COVID-19 and Default of Commercial Loans: Looking Ahead
The time we are living in is unprecedented, to say the least. While claims relating to health, social and political unrest are undeniable, the economic disaster that we are facing now or will be facing in the future due to the pandemic is worrying. The experts are unanimously predicting that the affected countries will face a sharp decline in economic prosperity. It is predicted that Bangladesh will not be immune from this catastrophe either. The World Bank's report suggests that Bangladesh's gross domestic product growth will fall from last year's 8.15 percent to 2 percent by the end of this financial year (June 30), with the highest growth range peaking at a mild 3 percent. At this rate, many companies will face extensive losses and will be forced to wind up their businesses. The inevitable result will be a rise in default of loan repayments. The Government of Bangladesh is very much aware of this economic challenge and, through its actions, has taken an aggressive approach in its fight to keep our economy afloat. The Hon'ble Prime Minister has already declared generous stimulus packages to be distributed through the Bangladesh Bank and several initiatives have also been taken by the Bangladesh Bank to support businesses to navigate through these troubling times.
However, a more aggressive approach may be taken by the Bangladesh Bank to address the problems which will be faced by the borrowers in repaying their loans. As part of its crisis management strategy, the Bangladesh Bank has already directed all scheduled banks and financial institutions not to downgrade the credit classification of any borrowers for defaulted loans between the period of 1 January 2020 and 30 June 2020. This is undoubtedly a helpful step taken which will aid the defaulting borrower's situation given the current circumstances and the looming crisis. However, it is suggested that, in order to effectively mitigate the impact of COVID-19 on the borrowers and, resultantly, the economy, the Bangladesh Bank may consider announcing a more robust regulatory package.
Apart from a stay on credit classification, the Bangladesh Bank may also consider offering a moratorium to the ailing borrowers on their loan repayments. A moratorium can be termed as a payment holiday, which allows the borrowers to defer due payments for a specified period. In simple terms, the effect of a moratorium is that if any bank in Bangladesh grants a moratorium to the borrower, then the borrower will not be required to repay the loan amount due to such a lender during the moratorium period – thereby giving the borrowers the much needed "breathing space". The moratorium shall defer all instalments, including the interest payable during the moratorium period, and all of the interest accumulated during the moratorium period can be paid at the end of the repayment schedule. For working capital facilities, the moratorium will only suspend the interest payment during the moratorium period, and the interest accrued during this period shall be payable after the end of the moratorium. In this way, the borrowers can concentrate on focussing to keep their businesses afloat and retain their employees rather than going on a spree of employment cuts and lay-offs. It is believed that this may not have a massive adverse effect on the bank's profits as well because, consequently, the repayment schedule for such a loan account will be extended and the amounts payable during the moratorium will, in any event, be repaid during the said extended period. This proposal has also been suggested by the World Bank and has already been introduced by our neighbouring country India, where the Reserve Bank of India has permitted all commercial banks and financial institutions to grant a moratorium to their borrowers for up to 3 months on the payment of all principal, interest and repayment instalments between 01 March 2020 and 31 May 2020.
Apart from a moratorium, the Bangladesh Bank can also direct the scheduled banks not to trigger the default clauses under the loan agreements. Typically, a financing facility provides for a material adverse effect, popularly known as 'MAE', as a trigger for an event of default. The banks generally negotiate an expansive definition of MAE which includes any event that has a material adverse effect on the business of the borrower. Undoubtedly, due to COVID – 19, the future cash flows of many businesses will get negatively impacted. This may trigger MAE in a financing facility, subject to its terms and conditions. Moreover, the banks do not favour a 'force majeure' clause in their financing documents, since it may allow a borrower to avoid its payment obligations. In the absence of an explicit 'force majeure' clause, the borrowers will be left to argue an implicit 'force majeure' clause – thus increasing disputes and litigation between the parties. A clear guidance from the Bangladesh Bank may certainly avoid such a situation.
Another important area where the Bangladesh Bank can provide some valuable assistance to the ailing borrowers is the valuation of assets kept as security. The COVID-19 pandemic has already upset the stock market, with recession looming large. All these factors have a cascading impact on the valuation of assets. In a secured financing transaction, the security package may have a variety of assets such as shares, immovable properties and moveable assets. If the security depletes, a bank can typically ask a borrower to replenish the security. If the borrower fails to replenish the security, it will constitute an event of default, which entitles the bank to accelerate repayments under the facility and enforce any security. Since most of the assets kept by the borrower as security will devalue, unless the Bangladesh Bank intervenes or gives proper guidance, the banks will be at liberty to sell these assets at the reduced value and then claim additional security from the borrower for their remaining loan amounts – thereby creating more pressure on the ailing businesses. Lastly, the Government of Bangladesh may also consider a temporary suspension of the insolvency provisions contained in our laws. For the time being, this step may shield businesses against insolvency proceedings from their creditors. Recently, the Government of India has also suggested that if the COVID-19 crisis continues beyond 30 April 2020, it may suspend certain provisions of their insolvency laws for a period of 6 months to shield businesses against insolvency proceedings from their creditors.
In this time of crisis, the steps that have already been taken by the Government of Bangladesh under the able leadership of the Hon'ble Prime Minister is certainly praiseworthy. It is believed that if the above steps are also taken by the Government of Bangladesh (if not done already), then such actions will be timely and will go a long way to help keep businesses afloat in this pandemic and its aftermath.
The writer is the Head of Firm of Sattar&Co. assisted by his research associate, Nafiz Ahmed.