Given the current economic condition, borrowers are experiencing decline in income and cash flows. As a result, several borrowers are seeking to cut back written agreement, money outlays, the foremost common being debt payments. Refinancing and restructuring are two separate processes however, they usually invoke a similar image that of a desperate company on the verge of bankruptcy making an ultimate effort to stay the business afloat. Whether a corporation is truly refinancing or restructuring is usually lost in translation. This has led to several individuals, as well as even seasoned finance professionals, using the words interchangeably when actually they’re totally different processes.
Fundamentally, refinancing and restructuring are debt reorganization processes taken to strengthen an individual or a company’s money outlook. Debt refinancing refers to initiating a brand new contract, usually at better terms than a previous one, to pay off a loan. The Regulation for the Restructuring of Debts Owed to the Financial Sector (the “Restructuring Regulation”) aims to ascertain a standard framework for a written agreement restructuring and/or rescheduling of financial debt with a view to sanctioning eligible private sector entities to bridge over potential cash flow difficulties amidst increasing current currency and rate pressures.
A Chief Financial Officer (CFO) of the company should guarantee 2 elementary aspects:
- The existence of the required liquidity to pay and
- The collection of cash to make sure the financial condition of the company
The impossibility of meeting the payment obligations of a loan can generate serious monetary and reputational strains. Before the matter worsens to the point of putting the business in danger, negotiations with the bank ought to be initiated.
There are typically 2 alternatives available:
- Refinancing or
In debt refinancing, a borrower applies for a brand new loan or debt instrument that has better terms than a previous contract and might be accustomed pay down the previous obligation. An example of a refinancing would be applying for a new, cheaper loan and using the return from that loan to pay off the liabilities from an existing loan.
Refinancing is used more often than restructuring because it’s a faster, easier to qualify for, and impacts credit score positively since the payment history will mirror the initial loan being paid off. There are numerous reasons for refinancing with the foremost common reasons being reducing interest rates on loans, consolidating debts, changing the loan structure, and releasing up money. Borrowers with high credit scores particularly have the benefit of refinancing because they will secure additional favorable contract terms and lower interest rates.
Essentially, you’re substituting one loan with another therefore, debt refinancing is usually used once there’s a change in interest rates that will influence recently created debt contracts. As an example, if interest rates are slashed by the Federal Reserve, then new loans, as well as bonds, can provide a lower yield on interest payments that is advantageous to borrowers. In this circumstance, a debt refinancing will enable borrowers to pay much less interest over time for an equivalent nominal loan. Restructuring happens principally in special circumstances, wherever borrowers are deemed financially unstable and are unable to fulfill debt obligations. Restructuring also can negatively have an effect on your credit score.
Debt restructuring could be a more extreme choice taken when debtors are in danger of defaulting and negotiate to change the present contract. In debt restructuring, the borrowing party should negotiate with the creditor to both form a scenario wherever the parties are comfortable. If you know that you can’t make timely payments on your loan, or if a layoff has compromised your financial stability, then it’s usually prudent to start talks with the lenders. Lenders don’t want borrowers to fail their loans due to all the aforesaid costs of bankruptcy. The bulk of the time, lenders can comply with negotiations with underwater borrowers to reconstitute the loan, whether or not meaning waiving late fees, extending payment dates, or changing the frequencies and quantity of coupon payments.
RBI LOAN STRUCTURING SCHEME
Recently, the Reserve Bank of India gave the approval signal to a loan restructuring scheme for stressed borrowers. A special window providing one-time loan restructuring to corporations and individuals, it will offer relief specifically to those wedged by the Covid-19 pandemic. Solely those corporations and people whose loans accounts are in default for less than thirty days as on March 1, 2020, are eligible for one-time restructuring. For corporate borrowers, banks will invoke a resolution plan until December 31, 2020 and implement it until June 30, 2021. It’s expected to provide relief to corporations that were servicing loan obligations on time however may have found it troublesome after March, because the pandemic affected their revenues. Firms that were already in default for over 30 days as on March 1st, 2020 cannot avail this facility. For private loans, the resolution may be invoked until December 31, 2020 and can be enforced within ninety days. The RBI has created a five-member skilled committee headed by Sh. KV Kamath, former Chairman of ICICI Bank, which will create recommendations on the monetary parameters required and can advise RBI on this loan recast scheme. The committee can suggest a list of economic parameters to be thought of for resolution plans, as well as sector-specific factors. It’ll conjointly vet massive resolution plans beneath this scheme to visualize if all rules are being followed. Banks will have to be compelled to maintain extra 10% provisions against post-resolution debt, and lenders that don’t sign the Inter-Creditor Agreement (ICA) within 30 days of invocation of the plan can need to produce a 20% provision. RBI has inbuilt safeguards within the resolution framework to make sure it doesn’t result in ever-greening of bad loans as in the past. Restructuring of huge exposures would require independent credit analysis done by rating agencies and a process validation by the Kamath-led expert committee. The earlier restructuring schemes failed to have any entry barrier, in contrast to the present scheme that’s out there just for companies facing Covid-19 related stress, as known by the deadline of March 1st, 2020. Strict timelines for invocation of resolution plan and its implementation are outlined within the scheme, in contrast to within the past when this was mostly open-ended.
why refinance or restructure? A key catalyst is to avoid the price of bankruptcy for each the borrower and also the creditor. Due of the legal expenses levied on each borrowers and creditors, most debt restructuring problems are settled before bankruptcy becomes inevitable. Usually, each party needs to avoid those outcomes, creating restructuring and refinancing enticing alternatives. While the economic landscape that has invoked the necessity for the Restructuring Regulation could also be exceptional, the provisions of the Restructuring Regulation themselves seem to be have their basis in previous restructuring laws numbered 4743 and 5569. It ought to thus be reasonable for entities who desire to take a preliminary view as to their position underneath the Restructuring Regulation to assume that the common Framework Agreement, once accessible, are going to be under precedents under these previous restructuring laws. It is worth noting that the selection to control restructurings by manner of regulation, instead of by law as antecedently, needed dropping certain tax exemptions and advantages like incentive extensions offered underneath previous restructuring laws because, as a technical matter, these exemptions and protections don’t seem to be capable of being cast by manner of secondary legislation. In any event, market interest can reveal if and how much this can deduct from the general benefit of the Restructuring Regulation.