ARCs to invest before buying bad loans

Asset reconstruction companies (ARCs) from now on will no longer be able to acquire bad loans from banks without making any financial investments themselves.

The RBI has asked ARCs to subscribe to at least 5 per cent of the security receipts issued by trusts set up as special purpose vehicles against securitised bad loans after acquiring them from banks.

The country's first ARC, Asset Reconstruction Company (India) Ltd (ARCIL), has in the last couple of years acquired over Rs 21,000 crore of bad loans till March 31, 2006 for a total value of nearly Rs 5,000 crore.

But, there was no cash outgo for ARCIL as it set up trusts which issued SRs to the banks selling the loan assets.

In a recent circular, the RBI said ARCs also have to achieve the minimum 5 per cent subscription limit on security receipts already issued and has provided time till mid-march 2007 for adhering to the requirement.

Based on end-March 2006 figures, ARCIL will have to mobilise nearly Rs 200 crore for investing in the SRs issued by various trusts it had set up earlier. At the end of March 2006, it had net owned funds of Rs 118 crore.

Ajit Prasad, chief executive of ASREC, another ARC set up by UTI Mutual Fund, said "this RBI stipulation is good for asset reconstruction activity, an upcoming segment of the financial sector. This condition (investing at least up to 5 per cent of SRs in each scheme) will bring financial obligation on ARCs."

He said "It would also ensure that ARCs do not just float trusts or special purpose vehicle for schemes but get directly involved in the process of resolution of NPAs."

ARCIL has been arguing that it is better for the banks to sell their non-performing assets (NPAs) to SPV trusts floated by ARCs and receive SRs in return.

This enables banks to retain their direct interest in the underlying assets and stand to gain from resolution of the NPAs. This is in contrast to a clean exit at the initial stages through sale of NPAs for cash, where the benefit of any upside would not be available to the banks.

The RBI has prescribed a minimum net owned fund requirement of Rs 100 crore or 15 per cent of the total financial assets acquired, whichever is lower.