Bankruptcy code: Banks to gain but down the line

The Bankruptcy Code has been cleared by Parliament and the news pushed up banking stocks on Thursday. Not that investors need to hurry and buy these scrips, as the proposed Code is unlikely to improve lenders’ asset quality in the near term.

First, though, the positives. The Code will consolidate the existing laws on liquidation and sick units, creating a new institutional set-up of insolvency professionals (IPs), IP agencies, information utilities and a bankruptcy board. More important and first of a kind, a time limit of 180 days (extendable by 90 days), within which the resolution has to be completed.

Also, as any financial or operational creditor may initiate the insolvency resolution process, the Code vests more powers with banks to stringently monitor their clients. It will also see professionals engaging with the management of distressed companies, to in turn be supervised by a regulator. As with the changed Companies Act, unpaid employees and secured creditors will get priority for payout in a liquidation. Analysts at Nomura say the Code is a big positive for the banking sector.

“As it gives banks a legal path for recovering their dues in a time-bound manner, it should make lenders more confident in lending and borrowers more accountable,” they feel. Others agree but feel the time involved in implementing this Code could delay such benefits. “It will take at least a year to create the infrastructure to implement it. Therefore, it is unlikely that the benefit is felt any time soon in the asset quality of banks,” says Pankaj Agarwal of Ambit Capital.

Therefore, FY17 could also be a year of elevated asset quality pressures. Also, analysts at Religare feel, delays could stem from want of accurate or timely information and inefficient adjudicatory mechanisms. The research house remains negative on the banking sector and says it might take three to five years for issues to resolve under the Code.

With these finer aspects, the Code for now is more a sentiment booster, though it could after implementation have a significant bearing on the asset quality of banks.

Some, however, also believe that defaulters or potential ones will now think many times more before skipping or delaying payments. And, that should reflect positively on banks in the form of lower, or at least a slowing in, bad loan formation.