Study of Non-Performing Assets (NPAs) of Public Sector Banks

Project Report Submitted to

New Delhi Institute of Management

Tughlakabad Institutional Area,

New Delhi

IN PARTIAL FULFILLMENT OF THE REQUIREMENTSOF

Post Graduate Diploma in Management

Prepared By:

Name of Student:Apeksha Kaushik

Roll No.:382

Section:FB Major Specialization: FINANCE

Table of Contents

S.No. Contents Page No.

1. Comparative analysis of public and private sector banks in terms of service

2. Acknowledgement

3. Objective

4. Preface

5. Introduction

6. Indian banking System

7. Non Performing Assets(NPAs) in Public Sector Banks

8. Revival of Public Sector Banks

9. Conclusion

10. Bibliography

ACKNOWLEDGEMENT

I offer my sincere thanks to PROF.CHAND TONDON for her valuable suggestions and guidance to complete this project. She has motivated me a lot during my work on this project and always helped me whenever I approached him with any query.

_______________(Signature of Student)

PREFACE

The reforms in Indian banking sector since 1991 is deliberated mostly in terms of the significant measures that were implemented in order to develop a more vibrant, healthy, stable and efficient banking sector in India. The effect of a highly regulated banking environment on asset quality, productivity and performance of banks necessitated the reform process and resulted the incorporation of prudential norms for income recognition, asset classification and provisioning and capital adequacy norms, in line with international best practices. The improvements in asset quality and a reduction in non-performing assets were the primary objective enunciated in the reform measures. In this context, the present study critically evaluates the trend in movement of nonperforming assets of public sector banks in India, thereby facilitates an evaluation of the effectiveness of NPA management in the post-millennium period. The non-performing assets is not a function of loan/advance alone, but is influenced by other bank performance indicators and also by the macroeconomic variables. In addition to explaining the trend in the movement of NPA, this research also explained the moderating and mediating role of various bank performance and macroeconomic indicators on incidence of NPA.

OBJECTIVE

To study and find out the trends of NPAs of Public sector banks of India

Introduction

It has been argued by a number of economists that a well-developed financial system enables smooth flow of savings and investments and hence, supports economic growth (see King and Levine, 1993, Goldsmith, 1969). Banking industry is a major sector of the economy that has achieved renewed focus after financial sector reforms and the entry of private sector banks. This sector is the foundation of modern economic development. The primary function of banks is to lend funds as loans to various sectors such as agriculture, industry, personal and housing etc. and to receive deposits. Receiving deposit involves no risk, since it is the banker who owes a duty to repay the deposit, whenever it is demanded. On the other hand lending always involves much risk because there is no certainty of repayment. In recent times the banks have become very careful in extending loans, the reason being rising non-performing assets. Non-performing assets had been the single largest cause of frustration of the banking sector of India. Amongst the various desirable characteristics of a well-functioning financial system, the maintenance of a few non-performing assets (NPA) is an important one.

A Non-Performing Asset (NPA) is defined as a credit facility in respect of which the interest and/or installment of principal has remained past due for a specified period of time. In India, the definition of NPAs has changed over time. According to the Narasimham Committee Report (1991), those assets (advances, bills discounted, overdrafts, cash credit etc.) for which the interest and/or installment of principal remains due for a period of four quarters (180 days) should be considered as NPAs. With an aim of moving towards the international best practices and ensuring greater transparency, a standard criterion of ‟90 days‟ overdue norm was fixed for identification of NPA from the FY ending March, 2004 in the Indian financial system. Thus, as per present convention, a non-performing asset refers to a loan or an advance where: Interest and/or installment of principal remain overdue for a period of more than 90 days in respect of a term loan, The account remains „out of order‟ for a period of more than 90 days, in respect of an Overdraft/Cash Credit (OD/CC), The bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted, Interest and/or installment of principal remains overdue for two harvest seasons but for a period not exceeding two half years in the case of an advance granted for agricultural purposes, and Any amount to be

received remains overdue for a period of more than 90 days in respect of other accounts

NPAs

Definitions of NPA by RBI:

a) An asset, including a leased asset, becomes non-performing when it ceases to generate income for the bank.

b) A non-performing asset (NPA) is a loan or an advance where;

i. Interest and/ or instalment of principal remain overdue for a period of more than 90 days in respect of a term loan, ii. The account remains „out of order‟ as indicated at paragraph below, in respect of an Overdraft /Cash Credit (OD/CC), iii. The bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted, iv. The instalment of principal or interest thereon remains overdue for two crop seasons for short duration crops, the instalment of principal or interest thereon remains overdue for one crop season for long duration crops, v. The instalment of principal or interest thereon remains overdue for one crop season for long duration crops, vi. The amount of liquidity facility remains outstanding for more than 90 days, in respect of a securitisation transaction undertaken in terms of guidelines on securitisation dated February 1, 2006. vii. In respect of derivative transactions, the overdue receivables representing positive mark-to-market value of a derivative contract, if these remain unpaid for a period of 90 days from the specified due date for payment.

c) Banks should, classify an account as NPA only if the interest due and charged during any quarter is not serviced fully within 90 days from the end of the quarter

d) ‘Out of Order’ statuses: An account should be treated as 'out of order' if the outstanding balance remains continuously in excess of the sanctioned limit/drawing power. In cases where the outstanding balance in the principal operating account is less than the sanctioned limit/drawing power, but there are no credits continuously for 90 days as on the date of Balance Sheet or credits are not enough to cover the interest debited during the same period, these accounts should be treated as 'out of order'.

e) ‘Overdue’: Any amount due to the bank under any credit facility is „overdue‟ if it is not paid on the due date fixed by the bank.

NORMS FOR ASSET CLASSIFICATION/ CLASSIFICATION OF NPA

The loan accounts in Banks are classified into four categories. Out of these four categories, the following three categories are considered as NPAs:-

a) Sub-standard Assets: Before 31 March 2001, sub-standard asset was classified as NPA for a period not exceeding two years but with effect from 31 March 2001, a sub-standard asset which has remained NPA for a period less than or equal to 18 months. With effect from 31 March 2005 the norms have been further squeeze and a sub-standard asset would be one, which has remained NPA for a period less than or equal to 12 months. In such cases, the current net worth of the borrower/ guarantor or the current market value of the security charged is not enough to ensure recovery of the dues to the banks in full.

b) Doubtful Assets :Before 31 March 2001, doubtful asset was remained NPA for a period exceeding two years but with effect from 31 March 2001, it had remained NPA for a period exceeding 18 months. With effect from March 31, 2005, the norms have been further squeeze, and an asset would be classified as doubtful if it remained in the sub-standard category for 12 months.

c) Loss Assets: A loss asset is one where loss has been identified by the bank or internal or external auditors or the RBI inspection but the amount has not been written off wholly. In other words, such an asset is 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. However, only those advances are classified as loss assets where no security is available. In accounts where some security / ECGC /DICGC cover is available, these accounts are not reported under loss assets.

The fourth category of loan accounts, which is not included in NPA categories - is Standard Assets. Standard Asset is one which does not disclose any problems and which does not carry only normal risk attached to the business.

According to the RBI guidelines, as and when an asset becomes a NPA, such advances would be first classified. However, it needs to be noted that the asset classification is only for the purpose of computing the amount of provision that needs to be made with respect to bank advances

The position of NPAs is improving in India. Though NPAs are having a declining trend over a period of study, but Non Performing Assets of public sector banks are still higher than private and foreign sector banks. Top management of private and foreign sector banks is more professional, core

competent and expertise than public sector banks. So, they are more competent in making plans for recovering funds from borrowers (both individuals and institutional). The public sector banks are required to lend money to weaker sections of the society also, where the chances of recovery is almost negligible. That is why, though the NPAs of public sector banks have sharp declining trend, still it is higher than private and foreign sector banks. Further various steps have been taken by the government to recover and reduce NPAs. Say, one time settlement / compromise scheme, Lok Adalats, Debt Recovery Tribunals, Securitization and reconstruction of financial assets and enforcement of Security Interest Act 2002, Corporate Reconstruction Companies, Credit information on defaulters and role of credit information bureaus etc. With the recent ruling by Supreme Court (upholding the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest (SARFAESI) Act, 2002), banks are now confident of a faster recovery of dues. 'Thus, need is to have 'Now performing assets' than 'Non Performing assets’.

The calculation shown in the Table1 over the years the NPAs as a percentage of net advances and total assets have been declining but actual numbers are increasing during the period from 2003- 14 to 2012-13. As far as old NPAs are concerned, a bank can remove it on its own or sell the assets to AMCs to clean up its balance sheet. For preventing fresh NPAs, the bank itself should adopt proper policies

PRESENT SCENARIO

Asset quality continues to deteriorate

The Gross Non-Performing Assets (NPAs) of the banks under study showed 24% (y-o-y) increase in FY15 compared with 36% in FY14. Overall Gross NPA ratio for the banks under study stood at 4.37% and Net NPA ratio stood at 2.48% as on March 31, 2015. PSBs continued to report higher NPAs as compared to their private sector counterparts with PSU Banks Gross NPA ratio at 4.94% and Net NPA ratio at 2.90% as compared to Gross NPA ratio of 2.14% and Net NPA ratio of 0.87% for private sector banks. The major sectors that have added to the asset quality stress are mining, iron & steel, textiles, infrastructure and aviation. As per RBI guideline, regulatory forbearance available for restructured assets is no longer available from April 1, 2015 and any restructuring gets classified as NPAs in FY16. Due to this, banks resorted to heavy restructuring exercise in FY15 which led to rise in proportion of restructured assets. These restructured advances further pose risk to the banking

sector as they have relatively higher possibility of turning into NPAs. The standard restructured advances outstanding for the banks under study grew by 20.5% from Rs.3.6 trillion as on March 31, 2014 to Rs.4.3 trillion as on March 31, 2015. Overall the standard restructured advances constituted 6.25% of total advances as on as on March 31, 2015 as against 5.67% as on March 31, 2104. The proportion of standard restructured advances stood at 7.29% for PSBs and 2.25% for private sector banks for FY15. Post RBI guideline in August 2014, ARCs had to pay 15% as against 5% earlier of the NPAs purchased by way of cash up front and for the remaining 85%, securities receipts are issued which is part of investment book of the bank. Banks sold around Rs.20,000 crore of NPAs to ARCs in FY15. In order, to compute the stressed assets in the banking system we have also taken into account the outstanding security receipts besides NPAs and restructured assets.

Government’s Indradhanush Scheme–Focus on revival of PSU banks

The government has announced the Indradhanush framework which is a comprehensive scheme for revival of PSU banks. The framework’s focus is at providing capital support, improving the governance standards and designing an appropriate method for performance measurement of PSU banks. The Government has announced a capital infusion of Rs.70,000 crore for PSU banks over the next four years with Rs.25,000 crore to be infused in FY16. This comes as a positive move since the budgeted allocation of Rs.7,940 crore was inadequate. The following table captures the bank wise capital infusion plan of the government for FY16.

Current infusion plan may help in providing some growth capital for the banks in FY16; however, given the fact that the provision coverage ratio is low for most of the PSU banks, additional capital will be required to provide sufficient cover for stressed assets. The scheme also stipulates the setting of a Bank Board Bureau which will oversee the appointments of Wholetime Directors and Non-Executive Chairman of PSBs and also actively participate in formulating strategies for growth and development. There is also an assurance that there would be no interference from the government in the functioning of banks. These steps would go a long way in improving governance standards of PSU

banks. The Indradhanush framework has revamped the methodology to measure the performance of PSU banks. Under this model, banks would be evaluated based on quantitative parameters like efficient use of capital, growth/diversification of business, NPA management and financial inclusion. They would also be assessed on qualitative parameters like improvement in external rating, initiative taken to improve asset quality, efforts made to conserve capital and HR initiatives for skill development and talent management. Moreover, the performance bonus of CEOs will be linked to the performance of banks on these parameters which would motivate banks to improve their performance on all the key parameters.

CONCLUSION

The regulator and the government have taken several initiatives in improving the performance of PSU banks. The Indradhanush scheme announced by the government will help in improving the efficiency and governance standards of PSU banks. With expected revival in the economy and softening of interest rates and relatively normal monsoon, advances are expected to grow in the range of 11-12% in FY16. However, asset quality pressure would continue to remain in FY16, as fresh restructuring will classify as NPA and we may also see slippages from the existing stock of restructured assets. First half of the year is likely to see higher slippages; however the second half of the year may see decline in slippages due to better recovery efforts and pick-up in economic activity. Furthermore, FY16 may see banks selling higher amount of NPAs to ARCs, in an effort to clean up their balance sheet. Taking into account all these factors, as per CARE’s estimates PSU banks’ NPA is likely to increase by 30-40 bps and is likely to be in the range of 5.2-5.3% by March 2016. The overall NPAs of the banks under study are likely to increase by 20-30 bps and are likely to be in the range of 4.6-4.7%.

BIBLIOGRAPHY

1.cusat.ac.in/jspui/

2. http://www.iosrjournals.org/

3. http://www.moneycontrol.com/news

4. timesofindia.indiatimes.com › Business

5. www.thehindu.com › Business ›