Fear of losing money behind bulging non-performing assets

It's the fear of losing more money rather than putting a stop to losses that have made banks hold on to non-performing assets (NPAs) while awaiting a turnaround.

Especially for public sector banks, it's largely political interference that has led to 'wilful' NPAs and many government-owned banks have been facing the backlash for this, the recent case being the United Bank of India saddled with Rs 1,238 crore loss as of December quarter. The bank has been stuck with bad debts of Rs 8,546 crore, or 10.82% of its net advances.

It is the mismanagement and abuse of political clout that appears to have invited the wrath of RBI to now think of a cap on NPAs banks can have on their books at any given time.

The RBI is believed to be mulling over a 5% cap on NPAs to avoid erosion of capital and negative ratings on the 26 government-owned banks. This, in effect, means banks would now have to sell off their NPAs to asset-reconstruction firms (ARCs) at steep discounted prices to actual value.

For this, banks would have to let go chunk of its profits when assets turn performing. Most NPAs have been provided for by banks to a great extent from existing business profits. This means ARCs are at an advantage.

There are over a dozen ARCs and their prime function is to buy out NPAs from banks at discounts to present value and nurse them back to healthy assets. In return, ARCs get the differential at which they bought out stressed assets and the true value when nursed back to health.

The same route of recovery can be adopted by banks to make higher profits when NPAs turn healthy on improvement in the economy or business cycle. That explains the reluctance by banks to part with NPAs and let them instead bulge in the hope of bigger profits when assets turn around.

Bankers said pure numbers have made banks refrain from selling off their NPAs so far, but then stressed assets become a stumbling block when lenders are more than one. It's the ARCs that act as an aggregator when claimants to collaterals are more than one bank. This deal works out better for lenders.

If the RBI mandates the limit on NPAs, estimated to be over Rs 2 lakh crore, one could see many stressed assets up for sale.

Two aspects come to fore, one ARCs get more business when the economy is in pain, second banks become more profitable with fewer NPAs. This does not imply that ARCs are without business when the economy is healthy. Wilful defaulters are recurring and not seasonal.