Banking Central | How costly are the ‘haircuts’ for bankers in IBC?

IBC

A ‘haircut’ in banking parlance refers to the amount of money lenders need to sacrifice as part of a loan resolution process. Suppose, a bank has lent Rs 100 but the borrower agrees to pay back only Rs 60 during resolution, then the lender takes a 40 percent haircut.

Of late these haircuts are turning costlier for the banks. In other words, recovery through insolvency channels are turning lesser and lesser by the day.

According to the latest data from the Insolvency and Bankruptcy Board of India (IBBI), about 73 corporate insolvency resolution processes ended up in liquidation during the October-December quarter. Out of the total 1,901 cases, final reports have been submitted in 453 cases, while the remaining 1,448 cases are going through the liquidation process.

According to a report by credit rating agency CareEdge, the overall recovery rate has fallen in the past few years. It  was 30.4 percent until the third quarter, implying a sacrifice of approximately 70 percent on the part of the creditors.

The cumulative recovery rate has been on a downtrend, decreasing from 43 percent in Q1FY20 and 32.9 percent in Q4FY22. According to Sanjay Agarwal, Senior Director at CareEdge, the recoveries may remain at the same levels or even lower levels in coming quarters.

And, what does too low recoveries from IBC mean for the banks? The reality is that bankers do not have any other option but to push large cases to IBC. They need to stay happy with whatever little they get at end of the process.

Perhaps, it is in this context, that RBI Governor Shaktikanta Das stressed on the purpose of the IBC. "The IBC should not be seen as a recovery mechanism... Recovery is important.  What is important is to make a timely reference to IBC. What is important now is to identify early stress and address it in a timely manner," he said at an event in Mumbai.

In some sense, IBC courts are beneficial to make sure that the business survives rather than helping banks make maximum recoveries. The point is neither NCLT (National Company Law Tribunal), nor the IBC mechanism has a big say in how banks recover their money. They only approve or disapprove the scheme presented by the committee of creditors and bidders.

What are the alternatives that banks have to get a better deal? Well, nothing, as of now. In rare cases such as the Kingfisher-Vijay Mallya episode, banks may find themselves lucky to use the personal guarantees of the promoter to get their money back. But using personal guarantees is easier said than done.

In most cases, the promoter sues the lenders for using their personal guarantees or initiate more legal cases. As recoveries get delayed, losses widen for banks, including the interest component.

But there is another side to this debate. While IBC cannot guarantee the quantum of recovery for banks, where it can act is to make sure the platform is not misused by influential promoters to get back control of their companies through the backdoor.

Where there is a proven irregularity, old promoters should not be allowed to game the system by forcing banks to a settlement, including through one-time deals. If OTS is the idea, then banks needn’t move NCLT and waste their time. Except this grey area, IBC remains a useful channel for the banking system.

Banking Central is a weekly column that keeps a close watch and connects the dots about the sector's most important events for readers.