Study on Impact and Trend of Non-performing Assets of Banks in Inda

7/30/2019 Study on Impact and Trend of Non-performing Assets of Banks in Inda

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CHAPTER 1

INTRODUCTION


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The efficiency of a bank is not always reflected only by size of its balance sheet

but by the level of return on its assets. NPAs do not generate interest income for

banks, but the same time banks are required to make provision for such NPAs

from their current profits. In the context of crippling effect on a banks

operations in all spheres, asset quality has been placed as one of the most

important parameters in the measurement of banks performance under the

CAMELS supervisory rating system of RBI. NPAs have a deleterious effect on

the return on assets in several ways:

i) They erode current profits through provisioning requirements

ii) They result in reduced interest income

iii) They require higher provisioning requirements affecting profits and

accretion to capital funds and capacity to increase good quality risk assets in

future

iv) They limit recycling of funds, set in asset-liability mismatch.

Thus, three letters NPAs strike terror in the banking circles today.

The high level of NPAs in banks has been a matter of grave concern to

the public at large as bank credit is the catalyst to the economic growth of the

country. Any bottleneck in the smooth flow of credit, one cause for which the

mounting NPAs, is bound to create adverse repercussions in the economy.

NPAs are not anymore lenders problem alone, but equally that of borrowers

and shareholders too. All should be equally concerned about NPAs.


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1.2OBJECTIVES OF THE STUDYThe study is based on the following objectives.

1. To study of the concept of Non-Performing Asset in Indian perspective

2. To study the impact of NPAs

3. To evaluate the efficiency in managing Non Performing Asset of

different types of banks (Public, Private & Foreign banks) by comparing

NPA with profits.

4. To check the proportion of NPA of different types of banks in differentcategories.

1.3 SCOPE OF THE STUDY

Study about the non-performing assets of Indian commercial banks was made

by taking into account the secondary data available from the RBI web site and

other RBI publications. The scope of the study is limited to the group wise

analysis and the NPAs of individual banks is not taken into account.

Furthermore, the scope of the study is limited to a limited period. Qualitative

aspects regarding the NPAs were not taken into account for evaluating the

impact of NPAs.

1.4 METHODOLOGY

This research has been done using secondary data. The data about NPAs

& its composition, classification of loan assets, profits & advances of different

banks is taken from Reserve Bank of India website. For the study, banks in

India have been classified into three groups namely, public sector banks, private


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sector banks, and foreign banks. The data gathered were analysed with

percentages, averages and ratios.

1.5 LIMITATIONS OF THE STUDY

The limitations felt in the study are:

It was critical to gather the financial information pertaining to

NPA of all banks so proper comparison was not possible.

There are some data which are available for just 3 years while the

same data for its counterparts were available for 9 years. So exact

comparison was not possible.

The study is primarily based on secondary data gathered from

RBI. No first-hand information regarding NPAs were used in this

study. Hence it was not possible to identify the exact reasons for

NPAs and its consequences.


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CHAPTER 2

THEORITICAL

REVIEW


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2.1 REVIEW OF LITERATURE

A considered view is that banks lending policy could have crucial

influence on non-performing loans (Reddy, 2004).Reddy (2004) critically

examined various issues pertaining to terms of credit of Indian banks. In this

context, it was viewed that the element of power has no bearing on the illegal

activity. A default is not entirely an irrational decision. Rather a defaulter takes

into account probabilistic assessment of various costs and benefits of his

decision.

In the seminal study on credit policy, systems, and culture, Reddy

(2004) raised various critical issues pertaining to credit delivery mechanism of

the Indian banking sector. The study focused on the terms of credit such as

interest rate charged to various productive activities and borrowers, the

approach to risk management, and portfolio management in general. There are

three pillars on which Indias credit system was based in the past; fixing of

prices of credit or interest rate as well as quantum of credit linked with purpose;

insisting on collateral; and prescribing the end-use of credit. Interest rate

prescription and fixing quantum has, however, been significantly reduced in the

recent period. In the context of NPAs on account of priority sector lending, it

was pointed out that the statistics may or may not confirm this. There may be

only a marginal difference in the NPAs of banks lending to priority sector and

the bankslending to private corporate sector. Against this background, the

study suggested that given the deficiencies in these areas, it is imperative that


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banks need to be guided by fairness based on economic and financial decisions

rather than system of conventions.

Sergio (1996) in a study of non-performing loans in Italy found evidence

that, an increase in the riskiness of loan assets is rooted in a banks lending

policy adducing to relatively unselective and inadequate assessment of sectorial

prospects. Interestingly, this study refuted that business cycle could be a

primary reason for banks NPLs.The study emphasised that increase in bad

debts as a consequence of recession alone is not empirically demonstrated. It

was viewed that the bank-firm relationship will thus; prove effective not so

much because it overcomes informational asymmetry but because it recoups

certain canons of appraisal.

In a study of loan losses of US banks, McGoven (1993) argued that

character has historically been a paramount factor of credit and a major

determinant in the decision to lend money. Banks have suffered loan losses

through relaxed lending standards. It was suggested that bankers should make a

fairly accurate personality-morale profile assessment of prospective and current

borrowers and guarantors. Besides considering personal interaction, the banker

should (i) try to draw some conclusions about staff morale and loyalty, (ii)

study the persons personal credit report, (iii) do trade-credit reference

checking, (iv) check references from present and former bankers, and (v)

determine how the borrower handles stress. In addition, banks can minimise


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risks by securing the borrowers guarantee, using Government guaranteed loan

programs, and requiring conservative loan-to-value ratios.

Bloem and Gorter (2001) suggested that a more or less predictable

level of non-performing loans, though it may vary slightly from year to year, is

caused by an inevitable number of wrong economic decisions by individuals

and plain bad luck (inclement weather, unexpected price changes for certain

products, etc.). Under such circumstances, the holders of loans can make an

allowance for a normal share of non-performance in the form of bad loan

provisions, or they may spread the risk by taking out insurance. Enterprises may

well be able to pass a large portion of these costs to customers in the form of

higher prices. For instance, the interest margin applied by financial institutions

will include a premium for the risk of non-performance on granted loans. At

this time, banks non-performing loans increase, profits decline and substantial

losses to capital may become apparent. Eventually, the economy reaches a

trough and turns towards a new expansionary phase, as a result the risk of future

losses reaches a low point, even though banks may still appear relatively

unhealthy at this stage in the cycle.

Guptas study (1983) on a sample of Indian companies financed by

ICICI concludes that certain cash flows coverage ratios are better indicators of

corporate sickness.


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2.2 TYPES OF NPA:

Gross NPA::Gross NPAs are the sum total of all loan assets that are classified as

NPAs as per RBI guidelines as on Balance Sheet date. Gross NPA reflects the

quality of the loans made by banks. It consists of all the nonstandard assets like

as sub-standard, doubtful, and loss assets. It can be calculated with the help of

following ratio:

Gross NPAs Ratio = Gross NPAs

Gross AdvancesNet NPA::

Net NPAs are those type of NPAs in which the bank has deducted the

provision regarding NPAs. Net NPA shows the actual burden of banks. Since

in India, bank balance sheets contain a huge amount of NPAs and the process of

recovery and write off of loans is very time consuming, the provisions the banks

have to make against the NPAs according to the central bank guidelines, are

quite significant. That is why the difference between gross and net NPA is quite

high. It can be calculated by following:

Net NPAs = Gross NPAsProvisions

Gross AdvancesProvisions

2.3 ASSET CLASSIFICATION:

Assets are classified into following four categories::

Standard Assets

Sub-standard Assets


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Doubtful Assets

Loss Assets

Standard Assets::

Standard assets are the ones in which the bank is receiving interest as

well as the principal amount of the loan regularly from the customer. Here it is

also very important that in this case the arrears of interest and the principal

amount of loan do not exceed 90 days at the end of financial year. If asset fails

to be in category of standard asset that is amount due more than 90 days then it

is NPA and NPAs are further need to classify in sub categories

Sub-standard Assets::

With effect from 31 March 2005, a substandard asset would be one,

which has remained NPA for a period less than or equal to 12 month. The

following features are exhibited by substandard assets: the current net worth of

the borrowers guarantor or the current market value of the security charged is

not enough to ensure recovery of the dues to the banks in full; and the asset has

well-defined credit weaknesses that jeopardize the liquidation of the debt and

are characterized by the distinct possibility that the banks will sustain some

loss, if deficiencies are not corrected.

Doubtful Assets::

A loan classified as doubtful has all the weaknesses inherent in assets

that were classified as sub-standard, with the added characteristic that the

weaknesses make collection or liquidation in full, on the basis of currently

known facts, conditions and valueshighly questionable and improbable. With


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effect from March 31, 2005, an asset would be classified as doubtful if it

remained in the sub-standard category for 12 months.

Loss Assets::

A loss asset is one which considered uncollectible and of such little value

that its continuance as a bankable asset is not warranted- although there may be

some salvage or recovery value. Also, these assets would have been identified

as loss assets by the bank or internal or external auditors or the RBI

inspection but the amount would not have been written-off wholly.

2.4 IMPACT OF NPA:

Profitability

NPA means booking of money in terms of bad asset, which occurred due to

wrong choice of client. Because of the money getting blocked the prodigality of

bank decreases not only by the amount of NPA but NPA lead to opportunity

cost also as that much of profit invested in some return earning project/asset. So

NPA doesnt affect current profit but also future stream of profit, which may

lead to loss of some long-term beneficial opportunity. Another impact of

reduction in profitability is low ROI (return on investment), which adversely

affect current earning of bank.

Liquidity

Money is getting blocked, decreased profit lead to lack of enough cash at

hand which lead to borrowing money for shortest period of time which lead to


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additional cost to the company. Difficulty in operating the functions of bank is

another cause of NPA due to lack of money.

Involvement of management

Time and efforts of management is another indirect cost which bank has

to bear due to NPA. Time and efforts of management in handling and managing

NPA would have diverted to some fruitful activities, which would have given

good returns. Now days banks have special employees to deal and handle

NPAs, which is additional cost to the bank.

Credit loss

Bank is facing problem of NPA then it adversely affect the value of bank

in terms of market credit. It will lose its goodwill and brand image and credit

which have negative impact to the people who are putting their money in the

banks.

Drain of profit

The profits of the banks are considerably reduced by the provisions made

for non-performing assets.

Affects the goodwill

Higher NPA ratios affect the goodwill of the banking institution. This

has a bad effect on the equity value of the banks.


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2.5 PREVENTIVE MEASUREMENT FOR NPA:

Early Recognition of the Problem

Invariably, by the time banks start their efforts to get involved in a

revival process, its too late to retrieve the situation- both in terms of

rehabilitation of the project and recovery ofbanks dues. Identification of

weakness in the very beginning that is: When the account starts showing first

signs of weakness regardless of the fact that it may not have become NPA, is

imperative. Assessment of the potential of revival may be done on the basis of a

techno-economic viability study. Restructuring should be attempted where, after

an objective assessment of the promoters intention, banks are convinced of a

turnaround within a scheduled timeframe. In respect of totally unviable units as

decided by the bank, it is better to facilitate winding up/ selling of the unit

earlier, so as to recover whatever is possible through legal means before the

security position becomes worse.

Identifying Borrowers with Genuine Intent

Identifying borrowers with genuine intent from those who are non-

serious with no commitment or stake in revival is a challenge confronting

bankers. Here the role of frontline officials at the branch level is paramount as

they are the ones who have intelligent inputs with regard to promoters

sincerity, and capability to achieve turnaround. Based on this objective

assessment, banks should decide as quickly as possible whether it would be

worthwhile to commit additional finance. In this regard banks may consider

having Special Investigation of all financial transaction or business


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transaction, books of account in order to ascertain real factors that contributed

to sickness of the borrower. Banks may have penal of technical experts with

proven expertise and track record of preparing techno-economic study of the

project of the borrowers. Borrowers having genuine problems due to temporary

mismatch in fund flow or sudden requirement of additional fund may be

entertained at branch level, and for this purpose a special limit to such type of

cases should be decided. This will obviate the need to route the additional

funding through the controlling offices in deserving cases, and help avert many

accounts slipping into NPA category.

Timeliness and Adequacy of response

Longer the delay in response, grater will be the injury to the account and

the asset. Time is a crucial element in any restructuring or rehabilitation

activity. The response decided on the basis of techno-economic study and

promoters commitment, has to be adequate in terms of extend of additional

funding and relaxations etc. under the restructuring exercise. The package of

assistance may be flexible and bank may look at the exit option.

Focus on Cash Flows

While financing, at the time of restructuring the banks may not be guided

by the conventional fund flow analysis only, which could yield a potentially

misleading picture. Appraisal for fresh credit requirements may be done by

analysing funds flow in conjunction with the Cash Flow rather than only on the

basis of Funds Flow.


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Management Effectiveness

The general perception among borrower is that it is lack of finance that

leads to sickness and NPAs. But this may not be the case all the time.

Management effectiveness in tackling adverse business conditions is a very

important aspect that affects a borrowing units fortunes. A bank may commit

additional finance to an unit only after basic viability of the enterprise also in

the context of quality of management is examined and confirmed. Where the

default is due to deeper malady, viability study or investigative audit should be

done it will be useful to have consultant appointed as early as possible to

examine this aspect. A proper techno- economic viability study must thus

become the basis on which any future action can be considered.

Multiple Financing

1. During the exercise for assessment of viability and restructuring, a

Pragmatic and unified approach by all the lending banks/ FIs as also

sharing of all relevant information on the borrower would go a long way

toward overall success of rehabilitation exercise, given the probability of

success/failure.

2. In some default cases, where the unit is still working, the bank should

make sure that it captures the cash flows (there is a tendency on part of

the borrowers to switch bankers once they default, for fear of getting

their cash flows forfeited), and ensure that such cash flows are used for

working capital purposes. Toward this end, there should be regular flow


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of information among consortium members. A bank, which is not part of

the consortium, may not be allowed to offer credit facilities to such

defaulting clients. Current account facilities may also be denied at non-

consortium banks to such clients and violation may attract penal action.

The Credit Information Bureau of India Ltd. (CIBIL) may be very

useful for meaningful information exchange on defaulting borrowers

once the setup becomes fully operational.

3. In a forum of lenders, the priority of each lender will be different. While

one set of lenders may be willing to wait for a longer time to recover its

dues, another lender may have a much shorter timeframe in mind. So it is

possible that the letter categories of lenders may be willing to exit, even

a t a cost by a discounted settlement of the exposure. Therefore, any

plan for restructuring/rehabilitation may take this aspect into account.

4. Corporate Debt Restructuring mechanism has been institutionalized in

2001 to provide a timely and transparent system for restructuring of the

corporate debt of Rs. 20 crore and above with the banks and FIs on a

voluntary basis and outside the legal framework. Under this system,

banks may greatly benefit in terms of restructuring of large standard

accounts (potential NPAs) and viable sub-standard accounts with

consortium/multiple banking arrangements.


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2.6 PROCEDURES FOR NPA IDENTIFICATION AND

RESOLUTION IN INDIA:

1. Internal Checks and ControlSince high level of NPAs dampens the performance of the banks

identification of potential problem accounts and their close monitoring assumes

importance. Though most banks have Early Warning Systems (EWS) for

identification of potential NPAs, the actual processes followed, however, differ

from bank to bank. The EWS enable a bank to identify the borrower accounts

which show signs of credit deterioration and initiate remedial action. Many

banks have evolved and adopted an elaborate EWS, which allows them to

identify potential distress signals and plan their options beforehand,

accordingly. The early warning signals, indicative of potential problems in the

accounts, viz. persistent irregularity in accounts, delays in servicing of interest,

frequent devolvement of L/Cs, units financial problems, market related

problems, etc. are captured by the system. In addition, some of these banks are

reviewing their exposure to borrower accounts every quarter based on published

data which also serves as an important additional warning system. These early

warning signals used by banks are generally independent of risk rating systems

and asset classification norms prescribed by RBI. The major

components/processes of a EWS followed by banks in India as brought out by a

study conducted by Reserve Bank of India at the instance of the Board of

Financial Supervision are as follows:


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Designating Relationship Manager/ Credit Officer for monitoring

account/s

Preparation of `know your client profile

Credit rating system

Identification of watch-list/special mention category accounts

Monitoring of early warning signals

Relationship Manager/Credit Officer

The Relationship Manager/Credit Officer is an official who is expected

to have complete knowledge of borrower, his business, his future plans, etc. The

Relationship Manager has to keep in constant touch with the borrower and

report all developments impacting the borrowable account. As a part of this

contact he is also expected to conduct scrutiny and activity inspections. In the

credit monitoring process, the responsibility of monitoring a corporate account

is vested with Relationship Manager/Credit Officer.

Know your client profile (KYC)

Most banks in India have a system of preparing `know your client

(KYC) profile/credit report. As a part of `KYC system, visits are made on

clients and their places of business/units. The frequency of such visits depends

on the nature and needs of relationship.

Credit Rating System

The credit rating system is essentially one point indicator of an

individual credit exposure and is used to identify measure and monitor the

credit risk of individual proposal. At the whole bank level, credit rating system


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enables tracking the health of banks entire credit portfolio. Most banks in India

have put in place the system of internal credit rating. While most of the banks

have developed their own models, a few banks have adopted credit rating

models designed by rating agencies. Credit rating models take into account

various types of risks viz. financial, industry and management, etc. associated

with a borrowable unit. The exercise is generally done at the time of sanction of

new borrowable account and at the time of review renewal of existing credit

facilities.

Watch-list/Special Mention Category

The grading of the banks risk assets is an important internal control tool.

It serves the need of the Management to identify and monitor potential risks of a

loan asset. The purpose of identification of potential NPAs is to ensure that

appropriate preventive / corrective steps could be initiated by the bank to

protect against the loan asset becoming non-performing. Most of the banks have

a system to put certain borrowable accounts under watch list or special mention

category if performing advances operating under adverse business or economic

conditions are exhibiting certain distress signals. These accounts generally

exhibit weaknesses which are correctable but warrant banks closer attention.

The categorization of such accounts in watch list or special mention category

provides early warning signals enabling Relationship Manager or Credit Officer

to anticipate credit deterioration and take necessary preventive steps to avoid

their slippage into non performing advances. Early Warning Signals It is

important in any early warning system, to be sensitive to signals of credit


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deterioration. A host of early warning signals are used by different banks for

identification of potential NPAs. Most banks in India have laid down a series of

operational, financial, transactional indicators that could serve to identify

emerging problems in credit exposures at an early stage. Further, it is revealed

that the indicators which may trigger early warning system depend not only on

default in payment of installment and interest but also other factors such as

deterioration in operating and financial performance of the borrower,

weakening industry characteristics, regulatory changes, general economic

conditions, etc. Early warning signals can be classified into five broad

categories viz.

a) Financial

b) Operational

c) Banking

d) Management and

e) External factors.

Financial related warning signals generally emanate from the borrowers

balance sheet, income expenditure statement, statement of cash flows, statement

of receivables etc. Following common warning signals are captured by some of

the banks having relatively developed EWS.

Financial warning signals

Persistent irregularity in the account

Default in repayment obligation


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Devolvement of LC/invocation of guarantees

Deterioration in liquidity/working capital position

Substantial increase in long term debts in relation to equity

Declining sales

Operating losses/net losses

Rising sales and falling profits

Disproportionate increase in overheads relative to sales

Rising level of bad debt losses Operational warning signals

Low activity level in plant

Disorderly diversification/frequent changes in plan

Non-payment of wages/power bills

Loss of critical customer/s

Frequent labour problems

Evidence of aged inventory/large level of inventory

Management related warning signals

Lack of co-operation from key personnel

Change in management, ownership, or key personnel

Desire to take undue risks

Family disputes

Poor financial controls

Fudging of financial statements

Diversion of funds


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Banking related signals

Declining bank balances/declining operations in the account

Opening of account with other bank

Return of outward bills/dishonoured cheques

Sales transactions not routed through the account

Frequent requests for loan

Frequent delays in submitting stock statements, financial data, etc.

Signals relating to external factors

Economic recession

Emergence of new competition

Emergence of new technology

Changes in government / regulatory policies

Natural calamities

1. Management/Resolution of NPAsA reduction in the total gross and net NPAs in the Indian financial system

indicates a significant improvement in management of NPAs. This is also on

account of various resolution mechanisms introduced in the recent past which

include the SRFAESI Act, one time settlement schemes, setting up of the CDR

mechanism, strengthening of DRTs. From the data available of Public Sector

Banks as on March 31, 2003, there were 1,522 numbers of NPAs as on March

31, 2003 which had gross value greater than Rs. 50 million in all the public

sector banks in India. The total gross value of these NPAs amounted to Rs. 215


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billion. The total number of resolution approaches (including cases where

action is to be initiated) is greater than the number of NPAs, indicating some

double counting. As can be seen, suit filed and BIFR are the two most common

approaches to resolution of NPAs in public sector banks. Rehabilitation has

been considered/ adopted in only about 13% of the cases. Settlement has been

considered only in 9% of the cases. It is likely to have been adopted in even

fewer cases. Data available on resolution strategies adopted by public sector

banks suggest that Compromise settlement schemes with borrowers are found to

be more effective than legal measures. Many banks have come out with their

own restructuring schemes for settlement of NPA accounts. State Bank of India,

HDFC Limited, M/s. Dun and Bradstreet Information Services (India) Pvt.Ltd

And M/s. Trans Union to serve as a mechanism for exchange of information

between banks and FIs for curbing the growth of NPAs incorporated credit

Information Bureau (India) Limited (CIBIL) in January 2001. Pending the

enactment of CIB Regulation Bill, the RBI constituted a working group to

examine the role of CIBs. As per the recommendations of the working group,

Banks and FIs are now required to submit the list of suit-filed cases of Rs. 10

million and above and suit filed cases of wilful defaulters of Rs. 2.5 million and

above to RBI as well as CIBIL. CIBIL will share this information with

commercial banks and FIs so as to help them minimize adverse selection at

appraisal stage. The CIBIL is in the process of getting operationalized.


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2. Wilful DefaultersRBI has issued revised guidelines in respect of detection of wilful default

and diversion and siphoning of funds. As per these guidelines a wilful default

occurs when a borrower defaults in meeting its obligations to the lender when it

has capacity to honour the obligations or when funds have been utilized for

purposes other than those for which finance was granted. The list of wilful

defaulters is required to be submitted to SEBI and RBI to prevent their access to

capital markets. Sharing of information of this nature helps banks in their due

diligence exercise and helps in avoiding financing unscrupulous elements. RBI

has advised lenders to initiate legal measures including criminal actions,

wherever required, and undertake a proactive approach in change in

management, where appropriate.

3. Legal and Regulatory Regime

Debt Recovery Tribunals

DRTs were set up under the Recovery of Debts due to Banks and Financial

Institutions Act, 1993. Under the Act, two types of Tribunals were set up i.e.

Debt Recovery Tribunal (DRT) and Debt Recovery Appellate Tribunal

(DRAT). The DRTs are vested with competence to entertain cases referred to

them, by the banks and FIs for recovery of debts due to the same. The order

passed by a DRT is appealable to the Appellate Tribunal but no appeal shall be

entertained by the DRAT unless the applicant deposits 75% of the amount due

from him as determined by it. However, the Affiliate Tribunal may, for reasons

to be received in writing, waive or reduce the amount of such deposit. Advances


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of Rs. 1 million and above can be settled through DRT process. An important

power conferred on the Tribunal is that of making an interim order (whether by

way of injunction or stay) against the defendant to debar him from transferring,

alienating or otherwise dealing with or disposing of any property and the assets

belonging to him within prior permission of the Tribunal. This order can be

passed even while the claim is pending. DRTs are criticized in respect of

recovery made considering the size of NPAs in the Country. In general, it is

observed that the defendants approach the High Country challenging the verdict

of the Appellate Tribunal which leads to further delays in recovery. Validity of

the Act is often challenged in the court which hinders the progress of the DRTs.

Lastly, many needs to be done for making the DRTs stronger in terms of

infrastructure.

Lokadalats

The institution of Lokadalat constituted under the Legal Services Authorities

Act, 1987 helps in resolving disputes between the parties by conciliation,

mediation, compromise or amicable settlement. It is known for effecting

mediation and counselling between the parties and to reduce burden on the

court, especially for small loans. Cases involving suit claims up to Rs. 1 million

can be brought before the Lokadalat and every award of the Lokadalat shall be

deemed to be a decree of a Civil Court and no appeal can lie to any court

against the award made by the Lokadalat. Several people of particular localities

various social organizations are approaching Lokadalats which are generally

presided over by two or three senior persons including retired senior civil


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servants, defence personnel and judicial officers. They take up cases which are

suitable for settlement of debt for certain consideration. Parties are heard and

they explain their legal position. They are advised to reach to some settlement

due to social pressure of senior bureaucrats or judicial officers or social

workers. If the compromise is arrived at, the parties to the litigation sign a

statement in presence of Lokadalats which is expected to be filed in court to

obtain a consent decree. Normally, if such settlement contains a clause that if

the compromise is not adhered to by the parties, the suits pending in the court

will proceed in accordance with the law and parties will have a right to get the

decree from the court. In general, it is observed that banks do not get the full

advantage of the Lokadalats. It is difficult to collect the concerned borrowers

willing to go in for compromise on the day when the Lokadalat meets. In any

case, we should continue our efforts to seek the help of the Lokadalat.

Enactment of SRFAESI Act

The The Securitization and Reconstruction of Financial Assets and

Enforcement of Security Interest Act (SRFAESI) provides the formal legal

basis and regulatory framework for setting up Asset Reconstruction Companies

(ARCs) in India. In addition to asset reconstruction and ARCs, the Act deals

with the following largely aspects,

Securitization and Securitization Companies

Enforcement of Security Interest


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Creation of a central registry in which all securitization and asset

reconstruction transactions as well as any creation of security

interests has to be filed.

The Reserve Bank of India (RBI), the designated regulatory authority for

ARCS has issued Directions, Guidance Notes, Application Form and

Guidelines to Banks in April 2003 for regulating functioning of the proposed

ARCS and these Directions/ Guidance Notes cover various aspects relating to

registration, operations and funding of ARCS and resolution of NPAs by

ARCS. The RBI has also issued guidelines to banks and financial institutions on

issues relating to transfer of assets to ARCS, consideration for the same and

valuation of instruments issued by the ARCS. Additionally, the Central

Government has issued the security enforcement rules (Enforcement Rules),

which lays down the procedure to be followed by a secured creditor while

enforcing its security interest pursuant to the Act. The Act permits the secured

creditors (if 75% of the secured creditors agree) to enforce their security interest

in relation to the underlying security without reference to the Court after giving

a 60 day notice to the defaulting borrower upon classification of the

corresponding financial assistance as a non-performing asset. The Act permits

the secured creditors to take any of the following measures:

Take over possession of the secured assets of the borrower

including right to transfer by way of lease, assignment or sale;

Take over the management of the secured assets including the right

to transfer by way of lease, assignment or sale;


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Appoint any person as a manager of the secured asset (such person

could be the ARC if they do not accept any pecuniary liability); and

Recover receivables of the borrower in respect of any secured asset

which has been transferred. After taking over possession of the

secured assets, the secured creditors are required to obtain valuation

of the assets. These secured assets may be sold by using any of the

following routes to obtain maximum value.

By obtaining quotations from persons dealing in such assets or

otherwise interested in buying the assets;

By inviting tenders from the public;

By holding public auctions; or

By private treaty.

Lenders have seized collateral in some cases and while it has not yet been

possible to recover value from most such seizures due to certain legal hurdles,

lenders are now clearly in a much better bargaining position vis-a-vis defaulting

borrowers than they were before the enactment of SRFAESI Act. When the

legal hurdles are removed, the bargaining power of lenders is likely to improve

further and one would expect to see a large number of NPAs being resolved in

quick time, either through security enforcement or through settlements. Under

the SRFAESI Act ARCS can be set up under the Companies Act, 1956. The

Act designates any person holding not less than 10% of the paid-up equity

capital of the ARC as a sponsor and prohibits any sponsor from holding a

controlling interest in, being the holding company of or being in control of the


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ARC. The SRFAESI and SRFAESI Rules/ Guidelines require ARCS to have a

minimum net-owned fund of not less than Rs. 20,000,000. Further, the

Directions require that an ARC should maintain, on an on-going basis, a

minimum capital adequacy ratio of 15% of its risk weighted assets. ARCS have

been granted a maximum realization time frame of five years from the date of

acquisition of the assets. The Act stipulates several measures that can be

undertaken by ARCs for asset reconstruction. These include:

Enforcement of security interest;

Taking over or changing the management of the business of the

borrower;

The sale or lease of the business of the borrower;

Settlement of the borrowers dues; and

Restructuring or rescheduling of debt.

ARCS are also permitted to act as a manager of collateral assets taken

over by the lenders under security enforcement rights available to them or as a

recovery agent for any bank or financial institution and to receive a fee for the

discharge of these functions. They can also be appointed to act as a receiver, if

appointed by any Court or DRT.

Compromise Settlement Schemes

1) One Time Settlement SchemesNPAs in all sectors, which have become doubtful or loss as on 31

st

March 2000 are covered under this scheme. The scheme also covers NPAs


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classified as sub-standard as on 31st

March 2000, which have subsequently

become doubtful or loss. All cases on which the banks have initiated action

under the SRFAESI Act and also cases pending before Courts/DRTs/BIFR,

subject to consent decree being obtained from the Courts/DRTs/BIFR are

covered. However cases of wilful default, fraud and malfeasance are not

covered. As per the OTS scheme, for NPAs up to Rs. 10crores, the minimum

amount that should be recovered should be 100% of the outstanding balance in

the account.

2) Negotiated Settlement Schemes

The RBI/Government has been encouraging banks to design and

implement policies for negotiated settlements, particularly for old and

unresolved NPAs. The broad framework for such settlements was put in place

in July 1995. Specific guidelines were issued in May 1999to public sector banks

for one-time settlements of NPAs of small scale sector. This scheme was valid

until September 2000 and enabled banks to recover Rs 6.7 billion from various

accounts. Revised guidelines were issued in July 2000 for recovery of NPAs of

Rs. 50 million and less. These guidelines were effective until June 2001 and

helped banks recover Rs. 26 billion.


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CHAPTER 3

ANALYSIS ANDINTERPRETATIONS


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Net NPAs of Different Bank Groups in India

Table: 3.1

Net NPAs of Banks in India

YEAR

Public

Sector

Banks

Private

Sector

Banks

Foreign

Banks

2001 27977 3700 785

2002 27958 6676 920

2003 24877 3963 903

2004 19335 4128 933

2005 16904 4212 639

2006 14566 3171 808

2007 15145 4028 927

2008 17836 5647 1247

2009 21155 7411 2996

2010 29644 6205 2975

Source: www.rbi.org.in

From the above it is observed that net NPA of public sector banks has a

declining trend up to year 2005-06 and after that it has a rising trend till

2008-09. The same trend has been observed in both Private and Foreign

Sector Banks. The declining trend from 2003 to 2006 of NPA was due to the
http://www.rbi.org.in/http://www.rbi.org.in/


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implementation of Securitization Act (2002). But the increase in NPA was

increasing in absolute term, as NPA as per cent of advance shows a declining

trend in Public Sector Banks while that of in Private and Foreign Sector

Banks shows an upward trend that is increase in NPA as per cent of advance

after 2006. The increase in NPA as per cent of advance of Private and

Foreign Sector Banks is because of they have a major proportion of lending

in non- priority sectors includes Medium and large scale industries which

was highly affected by global financial crisis.

Figure:3.1

Net NPAs of Banks in India

0

5000

10000

15000

20000

25000

30000

35000

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Public Sector

Banks

Private Sector

Banks

Foreign Banks


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Table: 3.2

Composition of NPAs of Public Sector Banks - 2001 To 2010

Source: www.rbi.org.in

From the above chart it is observed that public sector category is the

least contributor towards the NPA of public sector bank. In the initial years

from 2001 to 2005, Non-priority sector contributes more towards NPA than

priority sector. But in later years from 2006 it is other way round, where priority

sector contributes more than Non-priority sector. Priority sector consist of

advance given to agriculture, SSI, & other priority sector advances. Non priority

sector consist of large industries, medium industries & other non-priority

sectors. In case of priority sector, it started falling from 2003 up to 2005 over

previous year. But in the later years i.e. from 2006 there is rise NPA because of

Year Priority Sector Non-priority Sector Public Sector

2001 24156 27854 1163

2002 25150 28371 902

2003 24938 26781 1087

2004 23840 25698 610

2005 23397 23849 450

2006 22374 18664 341

2007 22954 15158 490

2008 25287 14163 299

2009 24318 19251 474

2010 30848 25929 524


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defaults on the loan given to the farmers. It was highest in 2008. In order to

reduce that, waiver package of Rs. 60,000 crore was announced in union budget

of 2008.It may also be noted that the increase in NPAs was more noticeable in

priority sector, which have been more active in the real estate and housing loans

segments. NPA in non-priority sector is reducing constantly from 2002 to 2008

i.e. by 50%and increasing in preceding years. Though the advance given to non-

priority sector was higher than priority sector, NPAs of non-priority sector is

comparatively lesser from 2006 onwards.

Figure:3.2

Composition of NPAs of Public Sector Banks

0

5000

10000

15000

20000

25000

30000

35000

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Priority Sector

Non-priority Sector

Public Sector


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Table: 3.3

Composition of NPAs of Private Sector Banks - 2001 To 2009

Source: http://www.rbi.org

From the above it is observed that public sector contributes very negligible

towards the overall NPA of foreign banks. The major reason for this is that on

an average only 3.5%of total advance is made towards public sector category.

Priority sector category on an average constitutes almost 34%of the total

advances made by the private sector banks. While average NPA of priority

sector constitutes of 25%of total NPA. In later years from 2007 to 2009 there is

increase in NPA of priority sector. In these years more advances was given to

agriculture & housing sector. In the year 2007-08, the real estate market was on

boom, which encouraged people to take more loans. But after the subprime

Year PrioritySector

Non-PrioritySector

PublicSector

2001 1835 4452 123

2002 2546 9090 31

2003 2445 9327 95

2004 2482 7796 75

2005 2188 6569 42

2006 2284 5541 4

2007 2884 6353 3

2008 3419 9558 0

2009 3640 13172 75


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crisis there was sudden fall in real estate market & people became default to pay

the loan. In case of non-priority sector, the average advances made are 60.5%of

total advance made by private sector banks. But the average NPA of non-

priority sector is almost 74%which is highest amongst the entire category. We

can see the declining trend in NPA of non-priority sector from 2003 to 2006.

This is as a result of Securitization Act, 2002.

Figure: 3.3

Composition of NPAs of Private Sector Banks

0

2000

4000

6000

8000

10000

12000

14000

2001 2002 2003 2004 2005 2006 2007 2008 2009

Priority Sector

Non-Priority Sector

Public Sector


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Table: 3.4

Composition of NPAs of Foreign Sector Banks2007 To 2009


It is observed from the chart there is no NPA in public sector category in all the

three years because there was no advance made to public sector category. Non-

priority sector contributes highest towards the NPA of foreign banks because

non-priority sector constitute approximately 65%of the total advances made by

foreign banks. So NPA will also be more in non-priority sector. NPA is low in

priority sector because very few advances are made in priority sector & that too

are made to SSI. The advances are made to medium & large scale industries in

non-priority sector. As foreign banks are having global presence they are more

affected by the global meltdown & financial crisis of 2008. So its effect is seen

by sudden rise in NPA in 2009.

Year Priority Sector Non-Priority Sector Public Sector

2007 331 2120 0

2008 402 2712 0

2009 649 6506 0


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Figure: 3.4

Composition of NPAs of Foreign Sector Banks

0

1000

2000

3000

4000

5000

6000

7000

2007 2008 2009

Priority Sector

Non-Priority Sector

Public Sector


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Table: 3.5

Net NPA to Net Advance of Public, Private & Foreign Sector Banks: 2000-

01 to 2008-09

Source: www.rbi.org

From the above it is clearly observed that only public sector banks

have succeeded in reducing net NPA against net advances made over the period

of time. It is constantly reducing each year, whereas in case of private sector

bank it has reduced in 2005-06 then it got stable and started rising from 2007-08

onwards. In case of foreign banks it is fluctuating over the years. Public sector

banks have been able to reduce this ratio by 66.7%from 2005 to 2009. Public

sector banks as a result of stringent checks & control able to manage low ratio

YearPublic Sector

Banks

Private Sector

Banks

Foreign

Banks

2001 6.74 2.27 1.82

2002 5.82 2.49 1.89

2003 4.53 2.32 1.76

2004 2.98 1.32 1.49

2005 2.1 1.9 0.9

2006 1.3 1 0.8

2007 1.1 1 1

2008 0.8 1.2 0.9

2009 0.7 1.5 1.7


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compare to other banks. In the year 2008-09 the ratio increased by 89%for

foreign banks where the foreign banks were badly affected by the global

meltdown. Even for private sector bank the ratio increased by 25%in 2009 due

to financial crises & also for public sector bank the reduction in 2009 was the

lowest i.e. 12.5%.

Figure: 3.5

Net NPA to Net Advance of Public, Private & Foreign Sector Banks

0

1

2

3

4

5

6

7

8

2001 2002 2003 2004 2005 2006 2007 2008 2009

Public Sector banks

Private Sector Banks

Foreign Banks


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Table: 3.6

Classification of Loan Asset of Public Sector Banks in percentage

YearStandard

Asset

Sub-Standard

Asset

Doubtful

AssetLoss Asset

2004 92.2 2.6 4.3 0.9

2005 94.6 1.2 3.4 0.7

2006 96.1 1.1 2.3 0.5

2007 97.2 1.0 1.5 0.3

2008 97.7 1.0 1.1 0.2

2009 97.9 0.9 1.0 0.2

2010 97.7 1.1 0.9 0.2

Source: http://www.rbi.org.in

The above frequency distribution chart states that standard asset is increasing

every year & on the contrary all the other types of asset i.e. Sub-standard,

Doubtful & Loss Asset are decreasing every asset. This proves that public

sector banks have succeeded in reducing NPA over the years. Public sector

banks have taken various measures to reduce NPA also convert Sub-Standard,

Doubtful & loss asset into the above category Standard, Sub-Standard &

Doubtful asset. The rise in sub-standard ratio has major proportion indicates

that there is a high scope of up gradation or improvement in NPA recovery in

initial stage because it will be very easy to recover the loan as minimum

duration of default.


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Figure: 3.6

Classification of Loan Asset of Public Sector Banks

88%

90%

92%

94%

96%

98%

100%

2004 2005 2006 2007 2008 2009 2010

Loss Asset

Doubtful Asset

Sub-Standard Asset

Standard Asset


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Table: 3.7

Classification of Loan Asset of Private Sector Banks in percentage

YearStandard

Asset

Sub-Standard

Asset

Doubtful

Asset

Loss

Asset

2004 94.2 1.8 3.6 0.5

2005 96.1 1.0 2.5 0.4

2006 97.4 0.8 1.5 0.3

2007 97.6 1.1 1.0 0.2

2008 97.3 1.5 0.9 0.3

2009 96.8 2.0 1.0 0.3

2010 97.1 1.4 1.1 0.2


The above chart clearly states that the rise in the standard assets over the years

compensates the fall in the other three types of assets. But in the year 2009, the

percentage of Sub-Standard asset is highest among all the year. In 2009

percentage of standard asset has reduced by 0.5% which is compensated by

increase in Sub-Standard & doubtful assets. This increase is due to interest &

principle amount unpaid due to financial crisis in 2009. The percentage of

doubtful asset has reduced to a great extent amongst all. So the private sector

banks have managed to reduce the doubtful asset.


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Figure: 3.7

Classification of Loan Asset of Private Sector Banks

91

92

93

94

95

96

97

98

99

100

101

2004 2005 2006 2007 2008 2009 2010

Loss Asset

Doubtful Aseet

Sub-Standard Asset

Standard Asset


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Table: 3.8

Classification of Loan Asset of Foreign Sector Banks in percentage

YearStandard

Asset

Sub-Standard

Asset

Doubtful

AssetLoss Asset

2004 95.2 1.6 1.8 1.5

2005 97.0 0.9 1.3 0.8

2006 97.9 1.0 0.7 0.5

2007 98.1 1.1 0.5 0.4

2008 98.1 1.2 0.5 0.2

2009 95.7 3.5 0.6 0.2

2010 95.7 2.9 0.86 0.4


The proportion of Standard Asset is increasing from 2004 and started getting

stable in 2007 & 2008. But it has fallen in 2009. The proportion of other three

types of assets is falling over the years, but in 2009 there is great increase in the

proportion of Sub-Standard asset which is as a result of decrease in proportion

of Standard asset. This increase in Sub-Standard asset is because of interest &

principle amount unpaid, due to poor global conditions, for the loan provided in

a 2008. The interest & principle amount remained unpaid for period of more

than 180 days but less than 1 year.


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Figure: 3.8

Classification of Loan Asset of Foreign Sector Banks

92

93

94

95

96

97

98

99

100

101

2004 2005 2006 2007 2008 2009 2010

Loss Asset

Doubtful Asset

Sub-Standard Asset

Standard Asset


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Table: 3.9

Net NPAs & Net Profit of Public Sector Banks: 2000-01 to 2008-09


It is observed from the above there exist no particular relationship between net

profit & net NPA of public sector banks. There is constant increase in net profit

from 2000-01 to 2003-04 & from 2005-06 to 2008-09. On the contrary public

sector banks have managed to reduce net NPA constantly from 2001-02 to

2005-06. Although, the percentage of reduction over the previous year is low

compared to percentage of rise in profit over previous year.

Year Net NPA (%) Net Profit

2001 6.74 4317

2002 5.82 8301

2003 4.53 12295

2004 2.98 16546

2005 2.1 15784

2006 1.3 16539

2007 1.1 20152

2008 0.8 26592

2009 0.7 34394


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Figure: 3.9

Net NPAs & Net Profit of Public Sector Banks

6.74

5.82

4.53

2.98

2.1

1.31.1

0.8 0.74317

8301

12295

16546 15784

16539

20152

26592

34394

0

5000

10000

15000

20000

25000

30000

35000

40000

0

1

2

3

4

5

6

7

8

2001 2002 2003 2004 2005 2006 2007 2008 2009

Net NPA(%) Net Profit


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Table: 3.10

Net NPAs & Net Profit of Private Sector Banks: 2000-01 to 2008-09


It is clearly observed that there is continuous rise in net profit of private sector

banks over the years. The average of percentage increase in net profits of

private sector banks comes to approximately 34%.On the contrary there is no

continuous rise/fall in net NPA. But overall there is rise in net NPA from 2000-

01 to 2008-09. The average of percentage rise in net NPA comes to almost

15%.


2001 2.27 1142

2002 2.49 1179

2003 2.32 2958

2004 1.32 3481

2005 1.9 3533

2006 1 4975

2007 1 6465

2008 1.2 9522

2009 1.5 10868


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Figure: 3.10

Net NPAs & Net Profit of Private Sector Banks

2.27

2.49

2.32

1.32

1.9

11

1.2

1.5

1142 1179

2958

34813533

4975

6465

9522

10868

0

2000

4000

6000

8000

10000

12000

0

0.5

1

1.5

2

2.5

3

2001 2002 2003 2004 2005 2006 2007 2008 2009

Net NPA Net Profit


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Table: 3.11

Net NPA & Net Profit of Foreign Banks: 2000-01 to 2008-09


Fromthe above it is clear that net profit of foreign banks is increasing

throughout the period from 2000-01 to 2008-09. The average of percentage

increase in net profit comes to 32%. There is no continuous upward or

downward movement. But overall there is rise in net NPA of foreign banks. The

average of percentage increase in net NPA basis comes to approximately

25%.So this shows there is positive relationship between net NPA & net profit

of foreign banks.


2001 1.82 945

2002 1.89 1492

2003 1.76 1824

2004 1.49 2243

2005 0.9 3098

2006 0.8 4109

2007 1 5343

2008 0.9 7544

2009 1.7 8459


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Figure: 3.11

Net NPA & Net Profit of Foreign Banks

1.82 1.89

1.76

1.49

0.9

0.8

10.9

1.7

9451492

18242243

3098

4109

5343

7544

8459

0

1000

2000

3000

4000

5000

6000

7000

8000

9000

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6

1.8

2

2001 2002 2003 2004 2005 2006 2007 2008 2009

Net NPA Net Profit


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CHAPTER 4

FINDINGS,

SUGGESTIONS AND

CONCLUSION


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Introduction

Nonperforming assets are the greatest threat faced by banking industry. The

money borrowed by the bankers is really the money of depositors, who has

given it for safekeeping and for some return on investment. When the borrowers

are not repaying the loans in time, it will adversely influence the financial

health of the banks and in turn will influence the level of risk of the depositors

and the investors in banks. RBI has given proper guidelines to banks to reduce

the level of NPAs and the procedures to be adopted in connection with its

accounting. The present study attempts to evaluate the level of NPAs in

different bank groups and its impact on their profitability. Following are the

major findings.

NPAs were more noticeable in respect of new private sector and foreign

banks, which have been more active in the real estate and housing loans

segments. It shows a upward trends over the years as compared to others.

Among all three sectors, public sector banks have managed to reduce

NPAs over the years. NPA profile in the less than 2% category of public

sector banks was reached to 100% in 2008-09 as compared to Private

and Foreign sector banks which was around 80%.

Public sector banks have managed to increase the standard assets over

the years. The proportion of standard assets in Private sector banks

reduced in 2008 and 2009 which was compensated by increase in sub-


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standard and doubtful assets. In Foreign sectors banks the proportion of

sub-standard asset has increased tremendously by 3.5% of loan assets in

2009 which was 1.2% of loan assets in 2008.

Public banks have significantly reduced their NPA even in the phase of

economic crisis.

NPA and Net profit of all banks i.e. public sector, private sector and

foreign banks has increased during the y

Net NPA against net advances increased more in Foreign and Private

sector banks in 2008-09 while Public sector banks have succeeded in

reducing net NPA against net advances made over the period of time.

The trend of NPA in various banks varies as the sector of banks changes.

The trend of NPA in public sector banks shows a decreasing trend.

Whereas trend of NPA in private sector banks and foreign banks does

not moves stable.

Suggestions:

Uneven scale of repayment schedule with higher repayment in the initial

years normally should be preferred.

Private sector & Foreign banks should focus more on recovery of sub-

standard & doubtful assets.

Preventive measures for NPA should be adopted by all banks.


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Conclusion

The level of NPAs of Indian commercial banks had declined considerably in the

recent past. But in case of those banks having more exposure to real estate,

housing finance are even now facing threats on account of non-performing

assets. Since the health of the financial system depends heavily on the health of

the banking system of the country, it is the responsibility of the regulator and

the bank management to minimise the threat of irregular repayment by the

borrowers.

The NPA is one of the biggest problems that the Indian Banks are facing

today. If the proper management of the NPAs is not undertaken it would

hamper the business of the banks. If the concept of NPAs is taken very lightly it

would be dangerous for the Indian banking sector. The NPAs would destroy the

current profit, interest income due to large provisions of the NPAs, and would

affect the smooth functioning of the recycling of the funds.

Banks also redistribute losses to other borrowers by charging higher interest

rates. Lower deposit rates and higher lending rates repress savings and financial

markets, which hampers economic growth.

Public sector banks are more efficient than private sector & foreign

banks with regard to the management of nonperforming assets. Even among

private sector bank, old private sector banks are more efficient than new private

sector banks. But efficient management of NPA is not the sole factor that

determines the overall efficiency of banks.


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BIBLIOGRAPHY

1. Bloem, A.M., &Gorter, C.N (2001), The Macroeconomic Statistical

Treatment of Non-Performing loans, Discussion Paper, Statistics

Department of the IMF, Decembere1, 2001.

2. Gupta, L.C (1983): Financial Ratios for Monitoring Corporate Sickness,

Oxford University Press, New Delhi.

3. Bhatia, U (1988), Predicting Corporate Sickness in India, Studies in

Banking & Finance, 7, 57-71

4. Reddy, Y.V., (2004), Credit Policy, Systems, and Culture, Reserve Bank of

India Bulletin, March.

5. Sergio, M, (1996), Non-performing bank loans: Cyclical patterns and

sectoral risk, Review of Economic Conditions in Italy. Rome: Jan-Jun

1996. , Issue. 1

6. McGoven, John (1998), Why bad loans happen to good banks, The Journal

of Commercial Lending. Philadelphia: Feb 1993. Vol. 75, Issue. 6

Websites:

1. http://rbi.org.in

2. http://www.rbi.org.in/scripts/PublicationsView.aspx?id=13652

3. http://rbi.org.in/scripts/AnnualPublications.aspx?head=StatisticalTables

Relating to Banks of India

4. http://rbi.org.in/scripts/AnnualPublications.aspx?head=TrendandProgres
http://rbi.org.in/http://www.rbi.org.in/scripts/PublicationsView.aspx?id=13652http://www.rbi.org.in/scripts/PublicationsView.aspx?id=13652http://rbi.org.in/

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