On Wednesday evening, the Reserve Bank of India dissolved the board of defaulting finance company Dewan Housing Finance Ltd (DHFL), with an intention to initiate insolvency proceedings against it. The move is a first of sorts in the finance world as banks and non-banking finance companies (shadow banks) were so far out of the ambit of insolvency laws in the country.

The plan for a better resolution to the woes of creditors of defaulting shadow banks gained the spotlight after the collapse of Infrastructure Leasing & Financial Services (IL&FS), considered a systemically important company by the RBI, last year. The government had to then scurry and assemble a new board for resolution of its problems and oversee the sales of its assets to pay off its liabilities. The government had then appointed a board led by Kotak Bank chairman Uday Kotak, who recently was given an extension after completing a year.

DHFL ceased operations in September 2018, shortly after the IL&FS crisis and it was downgraded to default grade several months later. In the interim, DHFL continued to pay its obligations by selling assets or otherwise, and had paid ₹55,000 crore worth of liabilities but it operated on its own accord fulfilling payments as and when they fell due. However, after its first default, banks led by State Bank of India (SBI) took over management of debts and the responsibility of finding a resolution plan.

However, the plan came unstuck as mutual funds, which were overseen by the stock market regulator Securities and Exchange Board of India (SEBI), objected to several clauses the banks had drawn up in their resolution plan. Two months ago, a court case put a lid to DHFL paying out monies to its fixed deposit investors, which pushed the government to find a solution to DHFL, which was considered a systemically important financial institution as its advanced small ticket loans to home buyers. The latest plan by the RBI will be a test case in resolving defaults by non-banking finance companies, which now undergo the same process as other defaulting companies before the National Company Law Tribunal.

The need to find a better solution to insolvent NBFCs became stark as the resolution plans proposed by the banks hit several hurdles. First, the resolution plan by banks was not seen as fair by mutual funds, while SEBI norms did not allow certain mutual funds to participate in the resolution. For example, after DHFL became a defaulter and the banks took charge of its book, all the monies lying with banks were to be apportioned only on the basis of the final resolution that was mutually signed off by the lenders. In one particular transaction, government-owned Bank of Baroda adjusted nearly ₹3,000 crores of DHFL funds lying with it against its own loans to the company. The mutual funds did not take kindly to the transaction and petitioned the court to stop banks from deciding the resolution.

The final plan, which enabled the RBI to supersede DHFL’s board and refer it to NCLT, was in the works for over two months. It is said that SBI chairman Rajnish Kumar pushed hard for the deal as he felt that unlike manufacturing companies which can be kept running with a bit of working capital, assets in the financial sector companies will deteriorate quickly if not attended to soon. He argued that the more DHFL’s resolution plan was delayed, the lesser was the chance of state-owned banks recovering their loans. For example, a big chunk of DHFL loans were to builders and there was a feeling that these loans could turn bad quickly if oversight was delayed.

To start with, the RBI has already appointed an administrator R. Subramaniakumar, ex-managing director and CEO of Indian Overseas Bank. Subramaniakumar, on Wednesday, visited DHFL’s office and is said to have spoken to DHFL promoter Kapil Wadhawan to understand the nitty-gritty of the business. An earlier appointee Vaijinath M. Gavarshetty, who was appointed as CEO of DHFL by the committee of bankers, had formally taken charge in September, is also said to have been apprised of the new developments.

The new dispensation at DHFL will first need to present a resolution plan (RP) to NCLT, which will have to be approved by it within 180 days. The approval will be done taking into consideration demands by the lenders, for the NCLT will appoint resolution professionals to vet the resolution plan. A DHFL executive, who did not wish to be named, says that a resolution plan is ready to be submitted as early as Monday as they were already in the middle of the process with banks when the RBI made known its latest decision. “Over the last several months, we have been listening to all our stakeholders and we know their stand on the issues. With the process going to NCLT, there is a visibility of how the pending dues will be settled and this should speed up their participation on any resolution plan,” he said.

It is expected that as a part of the resolution plan, promoter Wadhawan’s stake will come down to 19% from the current 39%, as the banks seek to convert some of their loans to equity. As the regulations allow for the current promoter to continue, Wadhawan will continue to be on the board. However, the stake could end up lower still if the NCLT process brings in an outside investor, financial or strategic, who is ready to infuse a lot of capital to buy out the business. In that scenario, Wadhawan will end up being another shareholder.

There are rumours that Adani Group, Apollo, and Cerberus have evinced an interest in picking up a stake in the company, though no details are available. In an interview to CNBC-TV18, SBI’s Kumar had said that several companies were interested in DHFL as it was a good “franchise”.

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