Strategic debt restructuring' (SDR) is a new tool made available to banks and financial institutions by the Reserve Bank of India (RBI) in June 2015 for the recovery of non-performing assets (NPA). The joint lenders forum (JLF), a consortium of bankers and financial institutions, can take the SDR route to recover the loan extended to the company. The SDR scheme aims to revive stressed companies and provide an option to the JLF to initiate change of management in companies, which fail to achieve the milestones under Corporate Debt Restructuring (CDR). The JLF acquires the majority stake in the company by converting a part of the outstanding loan into equity. At a later date, it transfers the control to a new promoter, who has the ability to turn around the company.
In order to make a stressed company attractive to potential buyers, banks will have to sell the equity cheap and take a haircut to bring the debt-equity ratio to a sustainable level. Thus, the banks will recognise substantial loss and will be able to recover only a part of the loan only if the new promoter turns around the company. The SDR is beneficial for both the company and the lenders. The company gets a chance for revival and lenders get a chance to recover at least a part of the lost money. Although the existing promoter loses control, s/he benefits from the SDR as the value of her investment in the company increases with improvement in the company's performance.
NPAs are created due to unanticipated changes in the external business environment, which turn a viable project into an unviable one. Therefore, some NPA in the banking system is inevitable. However, the NPA is also created due to promoter's exuberance and inability of the banks and financial institutions to assess business risks properly. In promoter-controlled companies, the promoter formulates strategies that reflect his/her aspirations. S/he makes optimistic assumptions about the future and exposes the company to high business risk. They default on loan and interest payment and banks' assets become NPA, when actual cash flows do not match with estimated cash flows. Public money is lost due to poor corporate governance.
Traditionally, corporate governance mechanisms were aimed at protecting the interest of minority shareholders. Now, they are designed not only to protect minority interest, but also to ensure that the company remains healthy, agile and resilient and interests of lenders and other stakeholders are protected. Based on this premise, the Companies Act 2013 (here after Act) has introduced the concept of 'publicly financed company'.
The Act does not define the term. However, it requires companies that are financed by public money in the form of loan or public deposit to adopt good corporate governance practices that are mandated for listed companies. The law requires that the board of directors of public companies, having aggregate, outstanding loans or borrowings or debentures or deposits exceeding Rs 50 crore or more, appoint two independent directors and constitute 'audit committee' and 'nomination and remuneration committee' of the board. Similarly, the Act requires that public and private companies having outstanding loans or borrowings from banks or public financial institutions exceeding Rs 100 crore or more and public companies having outstanding deposits of Rs 25 crore or more appoint an internal auditor or a firm of internal auditors.
Although, conceptually, committees of independent directors and internal audit improve board oversight, the ground reality is that in most promoter-controlled companies, whether listed or unlisted, the board committees and the internal audit do not enjoy the desired level of independence. In those companies, the highest policy-making authority is the promoter, and not the board. The board functions as a 'rubber stamp'. At the best, the independent directors protect investors from fraud or direct violation of their rights. They do not protect investors from poor business decisions.
The SDR scheme succeeds only if the company is turned around. Turning around a company in the stressed environment is extremely difficult. This requires disciplined approach and board effectiveness in its oversight function. The new law, per se, might not be of much help to lenders as is evident from the fact that loans to listed companies, which are mandated to adopt strict corporate governance norms prescribed by the Securities and Exchange Board of India, turn into NPA.
Banks and financial institutions must enhance skills to assess business risks. They must ensure that the new promoter adopts good corporate governance practices in true spirit. Of course, it is a difficult proposition.
The writer is chairman, Riverside Management Academy Private Limited, and professor and head, School of Corporate Governance and Public Policy, Indian Institute of Corporate Affairs
asish.bhattacharyya@gmail.com
