Bad loans: RBI is finally in the driver’s seat – but the ride is long and full of potholes

The wheel of misfortune regarding bad loans has been spinning for Indian banks for a while now. But just when everyone thought there was no relief in sight, the central bank decided to step into the muck. On Tuesday, the Reserve Bank of India said that its internal committee would will recommend 12 accounts – which constitute 25% of the bad loans of the whole banking system – for “immediate” resolution.

The RBI was able to do this through the recommendations of the internal advisory committee, which was set up after the Union government amended the Banking Regulation Act last month through an ordinance. This ordinance gives the government the power to recommend to the RBI measures to resolve bad loans, and the RBI, in turn, can advise banks to start restructuring or recovery proceedings against defaulters.

Not an easy task

The central bank is hoping that the newly-passed bankruptcy and insolvency law will help liquidate stuck loans faster and clear up some stressed assets from the banks’ balance sheets. But that could be shooting for the stars, evidence suggests.

It is not that simple a task. For starters, already disclosed Non-Performing Assets for banks stood at Rs 7.6 lakh crore at the end of March. Public sector banks account for almost 88% of these loans, which have now exceeded these banks’ combined market value.

These banks are now taking more wilful defaulters to the courts in the hope that they can recover some money through judicial proceedings, but that is a mammoth task considering the past performance of the Debt Recovery Tribunals. These are courts expressly set up for the purpose of settling disputes between lenders and borrowers. Currently, India has 39 such tribunals but their performance in recovering debt has been dismal.

However, under the new bankruptcy code, the cases will go only to the National Companies Law Tribunal, which already has 25,000 pending bankruptcy and insolvency cases apart from other corporate cases, according to a report by the consultancy firm Alvarez & Marsal that works with the government and banks in resolving bankruptcy cases.

After the National Company Law Tribunal’s admission of the case, it can appoint an insolvency professional who is expected to give a plan in six months. If the tribunal’s panel feels that the case is beyond resolution, that is, the company or asset in consideration cannot be turned around, the liquidation process will start.

However, all of this will take a considerable amount of time and might still end up being a losing proposition for banks as the loans in question are those with outstanding amounts greater than Rs 5,000 crore each – 60% of which have already been deemed to be non-performing.

This makes the haircut inevitable for banks, said Udit Kariwala, senior analyst at India Ratings. In financial terminology, a haircut refers to a percentage reduction of the amount that will be repaid to creditors. Kariwala tracks financial institutions and expects another Rs 2.6 lakh crore worth of loans to become Non-Performing Assets in the next year or so. He said that the RBI’s move is not aimed at reforming the companies but simply selling them in parts.

“They have given the time frame,” said Kariwala. “These 12 entities are highly leveraged. The amount of debt in these entities is higher than their net worth or any other metric.” He added that liquidation was the only viable solution for the banks, but it would be tough to find a buyer for assets that have gone through depreciation in an environment when industry is on life support.

“The buyers will demand lower prices and they may still not buy it,” he said.

Anuj Kaila, a banking lawyer, said that the RBI has had to step in because none of the government’s earlier efforts to resolve bad loans worked – and there is no guarantee that this one will either.

“Earlier procedures weren’t really conducive and they weren’t recovering any money,” said Kaila. “Even with the bankruptcy code, there were only two cases in the first month and one of them was by ICICI while most of the NPAs [Non-Performing Assets] are at public sector banks who aren’t doing much about the problem.”

The Alvarez & Marsal report added that judges in US bankruptcy codes dispose of 2,895 cases per year as compared to just 360 cases by Indian judges on average each year. An influx of new cases could further burden the courts.

The report said: “An influx of new cases is also expected in the coming 2–3 years (influx rates for DRT and BIFR are at 15–20 percent per annum), leading to a major concern as to whether the NCLT will be able to cope with the projected caseload.”

Government optimistic

Even as skepticism surrounds the RBI’s move against bad loans, the government is hopeful that some good will come out of the process even though the banking regulation ordinance that gave the RBI powers to intervene is set to expire next month.

Sanjeev Sanyal, Principal Economic Advisor to the Government of India told BloombergQuint: “Good (insolvency) professionals are there. Maybe not in the numbers we want. But they are there. We do understand the pitfalls so we will deal with them as they come.”

Meanwhile, Kariwala from India Ratings argued that not much can be done for retrospective lending as loans already gone bad cannot be reformed and the current move only sends a message to banks and companies to be vigilant in the future.

“With any solution, someone will have to take a hit and pay for these loans,” said Kariwala.