MANAGING NON-PERFORMING ASSETS: A PARADIGM SHIFT

Source: Yojana – January 2018

Author: Deepak Narang

Banks cause money to be circulated in the economy by seeking deposits from those who have a surplus and lend for investment activity. It has a multiplier effect in the economy. Sustainable lending leads to higher Gross Domestic Product (GDP) growth.

However, contradiction in lending leads to faltering of growth. One major reason for muted credit growth is fast accumulation of Non Performing Assets (NPAs) on the bank’s balance sheets. Roughly 72% of market share of outstanding credit of Scheduled Commercial Banks (SCBs) is of Public Sector Banks (PSBs). The twin balance sheet problem and rising NPAs is holding up investment in the country.

Gross NPAs in the country are on the rise and has seen a meteoric rise due to rapid credit growth of banks from 2008 onwards. Large borrowers (defined as those having limit of Rs. 5 crores and above) have the maximum share in gross NPAs.

The loans granted in the industrial sector (mainly basic metals, cement, textile, infrastructure) have contributed the major portion to NPAs followed by agriculture, services and retail.

Reasons for the current situation of NPAs:

1. Deficiency in credit appraisal and improper due diligence by banks– Banks grant loans to borrowers without checking their past accounts/credit history in order to increase their balance sheet size.
2. Borrowing by a company in excess of capacity– Number of companies borrow for creating excess capacities in anticipation of demand without factoring in the global capacities/demand supply position.
3. Delay in completion of projects– A number of projects (especially infrastructure projects) miss the timelines thus leading to a huge increase in costs.
4. Poor recovery of receivables– Failure on the part of bank to ensure timely and adequate repayment of loan.
5. Diversion of funds, wilful defaults, fraud, mis-appropriation etc– Fraud on the part of the borrower.
6. Failure on the part of bank to monitor end use of funds– Failure on the part of the bank to ensure that the money borrowed is being used for the purpose for which it was borrowed.

There is a lag of nearly 3 to 4 years before NPAs out of fresh lending appear. Fresh creation of NPAs during the phase of growth gets masked by the high growth of advances and ever greening.

The banks should have been able to pick up early warning signals (EWS) and take prompt corrective actions like denying fresh loans to wilful defaulters and declaring the errant borrower as non-cooperative or wilful defaulter.

Provisions of Companies Act enable bankers to report such cases to Serious Fraud Investigation Office (SFIO). Other relevant laws include The Recovery of Debts Due to Banks and Financial Institutions Act, 1993 and The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002.

Another effort in the direction of resolving NPAs is the implementation of Insolvency and Bankruptcy Code.

The way forward:

1. Making wilful default a serious crime as is the case in some countries.
2. Use of ‘forensic audit’ to monitor the end use of funds using big data and artificial intelligence.
3. Train the work force to perform accurate credit appraisals and due diligence.
4. Appoint experienced professionals on the Board of Banks.
5. Introducing more benches of National Company Law Tribunals and Debt Recovery Tribunals.