The Reserve Bank of India (RBI) directing banks to initiate insolvency proceedings against 12 shortlisted companies under the Insolvency and Bankruptcy Code (IBC) that have fund/non fund exposure of above Rs 5,000 crore where 60 percent or more has turned bad is a welcome sign for India’s crisis-ridden banking sector. These accounts account a quarter of the total NPAs of the banking system. If banks manage to recover this chunk, it will give a major boost to the sector.
As for other NPA accounts, which do not qualify under the above criteria, the RBI’s internal committee recommended that banks should finalise a resolution plan within six months. In cases where a viable resolution plan is not agreed upon within six months, banks should be required to file for insolvency proceedings under the IBC.
This is probably for the first time Indian banks have begun their NPA battle, some credible steps are taken to address the NPA menace. On paper, the gross bad loans of Indian banks are a little over Rs 7 lakh crore but in reality the actual amount of bad loans would be far higher given that there is a big chunk of restructured loans and loans that technically remain standard on the books of banks but are actually bad. According to former RBI deputy governor, K C Chakrabarty, the total chunk of all problematic loans in the banking system would be around Rs 20 lakh crore.
The way RBI has directed banks to initiate IBC against high value NPA cases inspire confidence. The central bank committee has taken a common cut off in terms of loan exposure and portion of loan that has turn bad, and has not named any company in public. This partly addresses the concerns of RBI picking and choosing individual companies for punitive action. The tone of the guidelines is more or less general.
But, there are few concerns are on the implementation side:
One, as per the procedure, banks should approach the National Company Law Tribunal (NCLT) for resolution. A maximum of 270 days are given for the company to work out a turn-around mechanism and repayment of loan. If the resolution doesn’t work, the liquidation proceedings begin and banks and other stakeholders in the firm work out a plan to recover the money. The whole process is time bound and offers a decent exit for the promoter and minimum financial losses to lenders. But, the problem is that banks are not experts in businesses to which they lend. Unless the right professionals are involved, a resolution within nine months may not be a workable idea and can lead to bigger disputes.
Two, does the NCLT, the body which deals with IBC cases, have adequate infrastructure to deal with a large number of insolvency cases? Right now, there are about 25,000 pending cases with NCLT and according to Alvarez & Marsal (read a Mint report here), it may take seven years to resolve these pending cases.
There are 4,000 pending cases in the Company Law Board (CLB) that will likely move to NCLT besides 700 pending cases at Board for Industrial & Financial Reconstruction (BIFR), 5,200 winding-up and amalgamation cases in high courts and 15,000 cases in Debt Recovery Tribunal (DRT) related to corporates are expected to be transferred to NCLT. But with just 11 benches and 62 judicial and technical members, the report explains, NCLT will not be able to handle the mountain of pending cases, the report points out.
If the NCLT doesn’t have enough manpower and institutional infrastructure to deal with these cases, the hopes of faster resolution of NPA cases may not be realistic.
Third, a company is pushed for liquidation after severe financial stress. Hence, in many of the insolvency cases, banks may have to take substantial losses. In the case of public sector banks, which are the major bad loan victims of India’s banking sector, the onus of recapitalisation falls up on the majority stakeholder in these banks—the government. Can the government fork out significant amount of money to compensate the losses of state-run banks? It is doubtful. According to global rating agency, Moody’s Investor services, India’s public sector banks will need five times more capital than what is budgeted (read a report here).
These are some of the challenges the government and the RBI will have to deal with when the bankruptcy code becomes a reality. The fact is that RBI shortlisting the 12 large defaulters is nothing new. Everyone knows where the money is stuck in India’s banking system. The key part is implementation.