Resolution of Stressed Assets: Towards the Endgame – Understanding RBI Governor’s observations from speech delivered on August 19, 2017. 

On August 19, 2017, Mr. Urjit Patel, Governor, RBI spoke on the inaugural session of the “National Conference on Insolvency and Bankruptcy: Changing Paradigm”, Mumbai, and emphatically mentioned the present precarious position of the Balance Sheet of the banks in India and the efforts of RBI, Ministry of Finance as well the banks themselves towards finding a resolution of the huge stressed assets of the banks. His speech appears in RBI website as per the given link. Those interested can read the original speech but to simplify the speech for an average reader, I have extensively quoted along with my observations. It is intended to understand the present financial position of the banks better.

“The gross NPA (GNPA) ratio of the banking system at 9.6 per cent and the stressed advances ratio at 12 per cent as of March 31, 2017, on the back of persistently high ratios in the past few years is, indeed, a matter of concern. 86.5 percent of the GNPAs are accounted for by large borrowers, i.e., borrowers with aggregate exposure of₹ 5 crores and above. The challenge in dealing with the issue gets accentuated when observed against the capital position of some of the banks, particularly public- sector ones.” (quoted from RBI Governor’s speech)

My observations

One can make the present bank managements responsible for their actions in requesting the Government of India to infuse the equity to move from one bad position to another without making efforts to recover the earlier outstanding loans. A visit to any nationalized bank branch would reveal the pathetic level of the Chief Manager who has been reduced to a virtually simple manager who runs the show without any efforts towards fulfilling his onerous responsibilities as a senior officer as he is called for, and also being allowed a fat salary, perquisites or other benefits which are quite high as compared to the private sector manager who has no security of his job even what to speak of other benefits. The public-sector bank managements together have to make serious efforts to identify the role of every one of their employees afresh by engaging the unions of both the officers and workman union. Simply following the old order which was evolved at the time of nationalization of banks is rudderless and would totally annihilate the existence of the banks. The private sector which entered the scene very late also needs to understand from their elder ones, namely, the public sector banks.

RBI Governor mentioned about various efforts recently taken towards strengthening the legal, regulatory, supervisory and institutional framework towards resolution of liquidating huge outstanding stressed assets or for a normal person, popularly known as huge loans.

Strengthening the legal framework:

  • Insolvency and Bankruptcy Code, 2016 (IBC) – The enactment of IBC provides for a single window, time bound process for resolution of an asset with an explicit stress on promotion of entrepreneurship, maximization of value of assets, and meeting the interests of all stake holders. The previous mix up of several laws with loop holes of intervention of the judiciary at every step to prolong the stressed assets for ever without any time limit. Though RBI has time and again explained the meaning of non-performing assets and the necessity to removal of them on a time bound manner, history reverberated how the bankers in collusion with borrowers failed to achieve the goals.
  • Yes, for any one, an asset is valuable only when it is from a going concern and would generate good cash flow. IBC simply put a time limit of 180 days (may be extended by 90 days only) for creditors to arrive at a resolution plan failing which the adjudicating authority would pass a liquidation order which would definitely result in larger losses. The borrowers exposed to losing their units would in future would be serious about returning the loans of the banks.

Passing of Banking Regulation (Amendment) Ordinance 

I have previously written a separate article on this specific topic in Tax Guru when RBI dealt with the huge loans outstanding with only a handful of big borrowers who had put the whole banking system to huge losses and provisioning. The bankers in turn failed to act for reasons known to all concerned. It looked as if the bankers did not want to act at all and wanted to witness the decay of the banks. Since no progress was made even after promulgation of the IBC, to strengthen the hands of RBI, the above ordinance was passed which enforced RBI to immediately order the sleeping banks (it is my version) to wake up and set up committees to take steps to find a resolution of huge stressed assets. Many banks have recently taken action to refer many accounts under IBC for final action.

Even identification of many accounts for action by banks by RBI has never been witnessed in the past since RBI nominees just kept quiet when the loans were sanctioned or released to non-qualified borrowers . It is expected that under IBC, the creditors (75% of them) would eventually arrive at a feasible resolution to avoid bankruptcy. A large number of accounts have been put under IBC and like the Western countries, a lot of progress is expected. It is presumed that the onus of success of reduction of stressed assets is not solely on the commercial banks but also on RBI which took a witness position in the past.

Follow up action by RBI and evolving regulatory framework

Quoting directly from the speech of RBI, the following para is reproduced:

The continuing endeavor of the Reserve Bank has been to strengthen the supervisory and regulatory framework to ensure timely recognition and disclosure of incipient stress and to facilitate effective and meaningful resolution.

 In particular, the decision to do away with the regulatory forbearance regarding asset classification on restructuring of loans and advances effective April, 2015, was a significant step from the perspective of aligning the regulatory norms with international best practices.

 The Asset Quality Review (AQR) exercise undertaken in 2015-16 was a critical step in recognizing the aggregate stock of non-performing assets across the banking system – it was a form of “catch-up”. In tandem, a series of measures were put in place to provide a mechanism for coordinated resolution of stressed assets.

Further, additional tools to deal with problem assets were also introduced, in the absence of an effective resolution framework. These tools primarily facilitate optimal structuring of credit facilities, ability to change ownership/management, and help restructuring of stressed assets.

 A framework was put in place for greater transparency in sale of stressed assets by banks with a view to ensuring the sale is at market determined prices.”

My observations

Understanding from a simpleton language, RBI governor conveys that:

  • To strengthen the supervisory role which has so far been issuing instructions and nothing more than simple classification of loans as NPAs, RBI took Asset Quality Review, which enabled the changing ownership of assets wherever needed, and restructure the stressed assets since the commercial banks management on account of fear of Central Vigilance Commission and other agencies which found fault with failure of proper realization of sale of stressed assets by attributing motives, just sat over the NPAs and did nothing except providing more funds to borrowers with apt expectation that the Government would step in and help them.

Quoting again from RBI governor’s speech, we may proceed as under: 

“During the Annual Financial Inspections (AFIs) of the banks, it is usually observed that there is a divergence between the NPAs and provisions declared by the banks and those assessed during the AFI process. This has adverse implications on timely recognition of actual risk, trustworthiness and transparency of books of accounts, management effectiveness, etc. Accordingly, in order to address this asymmetry, disclosure requirements have been put in place – banks have to disclose in their annual accounts the details of such divergences where these exceed specified thresholds.

 The recent decision by SEBI that requires listed entities to disclose defaults on, inter alia, bank loans within one working day can make a huge difference in the credit culture. If my understanding is correct: effectively, a one-day default by bank debtors will result in all bank loans to the debtor entity being generally classified as ‘default’ by the rating agencies, with attendant implications for risk weights on such exposures and capital requirements by the banking system.”

My observations

  • It is an interesting development that listed entities would be required to disclose defaults of bank loans within one working day which in turn, would force rating agencies to classify bank loans from those entities as “default”. Now the main thrust from a common man is, in case the whole system of entities, banks and rating agencies collude among themselves and do not act as per the above directive, what will happen?
  • Recently one nationalized bank failed to include even a normal working telephone number in its web site and I took the pains to visit the secretariat of the CMD of the bank and lodged a complaint, and till date, the lady CMD did not even acknowledge my letter, what to take necessary action to rectify the error? Will RBI be a helpless spectator or act when the situation goes beyond control and our financial system invites universal alarm and condemnation?

Let us list below other measures that were taken by RBI as per the speech of its Governor:

  • Central repository of information on large credits(CRILC) – Strange but true that borrower wise and bank wise information on credit exposure of borrowers was collected
  • Joint Lenders Forum mechanism to improve coordination among the lending banks was established in 2014 but the banks with minimum share did not agree with banks with larger share and effectively the borrowers thrived at a common man’s expense. Yes, the consent required for action in case of recalcitrant borrowers was reduced to 60% than 75% which would enforce effectively, the decision of Joint Lenders Forum. Moreover, the executives of banks would invariably act than refer the matter to JLF. Yes, it is a further step towards IBC which would either tone up the management of the borrowers or sink them by liquidation.
  • RBI brought under its aegis, using exercise of its powers under Section 35 AB of the ordinance to review the processes followed by banks to hasten the process.

Fiscal dimension

How do these measures evaluate on a neutral scale of the effective loss which may be incurred by the lending banks, if IBC and other steps are taken to effect speedy recovery of their stressed assets?

RBI Governor expects the banks to have necessary “haircuts” as he calls them, to effect speedy recovery of their stressed assets without the fear of reaction from governmental agencies on bribery charges.

Conclusion

Various measures mentioned above, for a banker with 3 decades of experience, is nothing new. Banks are expected to get deposits, lend at suitable rates and help all stake holders. But consistent efforts by vested interests reduced the powers of honest officials to become mere witness to events than act on timely basis to recover the stressed assets. Can nationalized banks act like islands and work against themselves in recovering stressed assets?

 Does one need RBI to work like a commercial bank to identify the accounts for timely action by commercial banks which work under the supervisory control of RBI? Can one believe that a recent report talked of non- reporting of required NPAs by private sector bank, so called darling of eminent writers from the western world who would invariably decry nationalized banks, until RBI conducted its inspection and found out the truth? One did not hear what action was taken against the so-called auditors of the bank who could have easily done its job unless it decided to favor the private sector bank.

As an experienced banker from an era when honesty was the first requirement to be selected as a banker, either as an employee or an officer, when even the union would be reluctant to support a corrupt or fraudulent employee or officer, it is my fervent desire that the steps taken by the RBI would improve the health of banks and the government would not be required to bail out the banks. Yes, meekly, as an investor, I do require the banks to adequately compensate me for investing my hard- earned money with them for nearly 3 decades though even SBI did not treat us well in the past. Right now, the banks would have to act or under IBC, if possible be handed over to new owners for bringing prosperity to all stake holders.

Reference

RBI Governor’s speech dated August 19, 2017 published in their web site, as per details given below:

https://www.rbi.org.in/Scripts/BS_SpeechesView.aspx?Id=1044

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