RBI’s own guidelines may hamper Raghuram Rajan’s NPA drive

MUMBAI: Throwing out inept managements of defaulting companies – a task that RBI governor Raghuram Rajan wants banks to carry out – may run into a hurdle, thanks to an innocuous section in the security enforcement law. According to the law and a decade-old RBI communiqué to banks, lenders have to hand a company back to the original promoters and management once the dues are recovered. But debt market participants have told RBI that such a mechanism will not work, a senior banker told ET.

In a meeting with RBI officials a month ago, asset reconstruction companies (ARCs) – firms that trade in sticky loans –said ARCs and banks cannot make any headway till the regulator amends its 2001 guidelines on ‘Change in or takeover of the management of the business of the borrower by securitisation companies and reconstruction companies’. This, however, will also call for an amendment of Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act (Sarfaesi Act). While banks have always perceived Sarfaesi as a powerful tool to deal with difficult borrowers, a closer look at the law and RBI guidelines is making them realise that changing errant managements would be easier said than done.

ARCs, which buy bad loans from banks, have urged RBI to review the norm that requires them to restore the management on realisation of dues. The ARC association has formally taken up the matter with RBI. It has also asked RBI to provide legal immunity to the professional management that takes over once the earlier board is dissolved. “These two measures could encourage professional management to come on board,” said an official with one of the stress asset companies.

The development comes at a time when banks, grappling with a sharp rise in stressed loans, are being nudged by the finance ministry and RBI to take strong action against willful defaulters. “If a new management comes and does its best to turn around a company, as per the existing rules, they will not like to go empty-handed,” said P Rudran, MD & CEO, Asset Reconstruction Company (India). “When someone is willing to take over management, they are taking a lot of risk and so they should be suitably compensated.”

If the borrower has pledged substantial equity stake as security against loan, it is easy to bring about a change of management by transfer of shares to a new management in line with the Contracts Act. But, even if shares are not pledged, an ARC can change the management under Sarfaesi. However, under Section 15(4) of the Security Enforcement Law, a bank will need to restore the management back to the original management on recovery of their dues.

MR Umarji, the architect of the Sarfaesi Act and chief legal advisor of the banks’ lobby Indian Banks’ Association, said there is rational behind the direction to restore the old management. “Even as a customer has borrowed from banks for creation of business, he has added value and put in his efforts to build and scale up his business which needs be taken into account when there is change in management. Just because a bank has lent money, they do not have implicit right over the management or change of management,” he said.

Sarfaesi Will Also Need Amendment

• ARCS AND BANKS TELL RBI they cannot make any headway against defaulters till it amends its 2001 guidelines

• CHANGES IN THE GUIDELINES will also call for an amendment of the Sarfaesi Act