Onus on rating agencies to reveal loan defaults

Sebi softens stand after India Inc, lenders express concern

In a substantial dilution of its earlier stand that listed companies should make public any loan default within 24 hours of missing the repayment obligation, the Securities and Exchange Board of India (Sebi) is working on a new disclosure framework, which could put the onus on credit rating agencies to recognise payment defaults.

The move is meant to ease concerns raised by India Inc and banks about Sebi’s earlier circular, which was withdrawn on October 2, just a day before it was to come into effect.

According to sources, Sebi recently met banks, the Reserve Bank of India (RBI), and rating agencies to finalise the disclosure framework. The revised notification is expected after Sebi’s board meeting on December 29. Since rating agencies are expected to keep a close watch on company financials and are capable of conducting qualitative analysis of companies on various parameters, Sebi wants their involvement in the matter.

According to Sebi regulations, credit rating agencies recognise default based on "single day or single rupee" delay in debt servicing from the scheduled payment date. Such information is provided to the rating agency by banks or the borrower.

“Default (D) rating is assigned to borrowers in default or those that are likely to default soon. In certain cases, where the likelihood of a default is high in the near term, a rating of ‘D’ is assigned even prior to actual default,” said Karthik Srinivasan, group head, financial sector ratings, ICRA.

“NPA recognition by banks is governed by the RBI’s guidelines, whereby a borrower upon non-payment of dues for more than 90 days is classified as an NPA. Hence, in most of the cases, accounts that are declared NPAs by banks are already classified as defaults by the rating agencies much earlier than banks classifying them as NPAs,” he added.

“However, the ‘D’ rating is assigned on the basis of information rating agencies receive from corporates and banks. Although banks or corporates have no such compulsion to divulge such information to rating agencies. In such cases, the agencies peg their rating on the information they are in possession of,” said an executive with a rating agency.

Another point of contention is that Sebi’s earlier proposal will affect the capital adequacy ratio of banks. “Once a company makes such a disclosure, credit rating agencies will have to downgrade the company’s rating to default. Once credit rating agencies attribute the default rating, the risk attached to the loan goes up and it affects the capital adequacy ratio of the bank. In other words, banks will be forced to arrange more capital for day-to-day business,” said a banker.

“The rationale behind collaboration with rating agencies is to have a clear status on the nature of the default, categories of loan (short medium or long term), and the basis on which the company delayed or defaulted on payments to banks,” said Sandeep Parekh, founder, Finsec Law Advisor. Banks allowed firms to pay interest after the due date, and there should be some provision to state if a default was technical, he added.

"The proposal for default disclosures to the market is indeed a great service to investors. Rating agencies are capable of advising Sebi at what point of time the disclosure should be made in the case of a default,” said Prithvi Haldea, founder and chairman, Prime Database.