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A Comparative Analysis on NBFC & Banks NPA

Submitted in partial fulfilment of the requirements

For
Masters in Financial Management (MFM)

Submitted By
Mr Siddhesh Mohan Patil
MFM 16-34, 2016-2019

IES Management College and Research Centre

Bandra West, Mumbai
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Students Declaration

I hereby declare that this report, submitted in partial fulfilment of the requirement for the award for the Post
Graduate Diploma in Management (PGDM), to IES Management College and Research Centre is my
original work and not used anywhere for award of any degree or diploma or fellowship or for similar titles
or prizes.
I further certify that without any objection or condition, subject to the permission of the company where I
did my summer project, I grant the rights to IES Management College and Research Centre to publish any
part of the project, if they deem fit in journals/Magazines and newspapers etc. without my permission.

Place: Mumbai
Date: 27/10/2018

___________________
Signature
Mr Siddhesh Mohan Patil
Masters in Financial Management (MFM) MFM 16-34
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Certificate from the Faculty Guide

This is to certify that the dissertation submitted in partial fulfillment for the award of Masters in Financial
Management (MFM) of IES Management College and Research Centre is a result of the bonafide project
work carried out by Mr. Siddhesh Mohan Patil under my supervision and guidance. No part of this report
has been submitted for award of any other degree, diploma, fellowship or other similar titles or prizes. The
work has also not been published in any journals/Magazines.

Date: 27/10/2018
Place: Mumbai

Signature of Faculty Guide: ______________

Name of the Faculty Guide: Prof. Maithili Dhuri
IES Management College and Research Centre
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ACKNOWLEDGEMENT

I would like to thank Prof. Maithili Dhuri of our college for helping me throughout this project and guiding
me to set up this report. I would be failing in my duty, if I do not thank my parents, my colleagues, my
faculty members and my friends who have helped me in making this report.

Mr Siddhesh Mohan Patil

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Index
Executive Summary
Abstract
Introduction
Literature Review
Objective
Sub-Objective
Limitations
Research Methodology
Primary Data
Data Analysis
Conclusion
References
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A Comparative Analysis on NBFC & Banks NPA

1. Executive Summary
A strong banking sector is important for flourishing economy. The failure of the banking sector may have an
adverse impact on other sectors. Non-performing assets are one of the major concerns for banks & NBFC
too in India. NPAs reflect the performance of financial institutions. A high level of NPAs suggests high
probability of a large number of credit defaults that affect the profitability and net-worth of financial
institutions and also erodes the value of the asset. The NPA growth involves the necessity of provisions,
which reduces the overall profits and shareholders’ value. The problem of NPAs is not only affecting the
financial institutions but also the whole economy. In fact level of NPAs in Indian banks is nothing but a
reflection of the state of health of the industry and trade. However lending also carries a risk called credit
risk, which arises from the failure of borrower. Non-recovery of loans along with interest forms a major
hurdle in the process of credit cycle. Though complete elimination of such losses is not possible, but
financial institutions can always aim to keep the losses at a low level.
Study includes Public Sector Banks, Private Sector Banks, Scheduled Urban Co-operative Banks and Non-
Banking Financial Institutions and includes the views of borrowers, facilitators who are directly or indirectly
connected with the banks and financial institutions. Comparative analysis has been carried out between the
banks & NBFCs and analysis is carried out on issues like priority sectors, agricultural lending, weaker
sections, other Priority, Gross and Net Profit and Loss.
A detailed study has been worked upon development of banks and financial institutions. While this
comparative analysis, we have made an attempt to rationalise the causes and preventive measures to be
adopted by banks & NBFCs. The Legal frame work is analysed under the study to bring notice to the
regulators which put in use may reduce the level of NPA. Subsequently case study were analysed and
incorporated in the later chapter of the research and has imparted valuable suggestion to reduce NPA and
increase the profit. NPA are those loans given by banks or financial institutions which borrowers default in
making payment of principal amount or interest. When a bank & NBFCs are not able to recover the loan
given or not getting regular interest on such loan, the flow of funds in financial institutions gets affected.
Also the earning capacity is adversely affected. This has direct and immediate impact on bank & NBFCs
profitability and efficiency. Under the prudential norms, banks & NBFS are not allowed to book any income
from NPA. Also they have to make necessary provisions for NPA which affects the profitability adversely.
Lower profitability of banking & NBFS sector affects its growth and expansion. NPA is double edged
sword. On one hand banks & NBFCs cannot recognize interest income on NPA and on the other hand, it is a
drain of their profitability. Moreover profits earned are required to be diverted for provision on NPA. The
high level of NPA is dangerous to the very existence of financial institutions.
Many financial institutions in East Asian countries had to close down due to high level of NPA. The future
picture of Commercial banks more so the banks & financial institution seem to be brighter. Study suggests
that the NPAs of banks & FI will decline marginally both in terms of Gross and Net figures over years. This
may be due to higher provisions, which the banks & NBFCs have been providing. The real issues are
percentage of NPA declining over the years but the absolute figures seem to be increasing. A strong banking
sector is important for a flourishing economy. The failure of the banking sector may have an adverse impact
on other sectors. Credit to priority sectors have higher NPAs, due to increase in outstanding amount in
priority sector the banks face problems in further disbursement and increase their existing profits.
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2. ABSTRACT
Banking industry plays a pivotal in the socio economic development of the country. This role is played by
banks by extending credit to various deficit sectors for their growth and development. This credit creation
process leads to credit risk which will lead non-performing asset. While the primary function of banks is to
lend funds as loans to various sectors such as agriculture, industry, personal loans, housing loans etc., in
recent times the banks have become very cautious in extending loans.
The current study was undertaken to study non performing assets of banks &
NBFCs. The reason being mounting non-performing assets (NPAs), NPA account not only reduces
profitability of banks & NBFCs by provisioning in the profit and loss account, but their carrying cost is also
increased which results in excess & avoidable management attention. Apart from this, a high level of NPA
also puts strain on a their net worth because banks & NBFCs are under pressure to maintain a desired level
of Capital Adequacy and in the absence of comfortable to assess the health of various categories of loan
assets in various categories of banks.
The individual banks got ranks as per their
performance in management of NPA’s. It was also tested, whether there is significant difference between
nonperforming assets of banks, it was found that there is significant difference in the level of NPA‟s of
banks & NBFCs which reflect their varied efficiency in the management of nonperforming assets.
KEY WORDS:
Capital Adequacy, Growth, Nationalized Banks, Non-Performing Assets, Socio Economic Development.
Importance or Need of the Study
Before the establishments of banks, the financial activities were handled by money lenders & individuals. At
the time of interest rates were very high. Again there were no security of public savings and no uniformity
regarding loans. So as to overcome such problems the organized banking sector was established, which was
fully regulated by the Govt. The organized banking sector works within the financial system to provide
loans, accept deposits and provide other services to their customers. The following functions of the banks
explain the need of the bank and its importance,
To provide security to the saving of customers
To control the supply of money and credit
To encourage public confidence in the working of the financial system, increase savings speedily and
efficiently
To avoid focus of financial powers in the hands of a few individuals and institutions
To set equal norms and conditions (rate of interest, period of lending etc.) to all type of customers
3. Introduction of
In a country like India, large section of the population is under-banked. The penetration of mortgages and
consumer finance is also very low compared to not just the developed economies but even the other
emerging economies. This suggests that financial services space has great potential for lot of growth in the
coming times.

Here we will look at how to analyse Banks and Non-Banking Finance Companies (NBFC). We will go
through various concepts and ratios that can help to analyse these companies.
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The mind map below shows the broad structure of Banks and NBFCs.

Non-Banking Financial Company (NBFC)

A Non-Banking Financial Company (NBFC) is a company registered under the Companies Act, 1956
engaged in the business of loans and advances, acquisition of shares/stocks/bonds/debentures/securities
issued by Government or local authority or other marketable securities of a like nature, leasing, hire-
purchase, insurance business, chit business but does not include any institution whose principal business is
that of agriculture activity, industrial activity, purchase or sale of any goods (other than securities) or
providing any services and sale/purchase/construction of immovable property. A non-banking institution
which is a company and has principal business of receiving deposits under any scheme or arrangement in
one lump sum or in instalments by way of contributions or in any other manner, is also a non-banking
financial company (Residuary non-banking company).
In consolidation of the banking sector, we have to focus on the NBFCs and Unincorporated Bodies and
thinks in terms of integrating them in financial system along with the banks. In India, moneylenders, chits
and other type of financial institutions play a very large role in the credit markets for the unorganised sectors
in trade, restaurants, transport, construction, and service activities. It is to be noted that the market
knowledge and information regarding these activities like retail trade are not fully available with the
commercial banker on updated basis. By and large public sector banks have been geared to ‘Asset Based
Lending’ rather lending based on the forecast cash flows. Activities like trade, transport, hotels and
restaurants, constructions etc., there are significant fluctuations in cash flows on a daily basis. In other words
risk assessment capabilities are not adequate in the context of these activities. Also funds need to be
available to these players without much paper work and based on personal assessment. Hence, the NBFC
mostly finances these activities in consolidation of banking sector should focus on integrating credit markets
which comprises of banking and non-banking sector.
Any consolidation should evaluate the following:
 Reduction in interest cost, and hence benefits the ultimate consumer;
 Enhancing the credit delivery mechanisms;
 Introduction of rating processes at retail level;
 Creating a level playing field when global players enter the Indian markets;
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 Reversing the inverse relationship between the size of borrowing and the cost of borrowing
Hence it is necessary for the Indian financial market to bring about the restructuring of the banking sector by
comparing or merging banking sector and non-banking sector ensure the growth of the economy along with
the adequate availability of the credit to the fast growing sectors of the economy.
Financial activity as principal business is when a company’s financial assets constitute more than 50 per cent
of the total assets and income from financial assets constitute more than 50 per cent of the gross income. A
company which fulfils both these criteria will be registered as NBFC by RBI. The term 'principal business' is
not defined by the Reserve Bank of India Act. The Reserve Bank has defined it so as to ensure that only
companies predominantly engaged in financial activity get registered with it and are regulated and
supervised by it. Hence if there are companies engaged in agricultural operations, industrial activity,
purchase and sale of goods, providing services or purchase, sale or construction of immovable property as
their principal business and are doing some financial business in a small way, they will not be regulated by
the Reserve Bank. Interestingly, this test is popularly known as 50-50 test and is applied to determine
whether or not a company is into financial business.

3.1 Structure of NBFIs sector in India

3.2 Difference between banks & NBFCs

NBFCs lend and make investments and hence their activities are akin to that of banks; however there are a
few differences as given below:
i. NBFC cannot accept demand deposits;
ii. NBFCs do not form part of the payment and settlement system and cannot issue cheques drawn on itself;
iii. Deposit insurance facility of Deposit Insurance and Credit Guarantee Corporation is not available to
depositors of NBFCs, unlike in case of banks.
3.3 Procedure for Registration of NBFC’s with the Reserve Bank of India
In terms of Section 45-IA of the RBI Act, 1934, no Non-banking Financial company can commence or carry
on business of a non-banking financial institution without a) obtaining a certificate of registration from the
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Bank and without having a Net Owned Funds of ₹ 25 lakhs (₹ Two crore since April 1999). However, in
terms of the powers given to the Bank, to obviate dual regulation, certain categories of NBFCs which are
regulated by other regulators are exempted from the requirement of registration with RBI viz. Venture
Capital Fund/Merchant Banking companies/Stock broking companies registered with SEBI, Insurance
Company holding a valid Certificate of Registration issued by IRDA, Nidhi companies as notified under
Section 620A of the Companies Act, 1956, Chit companies as defined in clause (b) of Section 2 of the Chit
Funds Act, 1982, Housing Finance Companies regulated by National Housing Bank, Stock Exchange or a
Mutual Benefit company.
A company incorporated under the Companies Act, 1956 and desirous of commencing business of non-
banking financial institution as defined under Section 45 I (a) of the RBI Act, 1934 should comply with the
following:
i. It should be a company registered under Section 3 of the companies Act, 1956
ii. It should have a minimum net owned fund of ₹ 200 lakh. (The minimum net owned fund (NOF) required
for specialized NBFCs like NBFC-MFIs, NBFC-Factors)
The applicant company is required to apply online and submit a physical copy of the application along with
the necessary documents to the Regional Office of the Reserve Bank of India. The application can be
submitted online by accessing RBI’s secured website https://cosmos.rbi.org.in. At this stage, the applicant
company will not need to log on to the COSMOS application and hence user ids are not required. The
company can click on “CLICK” for Company Registration on the login page of the COSMOS Application.
A window shows the Excel application form for download. The company can then download suitable
application form (i.e. NBFC or SC/RC) from the above website, key in the data and upload the application
form. The company may note to indicate the correct name of the Regional Office in the field “C-8” of the
“Annex-Identification Particulars” in the Excel application form. The company would then get a Company
Application Reference Number for the CoR application filed on-line. Thereafter, the company has to submit
the hard copy of the application form along with the supporting documents to the concerned Regional
Office. The company can then check the status of the application from the above mentioned secure address,
by keying in the acknowledgement number.
3.4 Different types/categories of NBFCs registered with RBI
NBFCs are categorized a) in terms of the type of liabilities into Deposit and Non-Deposit accepting NBFCs,
b) non deposit taking NBFCs by their size into systemically important and other non-deposit holding
companies (NBFC-NDSI and NBFC-ND) and c) by the kind of activity they conduct. Within this broad
categorization the different types of NBFCs are as follows:
I. Asset Finance Company (AFC) : An AFC is a company which is a financial institution carrying on as its
principal business the financing of physical assets supporting productive/economic activity, such as
automobiles, tractors, lathe machines, generator sets, earth moving and material handling equipment,
moving on own power and general purpose industrial machines. Principal business for this purpose is
defined as aggregate of financing real/physical assets supporting economic activity and income arising
therefrom is not less than 60% of its total assets and total income respectively.
II. Investment Company (IC): IC means any company which is a financial institution carrying on as its
principal business the acquisition of securities,
III. Loan Company (LC): LC means any company which is a financial institution carrying on as its
principal business the providing of finance whether by making loans or advances or otherwise for any
activity other than its own but does not include an Asset Finance Company.
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IV. Infrastructure Finance Company (IFC): IFC is a non-banking finance company,

a) Which deploys at least 75 per cent of its total assets in infrastructure loans?
b) Has a minimum Net Owned Funds of ₹ 300 crore,
c) Has a minimum credit rating of ‘A ‘or equivalent,
d) and a CRAR of 15%.
V. Systemically Important Core Investment Company (CIC-ND-SI):
CIC-ND-SI is an NBFC carrying on the business of acquisition of shares and securities which satisfies the
following conditions:-
(a) It holds not less than 90% of its Total Assets in the form of investment in equity shares, preference
shares, debt or loans in group companies;
(b) It’s investments in the equity shares (including instruments compulsorily convertible into equity shares
within a period not exceeding 10 years from the date of issue) in group companies constitutes not less than
60% of its Total Assets;
(c) It does not trade in its investments in shares, debt or loans in group companies except through block sale
for the purpose of dilution or disinvestment;
(d) it does not carry on any other financial activity referred to in Section 45I(c) and 45I(f) of the RBI act,
1934 except investment in bank deposits, money market instruments, government securities, loans to and
investments in debt issuances of group companies or guarantees issued on behalf of group companies.
(e) Its asset size is ₹ 100 crore or above and
(f) It accepts public funds
VI. Infrastructure Debt Fund: Non- Banking Financial Company (IDF-NBFC):
IDF-NBFC is a company registered as NBFC to facilitate the flow of long term debt into infrastructure
projects. IDF-NBFC raise resources through issue of Rupee or Dollar denominated bonds of minimum 5
year maturity. Only Infrastructure Finance Companies (IFC) can sponsor IDF-NBFCs.
VII. Non-Banking Financial Company - Micro Finance Institution (NBFC-MFI):
NBFC-MFI is a non-deposit taking NBFC having not less than 85% of its assets in the nature of qualifying
assets which satisfy the following criteria:
a. loan disbursed by an NBFC-MFI to a borrower with a rural household annual income not exceeding ₹
1,00,000 or urban and semi-urban household income not exceeding ₹ 1,60,000;
b. loan amount does not exceed ₹ 50,000 in the first cycle and ₹ 1,00,000 in subsequent cycles;
c. total indebtedness of the borrower does not exceed ₹ 1,00,000;
d. tenure of the loan not to be less than 24 months for loan amount in excess of ₹ 15,000 with prepayment
without penalty;
e. loan to be extended without collateral;
f. aggregate amount of loans, given for income generation, is not less than 50 per cent of the total loans
given by the MFIs;
g. loan is repayable on weekly, fortnightly or monthly instalments at the choice of the borrower
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VIII. Non-Banking Financial Company – Factors (NBFC-Factors):

NBFC-Factor is a non-deposit taking NBFC engaged in the principal business of factoring. The financial
assets in the factoring business should constitute at least 50 % of its total assets and its income derived from
factoring business should not be less than 50 % of its gross income.
IX. Mortgage Guarantee Companies (MGC) :
MGC are financial institutions for which at least 90% of the business turnover is mortgage guarantee
business or at least 90% of the gross income is from mortgage guarantee business and net owned fund is ₹
100 crore.
X. NBFC- Non-Operative Financial Holding Company (NOFHC)
is financial institution through which promoter / promoter groups will be permitted to set up a new bank .It’s
a wholly-owned Non-Operative Financial Holding Company (NOFHC) which will hold the bank as well as
all other financial services companies regulated by RBI or other financial sector regulators, to the extent
permissible under the applicable regulatory prescriptions.
3.5 Residuary Non-Banking Companies (RNBCs)
Residuary Non-Banking Company is a class of NBFC which is a company and has as its principal business
the receiving of deposits, under any scheme or arrangement or in any other manner and not being
Investment, Asset Financing, Loan Company. These companies are required to maintain investments as per
directions of RBI, in addition to liquid assets. The functioning of these companies is different from those of
NBFCs in terms of method of mobilization of deposits and requirement of deployment of depositors' funds
as per Directions. Besides, Prudential Norms Directions are applicable to these companies also.
4. NBFC Market
So far, non-banking finance companies (NBFCs) have scripted a great success story. Their contribution to
the economy has grown in leaps and bounds from 8.4% in 2006 to above 14% in March 2015.1 In terms of
financial assets, NBFCs have recorded a healthy growth—a compound annual growth rate (CAGR) of 19%
over the past few years—comprising 13% of the total credit and expected to reach nearly 18% by 2018–19.2
With the on-going stress in the public sector banks due to mounting bad debt, their appetite to lend
(especially in rural areas) is only going to deteriorate, thereby providing NBFCs with the opportunity to
increase their presence. The success of NBFCs can be clearly attributed to their better product lines, lower
cost, wider and effective reach, strong risk management capabilities to check and control bad debts, and
better understanding of their customer segments. Not only have they shown success in their traditional
bastions (passenger and commercial vehicle finance) but they have also managed to build substantial assets
under management (AUM) in the personal loan and housing finance sector which have been the bread and
butter for retail banks. Going forward, the latent credit demand of an emerging India will allow NBFCs to
fill the gap, especially where traditional banks have been wary to serve. Additionally, improving
macroeconomic conditions, higher credit penetration, increased consumption and disruptive digital trends
will allow NBFC’s credit to grow at a healthy rate of 7–10% (real growth rate) 3 over the next five years.
Clearly, NBFCs are here to stay.
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According to RBI’s recent financial stability report, aggregate balance sheet size of the NBFC sector was Rs
22.1 lakh crore as of March 2018 and borrowings grew at 19.1 per cent during FY17-18, loans and advances
increased 21.2 per cent and investments increased 13.4 per cent.
Asset quality and capital adequacy of NBFC have also improved during FY17-18. For instance, GNPAs as a
percentage of total advances decreased from 6.1 per cent in 2016-17 to 5.8 per cent in 2017-18 and CRAR
(capital to risk-weighted asset ratio) increased from 22.0 per cent in 2016-17 to 22.9 per cent in 2017-18.

As per extant guidelines, NBFCs are required to maintain a minimum capital level consisting of tier-I and
tier-II capital, of not less than 15 per cent of their aggregate risk-weighted assets.

NBFCs have emerged as important financial intermediaries, particularly for the small-scale and retail
sectors, underserved areas and unbanked sectors and it is expected that this will continue to present a big
growth opportunity in the days to come.
Also, PSU banks working on cleaning up their balance sheets have been losing out to NBFCs in incremental
loan disbursals. The government’s increased thrust on infrastructure and rural sectors will aid growth and is
expected to give a fillip to the NBFC companies engaged in infrastructure financing.

The sector looks promising with strong signs of revival in the commercial vehicles market. Also, regulatory
restrictions on overloading of vehicles and phasing out of old diesel vehicles will Also, PSU banks working
on cleaning up their balance sheets have been losing out to NBFCs in incremental loan disbursals. The
government’s increased thrust on infrastructure and rural sectors will aid growth and is expected to give a
fillip to the NBFC companies engaged in infrastructure financing.

The sector looks promising with strong signs of revival in the commercial vehicles market. Also, regulatory
restrictions on overloading of vehicles and phasing out of old diesel vehicles will cut demand for
commercial vehicles (CVs). Smothered demand post GST and a pickup in construction and mining activities
would also continue to drive demand. Higher income, lower penetration and lower cost of capital will also
boost long-term demand.
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Moreover, the sector will see growth due to projected improvement in vehicle penetration by 35 per cent in
next five years (20 vehicles per 1,000 to 27 vehicles per 1,000 population). Capacity utilisation of the
passenger vehicle industry has increased to 77 per cent in FY17-18 from 68 per cent in FY15-16 and is
expected to continue rising. GST rollout and its boost to the logistics sector is expected to aid growth in the
medium term.

This sector has witnessed diverse investment structures ranging from strategic investments, private equity
investments to debt funding through the NBFC route. With rising innovation and growth in the sector, newer
business models such as ‘account aggregators’ and ‘P2P Lending’ are speeding up. The sector has been
benefitting from the lower interest rate regime and a massive growth in underpenetrated sectors, where the
reach of banks was limited.

Banks’ funding to NBFCs increased 27 per cent during FY2018, while the banking system’s credit growth
remained muted at 8 per cent for the period.

The sector plays a critical role in the core development of infrastructure, transport, employment generation,
wealth creation opportunities and financial support for the economically weaker sections. Besides, the sector
also makes a huge contribution to the state exchequer.
Moreover, it is to be supported by growing urban population, demand from schools and corporate and
increased inter-city travel. Some of the NBFCs such as HDFC (mortgage loans), Mahindra Finance (agri
finance), Power Finance Corporation NSE 2.02 % (power finance) & Shriram Transport Finance (pre-owned
commercial vehicle finance) have established presence in specialised segments.

LIC Housing Finance, HDFC, Bajaj Finserve, Indiabulls Housing Finance, L&T Finance Holdings, Shriram
Transport, Bajaj Holding, M&M Financial Service, Edelweiss Finance and GRUH Finance have been some
of the leading growth drivers in this sector.

4.1 Factors contributing to the growth of NBFCs:

• Stress on public sector units (PSUs)
• Latent credit demand
• Digital disruption, especially for micro, small and medium enterprises (MSMEs) and small and medium
enterprises (SMEs)
• Increased consumption
• Distribution reach and sectors where traditional banks do not lend
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4.2 Way forward for NBFCs

For a large and diverse country such as India, ensuring financial access to fuel growth and entrepreneurship
is critical. With the launch of government-backed schemes (such as the Pradhan Mantri Jan-Dhan Yojana
[PMJDY]), there has been a substantial increase in the number of bank accounts; however, a mere 15%5 of
adults have reported using an account to make or receive payments. The government and regulatory bodies
have taken decisive steps to increase this number (and subsequently financial access) by granting in
principal licenses to as many as 21 players to establish specialty banks over the next 18 months. This is over
and above the focussed approach of the other industry bodies such as the National Payments Corporation of
India (NCPI) to further strengthen and augment the payments ecosystem by launching the Unified Payment
Interface (UPI) and Bharat Bill Payments System.
The introduction of such specialised players and systems will truly transform the banking value chain in its
entirety. This presents a strategic opportunity for NBFCs to ensure sustainable growth over a long term.
Partnerships with payments banks, bill payment providers and other financial institutions, such as insurance
and asset management companies, will help NBFCs offer the complete proposition—that is, from deposits to
lending, investments and transactions. The reach of NBFCs, along with their strong understanding of the
market, can help them position themselves as a better alternative to the traditional ways of banking.
Furthermore, the Indian consumer is increasingly adopting digital as a way of daily life. India is currently
the second biggest smartphone market, with a user base of 220 million, and is expected to cross 300 million
users by 2017. To stay relevant in such an environment, NBFCs need to rethink their strategy to enhance
their product portfolio (positioning and pricing), processes (internal and customer facing) and end-to-end
customer experience. Additionally, they need to leverage the vast digital (and social) customer data available
to be able to serve customers better. The absence of income proofs or IT returns due to temporary/self-
employment are some of the primary reasons for the tepid credit penetration in India. Digital and social data
can often act as a surrogate to such documents to help NBFCs make better credit decisions. With the launch
of the Digital India programme, a flagship programme of the Government of India to digitally empower
society, NBFCs will have to find ways to serve the millennial customers through digital means.
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ANNEX-I
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ANNEX-II
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5. Banking Industry
A bank is a financial institution licensed to receive deposits and make loans. Banks may also provide
financial services, such as wealth management, currency exchange and safe deposit boxes. There are two
types of banks: commercial/retail banks and investment banks.
Banking is an industry that handles cash, credit, and other financial transactions. Banks provide a safe place
to store extra cash and credit. They offer savings accounts, certificates of deposit and checking accounts.
Banks use these deposits to make loans. These loans include home mortgages, business loans, and car loans.
Banking is one of the key drivers of the economy. Why? It provides the liquidity needed for families and
businesses to invest for the future. Bank loans and credit mean families don't have to save up before going to
college or buying a house. Companies can start hiring immediately to build for future demand and
expansion.

5.1 How It Works

Banks are a safe place to deposit excess cash. Banks also pay a small percentage, the interest rate, on the
deposit. They make money by charging higher interest rates on their loans than they pay for deposits. Banks
act as payment agents by conducting checking or current accounts for customers, paying cheques drawn by
customers in the bank, and collecting cheques deposited to customers' current accounts. Banks also enable
customer payments via other payment methods such as Automated Clearing House (ACH), Wire transfers or
telegraphic transfer, EFTPOS, and automated teller machines (ATMs).
Banks borrow money by accepting funds deposited on current accounts, by accepting term deposits, and by
issuing debt securities such as banknotes and bonds. Banks lend money by making advances to customers on
current accounts, by making instalment loans, and by investing in marketable debt securities and other forms
of money lending.
Banks provide different payment services, and a bank account is considered indispensable by most
businesses and individuals. Non-banks that provide payment services such as remittance companies are
normally not considered as an adequate substitute for a bank account.
Non-Performing Asset (NPA)
A nonperforming asset (NPA) refers to a classification for loans or advances that are in
default or are in arrears on scheduled payments of principal or interest. In most cases,
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debt is classified as nonperforming when loan payments have not been made for a period
of 90 days. While 90 days of non-payment is the standard, the amount of elapsed time may be shorter or
longer depending on the terms and conditions of each loan.
Nonperforming assets are typically listed on the balance sheet of banks. Banks usually categorize loans as
nonperforming after 90 days of non-payment of interest or principal, which can occur during the term of the
loan or at maturity. For example, if a company with a ₹ 10 crore loan with interest-only payments of ₹
50,000 per month fails to make a payment for three consecutive months, the lender may be required to
categorize the loan as nonperforming to meet regulatory requirements. A loan can also be categorized as
nonperforming if a company makes all interest payments but cannot repay the principal at maturity.
Non-Performing Asset (NPA) is the lead indicator of the asset book
 Gross NPA :
Tells about the overall level of delinquencies of the net NPA
 Net NPA :
Indicates the amount of bad loan waiting to be written off, from the book of accounts.
Consider an example: A bank has gross NPA of 2% and net NPA of 0.5%. It indicates that bank has written
off 1.5% (2-0.5) of its bad loans against its incomes. This write off is 75% (1.5/2) of the total bad loans.
The write off in the above example is known as provision coverage ratio (PCR)
 The RBI stipulates all banks to have a PCR of at least 70%.
 Banks that have a PCR of less than that will have to increase provisioning.
 Hence they get impacted by reporting lower profits in the subsequent quarters.
6.1 Types of Nonperforming Assets
Although the most common nonperforming assets are term loans, there are six other ways loans and
advances are NPAs:
 Overdraft and cash credit (OD/CC) accounts left out-of-order for more than 90 days
 Agricultural advances whose interest or principal instalment payments remain overdue for two
crop/harvest seasons for short duration crops or overdue one crop season for long duration crops
 Bill overdue for more than 90 days for bills purchased and discounted
 Expected payment is overdue for more than 90 days in respect of other accounts
 Non-submission of stock statements for 3 consecutive quarters in case of cash-credit facility
 No activity in the cash credit, overdraft, EPC, or PCFC account for more than 91 days
Banks are required to classify nonperforming assets in one of three categories according to how long the
asset has been non-performing: sub-standard assets, doubtful assets, and loss assets. A sub-standard asset is
an asset classified as an NPA for less than 12 months. A doubtful asset is an asset that has been non-
performing for more than 12 months. Loss assets are assets with losses identified by the bank, auditor, or
inspector and have not been fully written off.
5.2 NPA’s of NBFC
Non-banking financial companies (NBFCs) have taken strong roots in the Indian financial sector. NBFCs
target niche segments of the population and mostly help small businesses or salaried employees with their
 21

momentary needs. After banks and insurance companies, NBFCs hold the number three position in the
Indian financial system—while banks could manage to grow credit at 5.1% in the final quarter of the last
fiscal year, NBFCs could register a credit growth of 250% more than banks, i.e. 13%. According to a recent
study by RBI, NBFCs are much ahead of commercial banks in managing NPAs, and their asset quality is
also far better than banks. Unprecedented growth the demands and aspirations of India’s middle-class are
growing speedily and gadgets like laptops, smartphones and LED TVs are common needs of almost every
household, especially in the urban culture of the country. Besides, life is difficult for many without a
personal vehicle—if not a car, a motorised two-wheeler is a must for families in metros and large cities.
Their monthly income doesn’t allow them to purchase such items at one go, and taking a personal loan from
a commercial bank is lengthier as well as a costlier affair.
So, NBFCs are the best alternatives for them to borrow money through quick and simple procedures. On the
other hand, empowered with data analytics, advanced profile-check algorithms, smart credit rating system
and fast verification tools, NBFCs can successfully meet the demands and expectations of their customers. It
is worth noticing that NPAs and gross bad loans of the NBFC sector reduced from 2.7% to 2.3% and from
4.9% to 4.4%, respectively, during September 2016 to March 2018. These improved figures clearly indicate
that NBFCs are impressively effective in the exploitation of their resources despite a double-digit annual
growth in the balance sheet of 2016-18.
5.3 NPA’s of Banks
Indian banks' gross non-performing assets (NPAs), or bad loans, stood at Rs 10.25 lakh crore as on 31
March 2018. On quarter, the pile has grown by Rs 1.39 lakh crore or 16 percent from Rs 8.86 lakh crore as
on 31 December 2017. This chunk now accounts for 11.8 percent of the total loans given by the banking
industry. For financial year 2018, the total bad loans of these banks rose by a whopping Rs 3.13 lakh crore.
Taking note of the alarming bad loans situation, the Narendra Modi-led government, last year, announced an
Rs 2.11 lakh crore bank recapitalisation plan to pull out state-run banks from the mess. As much as 90
percent of the above-mentioned sticky assets are on the books of government-owned banks.
A break-up of the NPAs shows that 21 public sector banks (PSBs) saw their bad loans pile grow by Rs 1.19
lakh crore (or 15.4 percent) to Rs 8.97 lakh crore in the March 2018 quarter, compared to December 2017's
figures, while that of 18 private banks surged by Rs 19,446 crore or 17.9 percent to Rs 1.28 lakh crore in the
March 2018 quarter from Rs 1.09 lakh crore in the December 2017 quarter.
After making provisions, the net bad loans of these banks stood at Rs 5.18 lakh crore in the March 2018
quarter as against Rs 4.69 lakh crore in the December 2017 quarter.
Industry leader, the State Bank of India (SBI), which tops the NPA chart, has logged an increase of Rs
24,286 crore in bad loans in the March quarter to Rs 2.23 lakh crore. The Nirav Modi scam-hit Punjab
National Bank (PNB) has reported the maximum rise of Rs 29,100 crore in gross NPAs to Rs 86,620 crore
in the March quarter. Barring the Bank of India (BOI) and Oriental Bank of Commerce (OBC), most other
PSBs' also recorded a rise in bad loans during the quarter. While Bank of India's gross bad loans declined by
Rs 1,920 crore in the March quarter, that of OBC was down by Rs 1,417 crore.
Among private banks, the gross NPAs of ICICI Bank and Axis Bank have risen significantly. ICICI Bank's
bad loans pile grew by Rs 8,024 crore or 17.4 percent in the March 2018 quarter to Rs 54,063 crore; Axis
Bank's widened by Rs 9,248 crore or 37 percent to Rs 34,249 crore in the March 2018 quarter from Rs
25,001 crore during the December 2017 quarter.
The Modi government has time and again blamed the previous UPA-regime for the bad loan mess, saying
NPAs are a legacy issue. It isn't clear whether the government has grasped the gravity of the situation.
Indeed, the government has taken steps to address the bad loans mess like the NPA ordinance, giving the
 22

central bank more power to direct banks to take action against loan defaulters, and the passage of the
Insolvency and Bankruptcy Code (IBC).
While these steps are welcome, they are unlikely to help solve the bad loans problem in the immediate
future. It will take years before banks can get rid of NPAs, accumulated over the years on account of
multiple factors.
5.4 TYPES OF NPA
Non-Performing Assets of banks can be divided into two parts.
Gross NPA:
Gross NPAs are the sum total of all loan assets that are classified as NPAs as per RBI guidelines as on
Balance Sheet date. Gross NPA reflects the quality of the loans made by banks. It consists of all the
nonstandard assets like as sub-standard, doubtful, and loss assets. It can be calculated with the help of
following ratio:
Gross NPAs Ratio = Gross NPAs / Gross Advances
Net NPA:
Net NPAs are those type of NPAs in which the bank has deducted the provision regarding NPAs. Net NPA
shows the actual burden of banks. Since in India, bank balance sheets contain 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 NPAs according to the central bank guidelines, are quite significant. That is why the difference
between gross and net NPA is quite high. It can be calculated by following
Net NPAs = Gross NPAs – Provisions / Gross Advances – Provisions

6.5 NPAs can be classified in three categories:

Sub-standard Assets: With effect from March 31, 2005, a substandard asset would
be one, which has remained NPA for a period less than or equal to 12 months.
Doubtful Assets: With effect from March 31, 2005, an asset would be classified as
doubtful if it has remained in the sub-standard category for a period of 12
months.
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 rescue or recovery value.

FACTORS FOR RISE IN NPAs

The banking sector has been facing the serious problems of the rising NPAs. But the problem of NPAs is
more in public sector banks when compared to private sector banks and foreign banks. The NPAs in PSB are
growing due to external as well as internal factors.
 23

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.
Willful Defaults
There are borrowers who are able to pay back loans but
areintentionally withdrawing it. These groups of people should beidentified 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 are
duced profit. Mainly ours farmers depends on rain fall for cropping.
Dueto irregularities of rain fall the farmers are not to achieve theproduction 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 banks record the nonrecovered 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. The fallout of handloom sector is
continuing as most of the weavers Co-operative societies have become defunct largely due to withdrawal
of state patronage. The rehabilitation plan worked out by the Central government to revive the handloom
sector has not yet been implemented. So the over dues due to the handloom sectors are becoming NPAs.
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
 24

i. Principles of safety:-
By safety it means that the borrower is in a position to repay theloan both principal and interest. The
repayment of loan depends upon the borrowers:
a. Capacity to pay
b. Willingness to pay
Capacity to pay depends upon:
1. Tangible assets
2. Success in business
Willingness to pay depends on:
1. Character
2. Honest
3. Reputation of borrower
The banker should, therefore take utmost care in ensuring that the enterprise or business for which a loan is
sought is a sound oneand the borrower is capable of carrying it out successfully .heshould be a person of
integrity and good character.
Inappropriate technology
Due to inappropriate technology and management informationsystem, market driven decisions on real time b
asis can not betaken. Proper MIS and financial accounting system is notimplemented 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
analysisis another reason for rise in NPAs. While providing unsecuredadvances 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 borrower’s 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 loanWhen bankers give loan, he should analyze the purpose of the loan. To ensure safety
and liquidity, banks should grantloan for productive purpose only. Bank should analyze
theprofitability, viability, long term acceptability of the projectwhile financing.
 25

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 notable to repay it back. They should use good credit appraisal to decrease the
NPAs.
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. Marketability2.
Acceptability3. Safety4. 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, andOrissa 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

6.7 The Problems caused by NPAs: NPAs do not just reflect badly in a bank’s account books, they
adversely impact the national economy.
7. New NPAs
a. A critical analysis of NPAs in various banks reveals that in addition to priority sector, advances to large
industries also forms part of NPAs. The share of small advances of rural sector is very small compared to the
large advances. NPAs in percentage terms in some of the priority sector advances may be higher but
quantum wise, its contribution to total NPAs is not very significant. Whereas percentage of NPAs in case of
large advances may be lower but it forms the major chunk of the total 18 NPAs. Priority sector advances, as
 26

a percentage of NPAs may be higher, but quantity-wise, are not a high figure. Large advances, as a
percentage of NPAs are lower, but quantity-wise is a higher figure.
b. Non-performing Asset (NPA) has emerged since over a decade as an alarming threat to the banking
industry in our country sending distressing signals on the sustainability of the affected banks. The positive
results of the chain of measures affected under banking reforms by the Government of India and RBI in
terms of the two Narasimham Committee Reports in this contemporary period have been neutralized by the
ill effects of this surging threat. Despite various correctional steps administered to solve and end this
problem, concrete results are eluding. It is a sweeping and all pervasive virus confronted universally on
banking and financial institutions. The severity of the problem is however actually suffered by Public Sector
banks, Private Sector Banks & Co-operative banks & NBFC
7.1 Following are some of the impacts of NPAs:
1. Depositors do not get rightful returns and many times may lose uninsured deposits. Banks may begin
charging higher interest rates on some products to compensate Non-performing loan losses
2. Bank shareholders are adversely affected
3. Bad loan simply redirecting of funds from good projects to bad ones. Hence, the economy suffers due to
loss of good projects and failure of bad investments
4. When bank do not get loan repayment or interest payments, liquidity problems may ensue.
7.2 Result of NPAs on an organization
1. Decrease profitability.
2. Reduce capital assets and lending limits.
3. Increase loan loss reserves.
7.3 How to reduce NPA? –
Non-Performing Assets can be reduced by taking some major steps by the banks. Some steps are as follows
by which bank can reduce NPA –
1. SARFAESI ACT 2002
The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act,
2002
(SARFAESI) empowers Banks / Financial
Institutions to recover their non-performing assets without the intervention of the Court.
The Act provides three alternative methods for recovery of non-performing assets, namely: –
i. Securitisation
ii. Asset Reconstruction
iii. Enforcement of Security without the intervention of the Court.
The provisions of this Act are applicable only for NPA loans with outstanding above Rs.1.00 lac. NPA loan
accounts where the amount is less than 20% of the principal and interest are not eligible to be dealt with
under this Act.
 27

Non-performing assets should be backed by securities charged to the Bank by way of hypothecation or
mortgage or assignment. Security Interest by way of Lien, pledge, hire purchase and lease not liable for
attachment under sec.60 of CPC, are not covered under this Act
The Act empowers the Bank:
(i.) To issue demand notice to the defaulting borrower and guarantor, calling upon them to discharge their
dues in full within 60 days from the date of the notice.
(ii.) To give notice to any person who has acquired any of the secured assets from
the borrower to surrender the same to the Bank.
(iii.) To ask any debtor of the borrower to pay any sum due or becoming due to the
borrower.
(iv.) Any Security Interest created over Agricultural Land cannot be proceeded with.
If on receipt of demand notice,
the borrower makes any representation or raises any objection, authorised officer shall consider such
representation or objection carefully and if he comes to the conclusion that such representation or objection
is not acceptable or tenable, he shall communicate the reasons for non-acceptance within one week of
receipt of such representation or objection.
A borrower / guarantor aggrieved by the action of the Bank can file an appeal with DRT and then with
DRAT, but not with any civil court. The borrower / guarantor have to deposit 50% of the dues before an
appeal with DRAT.
If the borrower fails to comply
with the notice, the Bank may take recourse to one or more of the following
measures:
(i) Take possession of the security
(ii) Sale or lease or assign the right over the security
(iii) Manage the same or appoint any person to manage the same
2. Lok Adalats:
Lok Adalat is for the recovery of small loans. According to RBI guidelines issued in 2001, they cover NPA
up to Rs.5 lakhs, both suit filed and non-suit filed are covered.
3. Compromise Settlement:
It is a scheme which provides a simple mechanism for recovery of NPA. It is applied to advances below
Rs.10 Crores.
4. Credit Information Bureau:
A Credit Information Bureau help banks by maintaining a data of an individual defaulter and provides this
information to all banks so that they may avoid lending to him/her.
5. Debt Recovery Tribunals:
The debt recovery tribunal act was passed by Indian Parliament in 1993 with the objective of facilitating the
banks and financial institutions for speedy recovery of dues in cases where the loan amount is Rs.10 lakhs
and above.
6. Asset Reconstruction companies
 28

For banks with a high NPA portfolio, the Committee suggests consideration of two alternative approaches to
the problem as an alternative to the ARF. In the first approach, all loan assets in the doubtful and loss
categories - which in any case represent bulk of the hard core NPAs in most banks, should be identified and
their realisable value determined. These assets could be transferred to an Asset Reconstruction Company
(ARC) which would issue to the banks NPA Swap Bonds representing the realisable value of the assets
transferred, provided the stamp duties are not excessive.
NPA is part of the operational risk of the banking industry. NPA can be reduced and managed a certain level
by a prudential banker. Before account turn NPA it gives signals, which type of accounts should be
categorised as Special Mentioned Account (SMA) and treatment should be given accordingly:

(i) The account should be categorised as SMA 1 if overdue remains for 30 days & SMA 2 if remains
overdue more than 30 days to 89 days. Efforts for recovery of overdue within the time to be done. Regular
follow-up and notices should be sent to borrower
(ii) Restructuring/rescheduling/re negotiation of the terms of loan agreement in Term loan in case to case
basis in case of need
(iii) Recovery of interest in CC/OD account be done.
(iv) Submission of stock statement and financial data within the prescribed time limit.

These are some steps to manage (Recover and Reduce) NPA in Banking Sector. BANKING is a business
establishment. Where there is business, RISK is a MUST. Any business, for example Provision store, Hotel,
Service centre etc., One has to lose some amount of money. In private banks like ICICI, AXIS, HDFC, etc.
Risk is very less, so the NPAs. Whereas In PSU banks (nationalised banks) RISK is very much HIGH. So
the NPAs. PSU banks acts as per the instructions of Government. GOAL of PSU banks is SUB KA SAATH
AND SUB KA VIKAS. Every employee of PSU Banks, have to follow the guidelines of Government and at
the same time they have to choose the customer (borrower) who is good and creditworthy which is very
difficult to find. In such an environment, they have to serve in the bank so that NPAs are brought to the
minimum level. RISK cannot be eliminated. They have to manage the risk so that it is to the minimum level.
8.How Govt. & RBI tries to speed up NPA recovery
The government is set to promulgate an Ordinance to help banks tackle the menace of mounting bad loans,
which is denting profits of lenders, slowing credit flow to industry and hurting the economy.
8.1 Amendment in banking law to give RBI more powers
The Banking Regulation Act may be amended to give RBI more powers to monitor bank accounts of big
defaulters.
The amendment in the banking law will enable setting up of a committee to oversee companies that have
been the biggest defaulters of loans.
RBI wants stricter rules for joint lenders’ forum (JLF) and oversight committee (OC) to curb NPAs.
While the present law allows the government to direct RBI to carry out inspection of a lender, there is no
provision for setting up oversight committees.
Also, there could be changes in the laws, which will bar a bank to extend loans to a defaulting company that
has failed to repay to other banks.
8.2 Stringent NPA recovery rules
The government has over the years enacted and tweaked stringent rules to recover assets of defaulters.
 29

The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act or
Sarfaesi Act of 2002 was amended in 2016 as it took banks years to recover the assets.
Experts have pointed out that the NPA problem has to be tackled before the time a company starts
defaulting. This needs a risk assessment by the lenders and red-flagging the early signs of a possible default.
8.3 RBI’s loan restructuring schemes
RBI has over the past few decades come up with a number of schemes such as corporate debt restructuring
(CDR), formation of joint lenders’ forum (JLF), flexible structuring for long-term project loans to
infrastructure (or 5/25 Scheme), strategic debt restructuring (SDR) scheme and sustainable structuring of
stressed assets (S4A) to check the menace of NPAs.
In many cases, the companies have failed to make profits and defaulted even after their loans were
restructured.
8.4 Present NPA scenario
The non-performing asset issue facing banks has dominated headlines for several months now and the fact
that we are still unsure of whether or not all have been recognised does cause some discomfort. In this
context it is compelling to see how the Indian banking system stands on a global yardstick.
This is important because NPAs have resulted due to several judgment calls made in the past, which in
hindsight were incorrect. Lending operations in the banking system are linked with expectations of how the
economy will behave. If the economy is growing at a fast pace, it is assumed that the same will prevail in
future. The problem hence, is that there always seem to be progressive expectations when the economy does
well. This is where judgement gets blurred and errors get into the system as credit evaluation goes awry.
Reserve Bank of India said that banks will witness further deterioration in their non-performing assets
(NPAs) or bad loans due to the "economic situation prevailing" in the current fiscal year.
As per RBI the gross non-performing assets (GNPAs) plus restructured standard advances in the banking
system remained elevated at 12.1 per cent of gross advances at end-March 2018. The stress tests carried out
by the Reserve Bank suggested that under the baseline assumption of the current economic situation
prevailing, the GNPA ratio of scheduled commercial banks (SCBs) may increase further in 2018-19. The
aggregate gross NPAs of SCBs increased primarily as a result of this transparent recognition of stressed
assets as NPAs, from Rs3,23,464 crore, as on March 31, 2015 to Rs10,35,528 crore, as on March 31, 2018.
NPAs in public sector banks (PSBs) increased by about Rs 6.2 lakh crore between March 2015 and March
2018.
Industry leader, the State Bank of India (SBI), which tops the NPA chart, has logged an increase of Rs
24,286 crore in bad loans in the March quarter to Rs2.23 lakh crore. The Nirav Modi scam-hit Punjab
National Bank (PNB) has reported the maximum rise of Rs29,100 crore in gross NPAs to Rs86,620 crore in
the March quarter. Barring the Bank of India (BoI) and Oriental Bank of Commerce (OBC), most other
PSBs' also recorded a rise in bad loans during the quarter. While Bank of India's gross bad loans declined by
Rs1,920 crore in the March quarter, that of OBC was down by Rs1,417 crore.
Among private banks, the gross NPAs of ICICI Bank and Axis Bank have risen significantly. ICICI Bank's
bad loans pile grew by Rs8,024 crore or 17.4 percent in the March 2018 quarter to Rs54,063 crore; Axis
Bank's widened by Rs9,248 crore or 37 percent to Rs34,249 crore in the March 2018 quarter from Rs25,001
crore during the December 2017 quarter.
 30

8.5 Banks may need to take a “hair cut”

In the past few quarters, most of the banks especially PSU lenders, have reported a sharp fall in profits as
they set aside hefty amounts for losses on account of NPAs, which eroded their profits.
 31

Given the gravity of the problem, the government asked banks to go for more “hair cut” or write offs for
NPAs.
The government and RBI come up with a one-time settlement scheme for top defaulters before initiating
stringent steps against them.
The finance ministry and RBI are also considering setting up of a “bad bank” to deal with the problem of
non-performing loans, as it has been suggested by chief economic adviser Arvind Subramanian in the
Economic Survey.
Reserve Bank deputy governor Viral Acharya has also floated the twin concept of Private Asset
Management Company (PAMC) and National Asset Management Company (NAMC) for resolution of
stressed assets.
With rule changes and strict regulations, banks asked to restructure about 50 large NPA accounts by
December, 2017.
9. To avoid future bank NPA crises, here’s what needs to be done
After years of struggle, the government finally brought in the Insolvency and Bankruptcy Code, 2016, that
subsumed many existing laws, including the Sick Industrial Companies Act, and became the overarching
legislation to address corporate insolvency. The new law provided requisite institution building in which the
Insolvency and Bankruptcy Board of India (IBBI) plays a pivotal role. MS Sahoo, the chairperson of IBBI,
in an interview with Banikinkar Pattanayak and KG Narendranath, dwells upon the nuances of the new
regime. He said that although the extant NPA problem of banks needs to be addressed separately, an
efficient insolvency resolution system will enable the lenders to act before things get out of control and
preempt such crises in the future.
10. How does the new insolvency resolution process work and who can trigger it?
If a corporate has defaulted on a payment obligation—loan or otherwise, a financial creditor, an operational
creditor, an employee, or the corporate debtor itself can trigger the corporate insolvency resolution process.
It needs to make an application before the National Company Law Tribunal (NCLT) along with the evidence
of default. If default is established, the NCLT admits the application and appoints an interim insolvency
professional (IRP). The IRP practically becomes de facto managing director of the corporate and exercises
the powers of the Board of Directors. The officers of the corporate report and the promoters extend all
cooperation and assistance to the IRP. He runs the operations of corporate as a going concern up to 30 days
during which he collects the claims of various people and forms a committee of creditors. The committee
consists of financial creditors and, where there are no financial creditors, it consists of operational creditors.
Thereafter, the committee gets to decide what to do with the corporate. It also appoints a resolution
professional (RP) in place of IRP. If it feels that the insolvency isn’t resolvable, it may decide to liquidate
the corporate. If it does not approve a resolution plan within 180 days with 75% majority, the corporate also
gets into liquidation. If it comes out with a resolution plan, the RP submits it to NCLT for approval.
11. Why aren’t big lenders such as banks using this law much to recover their loans?
Banks as creditors, in fact, have many options to recover loans. Being sophisticated creditors, they evaluate
suitability of various options and choose the one that works the best. The Code provides creditors an
additional option to resolve insolvency, while they may work outside the Code. Banks need to have in a
place a framework that would guide the hierarchy when to trigger a resolution, who to trigger it, what kind
of insolvencies to be resolved, how to identify an appropriate IRP, etc. which may take a little time. It is not
a fact that banks are not using this law. The very first application admitted (in the matter of Innoventive
Industries Ltd) for resolution was filed by the ICICI Bank. It is, however, important to note that irrespective
of the person who initiated the insolvency proceedings, the financial creditors form the committee of
 32

creditors and approve the resolution plan. Further, there is an alert as soon as there is a default of 1 lakh.
This made parties to sit up and take a view at the earliest instance of default. This prevents ballooning of
default to dangerous proportions. Second, the fear of loss of control over the corporate prevents the debtor
from default unless it is absolutely unavoidable. This will reduce the incidence of default and build-up of
NPAs.
Here we have some ratios that can help to analyse performance of a Bank/NBFCs
Price to Book (P/B)
 A low P/B bank is not always a better option than the one which trades at higher P/B. Some reasons
for a bank to trade at lower P/B:
o It generates a low ROE even after using lot of leverage.
o There is not enough predictability of growth because of its past history
o The market expects some deterioration in asset book of the bank.
Return on Assets (ROA)
 ROA of above 1.3% is considered good and anything beyond 1.6% is excellent.
 It’s important to look the quality of net profit income.
o Same ROA but with higher share of interest income which is more recurring in nature is
better than ROA but with higher share of trading income which is more non recurrent in
nature.
Net Interest Margin (NIM)
NIM is like the gross margin of a normal business.
 Banks engaged in unsecured retail lending generates higher NIM but also suffer from incrementally
bad loans which balances out the higher margins.
 In general NIM hovers between 2.75% to 4.25 with the better managed banks generating a NIM of
4% and above.
NIM is reported in the quarterly/annual results. It can also be calculated by following formula:
NIM = Net Interest Income (Interest Income- Interest Income)
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Average Earning Assets

Cost to Income Ratio

The Cost to income ratio indicates the level of operating cost for each unit of income.
Cost to Income ratio = Operating expenses
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Net Interest Income (NII) + Non Interest Income

Capital Adequacy Ratio (CAR)

CAR indicates the % of owner’s capital as a percentage of risk weighted assets.
Capital Adequacy Ratio (CAR) = Tier I Capital + Tier II Capital
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Risk Weighted Assets

Some pointers related to CAR:

 CAR is inversely proportional to its leverage on balance sheet and beyond a point the leverage
cannot be increased as the RBI prescribes a minimum level of CAR.
 CAR also indicates how long the bank can continue to grow without raising further capital
 As CAR approaches RBI’s stipulated ratio, bank cannot grow at rates higher than its (ROE- pay-out
ratio) and it will need to dilute further equity to shore up capital