Budget 2016: Lending norms need change to fix rising NPAs
stic economy has resulted in mounting of bad loans with India’s Public Sector Banks (PSBs). Over 11 PSBs have reported their highest ever quarterly losses aggregating to over Rs 12, 000 crore. With the PSBs reporting a sharp decline in their profits, they have to surge ahead and brace the upcoming challenges. It is time to think about long-term solutions approaches that can help salvage the situation.
From Rs 53, 917 crore, Indian banks’ Gross Non-Performing Assets (GNPAs) in September 2008 (just before the global financial crisis hit the market following the collapse of Lehman Brothers), bad loans have now grown to Rs 3, 41,641 crore in September 2015. In other words, as a percentage of the total loans, has grown from 2.11 to 5.08 percent. This crisis is not restricted to PSBs alone; their private sector counterparts have consistently had lower Non-Performing Assets (NPAs) levels. However, the total stressed assets (GNPA plus restructured assets) of India’s private sector banks were 6.7 per cent of their outstanding loans, against 14 per cent for public sector lenders, according to RBI data.
Sectors to which these NPAs belong, need to be identified. From a logical and financial perspective it is important to understand the reasons that have escalated debts in PSBs. Companies in the power, infrastructure, metals and real estate sector are major contributors to the stress assets situation, caused largely due to stalled projects, delayed policy decisions, economic slowdown, several macro factors related to supply and demand and mismanagement.
Under infrastructure, let us take a look at the problems being faced by the power sector that have led to bad loans. Issues such as absence of feedstock, cancelling of mining licenses has resulted into stalling of power plants, thus resulting in cost overruns ranging between 40 to 60 per cent, thereby impacting the ability to pay-off their loans.
Infrastructure projects have been stalled due to delays in environmental clearance, land acquisition and other regulatory approvals. The global steel industry crisis is another reason behind the escalation of bad loans. In the real estate sector there is a significant demand-supply gap leading to piling up of inventory. Moreover, the RBI’s Strategic Debt Recovery (SDR) plan, announced last year, with the intention to assist stressed accounts by converting loans into equity shares have not seen a single success so far. While banks have utilised SDR in 15 cases, these are largely to defer NPAs recognition. SDR provides an 18 months window to banks to find a new promoter, till such time the investment is not tested for impairment leading to deferment of impairment losses on NPAs.
We need not lose time only in post-mortem. This is not the time to delve on the causes behind sinking profits, but to design a thorough approach with reference to lending. Detailed credit assessment is key at the time of project finance; however, in several cases there is not enough diligence at the time of sanction and disbursement of loans and monitoring the performance of the accounts on a regular basis. Banks need to have an effective framework to red flag early indicators of stress and deterioration in asset quality. There is a need for banks to build a loan monitoring mechanism based on ongoing credit-scoring models, execute stress tests and carry out effective risk management. Many companies who borrow and operate in an unpredictable environment, where the possibilities to fail are as many as to succeed. While tangible challenges to businesses can be measured, speculated and tackled with strategy, the intangible contingency factors cannot be monitored, unless they occur and affect the financials of the borrower.
From a lender’s point of view in order to avoid or curtail bad loans, it could be the right time to make a shift in approach from collateralised based lending to cash-flow based lending. This can help the lending PSB to gauge the capacity of the borrower to continue repaying the loan along with the rate of interest in the required duration of the loan. On the part of the government, in order to reduce the number of debtors to the PSBs, clearances and policies need to be streamlined effectively. A positive step in this direction could be that the Ministry of Finance works out a methodology with Ministries of Environment, Forests and Mining respectively to ensure a well-timed approval and clear bottlenecks that hinder projects of the borrower. Timely clearances can surge businesses and make sure that loans are paid-off. There is also a need for professional support to banks in areas such as working capital management and financial and operational restructuring. The government should also focus on developing a secondary market for debt instruments to improve liquidity.
There is an increasing need for banks to monitor their sectoral exposure to each industry as well as to each corporate house. Segmented loan monitoring does not provide a 360 degrees view of the borrower. One must fathom that PSBs or any other lending institution does not have any control over the borrower’s business or financial situation. Corporates function in a complex web and their businesses are affected by governance, policy decisions and the ever-changing economic scenario at home and around the world. There seems to be an imperative need for individual industry level credit performance and monitoring as also stress testing of the lending institutions, banking including NBFCs, as an industry.
Judicious clearances for projects and enhanced debt recovery procedures are within our control, while aspects such as natural disasters or financial climate are fickle. Whether the PSBs will rise out of the bad loan crisis is a matter to wait and watch. It is true that hard times can be crushing, but with smart and quick thinking the lender has the potential to emerge as a steady winner.
Naresh Makhijani is Partner and Head, Financial Services at KPMG in India. Views expressed are personal.