RBI asks select banks to retire high cost debt

The Reserve Bank of India (RBI) has directed about a dozen state-run banks, put under the regulatory watch for mounting bad loans, to retire high-cost debt such as Additional Tier I capital as part of the austerity drive that seeks to restore commercial viability for the stressed lenders.

These banks, which are to receive an injection of federal funds, would now have to extinguish such debt well before their maturity, or even the stipulated call option – an in-built exit route mostly after five years since the issuance of AT-1 bonds. The first issuance of Rs 87,195 crore worth of such bonds was around 2014 and, therefore, the earliest call option was scheduled in 2019.

However, now these banks may have to withdraw the bonds under a likely special dispensation, two people familiar with the matter told ET.

As many as 11 banks, including Bank of India and IDBI Bank, are placed under the RBI's prompt corrective action (PCA) in view of a precipitate decline on certain performance parameters, such as net non-performing assets (NPAs), low capital level, and negative return on assets for two years.

Barring the Central Bank of India, all of these lenders had issued AT-1 bonds in the past few years. Other banks under corrective action are Allahabad Bank, Bank of Maharashtra, Corporation Bank, Dena Bank, Indian Overseas Bank, Oriental Bank of Commerce, Uco Bank and United Bank of India.

According to market estimates, banks have sold perpetual bonds worth Rs 87,195 crore in 78 such sales, offering interest in the range of 8.15-12%. About four-fifths of the total issuances offer 9% or more, while the current 10-year yield is hovering around 7.47-7.50%.

"We have received a communication from the RBI on this," a CEO of one of these banks told ET, confirming the development. "We will soon examine the ageing profile of the bonds and finalise an action plan," the executive said, requesting anonimity.

The RBI did not comment.

Under Basel-III, perpetual bonds or AT-1 securities are more of a quasi-equity instrument. If an issuing bank incurs losses in a financial year, it cannot make coupon payment to its bondholders even if it has enough cash. That is why interest rates offered are higher than those in the broader market.

"Individual banks will have to seek special dispensation from RBI with formal communication to investors if they retire the debt earlier," said a treasury head at a mid-sized bank. There is no direct provision now that enables extinguishing the obligation on perpetual bonds even before the call option.

Investors who may have bought them from the secondary market at a higher price may incur losses as these bonds may be retired on a par, sources said. This means that if an investor bought the bonds in February 2016 at 10.95%, s/he will receive interest for two years if the securities are extinguished this month. But a secondary market buyer may incur losses as s/he would have bought the instrument at a higher price point.

Public sector banks, which accounted for the majority of bad loans, will be capitalised in the current fiscal year through a combination of re-capitalisation bonds of Rs 88,000 crore and direct infusion from budgetary allocations of Rs 8,139 crore.

"The authorities do not want those ailing banks to offer higher interest, especially after the capital infusion. Retiring high-cost debt will help them improve margins," said one of the people cited above.

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