Decoded: New set of regulations for Asset Reconstruction Companies

ARC net worth requirement enhanced 150 times in 10 years from 2017 to 2026

Hari Hara Mishra | October 28, 2022


#Banking   #finance   #RBI   #ARC   #IBC  
(Photo: GN)
(Photo: GN)

In April 2021, the Reserve Bank of India (RBI) appointed a six-member committee headed by a former Executive Director of RBI to comprehensively review the functioning of Asset Reconstruction Companies (ARCs) and suggest suitable measures to enhance their role play in absorbing stressed assets of the system. After holding 25 meetings, internal and external, over a period of nearly five months and examining comments and feedback of all stakeholders, they submitted a set of recommendations in September 2021. This is probably one of the most comprehensive documents relating to the ARC sector, after reasoned discussions with all stakeholders. The report clearly stated, “These recommendations are interlinked and interdependent and hence need to be examined in a holistic manner.”

Based on the above report, the RBI came out with a set of guidelines for ARCs a few days back, picking a few recommendations from the above report and leaving quite a few and thus denying the sector the optimal yield of the new regulatory regime. Some of the guidelines issued now have no connection with the said report and primarily meant for improvement of controls and governance framework, which is good for orderly development of the sector. However, while the intent is laudable, the roadmap laid down appears to be an overkill.

The prescribed minimum Net Owned Fund applicable to ARCs, till 2016, was only Rs 2 crore. This was increased to Rs100 crore in 2017. Now again it is further raised to Rs 300 crore by March 2026. In effect, the NOF requirement for an ARC has increased 150 times in just 10 years, from 2017 to 2026. And this comes now, when minimum investment in Security Receipts by ARCs has been reduced from 15% to 2.5%  in cases where they (ARCs)  are able to give  full cash exit to seller (rest 97.5% coming from other investors, eligible Qualified Buyers).

Moreover, for ARCs to become a resolution applicant under the Insolvency and Bankruptcy Code (IBC), they are now required to have NOF of Rs 1,000 crore, when the IBC has not prescribed any Net Owned Funds (NOF) requirement in respect of any entity for being eligible as a resolution applicant. That is a commercial call left to Committee of Creditors through the Resolution Professional.

When an ARC acquires an asset or, for that matter, any commercial entity like, say, a bank deals with any Non-Performing Asset, it decides on the best fit resolution strategy like pursuing legal measures through DRT, SARFAESI, IBC or other means like restructuring and settlement based on several factors like security and charge particulars, complexity of litigation, revival potential, market position of the product and process etc. Putting a caveat now that settlement with the borrower should be done, after all steps to recover the dues have been taken, derecognises commercial wisdom of  creditor ARC and likely to lead more value erosion in the process of prescribed experimentation.

Further, any settlement proposal now has to be examined by an Independent Advisory Committee and approved by the Board with at least two independent directors. Imagine a pool of retail loans, which may run thousands in number, in which a real time gross settlement has to be done with a borrower on the spot, and who is willing and able to offer the settlement amount. The new prescribed elaborate settlement process will be required to run through a thousand times, one for each borrower.

Development of a sector, particularly a regulated entity, depends on a conducive framework that is aligned to operating business dynamics. Business models become unsustainable if the framework becomes too prescriptive. This will make attracting investors into the sector exceedingly difficult.

The ARC Committee had recommended various positive measures for deepening the distressed debt market and enhancing role play of ARCs. Based on the recommendations, ARCs were expecting their ‘1991 moment’ of liberalisation and measures leading to the ease of doing business. What has come, so far, is too late, too little. They are now waiting for the balance set of regulations based on residual recommendations of ARC Committee referred to above, which may possibly bring a whiff of new life for ARCs.

Mishra is associated with ARC Sector for last two decades. Views in this article are personal.

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