RBI in talks with Sebi to allow mutual funds to sell debt to ARCs

The Reserve Bank of India (RBI) is engaging in discussions with the Securities and Exchange Board of India (Sebi) for allowing mutual funds to sell their debt to asset reconstruction companies (ARCs), the banking regulator has informed debt recast firms.

At present, ARCs cannot purchase debts from mutual funds. Last week, the RBI’s deputy governors, who oversee regulation and supervision, along with executive directors and other officials, met the chief executives of ARCs in this connection.

This development follows the recommendations of an RBI committee, led by Sudarshan Sen, which was formed to comprehensively review the functioning of ARCs. The committee submitted its report in November 2021. Among its key recommendations was allowing mutual funds to sell debts to ARCs. “Today, AIFs (alternative investment funds), mutual funds, FPIs (foreign portfolio investors), etc, are actively providing funds to non-financial firms through subscription to debt securities. Retail investors are also investing in debt securities, including unsecured debt. It would, therefore, be useful to broad base the entities from which ARCs can purchase financial assets,” the Sen committee stated.

“The Reserve Bank may consider permitting ARCs to acquire financial assets from all regulated entities, including AIFs, FPIs, AMCs (asset management companies) making investment on behalf of MFs and all NBFCs (including housing finance companies) irrespective of asset size and from retail investors,” it recommended. The committee argued that such steps would stimulate debt aggregation, a necessary component for the efficient resolution of stressed assets.

“At present, MFs have to value the bonds to zero if the company defaults. Opening up of the ARC route can lead to some recovery in such cases,” said D P Singh, deputy MD and joint CEO, SBI MF.

Investments by mutual funds are mostly in top quality bonds, Singh added.

“In case of financial restructuring of an entity, apart from entities regulated by the RBI, there are other entities who are also involved in the debt-like mutual fund. A uniform set of guidelines applicable to all the entities for the greater benefit of the financial sector eco system is required,” said a chief of asset reconstruction company.

The RBI has been actively engaging with banks, non-banking financial companies (NBFCs), and cooperative banks as part of its supervisory engagements. Following its meeting with ARCs, the RBI issued a statement highlighting the importance of sound governance as the foundation for ARCs to build a robust business model. The regulator also shared supervisory concerns during the meeting.

According to RBI data, sales to ARCs by banks surged in 2022-23, partly reflecting assets sold to the newly operationalised National Assets Reconstruction Company Ltd (NARCL). During this period, 9.7 per cent of the previous year’s stock of scheduled commercial banks’ gross NPAs was sold to ARCs, a significant increase from the 3.2 per cent sold in 2021-22.

The acquisition cost of ARCs as a proportion to book values of assets declined from 33 per cent at end-March 2022 to 29.8 per cent at end-March 2023, the RBI reported.

In demand

> ARCs are not allowed to buy debts from MFs currently

>  The Sudarshan Sen panel in 2021 had suggested allowing MFs to sell debt to asset reconstruction firms

>  RBI officials last week held a meeting with the chief executives of ARCs in this connection

> At present, funds have to value the bonds to zero if a company defaults, but opening up of the ARC route, experts say, may lead to some recovery in such cases