The Lies and Perils of Dealing with Sticky Loans
Sometime in November, a few senior officials of a large state-owned bank had a meeting with the partner of a top-notch audit firm. The subject of the conversation was the accounts of a textile company with more than ₹ 20,000 crore of debt. The bank, the leader of a lenders’ consortium, had a simple question: why was the company struggling to service the debt (and even defaulting) though its revenues and earnings were positive quarter after quarter?
The hint was obvious: the numbers were dubious. A closer look showed that the company had been cooking up EBIDTA figures for quite some time to convince banks to lend more. Even though it invested (perhaps diverted) large amounts into real estate, banks never suspected an accounting fraud which, they now fear, has left a hole of more than ₹ 10, 000 cr in the borrower’s balance sheet.
The auditor — unblemished by any accounting scandal (unlike some of its peers) — panicked. Within a week, it chose to drop the client. In early December, the company told the stock exchange it was changing its auditor. Though it’s unusual for a company to switch auditors in the middle of the year, few noticed. With banks looking for a buyer for the company under the “strategic debt restructuring (SDR)” plan, it’s nei- ther in the interest of lenders, nor the company, nor the auditors to blow the whistle. Indeed, another first-rate audit and the consultancy house offered its services to draft the proposal for SDR — a new rule that allows banks to convert debt into equity and sell it to a new investor to salvage loans. Understandably, the conspiracy of silence prevails as they all wait for a suitor.
But even with no accounting chicanery, it’s not easy to find a credible investor which has the wherewithal to turnaround an ailing company.
Since banks don’t want to be sad- dled with the equity of loss-making borrowers, they look for a buyer before invoking SDR. And with the media, finance ministry, and RBI breathing down their necks, lenders can’t cut a quiet deal, as investment banks typically do, by identifying a suitable investor. They are under compulsion to make the process transparent. So, they hawk around, knocking on different doors.
When bidders sense that there are others in the fray, many distance themselves. Banks are often left with a single bidder whose sole motive is to persuade them to accept a larger haircut on loans. By the time the apparently-interested investor scans the books and pushes down the company’s valuation from 100 to 60, other bidders lose interest. Even if they agree to revisit the proposal, they may now be willing to fork out 60 or even less (even if they may have had earlier valued the company at 75).
Despite being armed with a seemingly potent tool like SDR, banks are discovering that dealing in sticky assets, ailing companies, and truant borrowers is not easy. There are few specialised stress asset funds, a junk bond market is non-existent, bankruptcy and winding up processes are tortuous, and every move of state-owned banks is scrutinised. Often, interested bidders are off- shore funds; with family offices of Indian promoters parking money in these vehicles, banks have to be doubly sure there is no round-tripping and the money coming in is kosher.
One of the large smarter, private banks is trying out a different strategy with an unlisted pharma company whose earnings can’t match the interest outgo. Instead of going through the rigmarole of SDR, the bank has persuaded the promoters to give a mandate to an investment bank to find a strategic investor. If a deal is struck, it would come across as a normal M&A transaction without the stigma of SDR.
Will this work for other firms? No. There are promoters who want to tire out banks, cling on to their company, and having moved funds out are now fishing for bailout deals. For a whole new generation of bankers who haven’t dealt with the NPA mess, it’s a learning time.
TOUGH TO FIND BUYERS