Rating agencies are in limbo over RBI’s new guidance on loans

The new RBI guidelines on loans have shocked the credit rating agencies.

The Reserve Bank of India has said that a company’s ratings on loans cannot be notched based on ‘diluted and non-prudent support structures.’

The ‘diluted and non-prudent support structures’ include letters of comfort, support, undertaking, and pledge of shares.

When the promoters support the companies in the above ways, it reduces the cost of borrowing. The rating rises higher when there is a lower interest rate on debt.

The credit rating agencies have sought the intervention of their primary regulator, the SEBI.

The Reserve Bank of India said that the corporate guarantees could be used to enhance rating only when there is a strict timeline of invocation of guarantees by lenders.

A senior banker said, ” RBI’s instructions are related to ratings on loans from banks. On the contrary, the existing directive of SEBI supports the increase of rating for non-convertible debentures by using the above methods, as long as the standalone ratings are disclosed.”

The various structures in the new RBI’s guidance.
The new RBI guidance restrains from using obligor-co-obligor structures.

Obligor-co-obligor is arrangements made by infrastructure companies. These arrangements include creating a pool of cash flow from multiple special purpose vehicles (SPVs).

It helps to create a mechanism where funds from one SPV can be used to service the debt of another vehicle that faces cash deprivation for paying off the loan.

An industry person said that RBI must be skeptical about the functioning of the above mechanism. If there is a cash crunch for more than one SPV, the cash pool may be insufficient to repay loans.

The above mechanism has gained popularity in renewable sectors but is untested for delinquencies.

There are incidents where many structured loan ratings have been improved by the promoters who pledged twice the number of shares.

Another arrangement of chipping more stocks can be made when the stock prices dip, and the cover shrinks to 1.5x.

The above methods can help to improve ratings, but if the promoters cannot replenish the cover and top-up stocks, then there can be a problem.

An analyst said that the above experiences and stock volatility could be the main reason for the issue of the new RBI’s guidance.

Here the major question remains unanswered; Will banks invest in debt instruments like NCDs, which use multiple rating agencies’ support to improve their ratings?

The RBI has directed the banks to invoke a time to use corporate guarantees. The banks must ensure that the corporate guarantor must commit to adhering to the deadline. Otherwise, he may have to make the payments on behalf of lenders.

Categories RBI

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