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Using govt funds to clean up NPAs not preferable, says Shah

Deputy governor of RBI, Viral Acharya’s concern over the bad loan problem hurting India’s public sector banks (PSBs) may not an exaggeration.

Non-performing assets (NPAs) of banks have shot up to 9.5 percent in the third quarter of this fiscal from 9.1 percent in the previous and 8.5 percent in the March quarter.

Post the December quarter, Credit Suisse says 41 percent of the companies they track earned less than their interest outgo.

Also, growth is not helping either. As earnings of corporate India rose by 9 percent in Q3, the stressed companies tracked by Credit Suisse reported Rs 15,000 crore of losses.

The economic survey pointed out that neither growth nor the Reserve Bank of India’s (RBI) tools like strategic debt restructuring (SDR) and stressed asset structuring scheme (S4A) are helping.

One thing is for sure, there is a common consensus on bad loans being a tough nut to crack.

In this week’s edition of ‘Indianomics’, Rajnish Kumar, MD, State Bank of India , RK Bansal, ED of IDBI and Rashesh Shah, MD, Edelweiss Capital try to shed light on the issue of NPAs and discuss the suggestions recently made by Viral Acharya to deal with the menace.

Below is the verbatim transcript of Rajnish Kumar, RK Bansal and Rashesh Shah’s interview to Latha Venkatesh, Sonia Shenoy and Anuj Singhal on CNBC-TV18.

Q: The first proposal which the deputy governor is putting on the table is that you pick up 50 large assets and give bankers a timeline. By December 31, it should be done. You think that is a good way to start?

Kumar: I agree, it is a good way to start but then if I look at it, banks are already working on top 50 or 100 accounts overall, it is not as if bankers are not working. So maybe the additional thing I find is that you give a timeline that okay up to December you solve this. That way, it is a good way but there are other issues, which need to be sorted out. Equity and capital from where it will come. I will not go into that but it is a good way.

Q: He also gives two other things that the proposals put together by the bankers along with some private advisors should get a credit rating. Is that a good plan? At the moment, of course as Mr Bansal says, there are some advanced plans for a whole host of accounts, would credit rating be a good idea?

Shah: I think, in concept, it is a good idea but if you go back to why we need credit rating for bond markets and others is when there are third party investors who don’t have the time or the capability to assess the underlying risk.

In a situation like this which is a few banks and maybe an ARC or whoever is the buyer of the bad debt, it is a very closed user group and I would assume that they themselves will do a proper risk assessment like we in our ARC, if we are buying an asset, we would do a proper risk assessment and if we need, we can rely on external credit rating or other advisors.

But on the whole if we are putting our own money at stake out there then it is very important that we have the capability to assess and under-write the risk.

That is why, since this is not a debt that will be listed in the market, that will be sold out there. So on the whole, I think the credit rating part maybe useful but may not always be required.

What is required and also the earlier question that you asked, is there has to be a focus but I would say that the bankers are already focused on that and what happens in this is there is a lot of give and take involved between the bankers and the promoters and everybody is trying to optimise, the bankers want the best deal, the promoters want the best deal.

In that if you try to hurry it up, you might end up compromising the cards that you hold because ultimately if the banks are in a hurry, then the promoters may end up extracting a much sweeter deal than what they should be entitled to.

Q: One of the reasons why perhaps this deadline is being given is that very often, half the bankers agree, the other half do not agree and the matter gets kicked forward, so that the next chairman or the next MD has to handle it. That tendency is perhaps what the Deputy Governor is trying to check. There is another thing, it is increasingly becoming clear that bankers are scared to give large haircuts, especially after the problem of the Kingfisher case where the promoter is on the run and some bankers have even been arrested. Considering that do you think there is a suggestion that some CVC forbearance be given is a good one but my point is, is it absolutely necessary and can it be managed by law?

Kumar: I am not very sure that it can be managed by law and whether any explicit guarantee come from any quarter that there is a complete impunity from the decision making so that may also be very difficult but definitely a process can be worked out and as has been done also, oversight committee has been formed where two independent former vigilance and chief vigilance commissioners are there and they are people of repute and eminence. So that type of oversight committee can definitely help and bankers definitely would like that on the commercial judgement because each case is so different, the haircut would also be different. So there cannot be a set rule in large accounts. It will differ from case-to-case basis depending upon the situation, depending upon the cash flow estimation. So there cannot be a rule that if it is 50 percent, it is alright and if it is 60 percent haircut, it is not alright.

So that comfort in decision making for the public sector bank executives and whoever are the people or the boards that is definitely required and that has been what the bankers have been demanding that as far as their commercial judgement is concerned, it should not be questioned unless there is a discernible quid-pro-quo or a mala fide. If criminal intent is there then definitely go after them but not on any other issue or any other thing.

Q: The point is that the thin line between what you call criminal intent and what you call a business judgement. Do you think that there is any new element needed either from what Dr Acharya has suggested or anything you think is needed as a banker to ensure that the first 50 cases are resolved before this year is out?

Bansal: I think as Rajnbish Kumar is also saying, there are different schemes but many cases we find they are not fitting into those schemes as of now. So maybe we have to do a normal restructuring. In fact as bankers we have asked from RBI, a few modifications in the restructuring schemes – if RBI agrees with that – to expedite this whole resolution process. The other issue finally is some of the sector specific issues also need to be seen which is being worked out, whether it is in steel or in EPC because most of these 50 cases that we are referring to will fall into these two categories.

The third category anyway, Deputy Governor has separated out which is power. I think EPC segment is still improving and government is also trying to do something. But just before that, I wanted to add one small thing, what I understand is that the rating which Deputy Governor has referred is not a debt rating. What he is virtually calling, it should be a business rating roughly and that type of rating as of now, I don’t think rating agencies – I mean, for equity also we have seen that rating as an issue. So I think the debt rating anyway will be below investment grade.

Q: The point I am trying to get at is how we can speed up the resolution process. What exactly do the bankers want from the RBI or a quick resolution of NPLs?

Bansal: As far as the regulator is concerned, the issue here is today most of these cases, which we are looking at, let us understand the whole issue. Mostly they have been classified as NPA either through AQR or through other regions that case has become NPA.

If we look at the restructuring of some of these cases, if we don’t do under S4A because S4A is not fitting into because of two-three specific reasons that some loan has already become due, so we cannot reschedule it as per the norms and similarly we cannot reduce the interest rate. So the case doesn’t fit into S4A though the company has good cashflow. The other reason is we cannot take cash flows of more than six months in future.

So now to overcome these issues, perhaps we will need to go through a normal restructuring process. Under normal restructuring process, the challenge which is coming when we reduce interest rate, when we increase the reschedulement, we already have 40 percent provision in this case. If I take 40 or 25 or more than 40 also, when we do a restructuring, the hit which is because of this haircut because of the instrument conversion, we need to make sometimes additional provision of roughly another 40 percent.

So in that case, the provisioning becomes 80 percent which is perhaps will be daunting for the banks and that could bring in to picture the issue which you said that new MDs should do or new chairman should do. The point here is what we have asked from RBI is okay, under S4A, you have a sustainable portion. So under this also maybe even if it is less than 50 percent, the sustainable portion should be allowed to be treated as standard, the existing provision could be adjusted somewhere here and there and some other tweaking of the norms which is under CDR. So that is what we want perhaps which from IBA side it has been sent, let us see what RBI does. That will help in faster resolution.

Q: What is your sense, what are the couple of things the RBI can do, the regulator or the government can do to ensure faster resolution?

Kumar: I think Mr Bansal raised a very valid point that current structure of provisioning -there is no incentive for faster resolution rather there is a disincentive in terms of accelerated provisioning and NPV loss. So my request would be that if RBI could take a little bit more pragmatic view and which without affecting the credibility and the stability of the banking system but the provisions if they could be spread out. Otherwise what will happen that if everything, say 60 percent in some cases or 50 percent, if there is a deep haircut on account of restructuring then the banks most of the banks are not in a position to provide and that is where it becomes one of the factors for a faster resolution. So a little bit of breathing time could be helpful in terms of the provisioning and even from sale to ARCs from April 1, the provisioning norms are going to be much tighter and this is something where the regulator can have a look at.

Q: We do not have time to discuss the National Asset Management Company which Viral Acharya proposed but in case there is such a government backed asset management company, which buys up extremely stressed assets like gas based power plants, how can it be capitalised? It has to come from the consolidated fund, is there any other way?

Shah: You have raised an important point and that is one of the hurdles, the government has only so much resources and a lot of us including recently when the finance minister spoke about it, government funds should be used for education, for rural schemes for other social uses also.

I think using this to help clean up banks or the NPAs that have happened, is maybe not a very highly preferred option from what we have heard from the government but also along with that whether it is government funds or there is third party money, what you are doing is you are going to set up one more ARC equivalent of that but if that is run by the government, if it is in the public sector, you will run the same large moral hazard that even when you do a very pragmatic restructuring, there is nothing that will not stop the opposition from accusing the government of favouring some business groups and some business houses.

So ideally our view is that we should allow the market based solutions and there are a lot of global funds, which are there, there are a lot of ARCs, which are there and also along with what Mr Bansal and Mr Rajnish have been saying, allow banks more leeway because a lot of these rules, we have made them more ironclad because we are trying to make sure the banks don’t game the system but I think the banks do not want to game the system, they want to also clean up and the market based pragmatic solutions is the only way to go.

Q: What do you mean by market based? If you have a market based special situations fund or first of all you will require a very large fund because the gas based and power projects would be something like Rs 2 lakh crore or Rs 1.5 lakh crore of stressed assets, thermal and gas based. You would require a great deal of capital and equity and debt capital to be able to buy them up? Is it possible to have a market based solution?

Shah: That is a good point but what I would say that if it is a gas based power project and the gas is not there, it is unviable whether you carry it on the banks or you try and transfer it to some government owned ARC, there is no scope of revival on that. You are only transferring asset, which was easier for banks to mark it down because there is no future currently of a gas based power plant at all.

So you just do a mark to market, assess the underlying economic value of that particular project and either the banks keep it on their books by marking it down or sell to an ARC at that marked down price or sell it to this. The underlying value does not change when you transfer it from the bank books to the government owned ARCs.

Q: So in that case, what according to you is the amount of loans that are completely retrievable like the gas based plants?

Shah: If you ask us the estimate we did about a year ago was that the total stressed assets including NPAs plus restructured and everything was approximately about Rs 800,000 crore, which is also the RBI estimate and our estimate was about Rs 300,000 crore out of that is the haircut that is required, which is either unsustainable debt or unviable projects but the good news on that is out of the Rs 3 lakh crore, almost Rs 2 lakh crore has been already provided by the banks. So another Rs 1 lakh crore, which is provisioning over the next four quarters because banks are now providing about Rs 25,000-30,000 crore every quarter.

So in the next four quarters, the provisioning will be over and once you provided for that you have in a way cleaned up the books, you still have to work towards reviving the other part of that, the other Rs 500,000 crore has to be revived, has to be recovered, has to be restructured so that they continue to create economic value but I think we are close to the end. We have another four quarters of provisioning to go in this.

Q: You would agree with that number that in terms of time and in terms of amount, we are only one lakh crore away and only one year away?

Kumar: That is about the provisioning part but we have to also recognise that these assets bring a lot of economic value and employment. So it is in everybody’s interest and it is in the economic interest of the country, it is in the interest of the revenue generating capacity of these ventures that the approach should be that they should be up and running maybe they cannot carry the current level of debts. So provisioning is one issue and resolution from the overall economic value that is another issue.

Third thing about ARC is that again it goes down to where the fund and capital are coming in and what is holding on or what are the road blocks where even if the private funds like where we did one arrangement with Canadian private equity fund, what are the roadblocks they are facing in terms of moving ahead with the resolution and government policy support in certain matters will definitely be required.

Many power plant – you gave example of gas based power plants but they were able to operate at 30-35 percent plant load factor (PLF) because government provided some support in the gas pricing. So those kind of policy interventions and support from the government will be definitely required but ultimately I think it goes down to where the capital is coming from, what is the risk return reward metrics this capital is seeking and whether that risk reward metrics is available and removal of the roadblocks.