The non-performing assets [NPAs] or bad loans [as these are known in common parlance] in the banking system are threatening to cross the Rs 700,000 crores – this is 100% more since the asset quality review [AQR] was ordered by Reserve Bank of India [RBI] two years ago.
For an economy that has been on a high growth trajectory since 2014-15, NPAs of banks has been identified as a major structural problem that poses risk in the medium-term even by International Monetary Fund [IMF]. To address it, RBI deputy governor, Viral Acharya has come up with a two-pronged strategy.
First, for assets which are capable of generating cash flow in short-run, these may be transferred to a private asset management company [PAMC] with turnaround specialists and private investors roped in to assess the cases. But, there should not be any ‘minimum threshold’ on sustainable portion of the debt.
Second, for assets which need a long time to generate cash flow [e.g. a power project], these may be transferred to a national asset management company [NAMC] with central government stepping in to make these viable. He opines that much will depend on the price at which banks will offload bad loans to PAMC/NAMC.
This is not the first time solution to NPAs is being offered. Prior to this, RBI had come up with three packages that were put in to practice only to be floundered. Let us take a look at them.
First, it was a scheme nick-named 5/25 introduced in December 2014, under which maturity of loans given to infrastructure companies could be extended up to 25 years.
Second, in June, 2015, this was followed by a scheme for “Strategic Debt Restructuring” [SDR]. Under SDR, banks can convert debt in to equity and take control of a company and sell off the assets. They are required to sell within 18 months; if they cannot within this period, full provision has to be made.
Third, in 2016, under a “Scheme for Sustainable Structuring of Stressed Assets” [S4A], RBI decided to settle large accounts involving borrowings of Rs 500 crores or more. The scheme is targeted primarily at projects in steel, power and infrastructure etc which turned NPAs due to external factors and where no malfeasance is seen. Under it, lenders will first segregate existing debt of a company into “sustainable” [the share which can be serviced with subsisting low cash flow] and “unsustainable” which cannot be serviced.
The unsustainable portion can’t be more than 50 per cent of total debt. It will be converted into equity or redeemable cumulative optionally convertible preference shares. Equity shares thus acquired should be marked to market on a daily, or at least on a weekly basis for listed firms. The bank will need to provide for 20% of total debt or 40% of unsustainable debt whichever is higher.
The underlying theme in all the three packages was to make banks bear the burden of bailing out borrowers on one hand and let the latter go scot free on the other.
Under first, a borrower got as much time he/she wished for amortizing the loan. True, infrastructure projects by nature take longer to deliver. But, it is also a fact that their commissioning got delayed due to inefficiencies in implementation. To give them such a long period to repay tantamount to condoning this at the cost of bank.
The second makes the lender extinguish entire outstanding debt [via converting this in to equity]. Taking control of the company is of no use all the more when the bank is unable to sell the assets. Indeed, the scheme itself says that if assets cannot be sold within 18 months then, full provision will have to be made.
Under third, 50% of total debt is stubbed out by proclaiming it as ‘un-sustainable’ and converting into equity. The bank straightaway loses 40% of this portion or 20% of total debt by way of provisioning. Further, with promoter reduced to minority, he will have no incentive to turn around the project and hence there is no guarantee that the other 50% could be serviced.
Clearly, all the three packages are very demanding on the banks and put no onus on borrower. The proof of pudding is in eating. While, the first and second failed to take off [under SDR, banks who took over assets could not find buyers], banks are not keen to latch on to third [S4A] either. Air India is a case in point.
Dr Acharya adds nothing new to above packages. By putting debt in the lap of NAMC, he is merely asking government to bail out the borrowers. If, the former has to salvage the bad loans then, why create another agency and incur additional cost that goes with it. This can be done even while these loans remain on books of bank.
As regards PAMC proposal, one gets a sense that private investor will get in only when it gets the asset at a heavy discount. The extent to which it squeezes the bank will also factor in a component of profit that it aims to make by entering this business. Acharya alludes to this when he propounds no minimum threshold on its sustainable portion.
RBI/government’s approach to dealing with bad debts is akin to missing woods for the tree. They need to shed cosmetic engineering. Instead, they should look for solutions keeping in mind factors that have led to present dismal scenario. In a generic sense, NPAs are the outcome of (i) economic downturn and (ii) loans given to favored persons without conducting due diligence.
As regards (i) with economy consistently doing well since 2014-15 and steps already in place to de-stress concerned sectors [steel, power etc], borrowers should be in a position to repay. They can be allowed a reasonable moratorium period to pay back. For cases under (ii), RBI should use an ‘iron fist’ for recovering the money.