NPAs: The Bane of Indian Banking Sector
What is a Non-Performing Asset?
Non Performing Assets (NPAs) are a classification used by financial institutions that refer to loans that are in jeopardy of default. Once the borrower has failed to make interest or principal payments for 90 days the loan is considered to be a non-performing asset.
In general terms NPAs are assets/project not generating cash flow to the extent and in the period originally envisaged. By translation, banks may not be able to timely recover the entire amount lent and hence, provisioning. However, in real world, NPAs arise due to genuine reasons, wrong assumptions/inefficiencies and misdemeanour.
The Magnitude of NPAs
As per a survey, net NPAs amount to only 2.36 percent of the total loans in the banking system. However, if restructured assets are taken into account, stressed assets account will be 10.9 percent of the total loans in the system. As per the International Monetary Fund (IMF), around 37 percent of the total debt in India is at risk.
India’s largest lender State Bank of India (SBI) reported a massive 67 per cent fall in consolidated net profit at 1259.49 crore rupees in the third quarter of the 2015-16 financial year and classified loans worth 20692 crore rupees as having turned bad.
As per an estimate, the cumulative gross NPAs of 24 listed public sector banks, including market leader SBI and its associates, stood at 393035 crore rupees as on 31 December 2015.
The Economic Survey 2015-16 also alarmed the policy makers about growing bad debts with the banks and their potential to disrupt the growth prospects in the future.
Causes of rising trend of NPAs
In real world, NPAs arise due to genuine reasons, wrong assumptions/inefficiencies and misdemeanour. The causes can be categorized into external environment and internal environment.
Under the external environment falls global slowdown, fall in domestic demand, policy logjam & disputed contracts.
Under the internal environment falls:
Banks: Governance deficit, poor credit appraisal; weak risk management; all debt-no equity; infra financing particularly highways- ‘gold plated’ contracts; power – faulty FSAs, pass through arrangement, termination payments; chasing quick growth; pretend and extend
Corporate India: Complex web holding company, step down entities; high leverage; overseas acquisitions; unhedged exposures; siphoning, diversion and so on
Value sale v/s distress sale: Minsky’s Financial Instability Hypothesis- 3 types of borrowers (Hedge, Speculative and Ponzi)
Beyond Corporate Universe: Kisan Credit Card and Agriculture distress vis-a-vis crop insurance; Small/ medium enterprises…. lack of timely support and delayed payments
Effects of rising trend of NPAs
• Public Sector banks provide around 80% of the credit to industries and it is this part of the credit distribution that forms a great chunk of NPA. Last year, when kingfisher was marred in financial crisis, SBI provided it huge amount of loan which it is not able to recover from it.
• If Indian industry is in crisis, it is bound to hit the banking sector and their NPA will rise.
• Only PSBs can’t be blamed for the situation. The economic policy of the government and also politician-corporate nexus is behind the current state of banking industry.
• If the NPAs keep rising in the current state like that of Kotak Mahindra or Union Bank, it will lead to shutting down of bank and it can also create a very serious economic crisis in the nation.
• One of the main reasons of rising NPA is the relaxed lending norms especially for corporate honchos when their financial status and credit rating is not analyzed properly. Also, to face competition banks are hugely selling unsecured loans which attributes to the level of NPAs.
• Global economy can effect the banking sector but to a very small extent. It is the policies of RBI and govt. that can improve the situation.
• If the status of NPAs in banks is not controlled, banks can become bankrupt. The entire credit distribution structure of the economy can be destructed and the country could be in a major financial turmoil.
• When US hit the subprime crisis, it was because of the lenient lending norms and baks had huge number of loan defaulters. The big banks filed for bankruptcy and US economy went jittery. So, NPA problem is to be taken seriously.
Steps taken by RBI
• RBI suggested that lenders should carry out their independent and objective credit appraisal in all cases and must not depend on credit appraisal reports prepared by outside consultants, especially the in-house consultants of the borrower company.
• Banks/lenders should also carry out sensitivity tests/scenario analysis, especially for infrastructure projects, which should inter alia include project delays and cost overruns. This will aid in taking a view on viability of the project at the time of deciding the Corrective Action Plan (CAP).
• RBI also suggested that Asset Reconstruction Companies (ARCs) should be construed as a supportive system for stressed asset rather than the last resort to dispose of NPAs by banks. Sale of assets to ARCs at a stage when the assets have good chance of revival and fair amount of realizable value, for rehabilitation and reconstruction is encouraged.
• RBI will encourage banks to use floating provisions towards accelerated provisioning/additional provisions incurred at the time of sale of NPAs as per their approved internal policy without obtaining prior permission of The promoters of the company/defaulting borrowers shall be barred from directly/indirectly buying back the asset from the ARCs. RBI proposed to look into the possible legal issues involved and address the same.
RBI’s Action Plan for Early Identification and Resolution of Bad Loan cases
• Expensive loans for borrowers whose credit worthiness is suspect
• Debt restructuring plan to ready within 17-100 days as against 180 days earlier
• Payment delay of 30-60 days to trigger action as against 90 days earlier
• A joint lenders forum for large borrowings of 100 crore rupees and more
• Setting up special branches for speedy disposal of SARFESI (Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act) cases
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