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Finance Ministry, State Bank wary of proposal

Debt-equity swaps could shift

'sickness' from industry to banks

RECORDER REPORT

ISLAMABAD: Both, the Ministry of Finance and the State Bank of Pakistan have strong reservations about putting in place a system for financially rehabilitating the sick and closed industries through a debt-equity swap mechanism, as it could result in the country having sick banks instead of ailing industries.

There are around 3,000 sick industrial units owing around Rs 42 billion in overdues to the banks and development financial institutions. Since the publication of the Rs. 80 billion defaulters' list, two years have elapsed and, despite the best efforts from the highest quarters, the recovery process has been painfully slow.

So far the banks have rescheduled their loans in 262 cases, mainly of groups with powerful political connections, amounting to around Rs 14.7 billion. Another 313 cases are reportedly in the pipeline and at this rate it would take about 20 years for rehabilitating the sick industry in the country.

In order to expedite the revival of the sick industry, a meeting was chaired by the Prime Minister on the eve of the federal budget and it was decided in principle togo for debt-equity swaps, for which a mechanism was to be put in place as soon as possible. Announcement to the effect was made that every evening on the floor on the National Assembly by the Minister of State for Finance Makhdoom Shahabuddin.

It is learnt that the Prime Minister has minuted the said decision and sent it to the Ministry of Finance for execution of the "Debt Equity Scheme".

On August 6, 1995 a meeting on the issue was chaired by the Advisor to the Prime Minister on Finance and Economic Affairs V.A. Jafarey to hammer out the rules for the Debt-Equity Scheme. Besides the ministry officials, the State Bank, Pakistan Banking Council and the Corporate Law Authority were also represented at the meeting.

According to the data made available at the meeting, Rs 47 billion which is 58 percent of the Rs 80 billion in overdues is the principal amount and the balance of Rs 33 billion is the mark-up due to financial institutions. In two years the recovery has been only 15.9 percent (Rs. 12.8 billion) and if the rescheduled amount of Rs 5 billion is included then in percentage terms it amounts to 21.9.

Taking into account the politico-social culture of our society, fears were expressed at the meeting that the debt-equity swap mechanism may lead to more sick banks and DFIs, even though the prevailing Prudential Regulations do not debar financial institutions from restructuring debt, inclusive of writing off loans and some of the paid-up capital so long as the borrowings do not exceed ten times the paid-up capital.

However, it was felt that in most cases the equity portion was just a worthless piece of paper and if this was passed on to the banks then the provisioning requirements for overdue loans could easily be bypassed and writing off equity in these units in the name of a bank would not require booking the loss and would not be subjected to audit and inspection by the banking regulators.

As such, it was essential that debt-equity swaps should only be allowed to take place where the concerned industry is still a commercially viable entity in terms of its technological base and demand in the market for its products.

Furthermore, the swap should only be permitted with a change in management and banks should be allowed to market the equity portion held by them to the new owners who are able to raise funds on their own financial strength from the banking system and the capital market.

However, no concrete position has emerged on the issue thus far, resulting in the typical bureaucratic solution of postponing a definate answer by opting to invite suggestions from the business community on the issue.