Securitisation Companies and Reconstruction companies (SCRC)

Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interests (SARFAESI Act, 2002)

Earlier attempts in the direction

SICA 1985

DRT Act 1993

However, desired results for speedier turnaround of sick units leading to decline in NPAs/recovery of NPAs were not forthcoming.

Committees which stressed the need to set up specialised institutions for the purpose.

Committee on the Financial System ( Chairman Shri M. Narsimham,1991);

Committee on Banking Sector Reforms ( Chairman Shri M. Narsimham, 1998)

Committee on restructuring of weak public sector banks (Chairman Shri M.S. Verma)

. Proposal in the Union Budget for the year 2002-2003

SARFAESI ordinance was promulgated on June 21, 2002

Enacted Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act, 2002) in December 2002What is Securitisation?Process by which a single asset/ pool of assets is sold by the originator (seller) to a remote SPV (buyer).

Assets completely transferred with ownership pattern

Does not exist on books of seller

Immediate cash payments.

Process of pooling and packaging of financial assets, usually illiquid, into liquid marketable securities.Definition as per SARFAESIThe term securitisation is defined under section 2(z) of the SARFAESI Act 2002 as "means of acquisition of financial assets by any securitisation company from any originator, whether by raising funds by such securitisation company or reconstruction company from QIBs by issue of Security Receipts representing undivided interest in such financial assets or otherwise."

What is Reconstruction

Section 2 (1)(b) of the SARFAESI Act defines Asset Reconstruction as the acquisition of Financial Asset for the purpose of realisation. It includes all the measures for the purpose of realization of the acquired Financial Asset That is,Change in or taking over the Management of the business of the borrower,

What is Reconstruction

Sale or lease of the Assets or whole of business of the of the borrower offering the reschedulement facility to the borrower by providing temporary accommodation to the borrower, settlement of dues of the borrowers Taking possession of the secured assets of the borrower in accordance with provisions of the SARFAESI Act.

Securitisation and ReconstructionThus it is clear that the process of securitization of acquired assets involves acquisition of assets by a SC/RC, transfer of these assets to trust and issue of Security Receipts by the SC/RC in the capacity of trustee of the trust, to the Qualified Institutional Buyers.

Securitisation and ReconstructionThe Asset Reconstruction, on the other hands, involves evolving of resolution strategy for the acquired assets by employing any of the methods given in SARFAESI Act, 2002

Basic Terms/ Related ConceptsMBS Mortgage Backed SecuritiesABS Assets Backed SecuritiesABCP- Assets Backed Commercial PapersCDO- Collateralized Debt ObligationCFO- Collateralized Fund ObligationTrue SaleCredit EnhancementTranche

Applicability of SARFAESI Act

To all banksPublic SectorPrivate SectorForeign BanksUrban Cooperative banksRegional Rural BanksAny other bank/FI which Central Govt may specify by notification - Contd-Financial institutions

All PFIs within the meaning of Section 4-A of the Companies Act, 1956.International Financial institutions viz. International Finance Corporation and Asian Development BankHousing Finance Companies registered with NHB and with Tier I capital of Rs. 10 crore or above as per audited balance sheet for the year ended March 31, 2003.Any other institution which the Central Govt. by notification may specify.

SARFAESI is not applicable toFor the present NBFCs registered with the Bank in terms of Section 45-IA of RBI Act, 1934 are not covered under the provisions of SARFAESI Act, 2002.

SARFAESI Act

Enables setting up of Asset Management Companies to acquire NPAs of any bank or FisNPAs are acquired by issuing debentures, bonds or any other securityAs a second creditor, Asset Management companies can serve notice to the defaulting borrower to discharge his/her liabilities in 60 days

SARFAESI Act

Failing which the company can take possession of Assets, take over the management of Assets and appoint any person to manage the secured Assets

Borrowers have the right to appeal to the Debts Tribunal after depositing 75% of the amount claimed by the second creditor

Securitisation Companies and Reconstruction companies (SCRC)

SCRCs are registered u/s 3 of SARFAESI 2002, Process Involved :Sale of NPAs by Banks and FIs to SCRC/SPV of SCRCReconstruction of the asset or set of assetsCreation of Security with the reconstructed asset as underlyingSale of Such Security Receipts to QIBsRedemption of such SR upon realisation of the underlying either through sale of the collateral or rescheduling of loansObjective of the Act :Speed up the loan recovery process Reduce NPAs from the books of banks and FIsAlso provides a funding source to banks and FIsBasic requirements for SC/RCs

It should be company incorporated under Section 3 of the Companies Act;Seek registration with the bank as Securitisation Company/ Reconstruction Company;Minimum Owned fund of Rs. 200 lakh;No single shareholder or persons/ entities related thereto should not hold more than 49% of paid up equity;Board of Directors should have adequate professional experience in matters related to finance, securitisation and reconstructionBasic requirements (contd)Directors representing the shareholders holding 10% or more of the paid up equity should not be more than 50% of the total no. of directors on the Board of SC/RC.

No Foreign investment allowed in the paid up equity before SC/RC is registered with the Bank.After any SC/RC is registered with the Bank, FDI up to 74 % of the paid up equity allowed with the prior approval of FIPB.

SARFAESI Act

Facilitating securitization of financial assets of banks/FIs with or without the benefit of underlying securities;

Empowering SC/RCs to raise funds by issue of SRs to QIBs;

Facilitating reconstruction of financial assets acquired

QIBsQualified institutional buyer means a Financial institutions or an insurance company or a bank or a state financial corporation or state industrial development corporation, making an investment on behalf of a mutual fund or provident fund or foreign institutional investor, registered under the SEBI Act,1992.Company registered under the companies act, 1956 cant be a QIB.To be a QIB, then the company has to get such a registration from SEBI.

Some related facts

SC/RCs registered with the Bank are allowed to undertake both securitisation as well as reconstruction.

SC/RCs registered with the bank are allowed to undertake only activities related to securitisation or reconstruction or those specially mentioned in Section 10 of the SARFAESI Act.

SC/RCs cannot accept deposits.Some related facts

SC/RCs can acquire the shareholding only in other SC/RC.SC/RCs are required to commence business within 6 months of their getting registration with the Bank. Extension of another 6 months may be granted by the Bank.Any entity not registered with the Bank may undertake securitisation and reconstruction but outside the purview of the SARFAESI Act.

The registration process of SC/RCs with RBI started in the year 2003.

Asset Reconstruction Company (India) Ltd. (Arcil) promoted by SBI, ICICI Bank, IDBI Bank and PNB was the first SC/RC to be granted registration in August 2003.

As on date, there are 14 SC/RCs registered with the Bank.Securitisation Companies and Reconstruction companies (SCRC )Securitisation also takes place outside the Sarfaesi Act but the benefits of the Act are not availableBenefits of the ActEnforcement security interest without the intervention of the courtAs SCRC are not banks or FIs no sale of assets between SCRCs permitted.Securitisation under Sarfaesi Act has not taken off as desiredBorrowers prevent expeditious transfers of assets to SCRC by raising a number of issuesStamp duty charges are not uniform across states and are highBanks themselves hesitant to sell at discount and negotiate with borrower directly

Securitisation Companies and Reconstruction companies (SCRC)

14 registered SCRCs - ARCIL, ASREC , Pegasus Min NOF Rs 2 cr. For registrationFor commencement Rs 100 cr or 15 % of asset acquired, whichever is low. FDI in ARCS 74 % Focus of Regulation is on management of companies, management of assets, 15 % capital adequacyIn order to ensure stake and interest in SR issued SCRCs have to invest not less than 5 percent of SRs issued in each scheme floated and hold till redemption of such SRs to other investorsSCRCs to periodically declare NAV of SRs so that QIBs know the value of such investments and comply with disclosure norms

There is some difference in the processes for the securitisation of standard assets and NPAs through SC/RCsThe points of difference have been given below Normal financial and accounting parameters Under statutory provisionsThrough special purpose vehicle by bank/ NBFC which may be a company or trustThrough a company which is incorporated under Companies Act 1956 which in turn float trusts after acquisition of assetsCovers only standard assets, No NPAsMainly NPAs, some portion can be standard evenPurpose is risk management, risk diversification, liquidity management and CRAR managementPurpose is mainly to help the banks/ FIs to clean their balance sheet of the toxic assets. Risks/ CRAR are generally already covered by creating sufficient provisions. Liquidity is not main purpose.Banks/ FIs/ NBFCs can undertake securitisation of standard assetsOnly banks/ FIs can sell their NPA assets to ARCs . NBFCs not covered.For undertaking std. assets securitisation, no separate authorisation required from RBIOnly companies registered with RBI can undertake securitisation of NPAs to get benefit of SARFAESI Act provisions.Need for the SC/RCs

To clean the balance sheets of the banks/ Financial Institutions. It should be cleaned up by removing the bad loans' from the books of banks/ Financial Institutions a. funds tied up in' bad loans' can be released for lending to productive manufacturing sector;b. increase the availability of liquidity in the market for lending;c. Improve the balance sheets of the banks.

Benefits of getting registration as SC/RC.Special powers to enforce the security interest without the intervention of the court.All rights of the originator of the financial assets get automatically transferred to SC/RC upon acquisition of financial assets.Regulatory backing for its activities.

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