CORPORATE DEBT RESTRUCTURING ( CDR), ever greening, hiding NPA’s or a viable method

Over the last few months as the economy has continued to stagnate and interest rates have continued to be high we have seen a spate of Corporate Debt Restructuring (CDR) references from Debt laden corporates. For a large number of analysts it was very apparent that this was imminent although the banks continued to feign ignorance on this front while privately admitting that the cases which are coming for restructuring are going up. Mostly these companies are from the fancied “Infrastructure” sector of the last boom along with some companies in ship building, airlines etc.

The mechanism of CDR was set up in order to have an organized restructuring of the debt of companies. However the current mechanism is full of flaws that lead one to think whether this is just a measure to evergreen the exposure. The reason for the same is that the restructuring is done in a manner where it is not evaluated whether post restructuring the business will continue as a viable business and will generate enough cash flows. For CDR to be successful the covenants have to be much stricter. Some things that must be required to be done is as follows –

–         The restructuring process should involve an industry expert who will go into the reasons why the company has had to restructure the debt and whether the same conditions will still continue or the said company has taken measures to improve business cash flows

–         Further debt build up by these companies should not be allowed and infact the companies should be made to reduce the size of the business and get rid of projects that require further capital commitment (especially in case of PPP infrastructure projects)

–         Business viability is important to evaluate. For example the debt of Kingfisher Airlines was restructured at a very early stage around 18 months back. However the company continued to operate in the same manner as it was doing earlier. Steps should have been taken to make the company reduce operations and cost in order to make it more viable. Banks converted their debt into equity at a very high premium and now own 23% of the Airline. Now they are in a catch 22 situation and stuck on all sides.

–         Another example is of a large Infrastructure company that used to specialize at one stage in hydro electric plants and is one of the oldest player in the construction business. It has approached the CDR recently. Over the last two years it has got aggressively into PPP road projects a large number of which still have to achieve financial closure. Implementation has always been an issue with this company. The CDR process of this company should now aim at ensuring long term viability and cash flow generation. Stop gap measures as are being currently used will not achieve any long term solution.

–         Typically the CDR process involves decision by a group of lenders and as such risks are spread out with no one taking responsibility for the final outcome. This needs to be changed.

–         If on evaluation it is realized that the company is ultimately going to become an NPA then at that stage itself restructuring should be avoided and the asset should be recognized as an NPA.

-Banks need to be proactive as we have seen stressed infrastructure companies continue to bid for PPP projects at aggressive prices and also with positive payouts to the government. This is especially true of NHAI projects. In this case if the company is unable to meets its debt commitments, how are they going to fund the equity and positive viability gap of these projects? These companies should be made to execute current projects rather than continuously take new ones.

To a great extent a sort of forensic examination of the balance sheet of companies     coming for CDR should also be undertaken so the actual state of the business of the company is known.

Any company going in for CDR should be required to include at least two directors in the company from the lenders consortium so that performance monitoring can be done properly.

Similarly there are several other points that can be made. However the manner in which the CDR mechanism is continuing at present it creates a systematic risk to the banking sector in India. As more and more assets are restructured and not recognized as NPA’s the overall health of the balance sheet of banks looks to be much better than it actually is.

Infact the CDR cell should also be a facilitator for the company and help it to dispose of assets and have the ability to monitor the business on a day to day basis once the CDR is done. For example, in a company like Kingfisher where banks have pumped in Rs 750 crores as equity and over Rs 7000 crores as debt it was important to monitor the post restructuring performance of the company. Where it is a question of several thousands of crores of rupees spending a few crores on hiring experts to monitor the company should not be such a big deal.

With the RBI moving to a pro growth stance it is very likely that we could get a rate cut in the 15^th meeting, although the current consensus is for a status quo policy subsequent to the aggressive CRR cut last week. The IIP data lacked credibility, mainly due to the way some components went haywire in terms of the growth for the month of January. The Budget is being looked by many for fiscal consolidation. In my view fiscal consolidation in the current budget should only be done through subsidy and expenditure control. Increasing taxes as is being proposed by many will be a retrograde step. It will have two negative side affects

–It will increase inflation as the increase in excise and service taxes will be passed on

So, hopefully better sense will prevail and tax increases will be avoided.

Overall market outlook, both for Indiaand global equity markets looks constructive. We should have more upsides before any significant pullbacks. Markets should do well and the perception of the Union Budget will either help India outperform or move along with the tide.