asset reconstruction company of india ltd Management discussions

ASSET RECONSTRUCTION COMPANY (INDIA) LIMITED ANNUAL REPORT 2006-2007 MANAGEMENT DISCUSSION AND ANALYSIS I. Business philosophy The Companys business philosophy is to convert challenges into opportunities to scale new heights of excellence in the asset reconstruction business and also emerge as a good corporate citizen by laying down high standards of corporate governance and transparency. II. Business overview The cumulative stock of non performing assets (NPA) in the banking system as on March 31, 2006 is estimated at Rs. 1,65,000 crore, which witnessed accretion of about Rs. 20,000 crore from March 31, 2005. The profile of NPA in the banking system has been changing in the last 2-3 years due to several factors including: i) significant change in the provisioning norms by Reserve Bank of India, whereby NPA have to be written down to zero value, notwithstanding the realisable value of the underlying assets, over a period of 4 years and 3 months; ii) improved ability of the banking system to aggressively write-off; iii) buoyant economic scenario leading to improved recovery from borrowers; and iv) settlement/restructuring effected mainly through the Corporate Debt Restructuring (CDR) mechanism. Out of Rs. 79,000 crore of assets under referral to CDR, Rs. 24,000 crore worth of assets have become performing while Rs. 52,000 crore is under implementation/ rejected by CDR and the balance Rs. 3,000 crore have failed. The Company has, so far, been able to acquire / take position in about 10% (Rs. 7,500 crore) of the accounts under referral to CDR. It is further expected that out of the Rs. 52,000 crore under implementation cases, Rs. 10,000 crore would be available for sale during the current year. Indian banks with presence outside India and foreign banks operating in India are required to migrate to the Basel II framework with effect from March 31, 2008, while other Indian banks would be encouraged to migrate to these norms by March 31, 2009. Implementation of provisioning norms under Basel II framework is likely to hasten the process of sell down of available NPA stock to asset reconstruction companies (ARCS), impact of which is likely to be felt partially during the current year and thereafter. On the whole, despite likely decline in the market share of the Company due to entry of new players, future growth prospects look encouraging. III. Operating performance The operating performance of the Company during the year under review is presented below: - Acquisition: The Company has positively responded to the ever changing and evolving NPA market by consistently offering innovative acquisition structures. During the year under review, the Company acquired 316 NPA accounts from 23 banks / financial institutions (sellers) involving total dues of Rs. 5,955 crore for an aggregate acquisition value of Rs. 2,233 crore and in the process, established first time relationship with seven sellers. - Summary of acquisition and resolution as on March 31, 2007 (Rs. in crore) Particulars During FY 07 Up to FY 07 Acquisition - No. of cases acquired 316 875 - Total dues acquired 5,955 27,081 - No. of sellers (banks/FIs) 7 39 Resolution - No. of cases resolved 158 334 - Total dues 5,702 15,565 - % of total dues resolved out of cases 26% 70% acquired up to FY 06 Exited cases - No. of exited cases 138 202 - Total dues of exited cases 1,778 3,788 Recovery & Distribution - Amount recovered and distributed 1,054 1,880 - Seller-wise acquisition particulars (Rs. in crore) Particulars Total dues Acquisition acquired price Sponsors ICICI Bank Ltd. 10,927 3,540 Industrial Development Bank of India Ltd. 2,846 1,585 State Bank of India 5,042 719 Punjab National Bank 1,286 150 Sub Total (A) 20,101 5,994 Other Sellers IFCI Ltd. 1,424 268 EXIM Bank 371 214 Dena Bank 1,052 153 Bank of India 697 134 Particulars Total dues Acquisition acquired price State Bank of Hyderabad 494 53 Bank of Baroda 232 42 Bank of Maharashtra 311 36 UCO Bank 58 33 Oriental Bank of Commerce 137 28 State Bank of Bikaner & Jaipur 41 22 Karnataka Bank Ltd. 166 17 United Bank of India 135 14 Development Credit Bank Ltd. 69 14 Canara Bank 192 14 State Bank of Mysore 93 14 Andhra Bank 126 14 Centurion Bank of Punjab Ltd. 105 12 Others (18) 1,275 98 Sub Total (B) 6,980 1,181 Total 27,081 7,175 * Industry wise acquisition particulars: (Rs. in crore) Industry No. of cases Acquisition price % to total Textiles 44 1,417 20% Iron & Steel 17 1,085 15% Power 2 959 13% Consumer Products 7 702 10% Chemical 8 370 5% Fertilizers 1 301 4% Packaging 7 254 4% Cement 3 244 3% Tea 1 211 3% Aluminum 1 124 2% Construction 5 141 2% Paper 4 127 2% Pharma 6 113 2% Telecommunication 1 150 2% Auto & Ancillary 4 84 1% Industry No. of cases Acquisition price % to total Cable 5 97 1% Engineering 7 76 1% Food 8 56 1% Hotel 1 44 1% Plywood 1 100 1% Others 742 520 6% Total 875 7,175 100% Realization: - Cases where resolution is under implementation comprise SR value of Rs. 3,653 crore - Total recovery till date is Rs. 1,880 crore from 296 cases - Of the above, full amount has been so far received in respect of 202 (exited) cases at an average excess realization of 38% over the acquisition price Details from recovery from exited cases are as under: (Rs. in crore) Particulars No. of SRs Recovery Excess cases issued Recovery During FY 07 Large cases 20 124 203 79 Cases in small portfolio 118 50 87 37 Total 138 174 290 116 Up to FY 07 Large cases 34 644 865 221 Cases in small portfolio 168 79 135 56 Total 202 723 1,000 277 * Net Asset Value: The Reserve Bank of India has so far not laid down specific guidelines for computation of Net Assets Value (NAV) of SRs issued by trusts set up by ARCS. In view of the same, the Company has voluntarily adopted a NAV declaration policy taking into account, inter-alia, future cash flows and fair value of underlying assets discounted appropriately to capture improvement or impairment, and appreciation in NAV is considered only upon realisation of minimum threshold limit of 25% of agreed cash flow. Based on the above methodology, the NAV is computed, audited and declared once a year and is thereafter reviewed by the auditors on a quarterly basis. The Net Assets Value (NAV) position of the financial assets acquired by 125 trusts set up by the Company upto March 31, 2006 is as under: Rs. in crore Category NAV as on March 31, 2006 No. of SR issued NAV Change trusts amount in NAV (outstanding) A1 101 3,055 3,055 - B2 24 1,234 1,136 (98) Total 125 4,289 4,191 (98) Rs. in crore Category NAV as on March 31, 2007 No. of SR issued NAV Change trusts amount in NAV (outstanding) A1 105 2,659 2,671 12 B2 20 990 905 (85) Total 125 3,649 3,576 (73) 1 cases with NAV at or above face value 2 cases with NAV below face value Overall, there was a net appreciation in NAV as on March 31, 2007 of Rs. 25 crore for the 125 trusts as on March 31, 2006. The NAV as on March 31, 2007, of SRs of trusts set up after March 31, 2006 is maintained, at par. IV. Regulatory environment: The Reserve Bank of India, vide notification dated September 20, 2006, made it mandatory for ARCS to invest in the SRs issued by the trusts set up by them for the purpose of securitisation, an amount not less than 5% issued under each scheme. The notification had retrospective effect and in respect of SRs already issued, a time of six months from the date of the notification (i.e. till March 19, 2007) was granted to achieve compliance. The Company has complied with the provisions of the notification as regards acquisitions after the issue thereof. With regard to the retrospective effect of the notification, the Company made a representation to Reserve Bank of India to review the same. Reserve Bank of India considered the request and granted extension to the Company upto August 22, 2007 for achieving the minimum level of investment in trusts / SRs issued prior to the notification. V. Outlook and Business strategy: Improved provisioning cover and consequent alignment of book value with market price is expected to result in an increased sale down of NPA by banks. On the other hand, increased number of players on the buy side and expected operationalisation of new ARCS will deepen the market. With increased completion, ability to offer structured solutions to the seller banks would be the key differentiator. The Company, with a system-wide reach, track record and demonstrated ability to offer structured solutions, leveraging its balance sheet strength and the completion of its fund raising through issue of SRs to third party investors, would maintain growth and its leadership position in the domain. Over the last few years, the banking system has registered substantial growth in the retail segment. Having regard to this and expected defaults in this segment, there is a felt need to strengthen recovery capability of the system in respect of the retail asset class. Recognizing this opportunity, the Company proposes to enter into retail NPA recovery in accordance with the SARFAESI Act, 2002. The Board of Directors has approved the proposal to enter the retail NPA recovery business. Keeping in view manpower, processes and technology intensive nature of retail recovery business, the Company is in the process of setting up an appropriate organizational framework. SEMINARS: The Company recognised the need of a platform for direct interaction with lending institutions, for an exchange of views and experiences and a better understanding their points of view. Keeping this in view, the Company organised Arcil NPA Summit - 2006, a seminar for senior management of banks and financial institutions, followed by a seminar on Maximizing Value Through Management & Resolution of NPA, for middle management executives of banks and financial institutions. The response has been encouraging and similar seminars are proposed to be organised during the current year. AWARDS AND RECOGNITIONS: The Reserve Bank of India, in the Report on Trend and Progress of Banking in India 2005-2006 submitted to the Central Government pursuant to Section 36 (2) of the Banking Regulation Act, 1949 has commented that Asset Reconstruction Company (India) Ltd., set up in 2003, has provided a major, boost to the efforts to recover NPA of Banks. The Company expresses gratitude to the Reserve Bank of India for recognition of the Companys contribution in the area of NPA resolution. The Company was conferred the Bharat Nirman Ratan Award by the Indian Economic Development & Research Association for outstanding contribution to national development. DONATIONS: During the year under review, a donation of Rs. 10 lacs was made to Population First, a charitable trust, keeping in view the Companys social responsibility of supporting and encouraging the underprivileged sections of society. AMENDMENT OF E-FORM No.8 BY MINISTRY OF COMPANY AFFAIRS: The Ministry of Company Affairs has amended e-form no.8, specifically providing for modification of charge in favour of ARCS. This has paved the way for filing of the said form without any delay, which was hitherto caused in some cases due to noncompliance by the borrower companies. The Board expresses its sincere gratitude to the Ministry of Company Affairs for having acceded to its request.