Banks are seeking relaxations on the Reserve Bank of India’s draft regulations that would require setting aside higher provisioning for the financing of infrastructure projects, according to bank officials.
On May 3, the central bank proposed that banks be required to increase provisions to 5% of the loan amount disbursed for projects in the construction phase. Until now, this requirement was set at 0.4%.
When the project becomes operational, this can be reduced to 2.5% and then lowered to 1% once the project reaches net positive cash flow and repays 20% of the dues, the RBI said in its circular.
Higher standard asset provisioning may result in a 150 basis point increase in interest rates for project finance loans, according to an official at an infrastructure finance company.
Banks are seeking a graded provisioning requirement for high-rated projects, said a banker with a large state-run lender. For government projects with near-zero default risk, the provisioning may remain at the existing 0.4%. For AAA-rated projects, the provisioning could be at 1% and 5% for others, the banker told NDTV Profit on the condition of anonymity.
Bankers NDTV Profit spoke with said that the 5% flat provisions were excessive. Banks are likely to seek support from the government in discussions with RBI on this matter, the public sector lender quoted above said.
In its June 2019 circular for restructuring loans, RBI exempted loan accounts under Rs 1,500 crore from the mandatory resolution process after default. However, in the current circular, there is no mention of a cut-off.
Lenders are seeking clarification on whether this cut-off would apply to project finance loans as well. In the absence of a cut-off micro, small and medium enterprise loans could potentially face forced resolution on technical defaults.
“It usually takes 6-7 years to achieve that outcome, and hence, in the interim, banks will have to carry between 2.5% and 5% of the loan amount as provisioning charges, thereby significantly affecting the economics for the bank as well as for the project if banks decide to fully pass on the increased provisioning,” Suresh Ganapathy, analyst at Macquarie, said in a report dated May 7.
While banks are currently reviewing the financial impact of draft guidelines, the Indian Banks’ Association is expected to approach the RBI to lobby for easier standards.
Banks will also seek clarification on the calculation of the net present of loan assets, as they would have to renegotiate the terms of the loan agreement with existing borrowers.
Further, RBI fixed the time period for deferment of the date of commencement of commercial operations to up to one year on account of exogenous risks and up to two years for infrastructure projects in the event of endogenous risks.
“The cumulative deferment of DCCO for any project on account of reasons specified shall not exceed 3 years and 2 years, respectively, for infrastructure and non-infrastructure projects (including commercial real estate projects),” the regulator said.
So, lenders must keep extra specific provisions of 2.5% on top of the standard asset provision of 5% for projects with cumulative deferments of more than 2 years for infrastructure projects and 1 year for non-infrastructure projects. This additional provision of 2.5% shall be reversed upon the commencement of commercial operation.
CareEdge Ratings believe that this clause on date of commencement of commercial operations is stringent, as litigation cases require longer time to resolve. This may require re-classification of such exposures by banks and a consequent step-up in borrowing costs during the implementation phase, the brokerage firm said.
“While the provisions might not get utilised if the project is completed on time and the asset quality remains good, the lower profitability will restrict the growth as the book accretion during the growth phase will be severely impaired,” Bernstein Research said in a note dated May 3.
Apart from increasing the cost of funds, these regulations may hit bank profitability, raise credit costs, and make lending operations unviable because banks have a large outlay in project finance, according to an official from an industry lobby group.
While it is unclear what prompted the RBI to come up with such tough rules, it appears that the central bank wants to discourage smaller banks from financing infrastructure projects because the risk is too high during the design and construction phases, resulting in defaults, the official told NDTV Profit on the condition of anonymity.
These regulations would deter capex funding going forward, at a time when project finance and capital expenditure in the economy are recovering, said Macquarie’s Ganapathy.
