BAD CHOICE Rising nonperforming assets (NPA), higher risk provisioning assigned to the real estate sector by the Reserve Bank of India (RBI) and dwindling profits in the real estate sector have made banks reluctant to lend to the sector
Nirav Modi, Rotomac, Jaypee Infratech, Lanco Infratech –fresh skeletons keep tumbling out of the closet of India’s banking system every other day. We hear of only hi-profile financial frauds but insiders reveal how new cases are added by the day from the banks’ pandora box with construction, cement, steel, infrastructure and real estate becoming the increasingly most ‘avoidable’ sectors.
Take the specific case of real estate sector. Rising non-performing assets (NPA), higher risk provisioning assigned to the real estate sector by the Reserve Bank of India (RBI) and dwindling profits in the real estate sector have made banks reluctant to lend to the sector. Bank lending to the real estate sector has significantly dropped from over 57 per cent in 2010, to less than 24 per cent in 2016, according to a recent report by KPMG. As a matter of fact, PE (private equity) funds and financial institutions such as pension funds andsovereign wealth funds have replaced banks as the largest source of funding to the real estate sector, with their share up from 25 per cent in 2010 to 75 per cent in 2016.
Non-performing Asset has emerged over a decade as an alarming threat to the banking industry in our country sending distressing signals on the sustainability of not just the affected banks but the economy in general. But why are some sectors lowest on the preferred list especially when they are key to the country’s growth.
Theoretically speaking, granting of credit for economic activities is the prime duty of banking sector and transferring of funds fromthesystemtowards productive purposes must be encouraged as this spurs overall development of the country. However lending carries a risk called credit risk, which arises from the failure of borrower and more so in sectors with long gestation period, bad track record with stalled projects, which are deeply impacted by the slowdown in domestic and global economy, lenders have to be cautious.
Non-recovery of loans along with interest forms a major hurdle in the process of credit cycle. These loan losses affect the banks profitability on a large scale and an asset is classified as Non-performing Asset (NPA) if due in the form of principal and interest are not paid by the borrower for a period of 90 days.
According to Dr. Arun Singh, lead economist at Dun & Bradstreet, “India’s banking system is ridden by debts but construction and infrastructure sector account for more than 30% of the problem.”
He adds that these two sectors have been the problematic sectors but the situation is expected to go from bad to worse in next one year. As a percentage of GDP, NPA ratio stand at 10.9% as on March 2018 from 9.6% March 2017 and 10.2% in Sep 2017. But this will go up to 11.1% by Sep 2018 and the problem is numerator is running faster than the denominator.
Till nowIndia’s NPAswasbetter than many countries but at 11.1% India’s situation will be worse than even Spain, Russia, Ireland. The other problem in the making, says Dr Singh, is that while we are talking about NPAs no one is focussing on the issue of stressed assets. If the number on Sep 2017 was 10.2%, by factoring in the stressed assets it was 12.3%. The ratio is expected to become 13.5% by Sep 2018 and this will eventually come to the NPA fold and the ratio is set to increase.
The problem is conspicuous especially in the case of state owned banks.
According to data from RBI, the gross NPA of public sector and private sector banks as on September 30, 2017 were Rs 7,33,974 crore and Rs 1,02,808 crore, respectively. Among the major government- owned banks, State Bank of India had the highest level of NPAs at over Rs 1.86 lakh crore, followed by Punjab National Bank (Rs 57,630 crore).
The fact that Public sector banks have much higher NPAs than their private counterparts puts a question mark on the scrutiny, due diligence or the lack of it.
Experts believe that those countries that were able to make an economic turnaround postrecession, were the ones who were able to fix their banking systems. Says Dr Arun Singh
if there was one thing that GoI should do to fix the economy is to fix the large borrowers and be harsh on each defaulter case. It will help to do some example setting and send out a strong message.
These large borrowers have very good documentation but they are taking benefit of advanced instrument such as lines of credit etc. It is not that they do not have capacity for repaymentbutmostlyit’s aproblem of circumventing.”
The silver lining on the cloud is the coming of a number of newer regulations and stringent laws such as Insolvency and Bankruptcy Code (IBC), Benami transactions Act, linking of aadhar to bank account and the general push towards digital economy.
All this is expected to make things more transparent in the future. “IBC has the potential of being a game changer”, says Sumant Batra, India’s leading Insolvency lawyer who was working in the Jaypee Infratech case, when IDBI Bank moved National Company Law Tribunal (NCLT) for insolvency proceedings against Jaypee Infratech for default of a loan of about Rs 526 crore.
Adds Batra- “We can expect the green shoots towards the beginning of the next year by when we can see closure in large NPA cases with litigation resolved and clarity on grey areas in IBC. This year will still be turbulent for IBC cases but the dust will start settling soon. As long as the government does not respond in a knee jerk manner to the momentary ups and downs IBC will sail through rough weather. Payments under many big ticket resolution plans will create liquidity for banks and restore confidence in banking system and resume lending. 2019 is the year to watch out.” But why does he call it a knee jerk reaction?
He feels that policy changes have to be thought through carefully to understand their long term implications.
Introduction of section 29A was a knee jerk reaction by the government. Nowhereelseinthe world promoters are barred from participating in the resolution process. Just because some promoters have been dishonest the entire class of entrepreneurs cannot be penalised.
Similarly, just because NCLT has decided enforcement of personal guarantees is covered by the moratorium, the government has decided to amend the law to exclude personal guarantees.
Growth of the right kind is always preferred but when it comes to NPAs, are we still in the growth phase or have things stabilised. PNB, which has been under the scanner, gets the last word.
PNB thinks NPAs have plateaued and recognition and identification of NPAs is almost complete, now the focus is on resolution and any incremental NPAs would be momentary. They feel in the near term the positives like uptick in economic growth, rising corporate profitability, faster resolution under IBC will lead to decline in NPAs. Considering the magnitude of NPA problem PNB thinks there cannot be quick fix solution and resolution but for system as a whole NPA management in our country is moving towards resolution at a faster pace.
Nonrecovery of loans along with interest forms a major hurdle in the process of credit cycle