The document discusses the prevalence of distressed assets in the Indian banking sector, highlighting that more than INR 10 trillion in stressed assets pose a significant risk to banks, particularly public sector banks. It details the legal framework established by the Insolvency and Bankruptcy Code (IBC) to address these issues, including the roles of asset reconstruction companies (ARCs) and various regulatory developments aimed at managing non-performing assets. Additionally, the document presents a case study of Bharat Defence and Infrastructure Limited, illustrating financial challenges and the impact of market conditions on debt repayment.

1. Distressed Assets and
ARC

2. Overview of Indian Banking Industry
• Stressed Assets (NPA & Restructured) estimated to be more than INR 10 trillion (more than 10%
of lending asset)
• Globally, India Ranks 5th worst in terms of stressed assets. (The other 4 are from PIIGS nation
who were in trouble due to financial crisis)
• Recovery rate of NPA has been drastically come down from 61.8 % in 2009 to 20.8 in Mar’17
• Public sector banks have been in more trouble than private sector banks
• Since banking is highly leveraged business, it is essentially important for risk management.
Unaccounted rise in NPAs will wipe away the banks (risk to depositors and equity holders)
• Actions in these direction – Indradhanush Scheme, Bank Board Bureau, Insolvency &
Bankruptcy Code, 100% FDI in Asset Reconstruction Company, Recapitalization of PSBS – 2.11
lakh crore, Merger of weaker/smaller banks in bigger PSBs, etc.

3. Stats of Indian Banking Industry (1/2)

4. Stats of Indian Banking Industry (2/2)
Unable to create value (5yr share price)
Bank of India Bank of Maharashtra
* During this timeframe, S&P 30 Sensex has moved from 20,000 to 34,000

5. Wall of Shame
•
Source: Outlook Business Article - You owe us

6. The BIG 12
• On June 2017, RBI has asked commercial banks to initiate bankruptcy proceedings against 12
companies to immediately invoke bankruptcy proceedings.
•These defaulters having total loan default of more than Rs.2.4 lakh crore, represents close to
one-fourth of gross NPAs of the Indian banks.

7. Bankruptcy and reorganization theory in nutshell
• In an economic system, new businesses will flourish and few businesses will face risk of slowdown/shutdown.
(Birth and death of productive entities is a natural phenomenon.
•To protect the interest of the stakeholders and society at large, we require bankruptcy laws
• to protect the contractual rights of interested parties
• to provide for the orderly liquidation of unproductive assets
• to provide for the orderly a moratorium on certain claims in order to give the debtor timer to become
rehabilitated as a continuing entity. (if deemed desirable)
• The decision rule:
• If an entity's intrinsic or economic value is greater than its current liquidation value, go for revival or
reconstruction.
• If an entity's intrinsic or economic value is lesser than its current liquidation value, go for liquidation of
business.

8. Legal & Regulatory Development
Insolvency and Bankruptcy Code (1/4) – Why it was needed?
• No single law dealing with Insolvency and Bankruptcy in India
• Overlapping Jurisdiction

9. Legal & Regulatory Development
Insolvency and Bankruptcy Code (2/4) – Salient Features
• Act passed in 2016, to empower banks and creditors with stressed assets rationally
• Key Features of this act are:
• Time bound resolution
• Come up with resolution plan within 180 days (provision of 90 more days extension), if it is successfully admitted
by NCLT. Under fast-track, the resolution plan should come in 90 days ( provision of 45 more days extension)
• 14 days to accept/reject the proposal
• Unification of legal framework
• Until now, due to multiple and ambiguous laws has often protected promoters leading to delay in resolution
• This code prescribes a “creditor in control” regime (from “debtors in possession) with creditors exercising timely
control in the event of a default
• Order priority during claims
• (Highest from the left side) 1. Insolvency related cost; 2. Secured creditors 3. Workmen’s dues (up to 24 months); 4.
Dues to other employees (up to 12 months); 5. Unsecured financial creditors; 6. Government dues and any other
claims.
• The government has taken the back seat in the queue of receiving proceeds and employees and workmen dues
have been given a significant priority.

10. Legal & Regulatory Development
Insolvency and Bankruptcy Code (3/4) – 4 Pillars
•I. The Insolvency Regulator - Insolvency and Bankruptcy Board of India
• Overseeing the functioning of insolvency intermediaries i.e., insolvency professionals(IP), insolvency professional agencies and information
utilities(IU); and
• Regulating the insolvency process.
•II. Insolvency Professionals(IP)
• Separate entity than creditors so that no conflict of interest arises and maximum value can be generated for both creditor and borrowers.
• During resolution, the insolvency professional verifies the claims of the creditors, constitutes a creditors committee, runs the debtor's
business during the moratorium period and helps the creditors in reaching a consensus for a revival plan. (IP becomes a lead driver for
turning around.)
• In liquidation, the insolvency professional acts as a liquidator and bankruptcy trustee.
• CA with 15 years of experience was given license as IP valid for 6 months.
•III. Information Utilities(IU)
• To collect, collate, authenticate and disseminate financial information of debtors in centralised electronic databases.
•IV. Adjudicating authorities(IU) - (NCLT for corporates and DRT for proprietorship/partnership firms)
• Role restricted to ensure fairness rather than any type of involvement during insolvency resolution.

11. Legal & Regulatory Development
Insolvency and Bankruptcy Code (4/4) – Usage of IBC

12. Legal & Regulatory Development
Joint Lender Forum (JLF)
• Criteria:
• Borrowers exposure more than 100 crore
• Borrower’s due is classified as Special Mention Account - 2 (unpaid for more than 60 days and less than 90 days)
• Objective:
• To arrive at an early and feasible solution to preserve the economic value of the underlying assets as well as the lenders’ loans.
•The three broad ways as suggested by RBI circular are:
• Rectification (Infusion of equity by existing/new strategic investors)
• Restructuring (Restructuring of loan under Corporate Debt Restructuring scheme)
• Recovery (If the above two method fails, then lenders can resort to the recovery provided it is approved by minimum 75% of
lenders (by value) and 60% of lenders (by number)).

13. Legal & Regulatory Development
Other Legacy Acts
• SARFESI ACT, 2002
• Securitization of financial assets is now possible
• Banks can now self off their NPAs to ARC through securitization.
• This act gave birth to ARCs
• Enforcing security interest i.e. taking over the assets given as security for the loan.
•SICK Industrial Companies (Special Provisions) Act, 1985
• Objective – revival of Sick Companies
• Applicable to industrial companies only
• The moratorium provision under SICA was used by defaulters to keep the creditors at bay.

14. Process
How banks sell distressed assets to ARCs
Step 1: Banks sell a bad loan to an Asset reconstruction Company
Step 2: Arcs pays 15% upfront; issues SRS for the remaining 85%
to banks.
Step 3: ARCs start starts the turnaround and recovery process.
Step 4: ARC earns 1.5% as management fee
Step 5: Recovery proceeds to be shared by the banks and ARC
Step 6: If the ARC fails to recover the bad loans within 8 years,
banks write-off the investment.

15. Promoter’s Viewpoint
• With the kick of IBC, it has become more difficult for promoters to default and continue with the business for the
long time
• Since IBC appoints Insolvency Resolution Professional who will take charge of assets and company financial
decisions, the days have changed from “promoter’s in-possession” to “creditor’s in-charge”.
• The Code would therefore ensure more commitment from the promoters to keep the business floating.

16. Overview of Asset Reconstruction Companies
in India
• Asset Reconstruction company (ARC) in India came into existence with the enactment of law of
Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest
(SARFAESI) Act of 2002.
• Objective - The primary focus of ARC is more on restructuring the company (asset, capital
and/or management) so that businesses can revive themselves and then gradually pay off their
debt holders.

17. Overview of Asset Reconstruction Companies
in India
List of ARCs in India
• BIG 5 (combined market share – 90%)
Name Year Total Assets(AUM)
Book Value (in crore)
Promoted By
Asset Reconstruction Company (India)
Ltd - ARCIL
2002 81500 SBI, IDBI, ICICI, PNB
Edelweiss ARC 2009 41680 Edelweiss Group
JM Financial ARC 2007 25732 JM Financial, Indian Overseas, Central Bank of India,
UCO bank, Union Bank of India
Phoenix ARC 2007 7000 Kotak Mahindra Bank
International Asset Reconstruction
Company
2002 4560 HDFC Bank, Tata Capital
Others:- Asset Care & Reconstruction Enterprise Ltd. , ASREC, Pegasus Assets Reconstruction , Alchemist ARC,
International Asset Reconstruction Company, Reliance ARC, Pridhvi ARC, Invent Assets Securitisation &
Reconstruction Pvt Ltd, India SME ARC, UV ARC, Meliora ARC, Omkara ARC, Indiabulss ARC and few more.

18. Classification of ARCs
• On the basis of method of acquiring the asset
Type 1: ARC as buyer (Buyout fund)
• ARC buys the asset from the creditors(banks) outright
• Capital for buying the asset is raised from Qualified Institutional Investors (Retail investors are not encouraged
and allowed)
• Entire risk of turning around the asset is transferred from the bank to the ARC
Type 2: ARC as partner
• Bank hires ARC to perform debt recovery process.
• Revenues are splatted into the banks and the ARCs as per their pre-determined percentage.
• NPA remains in the book of bank
Type 3: Hybrid Model (Prevalent in India)
• ARC act as buyer initially and buys the asset from the bank by paying upfront payment (15%) and issue security receipts
(SRs) of the remaining – 85%
• Banks also pay 1.5% of the asset as the management fee. Success depends on both the ARC and the bank

19. Classification of ARCs
• On the basis of level of involvement
Type 1: Asset Restructuring
• Focus on selling off non-core asset to reduce debt. (e.g. real asset)
Type 2: Capital Restructuring
• Pays the existing debt of the borrower by equity infusion.
• Makes existing debt sustainable.
Type 3: Management Restructuring
• Invest in the company for longer horizon with turnaround plan by changing management.

20. Valuation of Distressed Asset
• Method 1: By discounting the cash flows – Expecting turnaround
• ARC expects IRR of 16-24% depending on riskiness of asset and probability of turning around.
• Risk-free rate in India is 7% and market premium is close to 8%.
• The average IRR OF 20% is inline with the spread of junk/default category bonds trading in India.
Rating Spread Rating Spread Rating Spread
Aaa/AAA 0.65% Baa1/BBB+ 2.00% B2/B 6.50%
Aa1/AA+ 0.80% Baa2/BBB 2.30% B3/B- 6.75%
Aa2/AA 0.95% Baa3/BBB- 3.10% Caa/CCC 8.75%
Aa3/AA- 1.05% Ba1/BB+ 3.75% CC 9.50%
A1/A+ 1.15% Ba2/BB 4.50% C 10.50%
A2/A 1.20% Ba3/BB- 4.75% D 12.00%
A3/A- 1.45% B1/B+ 5.50%

21. Valuation of Distressed Asset
• Method 2: By discounting the book value of net assets – Liquidation approach
• Takes liquidation value of net assets(base price) and then jack up price depending on the probability of
turnaround
• The assets under this approach are acquired to the tune of 1/4th to 1/3rd of the book value
• ARCs operating in the hospitality segment(hotels) and real estate undertakes such valuation due to large
and prime land banks
• Other Industries – As per the opinion of various Distressed Asset Acquires, the haircut on power plants in
India should be around 36-40%, iron and steel sector should be around 40-50% and ~60% on construction
loans
• JM Financial ARC prefers taking up assets with huge resale value. (E.g. Loan acquisition of Leela Ventures
(Hotel Industry) and Unitech Developers)

22. Summarization
The expectation now is that ARCs will morph into turnaround
specialists.
But for that to happen, a lot of variables will need to fall in
place – banks willing to take substantial haircuts, selling
assets at an early stage of slippage, ARCs with enough
expertise, capital to turnaround the assets, promoter’s co-
operating to the resolution process, industry and
macroeconomic factors.
The banking regulator is doing its part but it is too early to
say as to whether ARCs will be able to pull the proverbial
rabbit out of their hat.
A ray of hope

23. Appendix
Case Study – Bharati Defence and Infrastructure Limited

24. Introduction - BDIL
• About the company
• The company is involved in shipbuilding, fabrication of offshore structure, rig building and other Ocean
Engineering Products.
• The company owns two large shipyards located in Dabhol and Mangalore with state-of-the art
infrastructure.
• It has received Company the industrial license for manufacturing Warships, Frigates, Submarines and
Petrol Boats etc. from the Ministry of Defence and the Government of India.
• However on account of constant decrease in the global oil demand and prices, the demand has not
been up to the expectations.

25. Key Financial Metrics (1/3)
Ratio Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16 Comment
Net Sales 1,348.22 1,580.93 1,405.87 505.29 199.69 38.72 58.04 Significant decrease
since Mar- 13
Cost of Production 894.54 970.92 797.91 512.08 4,031.29 186.29 207.23 COGS more than
revenue since Mar-
13
PBIDT 362.02 511.21 481.87 -45.75 -462.51 -647.86 -2,229.02 Trouble since Mar-
13
PBDT 223.25 201 -8.62 -492.91 -976.44 -944.42 -2,548.43
PBIT 346.73 489.7 441.9 -92.59 -511.91 -710.13 -2,289.96
PAT 138.87 113.45 5.95 -492.27 -842.73 -864.58 -1,897.99
Cash profit 154.16 134.96 45.92 -445.43 -793.33 -802.31 -1837.05
All numbers is in crore, except for percentages

26. Key Financial Metrics (2/3)
Ratio Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16 Comment
Book Value 289.11 313.59 310.38 141.67 -40.6 -212.89 -590.24 Negative Book
Value since Mar-14
Market Cap. 689.66 440.4 252.89 136.69 130.53 113.68 95.32
Cash Flow From
Operating Activities
-142.82 -769.07 -216.69 -365.5 72.79 -191.54 17.88
Cash Flow From
Investing Activities
-1,006.40 -285.43 -159.27 -20.69 9.21 61.34 9.54
Cash Flow From
Financing Activities
1,203.17 950.29 318.31 372.57 -58.15 143.65 -31.72 Since Mar-13, cash
is raised for
covering operating
losses
Net Increase in Cash 53.95 -104.21 -57.65 -13.62 23.85 13.45 -4.3
All numbers is in crore, except for percentages

27. Key Financial Metrics (3/3)
Ratio Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16
Debt-Equity Ratio 2.14 2.92 3.52 5.67 23.73 0 0
Long Term Debt-Equity
Ratio
1.78 2.55 2.66 3.81 14.26 0 0
Turnover Ratios
Debtors Ratio 4.22 3.41 1.98 0.61 0.26 0.09 1.28
Interest Cover Ratio 2.5 1.58 0.9 -0.21 -1 -0.58 -0.73
PBIDTM (%) 26.85 32.33 34.28 -9.05 -231.61 -286.8 -295.55

28. Timeline (1/4)
• Year 2011-12
• Defaulted for the first time in repayment of term Loan of Rs. 678.05 crores and the overdrawn cash credit amounting
to Rs. 299.54 lakhs in the history of 39 years.
• The factors attributed for this are:-
1) The global downturn in the shipping and shipbuilding industry
2) Recession in the European markets
3) Acquisition of company Great offshore (through a takeover battle) last year through raising debt for around
700 crore.
• The company was optimistic that it would come out of downtrend and would able to pay its debt and interest from
next year onwards due to its large order book (scheduled for delivery of next year).
• However, the order book did not materialized and the case of the Company was referred to the CDR Cell on 16th
December, 2011 by consortium of banks led by SBI.
• As per the final restructuring proposal, the Company has a Total Exposure of ~Rs.5860 crores (Fund is ~Rs. 3,243
crores and Non Fund Based (Letter of credit/Bank Guarantee) is ~Rs. 2,617 crores).
• Conversion of debt to equity - Out of total term loans of Rs. 2,283.4 crores, 10% of the same amounting to Rs. 228.34
crores would be converted into Compulsorily Convertible Debentures, to be converted to equity based on SEBI
pricing formula. The tenure for the remaining loan was extended to 10 years and had a moratorium period of 18
months.

29. Timeline (2/4)
• Year Expec2011-12
• Expected projections by the bank(when they restructured the loan):
•Year 2012-13
• Equity Infusion by the promoters – Commitment binding:
• The company has allotted preferential issue of 2,88,61,301 compulsory convertible debentures to signatories of
CDR, carrying the right to convert to one equity share of Rs. 10/- each at a price of Rs. 79.12/- including premium
of Rs. 69.12. (After shareholder approval and SEBI guideline)
• The promoters also infused equity of Rs. 53.52 crore by subscribing to equity at a price of Rs. 79.12/- per share
(including premium of Rs. 69.12/- per share).
Financial Year Net Expected Turnover Profit (Loss) after Tax
F.Y. 2013-14 1,650.00 (260.80)
F.Y. 2014-15 2289.07 (59.50)
F.Y. 2015-16 2282.56 20.80

30. Timeline (3/4)
• Year 2014-15
• Situation worsened – Order did not materialized
• Allegation - The company alleged that that the bank did not provided the working capital funding as per approved
CDR plan even though promoters contributed additional equity.
• NPA Sold to ARC - Edelweiss Asset Reconstruction Company (EARC) took over 60% of debt from various banks and the
company expected that Edelweiss will bring strategic investor in due course of time.
• On 20th August, 2014 the company exited from CDR System on account of failure of approved package. Day to day
the financials management of the Company is being managed under the guidance of EARC.
• Year 2015-16
• Management Restructuring - EARC appoints Sameer Kaji as an interim CEO of BDIL for turning around the company.
Kaji has an experience of turning around about seven stressed overseas firms acquired by Indian corporates. Most of
the companies were in mining and oil exploration business wherein he gained experience of dealing with private
equity investors and lenders.

31. Timeline (4/4)
• Year 2016-17
• EARC is planning to file an insolvency case against BDIL in the National Company Law Tribunal (NCLT) to pre-empt
winding-up petitions by unsecured creditors. This move will protect BDIL, which is vulnerable to winding-up petitions
from unsecured lenders
• Year 2017-18
• Strategic sell off
• In September 2017, German Dry Docks(expertise in upgrading and retrofitting of ship vessels) the German
company along with a Hong Kong-based private equity fund to acquire the company at an enterprise value of Rs
2,400-2,500 crore,".
• On November 29, 2017 Mahindra Defence and Shapoorji Pallonji were reported to carry out the due diligence
process individually of acquiring the assets of Bharati Defence and Infrastructure Limited at the enterprise value of
Rs. 2500 crore (similar to German Dry Docks bid).