ARCS

ARC woes amid scarce supply of bad loans and regulatory oversight

Several asset reconstruction companies are struggling, a few are dead and some are set to die amid limited availability of bad loans to source and a regulatory requirement to increase their net worth.


Several asset reconstruction companies (ARCs) are struggling, a few are dead and some are set to die amid limited availability of bad loans to source and a regulatory requirement to increase their net worth.

The supply of distressed loans to the private ARCs is getting choked even as the asset quality of banks has improved, the  government-backed National Asset Reconstruction Company (NARCL) has been set up and large non-performing assets (NPAs) have been resolved under the Insolvency and Bankruptcy Code (IBC).  

“Many of the smaller ARCs are likely to shut shop following the RBI’s prescription of new capital requirements. With a shrinking asset book and higher capital base requirement, it will be difficult for these companies to exist,” said the CEO of a leading ARC who did not want his name to be revealed. 

The balance sheet of the ARCs is shrinking even as banks are seeing less of bad loans. According to the RBI data, the gross NPAs in the banking system has declined by 149 basis points to 3.48% of the total bank credit at the end of  30 September 2024, from 4.97% in the year-ago period. 

For big-sized bad loans, banks are tapping the NARCL which offers a 15% cash component and 85% in government-backed security receipts (SRs). After the government set up the NARCL in 2021, it has acquired stressed assets worth over Rs 92,000 crore. Private ARCs have to mostly bid with 100% cash, an unfair structure according to many of them.

Banks have also resolved most of their large bad assets under the IBC, which has incentivised early settlements by promoters.

Besides, banks are running one-time settlement schemes to clean up their books after coming to an agreement with errant borrowers. All these factors have resulted in fewer distressed bank loans being up for sale to the ARCs. 

According to Crisil, the asset under management (AUM)  of private ARCs is expected to shrink by 7-10% this financial year as acquisitions slow down and redemptions remain high. The rating agency estimates the AUM, measured by SRs, to decrease to Rs 1.2-1.25 lakh crore in FY25 from Rs 1.35 lakh crore a year ago. This is mainly because there is limited fresh opportunity in the corporate segment, with gross NPAs at a multi-year low of sub-2% as of March, 2024.

Retail acquisitions also may not see a sharp rebound in fiscal 2025 after slowing in fiscal 2024 because opportunities remain moderate given the controlled retail NPAs in the system thus far, said Ajit Velonie, senior director at Crisil Ratings.

At the end of the fiscal second quarter, the total dues from sellers increased by Rs 19,184 crore, while the total SR issued increased by Rs 4,715 crore over the first quarter to Rs 2,91,919 crore. The total SRs redeemed also increased by Rs 6,852 crore to Rs 1,57,093 crore. The total outstanding SRs decreased by Rs 2,137 crore to Rs 1,34,826 crore.

Adding to the woes of the ARCs is the new capital requirement guidelines laid down by the Reserve Bank of India (RBI) this April. As per this, an ARC is required to have a minimum capital of Rs 300 crore compared to Rs 100 crore as on 11 October 2022. 

Existing ARCs have been provided a glide path to achieve the minimum required Net Owned Fund (NOF) of Rs 300 crore as on 31 March 2026. ARCs must have a minimum capital of Rs 200 crore by 31 March 2024, the RBI circular said. 

For some ARCs, the fallout has been fatal. While Aditya Birla Asset Reconstruction Company (ARC), a joint venture between Aditya Birla Capital and Varde Partners, is winding down its India operations, Arcion Revitalization, originally promoted by Apollo Global and ICICI Bank, and Lone Star India have already exited the ARC space. Even India Resurgence Asset Reconstruction Company, sponsored by Piramal Enterprises and Bain Capital Credit, has reportedly surrendered its licence to the RBI.

Edelweiss ARC, the largest player in this space and the most aggressive buyer of large distressed loans, is now out of action after the RBI barred the company from acquiring fresh assets including SRs, based on material concerns during a supervisory examination. The central bank also disallowed the extension of the tenure of its CEO RK Bansal after irregularities were found in the company’s acquisitions. Bansal had served two terms of three years each as managing director and CEO of Edelweiss ARC.

“There aren’t many big buyers today. It is a transition phase for many ARCs,” a senior executive said on condition of anonymity.

The opportunity in acquiring bad loans is shifting to segments like unsecured retail and microfinance Many banks like Union Bank of India, State Bank of India and Punjab & Sind Bank have put out loans for sale this year, but they are in the RAM (retail, agriculture and MSME) sector.

“Some foreign investor-backed ARCs have raised substantial amounts of much-needed capital for the sector. However, banks are reluctant to sell to ARCs and many deals fail due to pricing mismatch. There remains a significant gap between seller’s expectations and actual recoveries. The scarcity of deals in corporate NPAs has compelled some of the ARCs to shift their focus to acquiring retail NPAs, where they often bid at unsustainable prices for lack of experience in the asset class,” said the CEO  of a leading ARC focused on SME and retail loans who did not want to be named.