The Hindu Business Line : Strict guidelines for asset securitisation

The new-age definition of securitisation is a process by which assets are sold to a `bankruptcy remote' special purpose vehicle in return for immediate cash payment.

Securitisation in India would probably throw up memories of banks and financial institutions seizing the assets of errant borrowers and disposing of the assets to recover their pound of flesh for what they lent to borrowers. However, the word has got a larger meaning, which would encompass selling away one's assets to special purpose vehicles (SPVs) which, in turn, would sell them off to potential investors.

The fact that SPVs were used by Enron for not-so-special purposes called for a regulator for such assets. In India, the Reserve Bank of India (RBI) took upon the responsibility considering the fact that banks were securitising assets and, in some cases, with the singular intention of getting the assets off their books to meet capital adequacy requirements. The new-age definition of securitisation is, a process by which assets are sold to a `bankruptcy remote' SPV in return for immediate cash payment. The cash flow from the underlying pool of assets is used to service the securities issued by the SPV.

Securitisation thus follows a two-stage process. In the first stage, there is sale of single asset or pooling and sale of pool of assets to a `bankruptcy remote' SPV in return for an immediate cash payment and, in the second stage, repackaging and selling the security interests representing claims on incoming cash flows from the asset or pool of assets to third party investors by issuance of tradable debt securities.

RBI's Circular dated February 1, 2006, hasguidelines for securitising standard assets. What constitutes a `true sale' of the assets looks like an extract from the pages of the Sale of Goods Act — the sale should result in an immediate legal separation from the assets, the originator should effectively transfer all risks/rewards and rights/obligations pertaining to the asset, the originator should not hold an economic interest in the asset, there shall be no obligation on the originator to repurchase the asset save to the extent of 10 per cent of the original amount sold to the SPV and that the sale should be only on a cash basis.

An option to repurchase fully performing assets at the end of the securitisation scheme where the residual value of such assets has, in aggregate, fallen to less than 10 per cent of the original amount sold to the SPV (`clean up calls') could be retained by the originator and would not be construed to constitute `effective control', provided: i) the purchase is conducted at arm's length, on market terms and conditions (including price/fee) and is subject to the originator's normal credit approval and review processes; and ii) the exercise of the clean-up call is at its discretion.

While it is creditable on the part of the RBI to have brought out pretty strict guidelines, their relevance is something that would need to be looked into. It is nobody's argument that, at present, banks would like to hold on to standard assets at any cost to compensate for interest losses on sub-standard, doubtful and loss assets.

Apart from the interest, the costs of servicing standard assets can be used by banks to make up for their regular and periodic costs on servicing the not-so-standard assets.

An option with recourse factoring dampens the saleability of securitisation standard assets. Maybe, the RBI could think of diluting the present norms and mandating simplified securitisation norms for troubled assets.

(The author is a Hyderabad-based chartered accountant.)

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