SCRAPPING OF 12th FEBRUARY CIRCULAR – SYNOPSIS OF THE OUTCOME

SCRAPPING OF 12th  FEBRUARY CIRCULAR – SYNOPSIS OF THE OUTCOME

Introduction

Last year, in 2018, on the eve of Mahashivratri, the successor of Mr Raghuram Rajan, the then Governor of RBI ,Mr Urijit Patel, took an arduous task of cleaning the mounting debt in the banking system by issuing a circular, famously called as 12th FEB CIRCULAR where he superseded and scrapped all the existing mechanism of Loan restructuring and presented the following process to be followed by banks in case of default for the loan above 2000 crs

1.      Single day, single rupee delay in payment was categorized as Default

2.      Banks were given 180 days to resolve the account, else

3.      They were required to take the company to NCLT within 15 days of the end of 180 days period

4.      All the other framework for Energizing the distressed assets which includes Strategic Debt Restructuring Schemes(SDR), Change in ownership outside SDR, Corporate Debt Restructuring Scheme, Flexible Structuring of existing Long Term Projects Loan, Scheme for Sustainable Structuring of Stressed Assets etc were withdrawn

Out of 192 circulars issued by RBI, the one of Stressed Assets was presumed to be the game changer

RBI faced lot of criticism both closed doors (From the members bank, as they now have to provide more provisions and ways and means of ever greening was virtually stopped) and also openly (Coal based Power producers, Sugar and Shipping association)

Faced by criticism, Mr Patel himself came out on March 14th 2018 and defended the Circular. He compared his Circular with Mount Mandara in his famous speech and said that like Mandara Parvat was used in Samudra Manthan for segregating between Vish and Amrut, RBI’s Circular will also churn the Sea of bad loans and will segregate the Nectar from the mounting Bad loans. Till then , RBI was ready to face the brickbats and be the NEELKANTH and consume the poison.

He also challenged Industry bodies and Banks to be on side of Devas rather than Asuras in the battle of Samudramanthan

Legal Action against the Circular

1.      By August 2018, several Power companies moved to Allahabad High Court for scrapping the circular on the plea that, most of the Coal Based Power Plant are under stress because of DISCOM not paying the dues on time and also some of the Power companies were closure to Loan restructuring under existing scheme and become Solvent.

2.      Shipyards association of India appealed before Gujarat High Court against the validity of the Circular for Loan resolution

3.      Similarly, South Indian Sugar Mills association filed case in Madras High Court

Since several High Courts were hearing the issue on the same matter, RBI requested for transferring the matter to Supreme Court. The Supreme Court bench of Justice Rohinton F Nariman and Justice Vineet Saran pronounced their judgement on 2nd April 2019 and declared the circular ultra vires

Summary of Judgment by Supreme Court  

1.      Circular issued by RBI u/s 35AA is ultra vires. (Under Section 35AA, Central govt can authorize RBI to issue directions to any member banks to initiate IBC proceedings in respect of specific default)

2.      Powers of the RBI under Section 35AA of the Banking Regulation Act has to be exercised in a particular manner.

3.      Regulator can give instructions to the member bank on stressed assets only upon authorization by Central Govt and not on its own

4.      Such direction to the member bank can be given by Regulator only in specific cases of default by specific Debtors

5.      Such instructions (via Circular) cannot be issued in General for all the cases of default

It is worth mentioning that RBI relied on section 35AA and Section 35 AB of BR act and section 45 L of RBI act in issuing the circular. Moreover, after introduction of IBC, Banking Regulation act was amended in 2016. Before amendment, RBI had wide range of powers to issue such directions under section 21 and under section 35A. But after introduction of section 35AA, it can only do within the four corners of 35AA.

Implication of Judgment

1.      The judgment will definitely undermine RBI power to deal with bad loans

2.      RBI has to become a Micro manager in dealing with Bad loans as it will be able to deal with Specific default cases only. This will undermine the total banking process as Micromanagement is the job of member bank and not of RBI

3.      The dependency of RBI will increase manifold on Central Govt of India for resolving bad Loans

4.      The judgment is a big blow to the whole resolution process and has come at a time when the Banking sector was getting a grip on erring promoters for loan default

5.      Theoretically, Banks are now in a position to decide on the process to be followed for resolution of debt and can choose the process of settlement rather than forcing Insolvency. Alternatively, Banks can push the case to IBC without waiting for 180 days curing period

6.      Cases which are already in NCLT prior to this Circular will continue to hold good and this judgment impact only those cases which are in NCLT because of reference by this circular

Success of Circular

RBI took hawkish stand and the results were positive. Already cases like Bhushan Steel (47000 crs), Bhushan Power and Steel (421000 crs), Essar Steel (45000 crs), Monnet Ispat (9500 crs), ElectroSteel Steel (10700 crs) , Videocon, Amtek Auto, Ruchi Soya etc. The greatest victory is of Essar Steel, where inspite of several twist and turns and some masquerading steps by defaulting promoters, the insolvency proceedings were successful and company changed hands to a new promoter. The bench mark set in this acquisition will go a long way in resolving future cases.

Way ahead for RBI

RBI is unlikely to go back in their act of cleaning of Loans as the process initiated has given lot of confidence to Banking industry and has raised the stature of India in the world economic forums. It has reflected in the argument given by RBI in Supreme Court where RBI narrated that only a handful of 140 odd SDR cases have been resolved where ownership change has happened. Also, 110 cases out of 591 cases were successful and in other cases, 20 out of 29 borrowers are still under default. In Nut shell, RBI reiterated that all other cases of Loan restructuring have failed.

In order to continue its process of Loan restructuring, RBI may come up with some noble idea which may include Higher provisioning for default cases (even for one day, one rupee default), reduction of Banker’s ability to loan or forcing them to start the process of liquidation after mandatory period of 180 day

RBI is unlikely to allow all the old cases of restructuring to surface again. The same is clear by the logic given in the court by RBI where they have directly/indirectly said that these old cases have failed to bring the culprits to book or bring any money to bank

Already Mr Shaktikanta Das said on 4th April, that RBI will come with a revised guidelines/circular within the limits of section 35AA

Conclusion

The economy has already taken a vast leap ahead and banking process cannot remain rudimentary. Fear in the mind of erring promoter is must for the smooth running of business and managing Cash flow of the Banking institution. RBI must use this direction from Supreme court to make its policy more stringent and can develop a culture of professionalism in Banking industry by first forcing them to move to IBC against any errant defaulter and then making it a practice.

Already, in case of Essar , it has been seen that promoters are afraid of losing the control of their business. Once it became clear that Essar will be handed over to Mittal, Ruias came out a settlement plan for settling the total amount of 52000 crs.