Banks warn of 'severe plunge' in recoveries after bankruptcy ruling

A group of lenders led by State Bank of India, the country’s largest, foresees further distress in the nation’s bad-debt laden financial sector unless a recent court ruling in a closely watched insolvency case isn’t overturned.

A court earlier this month allowed ArcelorMittal’s $6 billion purchase of Essar Steel, and also modified the distribution of the proceeds, saying the money has to be shared proportionately. A petition filed by the banks in the country’s top court seeks to quash the bankruptcy tribunal’s ruling, court filings seen by Bloomberg show.

The ruling that placed secured creditors like banks at par with unsecured ones such as vendors to the insolvent company, would lead to a “severe plunge” in the rate of recoveries and expose the banks to “grave financial distress,” they said in the petition filed Friday.

Banks are joining foreign funds including SC Lowy in predicting risks from the Essar Steel sale to India’s attempts to clean up one of the world’s worst pile of soured debt. Banks claim that the tribunal’s ruling may lead to higher lending rates with increased risk of capital, resulting in further unavailability and inaccessibility of credit in the market. To read about how Essar ruling will deter India bad-loan clean up

“This will result in serious damage to the Indian Economy as a whole and dilapidate the entire banking system,” lenders said in the petition.

Further distress in banking may force the government to make contributions to maintain required capital adequacy, they said. To be sure, lenders are not opposed to the sale of Essar Steel to the company controlled by tycoon Lakshmi Mittal but are against redistribution of funds ordered by the tribunal and taking away of lenders’ powers in making a commercial decision about bids during the insolvency resolution process. A spokesman for SBI didn’t immediately respond to a phone call and email seeking comments.

The current ruling says that financial lenders would get 60.7% of their claims, and operational creditors, or suppliers to the plants, will also get around 60% on a pro-rata basis. The banks are seeking an immediate stay on the National Company Law Appellate Tribunal’s ruling. The supreme court has not yet allotted the case date of hearing.