What banks, individuals and corporates should do to mitigate the Covid- 19 pandemic’s impact on debt obligations.
Given the speed with which Covid -19 struck, one cannot confidently assess the financial impact. It is however understood that there will be a massive negative impact experienced across the economy, as demand for certain goods and services reduces. The impact is yet to show up as non-performing loans, as firms are still running down their working capital and accessing overdraft facilities to stay afloat.
Though banks are not hit directly, they sit at the heart of the economy providing funding to corporates and individuals. Their stability is crucial to keep the system up and running and thus governments are putting in place measures necessary to enable banks aid in mitigating a market downturn.
After the first case of Coronavirus was detected in Kenya, like in many other nations, our government, implemented the below policy measures to cushion the economy and spur demand of goods and services in the population;
- Lowering of the Central Bank rate to 7.5% from 8.5 %; and
- Reducing the cash reserve ratio for banks to 4.25 % from 5.25 %, releasing about KShs. 35.2 billion to distressed borrower.
The aim of the Central Bank is to mitigate the risk that some of the banks may breach prudential liquidity regulatory levels but also incentivise the banks to provide new lending or restructure existing facilities for affected borrowers. This will ensure that credit continues to flow smoothly in the economy, buffer the negative impact and avert permanent damage on households and businesses.
While the measures may prove effective in increasing financiers’ ability to lend, they will struggle to solve many of the other challenges associated with the virus’ spread, including supply chain disruption and sharp falls in consumer spending.
From a micro level different player will need to respond differently as follows;
How banks should respond.
As directed by the Central Bank, banks should seek to provide relief to borrowers based on their individual circumstances, extend loan periods for up to one year, meet the costs of extension of facilities and facilitate use of digital banking platforms.
As banks reclassify the risk profiles of their various customers, we have seen slight attempts by banks to comply with the Central Bank directive. Banks need to intentionally and actively offer support and assistance to their customers by among others:
- Offering waiver of fees- to stimulate borrowing and increasing borrowers’ liquidity- banks should consider offering waivers on the processing fees and other bank charges. Financers should also liaise with the relevant service providers to see how all parties can mitigate the cost of securitization for borrowers. We are available to discuss with our clients on various ways we can assist to mitigate the financial impact to borrowers.
- Pay breaks - This can be done by offering a moratorium, freezing the payment obligation or freezing both the interest accrual and the payment obligation. Where interest will continue to accrue, it is important that this is communicated succinctly to the customers to enable them make an informed choice.
- Lowering of interest rates - Where a lender extends goodwill by reducing the interest rate, they must bear into account the provision of security documents and issue the relevant notice.
- Restructure debt- This can be done by a blend of lowering the interest rate, giving pay breaks and extending the loan payment period, increasing the security among others.
- Offering new debt- Some borrowers may need a new injection of cash to enable them survive this before resuming fulltime production- where the bank wishes to extend new facilities to a borrower, they will need to assess the ability of the borrower to resume productivity and profitability post the pandemic.
During this difficult time, it’s important to make the impacted clients feel that a bank has their back. If the pandemic lasts longer than about three months, the above advice may not hold because banks themselves may suffer liquidity. Without loan repayments, banks liquidity will reduce and consequently the cost of borrowing will go up.
How individual borrowers should behave.
Before making any decision on loan repayment or otherwise, every individual will need to re- evaluate their finances. This is crucial for planning purposes.
Having evaluated one’s finances, individuals should ensure that they have an emergency fund. Even if one is paying down debt, the initial focus should be on retaining a enough money to meet at least two months’ worth of living expenses.
Having set aside an emergency fund, one can then proceed to re-evaluate their loans. Where a borrower has more than one loan facility, it is crucial that they assess all their debts, based on the amounts outstanding and the interest rates accruing on each facility.
Where a borrow feels that they are not able to service all their debts, they should approach the lender and renegotiate their facilities. The notifications by a financer of a payment holiday may not meet a specific borrower’s need and thus the need to approach the bank.
If there are funds available to service some loans, borrowers should consider paying off the high-cost debt such as credit card debt and unsecured loans first as they tend to attract the highest interest rates.
Please note-Do not ignore calls from the bank or fail to query the bank should they fail to credit your account when a payment is due. This will only lead to an increase in the interest rate and an acceleration of the debt liability.
Actions for Corporate borrowers and SMES
Due to the uncertainty of the duration of the pandemic and the economic downturn, it is important for businesses to assess the long-term business prospects and ability to survive.
If it appears that the business will not survive in the long-term, to minimize losses and protect creditors, the business may need to resort to alternative strategies such as voluntary winding up as provided HERE.
Where the business can survive in the long-term but requires a buffer, the business may consider taking on or increasing its debt.
Where there is an existing obligation, the entity should approach the bank to renegotiate the loan terms. Whereas certain banks are offering reprieve by notices in the newspapers, this is not necessarily the best-case scenario for each specific borrower. It is therefore necessary for the buyer to reach out to the bank and to renegotiate terms of credit to suit the specific business’ circumstances.
Where an agreement to restructure has been arrived at, ensure that the same is reduced into writing. Under the law of contract, the provisions of a written agreement cannot be amended by a verbal agreement. Additionally, most security documents provide that any amendment to the security document should be in writing and executed by both parties. A newspaper excerpt will not suffice.
There are ongoing transactions where borrowers were taking on debt but the securitization process had not been finalised and cannot be finalised due to the closure of our various registries. In this instance, having done the relevant risk assessment, financiers may need to consider giving the borrowers a drawdown pending registration of the securities.
Where documents were pending at the lands’ registry and undertakings for payment of money within a certain period had been given, parties to the undertakings need to urgently renegotiate and where possible extend the time for performance of the undertakings.
The pandemic has exposed certain deficiencies and the areas for growth and improvement for governments, corporates, SMEs and individuals. It is important that we all learn and adjust quickly and efficiently to remain relevant.
Article by Nyawira Kirubi, Partner at MMAN Advocates.
Nyawira heads Banking and Finance and Real Estate practice areas. Her areas of specialization include banking law and securitization, property law and conveyancing, corporate and commercial work and capital markets.