A major reform for Indian banking, the IBC is aimed at helping lenders in a time-bound bad asset resolution process. That mechanism will be in suspension for nine straight months now.
The government’s decision to extend by three months the suspension of Insolvency and Bankruptcy Code (IBC) proceedings has come as a huge relief to stressed companies that would have been dragged to bankruptcy court for failing to repay loans.
Experts are split over the extension that kicks in from September 25.
One section of analysts describes it as a correct move in the current scenario where many companies are facing genuine problem. “It is logical to extend the IBC suspension for another few months given that lot of companies are under stress. This might help them to revive business by giving that much needed breathing space,” said Siddharth Purohit, analyst at SMC Global securities.
The other view is that IBC suspension will delay the bad asset resolution further. The stress among borrowers has risen substantially on account of Covid-19. Many loans under moratorium are by non-performing assets (NPAs).
While the extension is good news for borrowers, this also means that the banking system’s uncertainty on bad asset resolution that had come to a halt since March 25 following the coronavirus outbreak will continue for another three months.
Suspension of IBC for initial six months and the moratorium scheme for Covid loans has effectively stalled the bad assets recognition and resolution process, respectively in the entire banking sector.
The industry is already grappling with a bad loan crisis. Under loan restructuring, banks can extend moratorium for Covid-linked stressed loans for up to two years.
At this stage, IBC is the only major recourse for banks for bad-asset resolution. Even with this, there is no major progress yet—only a few large cases have been resolved through the IBC channel. Banks are still awaiting resolution for a majority of cases for which there is a lack of demand from buyers.
“This (suspension of IBC proceedings) is the best option as of now,” said Sanjay Agarwal, Senior Director at CARE rating. “The damage done by Covid on industry is too huge. The Covid scenario continues. This extension will give breathing space for companies till the one-time restructuring comes into effect.”
The IBC suspension will give time for companies and banks to prepare for the one-time loan recast announced by the Reserve Bank of India to offer help to borrowers whose cash flows have been impacted by the outbreak.
Total gross NPAs of Indian banks stood at around 8.5 percent in March 2020. According to the RBI, this ratio could rise up to 15 percent by March 2021 in a worst-case scenario. A significant chunk of both individual and corporate borrowers have availed moratorium facility. Going by the RBI’s latest Financial Stability Report in July, 56.2 percent of retail loans were under moratorium as on April 30 against only 39.1 percent of corporate loans.
The RBI had permitted financial institutions to offer a moratorium on all term loans. This period expired on August 31. While regular repayments should have started by September 1, the Supreme Court has directed banks not to tag accounts as fresh NPAs that are standard as on March 31.
The restructuring facility of up to two years under the COVID resolution framework would mean that the moratorium can get extended for two more years. Analysts estimate about 5-8 percent of the total loan book to go under restructuring, given the stress in the banking system.
The Indian banking system has suffered from hidden NPAs for a prolonged period that resulted in a sharp spike in bad loans within a few years.
Till 2015, when the RBI initiated a major asset quality review (AQR), banking system’s gross NPAs were just around Rs 2-3 lakh crore. However, after the AQR, the NPAs shot up to Rs 8-9 lakh crore after banks were forced to dig out NPAs from their balance sheets. The restructuring exercise, this time, has been designed with much more caution, in a time-bound manner.
IBC came as a major reform to help lenders for quicker, time-bound bad asset resolution. That will be in suspension for nine straight months now. Banks will have to sit with stressed assets for now till the resolution window opens again. If these loans opt for restructuring citing Covid, banks will see the real impact of Covid on their books only after two years.Regardless of one-time loan restructuring or IBC suspension, the revival of NPA accounts will depend on the economic revival. Till bad loan resolution is back to normal, the actual NPAs in the banking system will remain hidden.