Bad Loans (NPA) in Banks: Why do we have this state of affairs?

The BSR-1 released by RBI at every quarter shows that small borrowal accounts the credit limit up to ₹ 0.2 million constitute only a share of 7.3 percent in total outstanding credit of the banks. From the above stats, we may infer that it is the large borrowers who have been heavily damaging banking industries in India by loading on them the enormous amount of NPAs and not the small borrowers responsible for the present state of affairs. From the various other reports, we may observe that five main sectors run by large borrowers of commercial banks namely infrastructure, iron and steel, textiles, mining, and aviation that are major contributors to NPAs. The above five sectors contribute an aggregate of 54 percent. Within infrastructure credit, power generation, oil & gas enterprises (58%), transport (21%), Telecommunication (10%) are accounted for NPAs of banks. Rubbing salt to the wounds,  electricity distribution companies have not been able to collect more than 20-25% of bills, which officials said would fall further in the extended lockdown. There is a serious risk of blackouts as collections of electricity distribution companies across the country have reduced by an unprecedented 80%, barely enough to sustain staff salaries while leaving no scope of payments to power plants that need money to buy coal and freight. It is going to be dark days to the entire country more so to the bankers unless the Government urgently infuses liquidity in the sector.

The public sector banks had NPAs of Rs.8,95,601 crore as on March 31, 2018. During 2018-19 Rs.2,16,763 crore added to it. Reduction (i.e. recovery) was Rs.1,33,844 crore, and the written-off amount was ₹1,83,391 crore (we may note recovery was less than written-off amount). The writing-off loans do not augur well for the soundness of public sector banks as the writing-off is done on the profit and loss account and it affects the bottom line of banks. The statement of the Finance Minister Ms. Nirmala Sitharaman that the host of measures and comprehensive reforms taken by the government to improve the performance of public sector banks has yielded results that seems way too optimistic. When the RBI has reported slow resolution of NPAs for muted profitability ratios, it is not clear how the government paints a rosy picture on NPA recovery by public sector banks. The recovery or reduction of NPAs during the first six months of the current financial year does not warrant any exuberance.

Bankers fear that economic growth had been sluggish and risks had been heightened, even ahead of the coronavirus crisis. It is unlikely that the economy will fully open up before June or July, and loans, especially those too small- and medium-sized businesses that constitute nearly 20% of overall credit, may be among the worst affected.

ET dated Mar 02, 2020, predicts that an additional 4% of outstanding corporate borrowings from banks, translating roughly into Rs 2.54 lakh crore could tip into default over the next three years if the pace of economic expansion doesn’t pick up sufficiently. According to a newspaper reports, a study of the top 500 private sector companies by India Ratings & Research showed that about Rs 10.5 lakh crore of their debt could turn vulnerable, which means borrowers could face difficulty in servicing these loans. These debt-heavy debtors have already The existing default of these debt heavy debtors amounts to Rs 7.35 lakh crore loans it will be double by the end of the fiscal year due to the Covid-19 pandemic crisis.

There are many opinions on the real causes of swelling NPAs in the banking sector. The assumption in some quarters, which is currently gaining currency, is that the NPAs are bred mainly due to sweet deals between the bankers and the large borrowers. This view has gained currency because of hot revelations of possible corruption in banks at the highest level.  However, it is not correct to make allegations on all on the basis of such revelations of corruption by a few unscrupulous elements. It is unfair to cast aspersion on the entire community of bankers and businessmen for NPAs. The deterioration of loan recovery in commercial banks can be for numerous reasons. A borrower may suffer losses due to various genuine reasons like prevalent business atmosphere, political, legal developments, cost and time overrun due to delay in getting certain permissions, etc.  It is not easy to foresee such eventualities all the time either by the borrower or by the bank officials at the time of credit appraisal. The growing non-performing assets (NPAs) of whatever cause have carried enormous disrepute and distress to the banking sector and the concerns remain over the continued weakness in their asset quality.

The mute question is why banks are bending too much and offer concession and write-offs to large borrowers. In the cases of NPA accounts, the promoters always threaten the banks/financial institutions that the business would be brought to the ground unless the bank makes the concessions, keeping the business alive. Let us study, why a promoter of the business entity should insist on banks to compensate for his business losses, despite he is having own resources to cover the losses. If the same promoter is able to earn fat profit from the business, whether the loss-making bank can ask him to pay a higher rate of interest for the money borrowed by him. He does not agree. In that case, the question is why the bank should share his losses in his business?

Another pertinent question is when the banks can recover dues from small borrowers where banks seize the hard collateral that is available if the borrower defaults, why it can’t possibly recover from the large borrowers. It is well known to the public that none of the large promoters of business enterprises have lost their homes or have had to curb their lifestyles despite having offered their personal guarantees for the loans which ultimately turned into NPAs.

The reasons are not difficult to answer. The most palpable reason for the high level of NPAs in the banking sector seems to be our judicial system. Banks and financial institutions have two major tools to recover their NPA dues. They are (i) Debt Recovery Tribunals (DRTS) under the RDDBFI act 1993 and  (ii) action under SARFAESI act 2002 are two of the most effective tools set up for recovery of NPAs. DRT act has been set up for recovery of banks and financial institutions’ dues speedily without lengthy procedures of civil courts. The law indicates cases before DRT should be disposed-off within 6 months.  The SARFAESI Act provides additional teeth to the banks and financial institutions; it provides taking possession of the secured asset of the NPA borrower and disposal of the asset for the realization of dues under NPAs without the intervention of Courts or Tribunals. However, in reality, the recoveries of NPA accounts are not that simple. As per the data available, the cases disposed-off at DRT are only around 25% of cases pending at the beginning of the year. The numbers of unresolved cases at DRT are increasing every year and normally it takes a minimum of 4 to 5 years for DRT to decide a case filed today. Added to this delay in cases disposed-off, judgments of DRTs can be appealed to Debt Recovery Appellate Tribunals (DRATs). Thus it takes a long time to decide on these appeals as there are only 5 DRATs in the entire country. Secondly, section 18 of the RDDBFI Act is intended to prevent higher constitutional courts from intervening routinely in DRT and DRAT judgments. However, the large borrowers who have the wherewithal to hire classy lawyers, go for protracted appeals on the orders of DRT and DRAT.  Various High Courts have been taking up the cases by exercising their jurisdictions under article 226 for passing orders. Thus backlogs and delays are growing year after years with imminent stay orders and appeals at high courts. Meanwhile, as a result of backlogs and delays in obtaining judgments, the value of the money sought under-recovery, loses its value. Due to the passage of time, the value of the assets like stock, plant, and machinery, etc. which are offered as security to the bank will be considerably reduced or become obsolete. Many times, the defaulted debt becomes pittance when the recovery actually takes place with such delay. The large borrowers know the predicaments of banks in getting judgments through legal recourse. They simply take advantage of the situation and in the bargain insist banks make up their losses in the form of concession and write-offs. Grasping the asymmetry of power in the above situation, banks are tempted to meekly yield in and take the unfair deal the borrower offers.

How to abate this nuisance?

Recently, the Reserve Bank of India introduced the Strategic Debt Restructuring scheme which paves the way to ensure more ‘skin in the game’ of promoters. In terms of the above scheme, JLF/Corporate Debt Restructuring Cell (CDR) may consider the following options when a loan is restructured:

1. Possibility of transferring equity of the company by promoters to the lenders to compensate for their sacrifices;
2. Promoters infusing more equity into their companies;
3. Transfer of the promoters’ holdings to a security trustee or an escrow arrangement till the turnaround of the company. This will enable a change in management control, should lenders favour it.

The introduction of the above scheme is a move in the right direction. The restructuring package allows banks both under JLF and CDR mechanism, to stipulate the timeline during which certain viability milestones (e.g. improvement in certain financial ratios after a period of time, say, 6 months or 1 year and so on) would be achieved. The new framework also allows the bank to bring the strategic international investors in a sector and divest the holdings in the equity of the company in favour of ‘new promoter’ (domestic as well as overseas) as soon as possible.

Secondly, the system also needs professional turn-around agents/ Asset Management Companies of better management capability and capital, to take over distressed enterprise where the promoters do not have the capital and capacity to turnaround the business. Such agents should simply be the liquidators and there shall not be any question of returning the business to old promoters, once taken over by them.

Thirdly, it is worth examining by the Government to amend the laws in such a way that the promoters should deposit the full judgment amount ordered by the DRT and DRAT in advance if they want to go for protracted appeals on the orders of DRT and DRAT. Such amendments of law would certainly reduce the routine practice of frivolous appeals to delay the payment.

The government promulgated the Insolvency and Bankruptcy Code 2017. The Government in its statement had said that the new law is expected to further strengthen the Insolvency Resolution Framework in the country and produce better outcomes in terms of resolution as opposed to liquidation, the time is taken, the cost incurred, and recovery rate.However, 3 years on, just 6% resolution plans accepted under IBC, says report