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    RBI Circular Sets Out Financial Parameters for Resolution Framework

    September 07, 2020

    RBI issued a follow-up circular, to the resolution framework guidelines that were published in August 2020. This circular sets out five financial ratios and the thresholds for each ratio, with respect to 26 sectors, to be taken into account while finalizing the resolution plans. These financial ratios are total outside liabilities/adjusted tangible net worth (TOL/ATNW), total debt/EBITDA, current ratio, debt-service coverage ratio (DSCR), and average debt service coverage ratio (ADSCR). The sectors for which certain ratios have not been specified, the lenders shall make their own assessment, keeping in view the contours of the circular on resolution framework, dated August 06, 2020, and the follow-up circular.

    In August 2020, RBI had announced the constitution of an Expert Committee to recommend the required financial parameters along with sector-specific benchmark ranges for such parameters to be factored in the resolution plans, in respect of borrowers eligible under Part B of the Annex to the circular on resolution framework (dated August 06, 2020). In September 2020, the Expert Committee submitted its report on the recommendations, which RBI has broadly accepted. The Committee has recommended financial parameters that, inter alia, include aspects related to leverage, liquidity, and debt serviceability. The Committee has recommended financial ratios for 26 sectors and these could be factored-in by lending institutions while finalizing a resolution plan for a borrower. 

    Therefore, all lending institutions shall mandatorily consider the five financial ratios while finalizing the resolution plans in respect of eligible borrowers under Part B of the Annex to the circular on resolution framework. The sector-specific thresholds for each key ratio that should be considered by the lending institutions in the resolution assumptions with respect to an eligible borrower are given in the Annex to the follow-up circular. Lending institutions are allowed to consider other financial parameters as well while finalizing the resolution assumptions in respect of eligible borrowers, apart from the mandatory key ratios and the sector-specific thresholds that have been prescribed. 

    Lending institutions are expected to ensure compliance to the TOL/ATNW ratio agreed as per the resolution plan at the time of implementation. Nevertheless, in all cases, this ratio shall have to be maintained as per the resolution plan by March 31, 2022 and on an ongoing basis thereafter. However, wherever the resolution plan envisages equity infusion, the infusion may be suitably phased-in over this period. All other key ratios must also be maintained as per the resolution plan by March 31, 2022 and on an ongoing basis thereafter. Compliance with the agreed ratios must be monitored as financial covenants on an ongoing basis and during subsequent credit reviews. Any breach not rectified within a reasonable period, in terms of the loan contract, will be considered as financial difficulty.

     

    Keywords: Asia Pacific, India, Banking, COVID-19, Resolution Framework, Regulatory Capital, Credit Risk, Expert Committee, Resolution Plan, RBI 

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