The April 2021 statement on developmental and regulatory policies of the Reserve Bank of India (RBI) noted the growth of asset reconstruction companies (ARCs) and that "their potential for resolving stressed assets is yet to be realised fully". The statement proposed establishing a committee to review the regulatory framework for ARCs and to "recommend suitable measures" to enable ARCs "to meet the growing requirements of the financial sector". On 11 October 2022, the RBI issued a revised regulatory framework for ARCs, introducing measures "to strengthen transparency in the ARC sector and to improve the corporate governance standards in ARCs".
Previously, ARCs had to mandatorily invest up to a minimum amount of 15% in each scheme of security receipts (SRs). The revised regulatory framework now requires ARCs to invest a minimum of 15% of a transferor's investment in SRs or 2.5% of the total SRs issued, whichever is higher. To encourage broader participation, an offer document for SRs must also disclose:
- a summary of financial information of the ARC for the previous five years or since its commencement of business (whichever is shorter);
- track record of returns generated on SRs issued in the previous 8 years; and
- track record of recovery rating migration and engagement with credit rating agencies in the previous 8 years.
ARCs must mandatorily obtain a recovery rating for SRs and must also disclose the rating and the rating rationale to the holders of the SRs. An ARC must retain a credit rating agency for a minimum period of six rating cycles (of six months each).
The previous regulatory framework permitted ARCs to frame a board approved policy for settlement of debts, and the delegation of powers to a committee or identified officers to take decisions on such proposals. Now, proposals for settlement of debt would need to be examined by an independent advisory committee (IAC), which must comprise professionals with a technical, legal or finance background. The IAC will provide recommendations to the board of directors of the ARC after considering factors such as the financial position of the borrower, the time frame for recovery, and projected earnings and cash flows. The board – which must comprise at least two independent directors – will consider the recommendations of the ARC and then decide on the proposal for settlement of dues. Settlement of dues must be considered only after all other options for recovery have been taken and there are no further prospects of recovery. The revised regulatory framework prescribes that the management fee can only be charged from amounts recovered from the assets managed by the ARC. Further, the board approved policy on the fee must also set out the cap on the management fee and incentives. Any deviations from the above would require the approval of the board.
ARCs are also now allowed to participate as "resolution applicants" in a resolution process under the Insolvency and Bankruptcy Code 2016. Reports in the public domain indicate that previously the RBI had been disinclined to permit ARCs to act as resolution applicants on the grounds that such activities were not contemplated under the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act 2002. To participate as a resolution applicant, an ARC must have a minimum net owned fund of 10 billion Indian rupees (approximately $121.9 million) and must also fulfil other requirements such as having a board approved policy on participation as a resolution applicant and a committee comprising a majority of independent directors to take decisions on this participation.
While the move to allow ARCs to participate as resolution applicants has been welcomed in some circles, its impact can only be ascertained with time. The revised regulatory framework does not touch on operational aspects such as aggregation of debt, measures for encouraging participation of debt capital markets in SRs, enhancing tradability of SRs or improving resolution-friendly steps, such as change in management of a borrower or providing a shield for ARCs from routine proceedings that can delay the resolution process. Perhaps in the absence of a complete overhaul of the statutory framework, the RBI's measures would only nudge things forward and not spearhead progress.
For further information on this topic please contact Aditya Bhargava, Mithila Bhati or Sristi Yadav at Phoenix Legal by telephone (+91 22 4340 8500) or email ([email protected], [email protected] or [email protected]). The Phoenix Legal website can be accessed at www.phoenixlegal.in.