The success of India’s new bad bank depends on speed of resolution and expertise

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The new failed Indian government-backed bank can help lenders recover capital from non-performing assets if it can ensure a quick resolution and attract a group of licensed professionals to work independently, analysts said.

India’s move to establish a national debt resolution company that will buy roughly Rs.2 trillion in bad debt from lenders aims to address larger nonperforming loans including private sector asset rebuilding companies existing have moved away. The National Asset Reconstruction Co. Ltd., or NARCL, will pay 15% of an agreed price in cash and the remainder in the form of collateral receipts, a bond-like instrument, which will be backed by a government guarantee. up to 306 billion rupees. up to five years, according to a federal cabinet decision of September 15.

Bad debts will then be transferred to a separate company called India Debt Resolution Co. Ltd. which will attempt to resolve them and recover the value. The resolution firm should have a group of recovery professionals, not just bankers, with expertise in different industries in order to maximize collections. It will hold onto the assets, attempt to restructure and straighten out or liquidate the borrowing companies.

Sandeep Upadhyay, managing director of Centrum Infrastructure Advisory, said the new failing bank can handle NPLs very effectively as long as it has the requisite delegation authority. “There has to be a change in the mindset with which we approach the resolution process. It has to be time-bound and has to be managed with a lot of expertise,” Upadhyay continued.

Irrecoverable debts

NARCL’s portfolio will be larger than any of the 28 asset rebuilding companies that already exist in India. They had bought about 4.5 trillion rupees of bad debt, mostly lower cost loans, as of March 31, according to CRISIL, a subsidiary of S&P Global.

India has sought to address its high levels of bad loans, especially in public banks. The Insolvency and Bankruptcy Code, a set of national rules, was announced in 2016 to ensure swift resolution of corporate and personal bankruptcies. With the new bank failing, the government hopes to consolidate bad debts under one company and remove them from banks’ balance sheets. Previous efforts have shown that it is easier to solve a business with a manufacturing plant, for example, a steel mill. However, for sectors such as service companies and engineering and construction procurement firms, the lack of understanding of the activity in banks has proven to be a stumbling block..

NARCL can help speed up the resolution process and help the economy by creating a recovery process that can be institutionalized, said Deepak Shenoy, CEO and founder of Capitalmind, an Indian wealth manager.

However, Shenoy believes the plan also carries moral hazard. “Some banks may try to overstate their [bad] ready and playing with the system, ”said the CEO.

Central bank stress tests indicated that bad debts of all banks can reach 9.80% by March 2022 compared to 7.50% the same month of this year in a baseline scenario. However, the bad debt ratio could reach 11.22% by March 2022 under a “severe stress” scenario for key macroeconomic indicators, the central bank said in its semi-annual financial stability report released on July 1.

The government’s offer of a sovereign guarantee is an important step towards the operationalization of the National Asset Reconstruction Company and the resolution of non-performing assets in the Indian banking sector ”, said Krishnan Sitaraman, Senior Director of Financial Sector and Structured Finance Ratings at CRISIL, to Market Intelligence in an email. Selling bad loans to NARCL is expected to reduce banks’ NPA levels by 20 to 25 percent over time, Sitaraman said.

Reversals of provisions

Banks, especially public lenders, will benefit from being able to take back provisions they have already built up, and the cash inflows can be used for loans, ICICI Securities said in a September 17 memo. The receipts of sovereign guaranteed securities will attract zero risk weights for five years, freeing up capital on poor quality assets that have not yet been fully provisioned, he said.

However, the firm believes resolution will be key. “If the initial cash flow is more or less equal to the amount invested by the banks, then would that be simply moving the problem from one place to another without fundamentally solving it? he questioned.

Most of the Rs 900 billion bad debt that will be transferred to NARCL in the first round will come from lists that the Reserve Bank of India asked banks to go through insolvency proceedings a few years ago. “The chances of physical recovery of these assets appear low,” Nomura analysts said in a September 17 report.

“Asset quality matters most,” Jefferies said. Historically, banks see a recovery of around 10% on written off loans, and Jefferies believes the recoveries here may be broadly consistent, advising the central bank and lenders to take a conservative stance.

As of September 24, 1 US dollar was equivalent to 73.81 Indian rupees.


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