During the first half of FY19, the losses of PSBs widened to over Rs 30,000 crore from the Rs 4,500 crore in the corresponding period one year prior.
Harish Puppala | Rakesh Sharma
2018 was a difficult year for banks - their reputations suffered massively after it came to light that most of them had large NPAs, sins they committed knowingly. One year prior, in 2017-18, the gross NPA ratio of all scheduled commercial banks reached 11.2 percent of the gross advances, up from 9.3 percent a year before. Public sector banks, which account for nearly 70 percent of the advances, saw gross NPA ratios rise to 14.6 percent due to, and I quote the RBI here, “restructured advances slipping into NPAs and better NPA recognition.” Better NPA recognition is, of course a fancy way of saying that banks got caught for the bad loans they gave out.
After the government and the RBI cracked the whip last year, most, if not all, banks were forced to clean up their balance sheets. 2019 may turn out to be a better year for these banks, albeit under a fair amount of duress. This is what we will dig deep into on this edition of Digging Deeper with Moneycontrol.
According to data from the RBI, India’s banks have seen a major improvement in the recovery of stressed assets helped by the Insolvency and Bankruptcy Code and amendments in the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interests Act, or the SARFAESI Act. India implemented the new insolvency law two years ago as bad loans piled up after the central bank initiated an asset quality review to clean up various banks’ balance sheets in December 2015.
The RBI has now announced that, in FY18, banks recovered Rs 40,400 crore worth of bad loans compared to Rs 38,500 crore in the year before that.
Business Standard reported that of the 701 cases admitted under the National Company Law Tribunals (NCLT), and claims admitted on 21 accounts for an amount of Rs 9,900 crores, the recovery has been Rs 4,900 crores, indicating a haircut of about 50 percent. On the other hand, in Lok Adalats, 33,17,897 cases yielded just Rs 1,800 crores, and in the case of the debt recovery tribunal, 29,551 cases referred in 2017-18 saw recovery of Rs 7,200 crores. In Sarfaesi, 91,330 cases were leading to recovery of Rs 26,500 crores.
The central bank’s report said, “Apart from vigorous efforts by banks for speedier recovery, amending the Sarfaesi Act to bring in a provision of three months' imprisonment in case the borrower does not provide asset details and for the lender to get possession of mortgaged property within 30 days, may have contributed to better recovery.”
A Moneycontrol report noted that recovery through Lok Adalats and DRTs during the financial year declined alongside the number of cases referred. Making the case for the IBC’s success the RBI said the result was, at least partly, indicative of the growing clout of the IBC in the resolution of stressed assets. The bank also claimed that the average recovery through IBC has been greater than the other mechanisms mentioned, indicating the need for, and the efficiency of, such a channel. It stated, “Strengthening the infrastructure of the insolvency resolution process, including the proposed increase in the number of benches of the NCLTs, should help reduce the overall time currently being taken for resolution under the IBC.”
2018 - Annus Horribilis, if you got caught
It is important to bear in mind that the current non-performing asset (or NPA) mess took shape because of a credit boom between 2006 and 2011. The RBI said, “The deterioration in asset quality of Indian banks, especially public sector banks, can be traced to the credit boom of 2006-2011 when bank lending grew at an average rate of over 20 per cent. Other factors that contributed to the deterioration in asset quality were lax credit appraisal and post-sanction monitoring standards; project delays and cost overruns; and absence of a strong bankruptcy regime until May 2016.”
What that means is, speaking as a layman, last year wasn’t the worst for banks - they just got caught and had to be threatened into cleaning up their act. And act might be an apt description - because what transpired last year has led to a widespread perception, however accurate or inaccurate, that rich folks who defrauded the banking system with inside help managed to evade the law, while small time misdemeanors are strictly policed. Think Mehul Choksi, Nirav Modi and Vijay Mallya. But if you or I miss an EMI on that 4k smart TV that we don’t even watch anymore, the bank will pursue us to hell and back.
To put it in business jargon, persistent asset-quality concerns, subdued earnings, lack of meaningful recovery in loan growth, and structural challenges of capital and governance plagued the beleaguered banking sector in 2018. Within the sector, PSBs continued to lag, compared to their private sector peers. While the Nifty Bank Index gained a marginal 5-6% last year, in line with market indices, the Nifty PSU Bank Index lost 17% due to deteriorating operational performance, lingering bad loan woes, and capital constraints.
During the first half of FY19, the losses of PSBs widened to over Rs 30,000 crore from the Rs 4,500 crore in the corresponding period one year prior. Gross non-performing assets (or GNPAs) for banks shot up by 1.3 lakh crores between September 2017 and September 2018. While private sector banks fared marginally better, their earnings declined by 8% year-on-year in the half year ended September 2018. Their GNPAs rose by over 23,000 crore rupees. PSBs were hit hard in the March quarter - they reported losses of Rs 62,000 crores, as well as an increase of approximately around Rs 1.2 lakh crore in NPAs. Overall, GNPAs increased by a whopping 3 lakh crore in FY18 over FY17. In the most recent September quarter, we saw the pace of addition to bad loans moderate considerably from the March quarter. But none of the banks is out of the very deep hole they’ve dug for themselves.
Many of them are in dire need of capital. The large bad loan book - a staggering Rs 10 lakh crore for all banks, Rs 8.7 lakh crores of which are for PSBs - will keep provisioning high in the coming quarters. The RBI issued a directive in February that banks will have to report even one-day defaults and draw up resolution plans within 180 days. If they failed to do that, they would have to refer the case for insolvency under the IBC. That directive has put 1.74 lakh crores of stressed power sector accounts in limbo. How such an issue is resolved will be interesting to watch as it unfolds.
The Hindu Business Line reported last week that the slow progress in IBC cases, and the large haircuts that banks had to take, would continue to depress earnings. Of the 1,198 cases under Corporate Insolvency and Resolution Process (or CIRP) to date, 118 have been closed on appeal/review, and only 52 have seen approval of their resolution plan. Compounding matters, the amount realised by financial creditors in comparison to their claims also fell substantially in the September quarter. In the June quarter, financial creditors realised 56 percentof their claims in 12 cases. But only 26 percent of the claims admitted for the 18 cases in the September quarter were realised.
While credit growth rose to 14 percent levels in recent times, such growth is only in pockets - largely unsecured retail loans - with modest recovery in corporate lending. PSBs, which account for over two-thirds of the overall debt amount, saw subdued loan growth of 4-5 percent in the previous quarter. Deposit growth also slowed to 8-9 percent. This is a particular a cause for concern because it could well mount pressure on funding and margins.
The RBI, in its latest Financial Stability Report, assessed that SCBs’, or scheduled commercial banks’, GNPA ratio may decline from 10.8 percent in September 2018 to 10.3 percent in March 2019. That ratio had fallen from 11.5 percent in March 2018 to 10.8 percent by September.
The central bank’s stress test results suggested further improvement in the NPA ratio, according to the report. Newly minted RBI Governor Shaktikanta Das said, “Notwithstanding the significant costs wrought by the enhanced recognition of asset impairment in public sector banks (PSBs), it appears to have led to a greater discipline in credit assessment, higher sensitivity to market risk and better appreciation of operational risks.”
Bloomberg reported that banks also used the asset reconstruction company, or ARC, route to improve their balance sheets through the sale of bad loans. In the last financial year, the acquisition cost of ARCs as a proportion to the book value of assets increased, indicating better realisations by banks on sale of stressed assets. The RBI said private lenders were the most aggressive in ARC sales while PSBs lagged due to large haircuts and management issues. And some PSBs managed to improve their internal bad-loan recovery processes. But quarterly data indicated that sale of stressed assets to ARCs by public and private banks slowed in the April-September period.
The apex bank claimed that the prompt corrective action framework - which places operational restrictions on weak lenders - helped improve performance. One private bank and 11 PSBs are under the PCA framework. The RBI added that such banks’ share of current account and savings account deposits improved, while the reduction in the share of bulk deposits helped them lower the cost of deposits. They also increased recoveries from bad loans while containing the growth in advances and deposits, and showed lower growth in gross bad loans compared to lenders not under the PCA framework.
However, bad loan ratios and capital positions of PCA banks deteriorated due to a decline in advances, which hurt profitability.The Hindu BusinessLine reported that the resignation of previous RBI Governor Urjit Patel, and the appointment of Shaktikantha Das, has given rise to hopes of regulatory leeway on capital requirement and PCA norms for banks. While this may provide temporary relief to banks, it may end up doing very little to smoothen the structural challenges of growth, capital and governance in banks. Such challenges require proper resolution if any of the banks that are part of the debt recovery process are to successfully ride out an extended period of underperformance.