1.

INTRODUCTION TO NON PERFORMING ASSETS

1.1 DEFINITION:
An asset is classified as non-performing asset (NPAs) if dues in the form of principal and interest
are not paid by the borrower for a period of 180 days. However with effect from March 2004,
default status would be given to a borrower if dues are not paid for 90 days. If any advance or
credit facility granted by bank to a borrower becomes non-performing, then the bank will have to
treat all the advances/credit facilities granted to that borrower as non-performing without having
any regard to the fact that there may be existence of certain advances / credit facilities having
performing status.
Accordingly, a Non performing asset shall be a loan or 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
Overdraft/Cash Credit (OD/CC).
The bill remains overdue for a period of more than 90 days in case of bills
Purchased /discounted.
Interest and installment of principal remains overdue for two harvest seasons but for a period
not exceeding two half years.

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 1.2 HISTORY OF BANKING IN INDIA
Without a sound and effective banking system in India it cannot have a healthy economy. The
banking system of India should not only be hassle free but it should be able to meet new
challenges posed by the technology and any other external and internal.Factors.

For the past three decades India's banking system has several outstanding achievements to its
credit. The most striking is its extensive reach. It is no longer confined to only metropolitans or
cosmopolitans in India. In fact, Indian banking system has reached even to the remote corners of
the country. This is one of the main reasons of India's growth process.

The government's regular policy for Indian bank since 1969 has paid rich dividends with the
nationalization of 14 major private banks of India.
The first bank in India, though conservative, was established in 1786. From 1786 till today, the
journey of Indian Banking System can be segregated into three distinct phases. They are as
mentioned below:

Early phase from 1786 to 1969 of Indian Banks

Nationalization of Indian Banks and up to 1991 prior to Indian banking sector Reforms.
New phase of Indian Banking System with the advent of Indian Financial & Banking
Sector Reforms after 1991.

The following are the steps taken by the Government of India to Regulate Banking Institutions in
the Country:

1949: Enactment of Banking Regulation Act.

1955: Nationalization of State Bank of India.
1959: Nationalization of SBI subsidiaries.
1961: Insurance cover extended to deposits.
1969: Nationalization of 14 major banks.
1971: Creation of credit guarantee corporation.
1975: Creation of regional rural banks.
47
 1980: Nationalization of seven banks with deposits over 200 crore.

After the nationalization of banks, the branches of the public sector bank India rose to
approximately 800% in deposits and advances took a huge jump
Post Financial and Banking Sector Reforms phase has introduced many more products and
facilities in the banking sector in its reforms measure. In 1991, under the chairmanship of M
Narasimham, a committee was set up by his name which worked for the liberalization of banking
practices.
The country is flooded with foreign banks and their ATM stations. Efforts are being put to
give a satisfactory service to customers. Phone banking and net banking is introduced. The entire
system became more convenient and swift. Time is given more importance than money.
The financial system of India has shown a great deal of resilience. It is sheltered from any
crisis triggered by any external macroeconomics shock as other East Asian Countries suffered.

1.3 MEANING OF NPA

An asset is classified as non-performing asset (NPAs) if dues in the form of principal and interest
are not paid by the borrower for a period of 180 days. However with effect from March 2004,
default status would be given to a borrower if dues are not paid for 90 days. If any advance or
credit facilities granted by bank to a borrower become non-performing, then the bank will have
to treat all the advances/credit facilities granted to that borrower as non-performing without
having any regard to the fact that there may still exist certain advances/credit facilities having
performing status.
It is widely known that the basic causes for accumulation of NPAs of over Rs.58,000 crores is
not because of negative trade cycles or unexpected business slowdown but is an outcome of
serious system and work practice defects in the very operational methodology of the credit
delivery system in the PSBs. The major shortcoming is the absence of any systemic effort to
identify, train and position officials with the required proficiency to the credit functions.
Action for enforcement of security interest can be initiated only if the secured asset is classified
as Non-Performing Asset. Non-Performing Asset means an asset or account of borrower, which
47
has been classified by a bank or financial institution as sub-standard, doubtful or loss asset, in
accordance with the directions or guidelines relating to asset classification issued by RBI

1.4 PROBLEMS DUE TO NPA

The Banks in India Face the problems of swelling non-performing assets (NPAs) and the issue is
becoming more and more unmanageable. The NPAs have direct impact on banks profitability,
liquidity and equity. The NPAs of Indian Banks are relatively huge by international standard.
Therefore the biggest ever challenge that the banking industry now faces is management of
NPAs. It is true that banks have to restrict their lending operations to secured advances only with
adequate collateral securities. In this connection banks must aware of the problems and recovery
legislations of NPAs Non-performing assets means an advance where payment of interest or
repayment of installments of principal or both remains for a period of more than 180 days.

The magnitude of NPAs have a direct impact on banks profitability as legally they are not
allowed to book income on such accounts and at the same time banks are forced to make
provision on such assets as per the RBI guidelines. The Indian Banking sector is facing a serious
situation in view of the mounting NPAs which are the tune of Rs.56, 000 crores in March
2002.NPA is an important parameter in the analysis of financial performance of banks. The
reduction of NPAs is necessary to improve profitability of the banks and comply with capital
adequacy norms.

Therefore, to solve the problems of existing NPAs, quality of appraisal supervision and follow up
should be improved. The NPAs can be avoided at the initial stage of credit consideration by
putting rigorous and appropriate credit appraisal mechanism. This is in order to recover the NPA
debt, the judicial systems should revamped and is essential to enforce the SARFAESI Act with
more stringent provisions to realize the securities and personal assets of the defaulters.
47
 1.5 TYPES OF NPAs
An amount due under any credit facility is treated as "past due" when it has not been paid within
30 days from the due date. Due to the improvement in the payment and settlement systems,
recovery climate, up gradation of technology in the banking system, etc. it was decided to
dispense with 'past due' concept, with effect from March 31, 2001.
Accordingly, as from that date, a Non performing asset (NPA) shell be an advance where,
i. interest and /or installment of principal remain overdue for a period of more than 180
days in respect of a Term Loan,
ii. The account remains 'out of order' for a period of more than 180 days, in respect of an
overdraft/ cash Credit (OD/CC),
iii. The bill remains overdue for a period of more than 180 days in the case of bills
purchased and discounted,
iv. 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 purpose,
and
v. Any amount to be received remains overdue for a period of more than 180 days in
respect of other accounts.
Non-Performing Assets (NPAs)
In simple words, an asset, which ceases to yield income, is an NPA. NPAs are those loans given
by a bank or financial institution, where the borrower defaults or delays interest or principal
payments for two quarters or more.
The loans given by the banks are classified into performing and non-performing assets on the
following basis.
Performing Assets: Also known, as standard assets are loans where the interest and/or
principal are not overdue beyond 180 days at the end of the financial year. Such loans do
not carry more than the normal business risk.
Non-Performing Assets: Any loan repayment, which is overdue beyond 180 days or
two quarters, is considered as NPA. NPAs are further classified into sub-standard,
doubtful and loss assets.
47
 Sub-standard Assets: Loans, which are non-performing for a period not exceeding
two years, where the current net worth of the borrower or the current market value of the
security, against which the loan is taken, is not enough to ensure full recovery of the debt.
Doubtful Assets: Loans which have remained Non-performing for a period exceeding
two years and, which are not classified as loss assets by the management or the
internal/external auditor appointed by RBI.
Loss Assets: Assets where loss has been identified by the internal/external auditor of
the bank or the RBI, but the amount has not been written off wholly or partly. These
assets are considered unrecoverable and are of little value to the lending institution.
Doubtful Assets:
a. 100% to the extent of which advance is unsecured.
b. Over and above (a) provision ranging from 20% to 50% of the secured portion for which
the advance has been considered as doubtful depending upon the period given below:
Up to 1 Year old doubtful asset : 20%
1 to 3 Years old doubtful asset: 30%
Over 3 Years old doubtful asset : 50%
Loss Assets: The entire amount has to be written off. If the assets are to remain in the books
for any reason, then 100% of the outstanding amount should be provided for. Banks cannot make
any profits on the income from NPAs. Although banks can set aside a portion of their funds to
safeguard against any losses incurred on loans classified as NPAs.
1. Gross NPA = Sum of all kinds of NPAs
2. Net NPA = Gross NPA Provisions.

1.6 INCOME RECOGNITION

The prudential norms on income recognition, asset classification and provisioning introduced in
1992, eliminated the subjective element in these areas and introduced objectivity to a large
extent. The identification of a Non Performing Asset (NPA), which is the basis for application of
the prudential norms on income recognition, asset classification and provisioning, is based on the
record of recovery and was expected to enable the banks to apply the norms in a uniform manner.
However, in practice, there are instances of non-compliance with the prudential requirements by
banks and also divergence in the assessment of NPAs by banks, Statutory Auditors and RBI
47
Inspecting Officers. The Board for Financial Supervision of RBI, therefore, desired that causes
for the persistence of divergences in assessment of NPAs should be examined. As a sequel, a
Working Group was constituted by the RBI in March 2000, with Shri P.R. Khanna, Chartered
Accountant, as Chairman, to broadly examine the causes for divergence in asset classification
and make suitable recommendations to narrow down the divergences.
RBI guidelines provide that the policy of income recognition in Banks has to be objective and
based on the record of recovery. Internationally income from non-performing assets (NPA) is not
recognized on accrual basis but is booked as income only when it is actually received. Therefore,
the banks should not charge and take into income account interest on any NPA.

Some of the exceptions to the above general rule are:-

(a) Interest on advances against term deposits, NSCs, IVPs, KVPs and Life policies may be taken
to income account on the due date, provided adequate margin is available in the accounts.

(b) Fees and commissions earned by the banks as a result of re-negotiations or rescheduling of
outstanding debts should be recognized on an accrual basis over the period of time covered by
the re-negotiated or rescheduled extension of credit.

However, if Government guaranteed advances become NPA, the interest on such advances
should not be taken to income account unless the interest has been realized.

1.7 REPORTING OF NPA

Banks are required to submit a Report on NPAs as on 31st March each year after completion
of audit. The NPAs would relate to the banks' global portfolio, including the advances at the
foreign branches. While reporting NPA figures to RBI, the amount held in interest suspense
account, should be shown as a deduction from gross NPAs as well as gross advances while
arriving at the net NPAs. Banks which do not maintain Interest Suspense account for parking
interest due on non-performing advance accounts, may furnish the amount of interest
receivable on NPAs as a foot note to the Report. While reporting NPAs to RBI, the amount of
47
technical write off, if any, needs to be reduced from the outstanding gross advances and gross
NPAs to eliminate any distortion in the quantum of NPAs being reported.

Reporting Format for Non-Performing Assets Gross and Net Position

Name of the Bank:

Position as on .

(Rupees in crore up to two decimals)

Particulars Amount
Rs.
1. Gross advances *
2. Gross NPAs *
3. Gross NPAs as a percentage of gross advances
4. Total Deductions (i+ii+iii+iv)
i) Balance in Interest Suspense account $
ii) DICGC/ECGC claims received and held pending
adjustment
iii) Part payment received and kept in suspense account
iv) Total provisions held **
5. Net advances (1-4)
6. Net NPAs (2-4)
7. Net NPAs as a percentage of net advances

*excluding technical write off of Rs. . crore.

** excluding amount of technical write off (Rscrores) and provision on standard assets
47
 (Rs..crore)
$ banks which do not maintain an Interest Suspense account to park the accrued interest on
NPAs, may furnish the amount of interest receivable on NPAs as a foot note to this statement

Note: For the purpose of this Statement, gross advances mean all outstanding loans and
advances including advances for which refinance has been received but excluding
rediscounted bills, and advances written off at Head Office level (Technical write off).

2. PROVISIONING NORMS

2.1 GENERAL PROVISIONS

1) Standard Assets A general provision of a minimum of 0.25 % on global loan

portfolio basis

2) Sub-Standard Assets A General provision of 10% of the principal outstanding;

entire outstanding interest to be written off

3) Doubtful assets General provision of 100% of the extent to which the advance is not

covered by the realizable value of the collateral to which the bank has a valid recourse. For

the portion for which is covered by the realizable value, provision needs to be made at the

rate of 20%, 30% or 50%, depending on whether the asset has been in the doubtful category

for less than 1 year, 1 to 3 years or more than 3 years.

4) Loss assets the entire asset shall be written off or 100% thereof shall be provided for.

2.2 FLOATING PROVISIONS

Some of the banks make a 'floating provision' over and above the specific provisions made in
respect of accounts identified as NPAs. The floating provisions, wherever available, could be set-
off against provisions required to be made as per above stated provisioning guidelines.
47
Considering that higher loan loss provisioning ads to the overall financial strength of the banks
and the stability of the financial sector, banks are urged to voluntarily set apart provisions much
above the minimum prudential levels as a desirable practice.
2.3 LEASED ASSETS
The term 'net lease rentals' would mean the amount of finance charge taken to the credit
of Profit & Loss Account and would be worked out as gross lease rentals adjusted by
amount of statutory depreciation and lease equalization account.
As per the 'Guidance Note on Accounting for Leases' issued by the Council of the
Institute of Chartered Accountants of India (ICAI), a separate Lease Equalization
Account should be opened by the banks with a corresponding debit or credit to Lease
Adjustment Account, as the case may be. Further, Lease Equalization Account should
be transferred every year to the Profit & Loss Account and disclosed separately as a
deduction from/addition to gross value of lease rentals shown under the head 'Gross
Income'.
Leases are peculiar transactions where the assets are not recorded in the books of the
user of such assets as Assets, whereas they are recorded in the books of the owner even
though the physical existence of the asset is with the user (lessee).

2.4 GUIDELINES UNDER SPECIAL CIRCUMSTANCES

Advances granted under rehabilitation packages

approved by BIFR (Board for Industrial and Financial Reconstruction) /term
lending institutions

i. In respect of advances under rehabilitation package approved by BIFR/term lending

institutions, the provision should continue to be made in respect of dues to the bank on
the existing credit facilities as per their classification as substandard or doubtful asset.
ii. As regards the additional facilities sanctioned as per package 28 DBOD-MC on IRAC
Norms-2010 finalized by BIFR and/or term lending institutions, provision on additional
47
 facilities sanctioned need not be made for a period of one year from the date of
disbursement.
iii. In respect of additional credit facilities granted to SSI units which are identified as and
where rehabilitation packages/nursing programs have been drawn by the banks
themselves or under consortium arrangements, no provision need be made for a period of
one year. Advances against term deposits, NSCs eligible for surrender, IVPs, KVPs, gold
ornaments, government & other securities and life insurance policies would attract
provisioning requirements as applicable to their asset classification status.

Treatment of interest suspense account

Amounts held in Interest Suspense Account should not be reckoned as part of provisions.
Amounts lying in the Interest Suspense Account should be deducted from the relative advances
and thereafter, provisioning as per the norms, should be made on the balances after such
deduction.

Advances covered by ECGC guarantee

In the case of advances classified as doubtful and guaranteed by ECGC, provision should be
made only for the balance in excess of the amount guaranteed by the Corporation. Further, while
arriving at the provision required to be made for doubtful assets, realizable value of the securities
should first be deducted from the outstanding balance in respect of the amount guaranteed by the
Corporation and then provision made.

Provisioning norms for Liquidity facility provided for Securitization

Transactions

The amount of liquidity facility drawn and outstanding for more than 90 days, in respect of
securitization transactions undertaken in terms of our guidelines on securitization dated February
1, 2006, should be fully provided for.

Provisioning requirements for derivative exposures

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Credit exposures computed as per the current marked to market value of the contract, arising on
account of the interest rate & foreign exchange derivative transactions, and gold, shall also
attract provisioning requirement as applicable to the loan assets in the 'standard' category, of the
concerned counterparties. All conditions applicable for treatment of the provisions for standard
assets would also apply to the aforesaid provisions for derivative and gold exposures.

3. IMPACT, REASONS AND SYMPTOMS OF NPA

3.1 INTERNAL FACTORS

Defective Lending process

There are three cardinal principles of bank lending that have been followed by the
commercial banks since long.
i. Principles of safety
ii. Principle of liquidity
iii. Principles of profitability
By safety it means that the borrower is in a position to repay the loan both principal and interest.
The repayment of loan depends upon the borrowers: a) Capacity to pay b)
Willingness to pay

a) Capacity to pay depends upon:

1. Tangible assets
2. Success in business
b) Willingness to pay depends on:
1. Character
2. Honesty
3. Reputation of borrower
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 4. Integrity
The banker should, therefore take utmost care in ensuring that the enterprise or business for
which a loan is sought is a sound one and the borrower is capable of carrying it out
successfully .He should be a person of integrity and good character.

Inappropriate technology
Due to inappropriate technology and management information system, market driven
decisions on real time basis cannot be taken. Proper MIS and financial accounting system
is not implemented in the banks, which leads to poor credit collection, thus NPA. All the
branches of the bank should be computerized.

Improper SWOT analysis

The improper strength, weakness, opportunity and threat analysis is another reason for
rise in NPAs. While providing unsecured advances the banks depend more on the
honesty, integrity, and financial soundness and credit worthiness of the borrower.

Banks should consider the borrowers own capital investment.

it should collect credit information of the borrowers from_
a. From bankers.
b. Enquiry from market/segment of trade, industry, business.
c. From external credit rating agencies.
Analyze the balance sheet.
True picture of business will be revealed on analysis of profit/loss a/c and balance
sheet.
Purpose of the loan
When bankers give loan, he should analyze the purpose of the loan. To ensure
safety and liquidity, banks should grant loan for productive purpose only. Bank
should analyze the profitability, viability, long term acceptability of the project
while financing.
Poor credit appraisal system
Poor credit appraisal is another factor for the rise in NPAs. Due to poor credit appraisal
the bank gives advances to those who are not able to repay it back. They should use good
credit appraisal to decrease the NPAs.
47
 Managerial deficiencies
The banker should always select the borrower very carefully and should take tangible
assets as security to safe guard its interests. When accepting securities banks should
consider the_
1. Marketability
2. Acceptability
3. Safety
4. Transferability.
The banker should follow the principle of diversification of risk based
on the famous maxim do not keep all the eggs in one basket; it means that the banker
should not grant advances to a few big farms only or to concentrate them in few
industries or in a few cities. If a new big customer meets misfortune or certain traders or
industries affected adversely, the overall position of the bank will not be affected.
Like OSCB suffered loss due to the OTM Cuttack, and Orissa hand loom industries. The
biggest defaulters of OSCB are the OTM (117.77lakhs), and the handloom sector Orissa
hand loom WCS ltd (2439.60lakhs).

Absence of regular industrial visit

The irregularities in spot visit also increases the NPAs. Absence of regularly visit of
bank officials to the customer point decreases the collection of interest and principals on
the loan. The NPAs due to willful defaulters can be collected by regular visits.

Re loaning process
Non remittance of recoveries to higher financing agencies and re loaning of the same
have already affected the smooth operation of the credit cycle. Due to re loaning to the
defaulters and CCBs and PACs, the NPAs of OSCB is increasing day by day.

3.2 EXTERNAL FACTORS

Ineffective recovery tribunal

The Govt. has set of numbers of recovery tribunals, which works for recovery of loans and
advances. Due to their negligence and ineffectiveness in their work the bank suffers the
consequence of non-recover, thereby reducing their profitability and liquidity.
47
 Willful Defaults
There are borrowers who are able to pay back loans but are intentionally withdrawing it. These
groups of people should be identified and proper measures should be taken in order to get back
the money extended to them as advances and loans.

Natural calamities
This is the measure factor, which is creating alarming rise in NPAs of the PSBs. every now and
then India is hit by major natural calamities thus making the borrowers unable to pay back there
loans. Thus the bank has to make large amount of provisions in order to compensate those loans,
hence end up the fiscal with a reduced profit. Mainly ours farmers depends on rain fall for
cropping. Due to irregularities of rain fall the farmers are not to achieve the production level thus
they are not repaying the loans.

Industrial sickness
Improper project handling , ineffective management , lack of adequate resources , lack of
advance technology , day to day changing govt. Policies give birth to industrial sickness. Hence
the banks that finance those industries ultimately end up with a low recovery of their loans
reducing their profit and liquidity.

Lack of demand
Entrepreneurs in India could not foresee their product demand and starts production which
ultimately piles up their product thus making them unable to pay back the money they borrow to
operate these activities. The banks recover the amount by selling of their assets, which covers a
minimum label. Thus the bank records the non-recovered part as NPAs and has to make
provision for it.

Change on Govt. policies

With every new govt. banking sector gets new policies for its operation. Thus it has to cope with
the changing principles and policies for the regulation of the rising of NPAs.
47
 3.3 Early symptoms by which one can recognize a performing asset
turning in to Non-performing asset:-
(1) Financial:
Bouncing of cheque due to insufficient balance in the accounts.
Irregularity in instalment.
Irregularity of operations in the accounts.
Unpaid overdue bills.
Declining Current Ratio.
Payment which does not cover the interest and principal amount of that instalment.
While monitoring the accounts it is found that partial amount is diverted to sister concern
or parent company.

(2) Operational and Physical:

If information is received that the borrower has either initiated the process of winding up
or are not doing the business.
Overdue receivables.
Stock statement not submitted on time.
External non-controllable factor like natural calamities in the city where borrower
conduct his business.
Frequent changes in plan.
Non-payment of wages.

(3) Attitudinal Changes:

Avoidance of contact with bank.
Problem between partners.

(4) Others:
Changes in Government policies.
Death of borrower.
Competition in the market.
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 4. PREVENTIVE MEASUREMENT

4.1 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 of banks 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.

4.2 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 has 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 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
47
funding through the controlling offices in deserving cases, and help avert many accounts slipping
into NPA category.

4.3 Multiple Financing 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 ailing 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.

A. 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.

B. 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. Towards this end, there should be regular flow 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 no 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.

C. 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
47
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.

D. 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.

TOOLS FOR RECOVERY

Credit Default
47
 Inability to Pay Willful default

Unviable Viable

LokAdalat
Rehabilitation Debt Recovery
Securitization Act
Compromise Tribunals

Asset
Reconstruction

Consortium Finance Sole Banker

Corporate Debt Restructuring

Fresh Issue Conversion into Fresh WC Rephasing

of Term WCTL Limit Repayment Period
Loan

LokAdalats
LokAdalat institutions help banks to settle disputes involving account in doubtful and loss
category, with outstanding balance of Rs.5 lakh for compromise settlement under LokAdalat.
47
Debt recovery tribunals have been empowered to organize LokAdalat to decide on cases of NPAs
of Rs. 10 lakh and above. This mechanism has proved to be quite effective for speedy justice and
recovery of small loans. The progress through this channel is expected to pick up in the coming
years.
Debt Recovery Tribunals
The recovery of debts due to banks and financial institution passed in March 2000 has helped in
strengthening the function of DRTs. Provision for placement of more than one recovery officer,
power to attach defendants property/assets before judgment, penal provision for disobedience of
tribunals order or for breach of any terms of order and appointment of receiver with power of
realization, management, protection and preservation of property are expected to provide
necessary teeth to the DRTs and speed up the recovery of NPAs in the times to come. DRTs
which have been set up by the Government to facilitate speedy recovery by banks/DFIs, have not
been able make much impact on loan recovery due to variety of reasons like inadequate number,
lack of infrastructure, under staffing and frequent adjournment of cases. It is essential that DRT
mechanism is strengthened and vested with a proper enforcement mechanism to enforce their
orders. Non observation of any order passed by the tribunal should amount to contempt of court,
the DRT should have right to initiate contempt proceedings. The DRT should be empowered to
sell asset of the debtor companies and forward the proceeds to the winding up court for
distribution among the lenders.

4.4 Inability to pay

Consortium arrangements:
Asset classification of accounts under consortium should be based on the record of recovery
of the individual member banks and other aspects having under consortium lending
arrangements are pooled with one bank and/or where the bank receiving remittances is not
parting with the share of other member banks, the account will be treated as not serviced in
the books of the other member banks and therefore, be treated as NPA. The banks
participating in the consortium should, therefore, arrange to get their share of recovery
transferred from the lead bank or get an express consent from the lead bank for the transfer of
47
 their share a bearing on the recoverability of the advances. Where the remittances by the
borrower of recovery, to ensure proper asset classification in their respective books.

4.5 Restructuring / rescheduling of loans

A standard asset where the terms of the loan agreement regarding Interest and principal have
been renegotiated or rescheduled after commencement of production should be classified as sub-
standard and should remain in such category for at least one year of satisfactory performance
under the renegotiated or rescheduled terms. In the case of sub-standard and doubtful assets also,
rescheduling does not entitle a bank to upgrade the quality of advance automatically unless there
is satisfactory performance under the rescheduled / renegotiated terms. Following representations
from banks that the foregoing stipulations deter the banks from restructuring of standard and
sub-standard loan assets even though the modification of terms might not jeopardize the
assurance of repayment of dues from the borrower, the norms relating to restructuring of
standard and sub-standard assets were reviewed in March2001. In the context of restructuring of
the accounts, the following stages at which the restructuring / rescheduling / renegotiation of the
terms of loan agreement could take place, can be identified:

1) Before commencement of commercial production;

2) After commencement of commercial production but before the asset has been classified as
substandard,
3) After commencement of commercial production and after the asset has been classified as
substandard.

In each of the foregoing three stages, the rescheduling, etc., of principal and/or of interest could
take place, with or without sacrifice, as part of there structuring package evolved.

4.6 Special Cases

Accounts with temporary deficiencies:

The classification of an asset as NPA should be based on there cord of recovery. Bank should not
classify an advance account as NPA merely due to the existence of some deficiencies which are
47
temporary in nature such as non-availability of adequate drawing power based on the latest
available stock statement, balance outstanding exceeding the limit temporarily, non-submission
of stock statements and non-renewal of the limits on the due date, etc. In the matter of
classification of accounts with such deficiencies banks may follow the following guidelines:

Banks should ensure that drawings in the working capital accounts are covered by the adequacy
of current assets, since current assets are first appropriated in times of distress. Drawing power is
required to be arrived at based on the stock statement which is current. However, considering the
difficulties of large borrowers, stock statements relied upon by the banks for determining
drawing power should not be older than three months. The outstanding in the account based on
drawing power calculated from stock statements older than three months, would be deemed as
irregular. A working capital borrower account will become NPA if such irregular drawings are
permitted in the account for a continuous period of 180 days even though the unit may be
working or the borrower's financial position is satisfactory.

Regular and ad hoc credit limits need to be reviewed/ regularized not later than three months
from the due date/date of ad hoc sanction. Incase of constraints such as non-availability of
financial statements and other data from the borrowers, the branch should furnish evidence to
show that renewal/ review of credit limits is already on and would be completed soon. In any
case, delay beyond six months is not considered desirable as a general discipline. Hence, an
account where the regular/ ad hoc credit limits have not been reviewed/ renewed within 180 days
from the duedate/ date of ad hoc sanction will be treated as NPA.

Accounts regularized near about the balance sheet date:

The asset classification of borrower accounts where a solitary or a few credits are recorded
before the balance sheet date should be handled with care and without scope for subjectivity.
Where the account indicates inherent weakness on the basis of the data available, the account
should be deemed as a NPA. In other genuine cases, the banks must furnish satisfactory evidence
47
to the Statutory Auditors/Inspecting Officers about the manner of regularization of the account to
eliminate doubts on their performing status.
Asset Classification to be borrower-wise and not facility-wise

It is difficult to envisage a situation when only one facility to a borrower becomes a problem
credit and not others. Therefore, all the facilities granted by a bank to a borrower will have to be
treated as NPA and not the particular facility or part thereof which has become irregular. If the
debits arising out of devolvement of letters of credit or invoked guarantees are parked in a
separate account, the balance outstanding in that account also should be treated as a part of the
borrowers principal operating account for the purpose of application of prudential norms on
income recognition, asset classification and provisioning.

Accounts where there is erosion in the value of security

A NPA need not go through the various stages of classification incases of serious credit
impairment and such assets should be straightaway classified as doubtful or loss asset as
appropriate. Erosion in the value of security can be reckoned as significant when the realizable
value of the security is less than 50 per cent of the value assessed by the bank or accepted by RBI
at the time of last inspection, as the case maybe. Such NPAs may be straightaway classified
under doubtful category and provisioning should be made as applicable to doubtful assets.
If the realizable value of the security, as assessed by the bank/approved values/ RBI is
less than 10 per cent of the outstanding in the borrower accounts, the existence of security should
be ignored and the asset should be straightaway classified as loss asset. It may be either written
off or fully provided for by the bank.

Advances to PACS/FSS ceded to Commercial Banks:

In respect of agricultural advances as well as advances for other purposes granted by banks to
ceded PACS/ FSS under the on-lending system, only that particular credit facility granted to
PACS/ FSS which is in default for a period of two harvest seasons (not exceeding two half
years)/two quarters, as the case may be, after it has become due will be classified as NPA and not
47
all the credit facilities sanctioned to a PACS/FSS. The other direct loans & advances, if any,
granted by the bank to the member borrower of a PACS/ FSS outside the on-lending arrangement
will become NPA even if one of the credit facilities granted to the same borrower becomes NPA.
Advances against Term Deposits, NSCs, KVP/IVP, etc.:

Advances against term deposits, NSCs eligible for surrender, IVPs, KVPs and life policies need
not be treated as NPAs. Advances against gold ornaments, government securities and all other
securities are not covered by this exemption.

Loans with moratorium for payment of interest

In the case of bank finance given for industrial projects or for agricultural plantations etc. where
moratorium is available for payment of interest, payment of interest becomes 'due' only after the
moratorium or gestation period is over. Therefore, such amounts of interest do not become
overdue and hence NPA, with reference to the date of debit of interest. They become overdue
after due date for payment of interest, if uncollected.

In the case of housing loan or similar advances granted to staff

members where interest is payable after recovery of principal, interest need not be considered as
overdue from the first quarter onwards. Such loans/advances should be classified as NPA only
when there is a default in repayment of installment of principal or payment of interest on the
respective due dates.

Government guaranteed advances:

The credit facilities backed by guarantee of the Central Government though overdue may be
treated as NPA only when the Government repudiates its guarantee when invoked. This
exemption from classification of Government guaranteed advances as NPA is not for the purpose
of recognition of income. With effect from 1st April 2000, advances sanctioned against State
Government guarantees should be classified as NPA in the normal course, if the guarantee is
47
invoked and remains in default for more than two quarters. With effect from March 31, 2001 the
period of default is revised as more than 180 days.

Take-out Finance:

Takeout finance is the product emerging in the context of the funding of long-term infrastructure
projects. Under this arrangement, the institution/the bank financing infrastructure projects will
have an arrangement with any financial institution for transferring to the latter the outstanding in
respect of such financing in their books on a predetermined basis. In view of the time-lag
involved in taking-over, the possibility of a default in the meantime cannot be ruled out. The
norms of asset classification will have to be followed by the concerned bank/financial institution
in whose books the account stands as balancesheet item as on the relevant date. If the lending
institution observes that the asset has turned NPA on the basis of the record of recovery, it should
be classified accordingly. The lending institution should not recognize income on accrual basis
and account for the same only when it is paid by the borrower/ taking over institution (if the
arrangement so provides). The lending institution should also make provisions against any asset
turning into NPA pending its takeover by taking over institution. As and when the asset is taken
over by the taking over institution, the corresponding provisions could be reversed. However, the
taking over institution, on taking over such assets, should make provisions treating the account as
NPA from the actual date of it becoming NPA even though the account was not in its books as on
that date.

Post-shipment Supplier's Credit

In respect of post-shipment credit extended by the banks covering

export of goods to countries for which the ECGCs cover is available, EXIM Bank has
introduced a guarantee-cum-refinance programme whereby, in the event of default, EXIM Bank
will pay the guaranteed amount to the bank within a period of 30 days from the day the bank
invokes the guarantee after the exporter has filed claim with ECGC. Accordingly, to the extent
47
payment has been received from the EXIM Bank, the advance may not be treated as a non-
performing asset for asset classification and provisioning purposes.

Export Project Finance

In respect of export project finance, there could be instances where the actual importer has paid
the dues to the bank abroad but the bank inturn is unable to remit the amount due to political
developments such as war, strife, UN embargo, etc. In such cases, where the lending bank is able
to establish through documentary evidence that the importer has cleared the dues in full by
depositing the amount in the bank abroad before it turned into NPA in the Books of the bank, but
the importer's country is not allowing the funds to be remitted due to political or other reasons,
the asset classification maybe made after a period of one year from the date the amount was
deposited by the importer in the bank abroad.

Advances under rehabilitation approved by BIFR/ TLI:

Banks are not permitted to upgrade the classification of any advance in respect of which the
terms have been re-negotiated unless the package of re-negotiated terms has worked
satisfactorily for a period of one year. While the existing credit facilities sanctioned to a unit
under rehabilitation packages approved by BIFR/term lending institutions will continue to be
classified as sub-standard or doubtful as the case may be, in respect of additional facilities
sanctioned under the rehabilitation packages, the Income Recognition, Asset Classification
norms will become applicable after a period of one year from the date of disbursement.
4.7 ROLE OF ARCIL (Asset Reconstruction Company India Limited):-
This empowerment encouraged the three major players in Indian banking system, namely, State
Bank of India (SBI), ICICI Bank Limited (ICICI) and IDBI Bank Limited (IDBI) to come
together to set-up the first ARC. ARCIL was incorporated as a public limited company on
February 11, 2002 and obtained its certificate of commencement of business on May 7, 2003. In
pursuance of Section 3 of the Securitization Act 2002, it holds a certificate of registration dated
47
August 29, 2003, issued by the Reserve Bank of India (RBI) and operates under powers
conferred under the Securitization Act, 2002. ARCIL is also a "financial institution" within the
meaning of Section 2(h) (i)(a) of the Recovery of Debts due to Banks and Financial Institutions
Act, 1993 (the "DRT Act").
ARCIL is the first ARC in the country to commence business of resolution of non-
performing assets (NPAs) upon acquisition from Indian banks and financial institutions. As the
first ARC, ARCIL has played a pioneering role insetting standards for the industry in India.

Unlocking capital for the banking system and the economy

The primary objective of ARCIL is to expedite recovery of the amounts locked in NPAs of
lenders and thereby recycling capital. ARCIL thus, provides relief to the banking system by
managing NPAs and help them concentrate on core banking activities thereby enhancing
shareholders value.

Creating a vibrant market for distressed debt assets / securities in India

offering a trading platform for Lenders
ARCIL has made successful efforts in funneling investment from both from domestic and
international players for funding these acquisitions of distressed assets, followed by showcasing
them to prospective buyers. This has initiated creation of a secondary market of distressed assets
in the country besides hastening their resolution. The efforts of ARCIL would lead the countrys
distressed debt market to international standards.

To evolve and create significant capacity in the system for quicker

resolution of NPAs by deploying the assets optimally
With a view to achieving high delivery capabilities for resolution, ARCIL has put in place a
structure aimed at outsourcing the various sub-functions of resolution to specialized agencies,
wherever applicable under the provision of the Securitization Act, 2002. ARCIL has also
encourage, groomed and developed many such agencies to enhance its capacity in line with the
growth of its activity.
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 5. DATA PRESENTATION AND ANALYSIS

5.1 SAMPLE SIZE

Private Sector Banks ICICI, Axis Bank, Kotak, HDFC and IndusInd Bank.
Public Sector Banks Bank of Baroda, Bank of India, Punjab National Bank, Dena Bank
Union Bank of India.

For the purpose of analysis and comparison between Public and private sector banks I have taken
five banks from both sectors to compare then on-performing assets of banks. For understanding I
have further classified the non-performing assets in priority sector and non-priority sector, gross
NPA and net NPA in percentage as well as in rupees, deposit investment advances.

Further we also analysis on the basis of Deposit Investment Advances to get the clear view
where the bank stands in the competitive market. At the end of March 2010, in private sector
ICICI Bank is the highest deposit-investment-advances figure in rupees crore, second is HDFC
Bank and KOTAK Bank have least figure.

In public sector banks Punjab National Bank has the highest deposit investment-advances but
when we look at the graph we can see that the Bank of Baroda and Bank of India are almost the
similar in numbers and Dena Bank is stands last in public sector bank. When we compare the
private sector banks with public sector banks, we can understand the more number of people
prefer to choose public sector banks for deposit-investment.
47
DEPOSIT-INVESTMENT-ADVANCES (RS.CRORE) of both sector banks and
comparison among them, year 2008-09.

Private Sector Banks:-

(Rs in crores)

BANK DEPOSIT INVESTMENT ADVANCES

AXIS 87626 33705 59661

HDFC 100769 49394 63427

ICICI 244431 111454 225616

KOTAK 16424 9142 15552

INDUSIND 19037 6630 12795

TOTAL 468287 210325 377051

Analysis: - From the above figure we can see that the ICICI Bank deposit-investment-
advances are quite high than other banks like HDFC,AXIS, INDUSIND, KOTAK.

Public Sector Banks: -

47
(Rs in crores)

BANK DEPOSIT INVESTMENT ADVANCES

BOB 152034 43870 106701

BOI 150012 41803 113476

DENA 33943 10282 23024

PNB 166457 53992 119502

UBI 103859 33823 74348

TOTAL 606305 183770 437051

Analysis: - In public sector Punjab National Bank deposit-investment-advances

Are comparatively quite high rather than Bank of Baroda, Bank of India, United bank of India
and Dena Bank.
Comparison between ICICI BANK AND PUNJAB NATIONAL BANK in term of
deposit-investment-advances:-
47
(Rs in crores)

BANK DEPOSIT INVESTMENT ADVANCES

ICICI BANK 244431 111454 225616

PNB 166457 53992 119502

Analysis: - Here we have compared between ICICI BANK AND PUNJAB NATIONAL
BANK in term of deposit-investment-advances. From the above figure we can see that ICICI
bank deposit and advances are reasonably higher than Punjab National Bank. But in case of
Investment ICICI Bank Investment Amount is double of Punjab National Bank Investment
Amount.

5.2 Gross NPA and Net NPA:-

There are two concepts related to non-performing assets
47
a) Gross NPA
b) Net NPA
Gross refers to all NPAs on a banks balance sheet irrespective of the provisions made. It
consists of all the non-standard assets, viz. Substandard assets, doubtful assets, and loss assets.
A loan asset is classified as substandard if it remains NPA up to a period of 18 months;
doubtful if it remains NPA for more than 18 months; and loss, without any waiting period,
where the dues are considered not collectible or marginally collectible.
Net NPA is gross NPA less provisions. Since in India, bank balance sheets contains 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 NPA according to the central bank guidelines, are
quite significant.
Here, we can see that there are huge differences between gross and net NPA.

While gross NPA reflects the quality of the loans made by banks, net NPA shows the actual
burden of banks. The requirements for provisions are:

100% for loss assets

100% of the unsecured portion plus 20-50% of the secured portion, depending on the
period for which the account has remained in the doubtful category
10% general provision on the outstanding balance under the substandard category.

Here, there are gross and net NPA data for 2009-10 and 2009-10 we taken for comparison among
banks. These data are NPA AS PERCENTAGE OF TOTAL ASSETS. As we discuss earlier that
gross NPA reflects the quality of the loans made by banks. Among all the ten banks Dena Banks
has highest gross NPA as a percentage of total assets in the year 2009-10 and also net NPA.
Punjab National Bank shows huge difference between gross and net NPA. There is an almost
same figure between BOI and BOB.

Gross NPA and Net NPA of Sample Public Sector banks in the year 2008-09
47
(% of Total Assets)
BANK GROSS NPA NET NPA

BOB 1.46 0.35

BOI 1.48 0.45

DENA 2.37 1.16

PNB 2.09 0.45

UBI 1.82 0.59

Gross NPA and Net NPA of SamplePublic Sector banks in the year 2009-10

(% of Total Assets)

BANK GROSS NPA NET NPA

BOB 1.1 0.27

BOI 1.08 0.33

47
DENA 1.48 0.56

PNB 1.67 0.38

UBI 1.34 0.1

47
Gross NPA and Net NPA of Sample Private Sector banks in the year 2008-09

(% of Total Assets)

BANK GROSS NPA NET NPA

AXIS 0.57 0.36

HDFC 0.72 0.22

ICICI 1.2 0.58

KOTAK 1.39 1.09

INDUSIND 1.64 1.31

47
Gross NPA and Net NPA of Sample Private Sector banks in the year 2009-10

(% of Total Assets)

BANK GROSS NPA NET NPA

AXIS 0.45 0.23

HDFC 0.68 0.22

ICICI 1.9 0.87

KOTAK 1.55 0.98

47
 INDUSIND 1.69 1.25

5.3 Comparison of GROSS NPA with Sample Public and Private

sectors banks

Comparison of GROSS NPA with all banks. The growing NPAs affect the health
of banks, profitability and efficiency. In the long run, it eats up the net worth of the
banks. We can say that NPA is not a healthy sign for financial institutions. Here
we take all the ten banks gross NPA together for better understanding. Average of
these ten banks gross NPAs is 1.47 as percentage of total assets. So if we compare
in private sector banks AXIS and HDFC Bank are below average of all banks and
47
in public sector BOB and BOI. Average of these five private sector banks gross
NPA is 1.104 and average of public sector banks gross NPA is 1.84. This is higher
in compare of private sector banks.

5.4 COMPARISON OF NET NPA WITH SAMPLE PUBLIC AND

PRIVATE SECTORS BANKS

Comparison of NET NPA with all banks. Average of these ten banks net NPA is 0.656. And in
the public sector banks all these five banks are below this. But in private sector banks there are
three banks are above average. The difference between private and public banks average is also
vast. Private sector banks net NPA average is 0.71 and in public sector banks it is 0.6 as
percentage of total assets. As we know that net NPA shows actual burden of banks. IndusInd
bank has highest net NPA figure and HDFC Bank has lowest in comparison.
47
 5.5 PRIORITY NON PRIORITY SECTOR (SAMPLE PRIVATE
SECTOR)
When we further classify NPA in priority sector and Non priority sector. Agriculture + small +
others are priority sector. In private sector ICICI Bank has the highest NPA with compare to
other private sector banks. Around 72% of NPA in priority sector and around 78% in non-
priority sector. We can see that in private sector banks have more NPA in non-priority sector than
priority sector.
AGRICULTURE SMALL OTHERS PRIORITY

BANK (1) (2) (3) SECTOR NON-PRIORITY

( 1+2+3 )

AXIS 109.12 14.76 86.71 210.59 275.06

HDFC 36.12 110.56 47.7 194.41 709.23

47
 ICICI 981.85 23.35 354.13 1359.34 6211.12

KOTAK 10 33.84 4.04 47.87 405.2

INDUSIND 30.44 3.18 30.02 63.64 328.67

TOTAL 1167.53 185.69 522.6 1875.85 7929.28

(SAMPLE PUBLIC SECTOR)

When we talk about public sector banks they are more in priority sector and they give advanced
to weaker sector or industries. Public sector banks give more loans to Agriculture, small scale
and others units and as a result we see that there are more number of NPAs in public sector banks
than private sector banks. BOB given more advanced to priority sector than other four banks.

Banks (ADVANCED RS.CRORE ) NPA

BOB 5469 350

BOI 3269 325
DENA 1160 106
PNB 3772 443
UBI 1924 197
47
But when there are comparison between private bank and public sector bank still ICICI Bank has
more NPA in both priority and non-priority sector with the comparison of public sector banks.
Large NPA in ICICI Bank because the strategy of bank that risk-reward attitude and initiative in
each sector. Above we also discuss that ICICI Bank has highest deposit-investment-advance
than other banks.

6. CONCLUSIONS AND SUGGESTIONS

Manage NPAs instead of eliminating them

Studies have shown that management of NPAs rather than elimination is prudent. Indias growth
rate and bank spreads are higher than that in western nations. As a result we can support a non-
zero level of NPAs which Balances the risk vis--vis return appropriate to the Indian Context.

Effectiveness of ARCs

Concerns have been raised about the relevance of Asset Restructuring Companies (ARCs) to
India. A significant percentage of the NPAs of the public sector banks in India are in the priority
sector. Loans in rural areas are difficult to collect and banks by virtue of their sheer reach are
better placed to recover these loans. LokAdalats and Debt Recovery Tribunals are other effective
mechanisms to handle this task. ARCs should focus on the large borrowers. Further, there is a
47
need for private sector and foreign participation in the ARCs. Private parties will look to active
resolution of the NPA problem and not merely regard it as a book transaction. Moving NPAs to
an ARC does not get rid of the problem. In China, potential investors are still worried about the
risks of non-enforcement of ownership rights of the assets they purchase from the ARCs. Actions
and measures have to be taken to build investors confidence.

Well-Developed Capital Markets

Numerous papers have stressed the criticality of a well-developed capital market in the
restructuring process. A capital market brings liquidity and a mechanism for write off of loans.
Without this a bank may seek to postpone the NPA problem for fear of capital adequacy
problems and resort to tactics like evergreening. Monitoring by bondholders is better as they
have no motive to sustain uneconomic activity. Further, the banks can manage credit risk better
as it is easier to sell or to securities loans and negotiate credit derivatives. Indian debt market is
relatively underdeveloped and attention should be focused on building liquidity and volumes.

Contextual Decision Making

Regulations must incorporate a contextual perspective (like temporary cash flow problems) and
clients should be handled in a manner, which reflects true value of their assets and future
potential to pay. The top management should delegate authority and back decisions of this kind
taken by middle level managers.

Securitization

Securitization has been used extensively in China, Japan and Korea. The securitisation as a
business process has attracted international participants due to lower liquidity risks. The
Resolution Trust Corporation has helped develop the securitisation market in Asia and has taken
over around $ 460 billion as bad assets from over 750 failed banks. Its highly standardized
product appeals to a broad investor base. Securitisation in India is still in a nascent stage but has
47
potential in areas like mortgage backed securitization. ICRA estimates the current market size for
securitization to be around Rs.3000 Crores.

Effects of Capital Norm Tightening

This is a fear that disposal of NPAs through the provision of excessive reserves may result in a
deflationary spiral. A thorough provision of reserves will have no negative impact on the long
term dividends paid to shareholders. Firstly, it helps restore credibility in the financial system.
Further, an adjustment mechanism can be created by which the capital gains and future profits
that will result from the disposal of NPAs will pass back to the creditors and the taxpayers who
incurred the losses today. The swift disposal of NPAs during the great depression in the middle
of a severe deflationary current helped restore the credibility of the financial system.

Realignment of Performance Metrics

Traditional performance measures like ROE and NPA ratio are not really indicative of
performance. That is , a high volume of bad lending today will impact positively on ROE, asset
growth and NPA ratio and only show up 5 years later as NPAs. Economic Value of Equity (EVE)
(or market value) and Economic Value Of Equity at Risk (EVER) are useful mechanisms to
handle this problem. EVE is the value of the firm if its assets are instantaneously liquidated
(assuming the availability of liquid asset markets). Book value vis--vis EVE when compared,
give an idea of whether the fair value is being reflected. EVER can be computed by using What
If scenario like downgrading the ratings of assets or changing interest rates. Now, at every stage
banks can check if their actions are consistent with the goal of maximizing EVE, subject to an
acceptable level of EVER.

Legal Issues

They have been instances of banks extending credit to the doubtful debtors (who willfully default
on debts) and getting kickbacks for the same. Ineffective legal mechanisms and inadequate
internal control mechanisms have made this problem grow. Quick action has to be taken on both
47
the counts so that both the defaulters and the authorizing officer are punished heavily. Without
this step, all the mechanisms suggested above may prove to be ineffective.

Conclusion:
The project report, therefore proposes that the sound understanding of the institutional variables,
macroeconomic variables and systematic issues pertaining to banks and the economy is required
in order to solve NPA problem along with the criticality of a strong legal and framework and
regulatory framework. Foreign experiences in this regard must be utilized along with a clear
understanding of local conditions to create an effective customized solution to NPA problem.

BIBLIOGRAPHY
Books Journals and Magazines-
Business Research Methods
- Donald R Cooper & Pamela S Schindler
- The McGraw Hill Companies
47
 Role of Asset Reconstruction Companies
- THE CHARTERED ACCOUNTANT
- April 13, 2011

Treasury Management, December 2011

- MPM Vinay Kumar

- Securitization: Issues and Perspectives.

Websites :- www.google.com

www.rbi.org.in

www.businessstandard.com

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