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Minhaz Merchant

Minhaz Merchant is the biographer of Rajiv Gandhi and Aditya Birla and author of The New Clash of Civilizations (Rupa, 2014). He is founder of Sterling Newspapers Pvt. Ltd. which was acquired by the Indian Express group

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Cleaning The NPA Mess

Non-Performing Assets (NPAs) are both a political and financial problem. Humongous NPAs were created during the UPA1 and UPA2 governments. But lax monitoring by the Reserve Bank of India (RBI) ensured they didn’t show up on bank balance sheets

Photo Credit : Reuters


“In this world, nothing is certain except death and taxes,” said Benjamin Franklin, one of America’s founding fathers. Add to that debt. For individuals, it can, beyond a point, spell trouble. For banks, when it goes bad, debt can be ruinous.

Non-Performing Assets (NPAs) are both a political and financial problem. Humongous NPAs were created during the UPA1 and UPA2 governments. But lax monitoring by the Reserve Bank of India (RBI) ensured they didn’t show up on bank balance sheets. Most remained hidden, allowing the UPA government to concoct the myth that the majority of NPAs have emerged during the current NDA government. That’s theoretically true – but simply because the Narendra Modi government, along with the Urjit Patel-headed RBI, have decided to take the NPA problem head-on.

Changed rules for recognising NPAs on bank balance sheets have seen bad debts, camouflaged in earlier years, come to light. Alarmed at the extent of hidden NPAs now under the disinfectant of sunlight, the Modi government in 2016 implemented one of the most significant reforms to clean up India’s banking system by legislating the Insolvency and Bankruptcy Code (IBC).

The IBC law is potentially a game-changer. It enables debt-laden companies to find buyers of their underlying assets through a relatively quick legal mechanism. Banks were coerced over the past decade by crony capitalism. Quiet, persuasive phone calls from the ministry of finance often led to loans being granted to companies with dubious balance sheets but friends in high places.

Inevitably, many of those loans turned sour. Till 2014, most banks were allowed by the RBI to follow relaxed NPA norms. When loans did qualify as NPAs, they were rolled over with fresh loans. That is how the Nirav Modi and Mehul Choksi letters of understanding (LoUs) were extinguished, in classical ponzi fashion, quarter after quarter. Sunlight shone on bank balance sheets only after 2014-15. Bad debts were now ruthlessly recognised as NPAs in bank balance sheets. Strict accounting standards were followed. The quantity of NPAs soared, galvanising the move towards the new insolvency and bankruptcy code.   

Estimates of bank NPAs vary from Rs. 9 lakh crore to significantly lower numbers. Nonetheless, the NPA problem had by 2014 grown so toxic that private investment dried up. NPA-laden banks cut corporate lending. A domino effect set in. Infrastructure projects were stalled. Manufacturing activity slowed. The economy stumbled.

The Modi government inherited an economy with a broken banking system and corporates starved of new debt. Old debt, at relatively high-interest rates, meanwhile multiplied. To prevent rigor mortis in the economy, the IBC law was clearly an urgently needed reform. In the past year it has met with some success. Stressed assets at companies like Bhushan Steel and Amtek Auto are in demand because their underlying business holds promise. Banks are likely to receive repayment of a significant portion of their loans currently categorised as NPAs. That will strengthen their balance sheets as repayments will add to current quarterly profits and allow them to increase lending to corporates with sound business plans.

Amtek Auto has defaulted on loans worth over Rs. 12,500 crore. The company’s subsidiaries – Castex Technologies and Metalyst Forgings – will be sold separately. Together the Amtek Auto group owes Rs. 22,000 crore. The quick resolution to sell the company to the highest bidder, Britain’s Liberty House, will help banks recover a large portion of their NPAs. Bhushan Steel owes Rs. 44,000 crore. It is India’s largest manufacturer of auto-grade steel. Tata Steel outbid JSW Steel by offering lenders Rs. 34,800 crore upfront, an additional Rs. 1,200 crore to creditors and 12 per cent equity in the restructured entity to the lenders. This will enable banks and other lenders to recoup a majority of its NPAs in Bhushan Steel.

The Modi government has meanwhile provided relief to the cash-strapped telecom sector by raising spectrum caps and restructuring payment liabilities. Telecom firms have been hit by a race-to-the-bottom price war. They carry large debt liabilities which could roil banks at a critical time when the IBC is helping the corporate sector regain good health. Consolidation between Idea and Vodafone will help both to cut costs and recapture profits. Airtel has a robust model and will make up a troika with Reliance Jio and Idea-Vodafone to keep the telecom sector safe from the debt trap companies in disparate industries often find themselves in.

Unfortunately, like in most Indian reforms, the insolvency and bankruptcy code has run into legal and bureaucratic hurdles. Unsuccessful bidders are the first impediment. In several high-profile cases, they have petitioned the National Company Law Tribunal (NCLT). The Renaissance Group, for example, failed to win a bid for the assets of Electrosteel Steels. It has asked the NCLT to stop the “resolution professional” from negotiating with Vedanta and Tata Steel till its petition is resolved. Other major defaulting companies caught up in legal knots are Essar Steel and Binani Cement. The Aditya Birla group’s UltraTech was outbid by just Rs. 100 crore for Binani Cement by Dalmia Bharat Cement. It too has approached the NCLT for clarity on how the rival bids were evaluated. The Birlas claim that they received a single line email rejecting their bid with no details of how the bids were evaluated.

Despite these glitches, the IBC promises to be one of the most important financial reforms of the Modi government. If disputes surrounding winning bids for debt-immersed steel, cement and infrastructure companies are resolved speedily and professionally, both the banking and corporate sectors will benefit.  Even if 50 per cent of the estimated Rs. 9 lakh crore NPAs is recovered, the gradual infusion of nearly Rs. 5 lakh crore into the banking system will clean up banks’ balance sheets, bolster their ability to lend again to corporates, and spur private investment in the economy.

For the future too, banks will have learnt some hard lessons. Their balance sheets strengthened and vigilance measures against fraud enhanced, Indian banks, past victims of coercive and politically motivated lending, could lead the economy back to an eight per cent GDP growth trajectory as new corporate investment kicks in.

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Insolvency and Bankruptcy Code non-performing assets