committee's recommendations, the RBI asked banks to maintain the parameters as prescribed until March 31st 2022 (the first deadline). Following this, it would have been business as usual, with the numbers having to be maintained on an ongoing basis.

In August, this was extended to October 2022 in light of the severe effects of the Second COVID-19 Wave. And now, lenders have asked for another extension.


Why are Banks Eager for Another Extension?

Simply put, nobody wants more loans to be tagged as NPAs.

Besides the fact that reporting an increase in bad loans is a PR nightmare, recasting loans as bad assets would bring with it the requirement for the bank to provision 10% of the loan amount against post-resolution debt. This could further increase to 20% if the lender doesn’t sign the Inter-Creditor Agreement (ICA) within 30 days of invocation.

The current bankruptcy resolution process under IBC may have developed over the years into a well-oiled and well-functioning machine. Measures taken by the RBI and Finance Ministry - such as the creation of the NARCL aka the “bad bank” and overhauling of the PSB space - to clean-up the banking sector may also be slowly but surely bringing NPAs under control. But once a bank has a bad loan in its books, resolving it can be a long, gruelling and taxing process. The alternative - giving borrowers some more time to repay while the lender can use capital it no longer has to provision in more credit-worthy ways - is naturally preferable.

FYI: Some banks had earlier also sought a second restructuring for accounts already restructured under the first OTDR framework, but the RBI turned these requests down.


What's the Rationale for the Extension Request?

Mainly that COVID-induced stress remains. The Second Wave was extremely brutal, economic recovery - while in progress - is not as swift as anticipated, inflation risks are clouding the horizon, and the spectre of a Third Wave - possibly sparked by the Omicron variant - looms large.

Considering that ₹10Lcr ($132.21bn) worth of stressed assets remains in the system, the regulator may be inclined to acquiesce to the IBA and banks’ requests.

Moreover, banks' bad loans have shown a favorable negative trend over recent fiscals. But now, a COVID-induced reversal may be at hand. Under a baseline scenario, the RBI expects the gross NPA ratio to rise to 9.8% by March 2022, up from 7.5% in March 2021 (severe scenario projection = 11.22%).

Unless an OTDR extension is provided, more bad loans may accumulate in the system. And nobody wants that. Least of all the RBI.


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