The cumulative recovery rate of security receipts (SRs) issued by asset reconstruction companies (ARCs) is set to jump by 15 percentage points per annum for the second consecutive year , touching 75-80 per cent by next fiscal, according to Crisil Ratings.
ARCs acquire stressed loans from financial institutions at haircut and issue SRs. The cumulative recovery rate is the ratio of cumulative recoveries to cumulative SRs issued.
The credit rating agency said there are three reasons for the improvement in the cumulative recovery rate of SRs: healthy performance of stressed assets in key infrastructure sectors (real estate, thermal power and roads); higher share of retail and low vintage assets; and lower growth in new acquisitions in comparison to incremental recoveries.
In addition, the improving performance of stressed assets in these infrastructure sectors and the deterrence effect of the Insolvency and Bankruptcy Code (IBC) are impelling debt restructuring, which is emerging as a most-preferred resolution strategy and a win-win for both promoters of the stressed assets and ARCs.
SMAs acquisition, a tailwind
Crisil Ratings noted that amid the multi-year low gross non-performing assets of less than 3 per cent for the banking industry, the regulatory amendment allowing ARCs to acquire special mention accounts (SMAs) has been a tailwind for ARCs. Such low-vintage delinquent accounts enable ARCs to take timely actions through faster resolutions sans protracted legal battles, thus supporting revival through early recoveries.
SMAs refer to the accounts that show signs of stress with overdue payment of up to 90 days before being identified as a non-performing asset (NPA) and are referred to as low-vintage assets from ARC perspective.
“ARCs are expected to sharpen focus on increasing the share of low-vintage assets in new acquisitions. This is also reflected in SMAs contributing 22 per cent of new acquisitions in the first half of this fiscal as against 4 per cent last fiscal among the SRs rated by Crisil Ratings,” the agency said in a statement.
Rising ARC cashflows
The agency said an analysis of ₹38,000 crore worth of SRs rated by it indicates as much. Next fiscal, out of an expected recovery of ₹12,000 crore for Crisil-rated SRs, about half will be from stressed assets in the real estate, thermal power and roads sectors, up from 34 per cent likely this fiscal, driven by several factors.
Mohit Makhija, Senior Director, Crisil Ratings, said, “Three factors responsible for the rising ARC cashflows have converged in the past 2-3 fiscals. One, stressed residential real estate projects have turned viable as property prices have gone up and inventories declined in the top six cities.
“Two, thermal power plants have seen growing demand amid adequate coal availability and timely payment by discoms. And three, inflation-linked increases in toll and timely annuity payments by the National Highways Authority of India are aiding recoveries for stressed road assets.”
The favourable demand driving debt restructuring observed for these sectors will continue to support recoveries for ARCs over the medium term, he added.
Further, increasing acquisition of retail loan portfolios has also been supportive, with the cumulative ARC recoveries for these assets projected at 60-65 per cent next fiscal (8 per cent of recoveries expected the next fiscal) as against 55-60 per cent this fiscal due to a faster churn of retail loans with lower redemption time of 2.5-4 years, as against 5-6 years for corporate assets.
Restructuring of debt
The agency noted that restructuring of debt has emerged as the dominant resolution strategy unlike sale of assets in the past. Among Crisil-rated SRs, about half of rated amount across asset sizes have seen restructuring as resolution strategy.
Tanvi Fifadra, Team Leader, Crisil Ratings, said, “ARCs benefit significantly on account of steady payments from restructured assets with an average recovery of 85-90 per cent of debt. Other recovery mechanisms, such as settlement or sale of assets, yield much less.
“Overall, improving performance of stressed assets and the IBC deterrence will help ARCs leverage restructuring as a resolution strategy even for incrementally moderate-sized asset acquisitions of higher delinquent vintage.”
With moderation in new acquisitions (new SR issuances) due to controlled gross NPAs, the agency said the cumulative recovery rate will also benefit from slower rise in the base of outstanding SRs compared with incremental recoveries from stressed assets. That said, continuing healthy pace of stressed asset resolutions and aligning business strategies to drive new acquisitions will be crucial to the long-term sustainability of ARCs.
