VOL 18 NO -96 REGD NO DA 1589 | Dhaka, Saturday February 12 2011

Selling of bad loans or sick industries in NPL market!

M S Siddiqui

The nation is in a fix to solve the non-performing loans (NPL) of financial institutions (FI) in Bangladesh. The policy markers are
unanimous in their agreement to find a 'solution' to recover the loans by any means. The Artho Rin Adalat Act 2003 is one of the strongest
loan recovery Acts in the world. The law has violated all fundamental human rights of the borrowers and the court has minimum authority in
the trial and judgment and only can give a verdict against the borrowers. Unfortunately, there is no visible achievement to 'recover the loan
with interest thereof.' The civil society and bankers are demanding stronger and stricter law for recovery, but they hardly have any
suggestion as to how to fortify the existing law. Everybody in Bangladesh is looking at Judiciary for decisions on each and every matter like
politics, administrative and economic issues. On the other hand everybody is critical of Judiciary.

All government survey and studies revealed that FIs failed to identify entrepreneurs, assessment of project portfolio, management of loan etc
and even failed to recover their investment, but used the legal process to punish the borrowers and recover their investment. There is no rule
and policy to evaluate the performance and responsibility of the bankers.

There must be an end to overuse of legal system for decisions on issues which may be decided by the administration and legislature. The
narrow policy to some how recover loans is not a real solution. Other countries have NPL management policy. The management of NPL is
hardly in the minds of economists and policy makers in Bangladesh.

NPL has double effect on financial institutions. There is no income from NPL and the capacity of further loan is reduced due to provisioning
rule against NPL. The FIs have no option to off load the NPL in order to maximise their profit. FIs in Europe and Asia (except Bangladesh)
are increasingly recognising NPLs sales as an important and efficient strategy in reducing its problem loans. Banks are under strong pressure
in the Basel II environment, leading to more drastic measures to clean up their balance sheets. The NPL market has grown significantly in
the last two to three years as sellers across the world are forced to address the issue of under-performing assets for a variety of reasons
including introduction of BASEL II.

The price of assets are usually increasing very fast since price of security mortgage are also increasing very fast hence banks are in a secure
position for their loan and interest. The recent survey of MIDAS revealed that financial institutions have share of only 15 per cent of total
SME investments. The rate of NPL is only about 10 per cent of total investment of financial institution. On the other hand, due to obvious
reasons banks are not facing questions in capital market as profitability of banks are higher than other countries. There is no national
consensus on NPL as the total investments of banks are very insignificant.

Banks nevertheless have seen a need to act because of the confluence of shareholder pressure, rating agency influence, the need to improve
financial performance to stay competitive, looming international banking standards on Basel II etc. The credit rating has a long term impact
on other business of Banks as well. Unfortunately, local FIs are not so worried of NPL since the local regulatory rules are not so strict and
there is hardly any international expose. The sale of NPLs represents the sale of a bank's right to claim under the loan agreements with
borrowers. Transfer of the loan claims to a new creditor (i.e. buyer) requires no prior approval from the borrower unless otherwise stated in
the loan agreement and allowed by rules and regulations.

There is a global market of NPL as buyers are keenly interested to trade on NPL. Today's NPL market has its roots in the US savings and
loan crisis of the late 1980s, when investors bought portfolios of NPLs from the federal Resolution Trust Corporation. Following the
collapse of Japan's bubble economy in the early 1990s, investors began buying NPLs from Japanese banks as reported in European Non-
Performing Loan Report 2008 of Ernst and Young, a global financial consulting organisation. The trade of NPL began in Asia after the
financial crisis in late 1990s. The global investors began buying NPLs throughout Asia. There are many FIs active in NPL market. Some of
those are: Cerberus, Citigroup, Credit Suisse, Deutsche Bank, Goldman Sachs, JP Morgan Chase, Lehman Brothers (collapsed after US
financial meltdown), Lone Star, Morgan Stanley, and Shinsei Bank etc. These FIs purchase NPL and refine the potfolios.

Another buyer is Asset Management Company (AMC) developed in almost all the countries (except Bangladesh) to transfer NPLs from
banks. AMC is another form of financial institution. AMC may be created by banks themselves or government or may be independent
financial institution.

International investors are finding more choices in acquiring NPL portfolios based on geographic region, since opening up of the market is
reducing barriers to entry, portfolio characteristics (e.g., large or small portfolios), type of loan collateral (corporate, real estate, or other) as
well as other criteria. Investors consider applying various resolution strategies, including discounted payoffs and negotiated settlements;
loan workouts, restructurings and rehabilitations; judicial procedures including foreclosures and liquidation and securitisation requirements,
particularly in Europe where cross-border investing is a common business.
The foreign investors are gradually looking for re-purchase of assets in other destinations for ready set up to avoid initial industry set up
process. This is more essential in developing countries to avoid entry barriers. Today, the investment market has evolved into a broader,
deeper, and more sophisticated market, with investors acquiring not only NPL portfolios, but increasingly, portfolios of doubtful, classified
and performing loans and, as NPL markets mature and diversifying into direct investments in banks, corporations, real estate, and other
assets. The NPL trade is another option to attract foreign direct investment (FDI).

There are many service organisations having expertise in auditing, assessing the net worth, market prospect and legal aspect of competition
act and different local rules and regulations of such transactions. There are many instances that the buyer buy some part of portfolio and
become a joint venture partner for a silent trade on strategic reasons of both buyer and seller.

The FIs usually invite tender for sale of NPL. They provide relevant information on the borrowers, loan arrangements, collateral, and
guarantor in their tender documents. They also focus quality of assets to each prospective investor. These are negotiated in some occasions.
Bangladesh also has similar plans to sell a part of Bangladesh Biman. An official delegation visited Europe for a 'road show' although
Bangladesh could not sell National Airline for the reasons known to all. Usually, the outright cash sale transactions, where investors pay the
full purchase price at the closing in return for full ownership and control of the portfolio of loans. On the other hand, banks must notify a
debtor and receive permission from that debtor to transfer the debtor's loan to another institution.

These deals are widely publicised in global press as stakeholders have keen interest in those transactions. As for example, the German and
international press have actively reported on Germany's NPL transactions, and general information about many deals. From October 2003,
when the HRE transaction marked what is considered to be the opening of the NPL market in Germany, to September 2007, approximately
17 banks and one insurance company have sold portfolios of distressed loans. The most notable early sellers were Dresdner Bank (through
its Institutional Restructure Unit), HRE, HypoVereinsbank (HVB), Eurohypo, DG HYP, Landesbank Berlin, and Aareal Bank with other
regional banks, public sector banks, and cooperative banks also participating.

One of the global players in NPL market, PricewaterhouseCoopers, is active in Asian NPL market. It is dealing with different financial
institutions in Korea, Malaysia, Thailand, India, Korea etc. The Government-controlled Industrial Investment Bank of India (IIBI) auctioned
the largest of these NPL portfolios of INR19.5 billion (US$0.39 billion) in year 2008. With the Government closing IIBI's operations, NPL
investors expected a higher success probability compared to the transaction success rate in 2007.

Korea where resolving NPLs was a high priority put that country back on track in reasonably short order and following the Asian financial
crisis in 1998, major NPL transactions in Korea have involved both secured and unsecured corporate loans. Since 2002, a large proportion
of the NPL market comprised credit card and consumer loan debts. Different Korean banks have sold assets worth about $2000 million in
1st half of year 2008. In South Korea, NPL purchase prices are now 60-70 per cent of face value, compared with 30-50 per cent a decade
ago, according to data from two industry players.

GE Capital, Pinetree Capital, Clearwater Capital and Angelo, and Gordon Asia were among firms looking to buy soured loans in Asia,
market sources said. Standard Chartered and Deutsche Bank are also chasing bad loans from Asian banks. It is encouraging to note that
small-and medium-sized enterprises are also expected to attract interest.

Italy was one of the first European countries to acknowledge its NPL problem and in 1999 created a securitisation law that drove early
transactions. Activity turned quiet after 2001, but turned up dramatically in 2005 and has stayed strong during 2007. The ongoing
consolidation process in the banking sector as well as regulatory requirements (IFRS and Basel II) should also have a positive influence on
NPL market activity in 2008 and beyond.

According to global NPL reports: Currently the Italian market is developing through the following business models: Joint ventures between
banks and operators specialised in NPL management (e.g., Capitalia/Archon Group and Goldman Sachs, Intesa Sanpaolo/Italfondiario and
Merrill Lynch) Creation of specialised bad banks within banking groups for recovering NPLs or acting as the group service organisation for
their management (e.g., Unicredito Gestione Crediti and Monte Paschi Gestione Crediti). Independent operators servicing domestic banks or
international investors in Italy (e.g., SIB Credit Servicing, Pirelli RE).

The strategies for resolving NPLs may differ from country to country and even from bank to bank.

But there are practices and strategies for successful resolutions that have been tested and proven in global markets. A successful NPL
resolution begins with leadership. Government political leaders and regulators must have the political will to reform national economies and
banking systems in order to build stronger financial institutions, minimise banks' NPL exposure, and enable them to compete in global
markets. Certain countries also need to develop the legal framework to facilitate NPL dispositions, such as clearly defining the rights of
creditors (including investors who have purchased NPLs) and borrowers. Bank leaders must take the initiative in implementing reforms
within their institutions, adapting global standards and best practices in portfolio management, and creating systems to quickly identify and
address NPL issues.

Bangladesh banks have NPL of around Tk 250 billion for last few years without any significant changes. The gross NPL ratio in banks
across Asia Pacific is expected to rise to 2.0 per cent in 2009 from 1.6 per cent at end-2008, according to a recent report by Bank of
America-Merrill Lynch.

PricewaterhouseCoopers said in the latest edition of its NPL Asia publication that Asia's bad-loan market will soon become a buyer's market
as the valuation gap between what sellers are demanding and investors are willing to pay shrinks. The total size of banks NPLs in Asia-
Pacific was $1.73 trillion at the end of 2008, Pricewaterhouse said.

There are some remarkable NPL sale available in the press, like the purchase of Daewoo Truck business by Tata, India and sale of Rupali
Bank by Dhabi Group of UAE. Unfortunately, the deal could not be executed due to some reasons.

Bangladesh has some experience of sale of NPL in public sector. Privation Commission is entrusted with the responsibility of selling the
NPL in nationalised sectors. The process may be extended to sale of NPL against private sector.
Banks in Bangladesh are now competing with each other to win over the clients and they use to take over irregular or regular loan of clients
and their business. Unfortunately, banks are unable to take over NPL of other banks due to regulatory restrictions. There are some deals
negotiated between buyers and sellers but unfortunately bank use to keep away from active participation. There are some recent acquisitions
of ailing steel sheet making plants by other companies as published in some dailies. One of the private owned GMG Airline in Bangladesh
has been partially taken over by BEXIMCO group.

The donors like-Asian Development Bank and others have specific recommendations for bail out from NPL crisis by formation of Asset
Management Company and disposing off the NPL.

The rule and regulation may be changed for transaction of NPL portfolios in local and overseas markets. This is another process to attract
foreign investments. There are some business conglomerates which can buy and take over NPL to solve the long standing financial crisis.

The writer is a part-time teacher at Leading University and pursuing PhD course in Open University of Malaysia. He can be
reached at e-mail: shah@banglachemical.com