India’s “Bad Bank” has taken one more step towards reality. The Indian Banks Association (IBA) has moved the RBI for a license for the National Asset Reconstruction Company Ltd (NARCL) that was incorporated a little earlier. According to reports, P M Nair, a stressed asset expert from the State Bank of India (SBI), has been pulled in as managing director. Three other veteran public sector banking executives are on the board. Once the NARCL starts operating properly, it is likely to pull in more veteran PSU bankers in appropriate roles.
The asset reconstruction company will have an asset management company (AMC) under it to manage the assets taken over. The plan is that initially, 22 bad loan accounts worth `89,000 crore will be transferred to the NARCL.
Union Finance Minister Nirmala Sitharaman had talked about the bad bank in her budget speech. The bad bank idea in fact has been kicked around in the finance ministry for some time now.
Why was a bad bank needed when we have the Insolvency and Bankruptcy Code (IBC) as well as the various asset reconstruction companies (ARCs) set up during the older Securities and Reconstruction of Financial Assets and Enforcement of Securities Interest (SARFAESI) Act? The older ARCs and the SARFAESI Act are still very much around.
Presumably the Finance Ministry and the PSBs wanted one more option to get rid of their bad debt and clean up their books. The IBC of late is following the law of diminishing returns—after the initial success of selling a few big steel mills and other good assets, where the lenders recovered well over 50% of their dues, things have gone downhill. In some high-profile cases, such as Videocon, Ruchi Soya and Jet Airways, the lenders have hardly recovered 5-6% of their dues. Also, too many cases and too few NCLT judges have meant pile-ups and most resolutions taking twice the time limit originally set under the IBC.
Meanwhile the asset construction route has also run into issues. Here too the recoveries have slowed and the ARCs are also facing capital issues. Their security receipts are being downgraded by rating agencies as the recovery expectations move downwards. The ARCs are also reluctant to take up NPAs unless offered very steep discounts.
The NARCL will probably take over the loans at book value net of provisioning, and not bid for it like other ARCs. Though banks have fully provisioned for these loans, they are still likely to get a better deal from the NARCL than what the other ARCs would have offered.
So will the NARCL work better for banks than other existing solutions available to them? Only if you think that transferring the NPAs out to another entity that you partially own is solving the problem. The bad loan accounts will be off the books of the bank. But whether the NARCL will be able to actually find investors for them is less certain. Bad banks have worked in some other countries. But that comes with a caveat—the conditions in those countries were far different from what we are trying out here.
The big problem with the current NARCL proposal is that it has many cons and not enough pros going for it. The biggest problem is that it will be owned largely by public sector banks and have its management drawn mostly from them. It is hard to think that if the banks could not dispose of the bad debt easily under them, the NARCL will have better success. Also, the PSBs will be both shareholders and customers—and it leads to the danger of the bad bank being nothing more than a means to shift some bad debt from one book to another.
The bigger issue is that physical assets tend to deteriorate soon while service assets tend to become valueless after some time, unless run by a very professional management. This has been a recurring problem in the IBC process where pressing the bankruptcy solution too late has meant that there is little value left that will attract bidders. The NPAs that the NARCL will handle are all old, legacy assets and probably there is little residual value left in them.
Finally, it is not clear whether the bad bank has a finite end date—that is, it is a one-time solution—or whether it will continue to exist forever as another option for banks. In the US and other countries, the bad banks typically had a sunset clause and worked with a finite timeline in mind. In fact, the success of bad banks abroad too has depended on speedy disposal instead of trying to manage them until they got the best price.
It is hard to see what advantages the NARCL will have over the IBC process in India in resolving big bad NPAs. For the banks themselves, this would only provide a temporary reprieve. The bad bank will not help in preventing future NPAs—and that is something to which little attention is being devoted by either the government or the PSBs.
Senior business journalist