Implications of Investing in Distressed Assets in India

Since the early 21st century, India has been experiencing robust growth, with many companies expanding their capacities. The loan books of the banks were also growing at a fast pace. However, since 2012, the country has seen a sharp rise in the number of stressed loans. This was brought on because of unrelated corporate diversification, postponement of project approvals, and cost overruns. With the COVID-19 pandemic, this stress was further exacerbated.

As of now, the non-performing assets (NPAs) in the banking sector stand at around 10% of the total assets (or roughly USD 135 billion)

The increasing corporate stress in real estate and other such sectors has also impacted the Indian non-bank finance companies (NBFCs), especially those providing wholesale credit. The non-bank NPAs currently stand at around 7% of the total assets in India. This is equivalent to roughly USD 25 billion. With this, the total amount of distressed assets comes up to around $160 billion in the Indian financial system.

While corporate debt was the major contributor to this stress, the emergence of the pandemic caused a sudden increase in the Indian retail NPAs as well. It was expected that the retail NPAs would increase from 2% (2018) to 4% (2021).

There is a wide scope for investors who are interested in this market. With viable refinancing and restructuring, the distressed assets can possibly be turned around successfully.

In this article, we will examine the implications and scope of investing in distressed assets in India.

The investment environment for distressed assets in India

The landscape of investments in distressed assets in India has undergone a dramatic change in recent years. Initially, the lack of robust regulatory, legal, and resolution frameworks meant that the investors mostly stayed away from investing in distressed assets. The promoters used to exploit the system because of a lack of lender-friendly laws. Meanwhile, the banks continued the practice of ‘loan evergreening’ in the face of lax oversight.

However, in the past few years, the resolution process for NPLs (non-performing assets) on the banks’ balance sheets has changed considerably. The introduction of the Insolvency and Bankruptcy Code (IBC) gave a legal structure to the distressed asset resolutions, with well-defined responsibilities, processes, and timelines. The authorities have also become very active in ironing out the new challenges. With this, many domestic investors have started actively investing in the distressed assets space so that they can acquire these assets at a discount.

Navigating the distressed assets space as an investor

If you are interested in investing in distressed assets, there are certain things you must consider:

1. Consider the risks and rewards

The mortality rate and payoffs of distressed assets India investment are very much like convertible debt. This is because the businesses usually tend to have a clean balance sheet and a relatively fair past record. The collaterals they have pledged also indicate some good returns. If you want to derive even better returns, it is important to involve the companies closely and create an effective resolution plan. However, you need to consider the element of risk involved in these kinds of investments. There can be issues related to valuation, illiquidity, and price recovery.

2. Low correlation with debt markets

Distressed assets investments are mostly standalone opportunities for financial engineering. They have a low correlation with traditional asset classes like debt markets or equity. This presents a great opportunity for investors who are looking to implement a diversification strategy.

3. Legal issues

Historically, the Indian justice system has been quite accommodating with the appeals led by the promoters. It has been observed that the timelines for adjudication have been quite long. With the introduction of the IBC, it is expected that things will change. However, much of it remains to be seen. There is speculation that the government policies can change suddenly, which can adversely impact the returns. With the counter appeals and legal issues, it is expected that there will be more clarity on the matter eventually.

4. Take the help of experts

Scouting distressed businesses and turning them around requires a considerable amount of effort. This is why you should consider taking valuation services from experienced professionals in the industry. You can also think of partnering with experts on private equity funds and special situations. With the help of their large network, you would be able to source opportunities, carry out precise business and asset valuation, and conduct reference checks. This can aid you in avoiding valuation traps and legal issues. Besides this, the experts can also help in identifying potential distressed assets of value, even before they can be classified under the distressed category.

5. Robust framework for incentives

It is important for investors to set up a fair and robust framework that provides incentives to all the stakeholders during the turnaround. As per the experts, equity earn-out deals with promoters have worked quite well in the past. If the stakeholders’ interests are misaligned, the initiatives for restructuring can be derailed. As a result, the invested capital will be squandered away.

Recommended, A Guide to Distressed Asset Investing and Corporate Restructuring

Conclusion

Investing in distressed assets can be quite exciting because of its low correlation to traditional asset classes and the potential of ‘buy low sell high.’ Expert valuation services can help you in buying value assets that have a great potential for a turnaround. The key is to perform due diligence so that the traps related to litigations, pricing, and operations can be avoided.

We can help you in performing due diligence by providing asset and business valuation services that are the best in the industry. To know more, contact us today!

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