Why is RBI breathing down ARCs’ necks?

Many of the 27 ARCs which together manage close to Rs 10 trillion in assets (which is without the haircut which averages 70-80 per cent) are staring at a bleak future and are ready for consolidation.
Why is RBI breathing down ARCs’ necks?

MUMBAI: Since the bad asset resolution through the insolvency and bankruptcy code (IBC) route gained traction with lenders, the going has been getting tougher for asset reconstruction companies (ARCs). As life got tougher, they have allegedly begun to game the system and to curry a string of malpractices.

Many of the 27 ARCs which together manage close to Rs 10 trillion in assets (which is without the haircut which averages 70-80 per cent) are staring at a bleak future and are ready for consolidation, if the overall discussion at their recent annual summit is any indication.

In fact the urgency for consolidation gained faster currency after the national bad bank (National Asset Reconstruction Co) came into being and started aggressively bidding for assets. In March alone it snapped up Rs 92,500 crore worth of NPAs from 18 accounts which included Rs 32,000 crore from the two Srei group firms.

According to industry estimates, ARCs have acquired nearly Rs 10 trillion bad loans from banks since starting operations in 2003. These loans are acquired against cash or a combination of cash and security receipts (SRs), which is typically 15 percent of the agreed transaction. ARCs have issued nearly Rs 2.85 trillion of SRs so far of this, almost Rs 1.5 trillion SRs are redeemed so far.

The book value of bad loan sales to ARCs is likely to cross the Rs 10 trillion-mark by March 2024 from Rs 8.48 trillion in March 2023, according to a recent Crisil-Assocham report which saw sectoral growth moderating to 5-6 percent in FY25 due to the cyclically low NPAs in banks and NBFCs.

Amidst a slew of allegations over lack of corporate governance, using unfair means in recovery processes and also allowing backdoor entry to the defaulting promoters are some of the key allegations they are facing.

Amidst all these, last Friday, the Reserve Bank met the heads of all 27 ARCs, had bluntly asked them to behave responsibly in their recovery process as well as to follow transparent and non-discriminatory practices in line with the comprehensive fair practice code set out by the regulator.

Calling for sound corporate governance, deputy governor M Rajeshwar Rao bluntly told them that “the onus for this lies largely with the ARC boards and the top functionaries who will have to develop a strong and institutional culture.”

The problem with ARCs began way back in December 2021, when the income-tax department carried out search and seizure operations on Omkara Asset Reconstruction, Rare Asset Reconstruction, CFM Asset Reconstruction, and Invent ARC, and found a nexus between the borrower groups and ARCs along with a maze of shell companies used in acquiring NPAs.

After this CBDT revelation, it has been learnt that Reserve Bank was toying with the idea of cancelling their licenses.

The I-T searches revealed that minimum cash payout made by ARCs to banks while acquiring NPAs was usually using the funds of the borrower group itself after funds were routed through several layers of dummy companies controlled by the borrower group or through hawala channels, the Central Board of Direct Taxes (CBDT) had said in a statement after the searches.

This is clear violation of the IBC provisions which under section 29A of the code clearly debars defaulting promoters from giving a resolution plan to the lenders.

ARCs are also alleged to have used modus operandi wherein an ARC acquires the majority or entire debt of defaulting companies from banks at an auction at a steep discount. Thus, being the largest debt-holder, it is in control of the resolution process at the NCLTs, the CBST said further.

According to IBC rules, an ARC with 66 per cent debt holding has a significant say over the sale process since a resolution can only pass with the consent of 66 per cent of the debt-holder.

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