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RBI discussion with SEBI to Allow Mutual Funds to Sell Debt to Asset Reconstruction Companies


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The Reserve Bank of India (RBI) has informed debt recast firms that it is in discussions with the Securities and Exchange Board of India (Sebi) regarding the possibility of allowing mutual funds to sell their debt to asset reconstruction companies (ARCs). Currently, ARCs are not permitted to purchase debts from mutual funds. To further explore this possibility, RBI’s deputy governors, along with executive directors and other officials, recently met with the chief executives of ARCs.

This development follows the recommendations of an RBI committee, led by Sudarshan Sen, which conducted a comprehensive review of the functioning of ARCs. The committee submitted its report in November 2021, and one of its key recommendations was to allow mutual funds to sell debts to ARCs. The committee emphasized the importance of broadening the entities from which ARCs can purchase financial assets, including alternative investment funds (AIFs), foreign portfolio investors (FPIs), asset management companies (AMCs) managing investments on behalf of mutual funds, and all non-banking financial companies (NBFCs), regardless of asset size. The committee argued that such measures would facilitate debt aggregation, which is crucial for the efficient resolution of stressed assets.

The opening up of the ARC route for mutual funds could lead to some recovery in cases where companies default and mutual funds currently have to value the bonds to zero. Mutual funds primarily invest in high-quality bonds. The involvement of various entities in the debt market, including those regulated by the RBI, highlights the need for a uniform set of guidelines applicable to all entities for the greater benefit of the financial sector ecosystem.

In its supervisory engagements, the RBI has been actively engaging with banks, non-banking financial companies (NBFCs), cooperative banks, and now ARCs. The RBI emphasized the importance of sound governance as the foundation for ARCs to build a robust business model during its meeting with ARCs. The regulator also shared supervisory concerns.

According to RBI data, sales of non-performing assets (NPAs) to ARCs by banks increased significantly in 2022-23, partly due to assets sold to the National Assets Reconstruction Company Ltd (NARCL), which became operational during that period. In 2022-23, 9.7% of the previous year’s stock of scheduled commercial banks’ gross NPAs was sold to ARCs, a substantial increase from the 3.2% sold in 2021-22. The acquisition cost of ARCs, as a proportion of book values of assets, declined from 33% at the end of March 2022 to 29.8% at the end of March 2023, according to the RBI’s report.

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