Rising Debt Restructuring in Corporate India

CEIC India Data Talk - August 18, 2015 Restructured corporate debt is running rampant once again in India, growing at a compound annualised growth rate (CAGR) of more than 100% between the fiscal-year ending March 2011 (FY2011) and FY2014. Restructured debt holds a peculiar position in the books of lenders in India. Originally introduced by the Reserve Bank of India (RBI, the central bank) in 2001 to prevent bankruptcies, and with regulations further relaxed in 2008 to protect banks during the global financial crisis, lenders can restructure their credit and terms extended to some borrowers that are facing temporary liquidity problems or short-term financial distress, allowing these borrowers to avert default and continue operations. While typically loans would only be classified as either good (performing loans) or bad (non-performing loans), restructured debt in India is treated as a category of loan in the middle. Although the borrowers might temporarily be unable to service their debt, they are not formally recognized as bad debts. This was particularly evident during the global financial crisis when all scheduled commercial banks in India were spared from a sharp rise in the non-performing loan (NPL) ratio which rose moderately to 2.39% during FY2010 from 2.25% in FY2009. Despite the Indian economy growing by more than 4.5% year-on-year (YoY) in all quarters since March 2011, the increasing amount of corporate debt now being restructured is raising serious concern. A possible signal from such a steep increase is that such rules are being misused by the banks to improve their financial position. As restructured debts are not classified as non-performing loans, and hence do not attract the same high level of provisioning required by the RBI, there are incentives to classify troubled loans as restructured. With restructured debts, the banks would require relatively less provisioning on their books compared to bad loans, thus freeing up more funds to be lent out for profit. A lion’s share of restructured corporate debts sits with the public sector banks – the State Bank of India and its Associate Banks (SBI) and Nationalized Banks, amounting to INR 978.96 billion and INR 434.91 billion (60.77% and 27.00% of total restructured corporate debt) respectively during FY2014. This is significant as the SBI and Nationalised Banks are the largest lenders in the country, accounting for a combined 75.86% of total loans in FY2014. The rapid rise in corporate debt restructuring could also be due to widespread corporate distress. Fuelled by the cash inflow to emerging markets over the past few years, which sparked a lending boom, private corporations are facing an increasingly weaker position to service their larger accumulated debts. The interest burden of private corporations rose to 35.3% during the second quarter of 2013 (Q2 2013), from 16.6% during Q1 2010, before falling moderately to 29.55% in Q1 2014. The interest-to-sales ratio also rose to 4.2% in Q2 2013 from 2.4% in Q1 2010, before declining slightly to 3.55% in Q1 2014. In addition, interest coverage for India’s private corporations fell to 3.38% during Q1 2014 from 6.00% in Q1 2010. Given this weaker financial position, private corporations seeking to avoid defaulting on their debt would seek to restructure their debts. In theory, the intentions of restructured debt are good for both bank and borrower. However, if misused, it masks the vulnerabilities of the banking system as it understates the inherent non-performing assets. The misguided act of classifying actual bad loans as restructured debt only serves to delay the inevitable “crunch” when the restructured debt eventually turns sour. This can be seen in the proportion of non-performing (i.e. sub-standard and doubtful) restructured corporate debt to total restructured debt rising to 14.07% in FY2014 from 10.55% in FY2010. In turn, this growth in non-performing restructured assets has partly fuelled the increase in the non-performing assets ratio, which rose to 3.84% as of FY2014. Sensing the potential risk from this rising troubled debt, the RBI has brought an end to regulatory forbearance from 1st April 2015, by tightening the rules on restructured debt. The raising of provisions for restructured debts is intended to reduce the incentive for commercial banks to inappropriately categorize non-performing debts as restructured. By Woon Khai Jhek - CEIC Analyst Discuss this post and many other topics in our LinkedIn Group (you must be a LinkedIn member to participate). Request a Free Trial Subscription. Back to Blog
18th August 2015 Rising Debt Restructuring in Corporate India

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