Pricing, valuation of NPAs key to Bad Bank success

The disease of Non Performing Assets (NPAs) — loan payments not made for a period of 90 days  and stressed loans in the banking system — is posing a great threat to our economy. The diktat  of the deadline  given by Raghuram Rajan, former RBI governor to the banks to recognise all the bad loans and come out clean by March 31, 2017 is fast approaching without any significant results.

The situation has gone from bad to worse and the economy is sitting on an NPA time bomb, ready to explode. Top 10 corporates are laden with more than Rs 8 lakh crore stressed assets. Some 40% of stressed loans are in infrastructure, power, iron and steel sectors, thus vitiating the banking system and choking the take off of the investment cycle.

The 24 public sector banks (PSBs) have bad loans to the tune of a humongous Rs 6.50 lakh crore. The gross NPAs of PSBs are an alarming 12% of their advances as on December 2016. The solvency ratio of PSBs has crossed 63%, and if provisioning is done for all the NPAs , 63% of banks’ net worth gets wiped out with no funds to lend. This situation is not only dangerous but will  lead to ‘run on the banks’.

Depositors will storm the banks for withdrawing their deposits. There exists twin balance sheet problem, too. Credit Suisse indicates  that as on December 2016, 41% of companies have registered higher interest outgo towards debt servicing  than their earnings.

The entire banking sector requires $100  billion capital infusion to clean up the NPA malice and to comply with the BASAL III standards against an anaemic Rs 10,000 crore provided in the central budget for this year.

In this backdrop of the grave NPA situation, the latest Economic Survey mooted the idea of a ‘Bad Bank’ — its architect being Arvind Subramanian, Chief Economic Adviser. Model visualises the transfer of all the NPAs/stressed assets to the Bad Bank under a special purpose vehicle — public sector asset rehabilitation agency (PARA). This detoxifies the banks with candour and the courage to restart aggressive lending to the credit starved growth sectors.

Funds for PARA will be through government debt and RBIs equity, which will be a strain on the exchequer. The RBI has proved that there is no dearth of ideas — Viral Acharya, the new deputy governor of RBI, floated the concept of establishing two hybrid institutions — private asset management fund (PAMF) and national asset management fund (NAMF),  akin to a Bad Bank to tackle the NPAs on war footing.

The PAMF will deal with stressed assets having ‘value’ of  industries/companies which can be revived and turned into viable units including additional capital/equity if warranted. Under NAMF, the NPA assets are of very sticky industries in telecom, infrastructure and power sectors which are virtually on the chopping block. Capital infusion to these industries will be like pumping oxygen to a dead body.

The idea of bad bank in its different variants and flavours both by Subramanian and Acharya is not bad. However, the crux of the issue will remain that of appropriate pricing and realistic valuations of the stressed assets. Banks would jump and love to transfer all the toxic assets to the bad bank for maximum amounts which the bad bank would not agree as most assets are overvalued with loan outstanding amounts loaded with principal,  interest, penalties, hidden charges for all the delay of inaction for the last 10-15 years.

Both commercial banks and the Bad Bank would not relish a close haircut. The Bad Bank will end up as a fifth wheel to the coach and incur the wrath of squandering tax payers, good money over bad money and ire of the public for shielding crony capitalists.

The RBI, the government and the banks have tried and experimented with various schemes — 5/25, Asset Quality Review,  Corporate Debt Restructure, Sustainable Structuring of Stressed Assets, Strategic Debt Restructuring, Joint Lenders’ Forum etc with little success in the resolution of  NPAs.

Self-inflicted wounds
No institution including Bad Bank, banks, ARCIL, government or RBI can solve the NPA menace unless we are truthful in addressing to the real issues of the causes for the loans going bad and sticky. Truth has value. Lies cost. Most NPAs are self inflicted by the banks on account of poor credit appraisals at the time of loan sanction. 

Corruption, delays in timely sanctions and approvals causing time overrun in projects leading to cost escalations, political and bureaucratic pressures- both at the time of loan sanctions and during recoveries, have snowballed the NPA cancer to monstrous proportions.

Failed auctions of the overvalued assets of Kingfisher Airlines, fleeing  of its owner Vijay Mallya, arrest of former CMD and senior executives of the IDBI Bank are  the tip of the iceberg and testifies the deliberate failure to scrupulously follow the cardinal principles of 3 Cs — character, capital and capacity — while lending which has led to catastrophe.

The bankers’ fear now is on the other 3 Cs — CAG, CVC and the CBI for all the wrong doings. Those bankers who have damaged the system, do not take responsibility while lending and do not want accountability at the time of retirement. Honourable exceptions are there wherein 25% of bad loans are on account of error in judgements  and sector failures.

Good and prudent bankers have developed fear psychosis, demoralised and have become jittery to fund growth sectors like infrastructure (minus 8.7% credit growth year-on-year as at January 2017), power (minus 11.4%), steel and real estate. The overall credit growth is at minus 5% in these sectors , which is at its historic low.

In sum, the NPA/stressed assets situation requires heroic surgery. The RBI giving extension of time to the banks and diluting the debt recast norms will only aggravate the sickness and postponement of the inevitable — bankruptcy of the industries, companies and the banks' NPAs/stressed assets crossing Rs 15 lakh crore in March 2017.

(The writer is a Bengaluru-based banker)