Interim report

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An INTERIM REPORT ON COMPARATIVE ANALYSIS ON NON PERFORMING ASSETS OF PRIVATE AND PUBLIC SECTOR BANKS SUBMITTED IN PARTIAL FULFILLMENT OF REQUIRMENT OF PG Programe IBS Mumbai SUBMITTED BY: Gaurav Gupta 09BS0000775 Session: 2009-2011 ACKNOWLEDGEMENT With a deep sense of gratitude I express we thanks to all those who have been instrumental in the development of the project report. I am also grateful to IBS Mumbai, who gave me a valuable opportunity of involving me in real live business project. I am thankful to all the professors whose positive attitude, guidance and faith in my ability spurred me to perform well. I am also indebted to all lecturers, friends and associates for their valuable advice, stimulated suggestions and overwhelming support without which the project would not have been a success. INTRODUCTION The accumulation of huge non-performing assets in banks has assumed great importance. The depth of the problem of bad debts was first realized only in early 1990s. The magnitude of NPAs in banks and financial institutions is over Rs.1,50,000 crores. While gross NPA reflects the quality of the loans made by banks, net NPA shows the actual burden of banks. Now it is increasingly evident that the major defaulters are the big borrowers coming from the non-priority sector. The banks and financial institutions have to take the initiative to reduce NPAs in a time bound strategic approach. Public sector banks figure prominently in the debate not only because they dominate the banking industries, but also since they have much larger NPAs compared with the private sector banks. This raises a concern in the industry and academia because it is generally felt that NPAs reduce the profitability of a banks, weaken its financial health and erode its solvency. For the recovery of NPAs a broad framework has evolved for the management of NPAs under which several options are provided for debt recovery and restructuring. Banks and FIs have the freedom to design and implement their own policies for recovery and write-off incorporating compromise and negotiated settlements. RESEARCH METHODOLOGY Type of Research The research methodology adopted for carrying out the study were

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In this projectDescriptive research methodologies were use.

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At the firststage theoretical study is attempted.

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At the secondstage Historical study is attempted.

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At the Thirdstage Comparative study of NPA is undertaken.Scope of the Study Concept of Non Performing Asset Guidelines Impact of NPAs Reasons for NPAs Preventive Measures Tools to manage NPAs Sampling plan To prepare this Project we took five banks from public sector as well as five banks from private sector. OBJECTIVES OF THE STUDY The basic idea behind undertaking the Grand Project on NPA was to: To evaluate NPAs (Gross and Net) in different banks.

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To study thepast trends of NPA

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To calculate theweighted of NPA in risk management in Banking

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To analyze financialperformance of banks at different level of NPA

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To evaluate profitabilitypositions of banks

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To evaluate NPAlevel in different economic situation.

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To Know theConcept of Non Performing Asset

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To Knowthe Impact of NPAs

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To Know theReasons for NPAs

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To learn PreventiveMeasures Source of data collection The data collected for the study was secondary data in Nature. Introduction to the topic The three letters “NPA” Strike terror in banking sector and business circle today. NPA is short form of “Non Performing Asset”. The dreaded NPA rule says simply this: when interest or other due to a bank remains unpaid for more than 90 days, the entire bank loan automatically turns a non performing asset. The recovery of loan has always been problem for banks and financial institution. To come out of these first we need to think is it possible to avoid NPA, no can not be then left is to look after the factor responsible for it and managing those factors. Definitions: An asset, including a leased asset, becomes non-performing when it ceases to generate income for the bank. A ‘non-performing asset’ (NPA) was defined as a credit facility in respect of which the interest and/ or instalment of principal has remained ‘past due’ for a specified period of time. With a view to moving towards international best practices and to ensure greater transparency, it has been decided to adopt the ‘90 days’ overdue’ norm for identification of NPAs, from the year ending March 31, 2004. Accordingly, with effect from March 31, 2004, a non-performing asset (NPA) shall be a loan or an advance where; Interest and/ or instalment of principal remain overdue for a period of more than 90 days in respect of a term loan, The account remains ‘out of order’ for a period of more than 90 days, in respect of an Overdraft/Cash Credit (OD/CC), The bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted, Interest and/or instalment of principal remains overdue for two harvest seasons but for a period not exceeding two half years in the case of an advance granted for agricultural purposes, and Any amount to be received remains overdue for a period of more than 90 days in respect of other accounts. As a facilitating measure for smooth transition to 90 days norm, banks have been advised to move over to charging of interest at monthly rests, by April 1, 2002. However, the date of classification of an advance as NPA should not be changed on account of charging of interest at monthly rests. Banks should, therefore, continue to classify an account as NPA only if the interest charged during any quarter is not serviced fully within 180 days from the end of the quarter with effect from April 1, 2002 and 90 days from the end of the quarter with effect from March 31, 2004. 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. EXTERNAL FACTORS :- ---------------------------------- Ineffective recovery tribunal

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The Govt. hasset 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, their by reducing their profitability and liquidity.

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Willful DefaultsThereare borrowers who are able to payback 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

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This is themeasure 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.

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Mainly oursfarmers 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.

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Industrial sickness

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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.

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Lack of demand

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Entrepreneurs in Indiacould 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 non recovered part as NPAs and has to make provision for it.

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Change on Govt.policies

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With every newgovt. 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.

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The fallout ofhandloom 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.

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INTERNAL FACTORS :-

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Defective Lending process

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There are threecardinal principles of bank lending that have been followed by the commercial banks since long.

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Principles of safety

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Principle of liquidity

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Principles of profitability

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Principles of safety:-

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By safety itmeans that the borrower is in a position to repay the loan both principal and interest. The repayment of loan depends upon the borrowers:

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Capacity to pay

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Willingness to payCapacityto 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, there fore 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

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Due to inappropriatetechnology and management information system, market driven decisions on real time basis can not 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.

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Improper SWOT analysis

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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.

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Banks should considerthe borrowers own capital investment.

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it shouldcollect credit information of the borrowers from_

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From bankers.

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Enquiry from market/segmentof trade, industry, business.

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From external creditrating agencies.

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Analyze thebalance sheet.

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True picture ofbusiness will be revealed on analysis of profit/loss a/c and balance sheet.

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Purpose of theloan

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When bankers giveloan, 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.

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Poor credit appraisalsystem

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Poor credit appraisalis 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.

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Managerial deficiencies

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The banker shouldalways select the borrower very carefully and should take tangible assets as security to safe guard its interests. When accepting securities banks should consider the_

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1. Marketability

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2. Acceptability

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3. Safety

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4. Transferability.

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The banker shouldfollow 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.

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Like OSCB sufferedloss 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).

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Absence of regularindustrial visit

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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.

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Re loaning process

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Non remittance ofrecoveries to higher financing agencies and re loaning of the same have already affected the smooth operation of the credit cycle.

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Due to reloaning to the defaulters and CCBs and PACs, the NPAs of OSCB is increasing day by day.Types of NPA A] 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 non standard 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 B] 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 REPORTING FORMAT FOR NPA – GROSS AND NET NPA Name of the Bank: Position as on……… PARTICULARSGross Advanced *Gross NPA *Gross NPA as %age of Gross AdvancedTotal deduction( a+b+c+d )( a ) Balance in interest suspense a/c **( b ) DICGC/ECGC claims received and held pending adjustment ( c ) part payment received and kept in suspense a/c( d ) Total provision held ***Net advanced ( 1-4 )Net NPA ( 2-4 )Net NPA as a %age of Net Advance *excluding Technical write-off of Rs.________crore. **Banks which do not maintain an interest suspense a/c to park the accrued interest on NPAs may furnish the amount of interest receivable on NPAs. ***Excluding amount of Technical write-off (Rs.______crore) and provision on standard assets. (Rs._____crore). Impact of NPA Profitability:- NPA means booking of money in terms of bad asset, which occurred due to wrong choice of client. Because of the money getting blocked the prodigality of bank decreases not only by the amount of NPA but NPA lead to opportunity cost also as that much of profit invested in some return earning project/asset. So NPA doesn’t affect current profit but also future stream of profit, which may lead to loss of some long-term beneficial opportunity. Another impact of reduction in profitability is low ROI (return on investment), which adversely affect current earning of bank. Liquidity:- Money is getting blocked, decreased profit lead to lack of enough cash at hand which lead to borrowing money for shorter period of time which lead to additional cost to the company. Difficulty in operating the functions of bank is another cause of NPA due to lack of money. Routine payments and dues. Involvement of management:- Time and efforts of management is another indirect cost which bank has to bear due to NPA. Time and efforts of management in handling and managing NPA would have diverted to some fruitful activities, which would have given good returns. Now day’s banks have special employees to deal and handle NPAs, which is additional cost to the bank. Credit loss:- Bank is facing problem of NPA then it adversely affect the value of bank in terms of market credit. It will lose it’s goodwill and brand image and credit which have negative impact to the people who are putting their money in the banks. Early symptoms by which one can recognize a performing asset turning in to Non-performing asset Four categories of early symptoms:- --------------------------------------------------- ( 1 ) Financial: Non-payment of the very first installment in case of term loan. Bouncing of cheque due to insufficient balance in the accounts. Irregularity in installment. Irregularity of operations in the accounts. Unpaid over due bills. Declining Current Ratio. Payment which does not cover the interest and principal amount of that installment. 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: Use for personal comfort, stocks and shares by borrower. Avoidance of contact with bank. Problem between partners. ( 4 ) Others: Changes in Government policies. Death of borrower. Competition in the market. Preventive Measurement For NPA Early Recognition of the Problem:- Invariably, by the time banks start their efforts to get involved in a revival process, it’s too late to retrieve the situation- both in terms of rehabilitation of the project and recovery of bank’s 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 promoter’s 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. 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 funding through the controlling offices in deserving cases, and help avert many accounts slipping into NPA category. Timeliness and Adequacy of response:- Longer the delay in response, greater the injury to the account and the asset. Time is a crucial element in any restructuring or rehabilitation activity. The response decided on the basis of techno-economic study and promoter’s commitment, has to be adequate in terms of extend of additional funding and relaxations etc. under the restructuring exercise. The package of assistance may be flexible and bank may look at the exit option. Focus on Cash Flows:- While financing, at the time of restructuring the banks may not be guided by the conventional fund flow analysis only, which could yield a potentially misleading picture. Appraisal for fresh credit requirements may be done by analyzing funds flow in conjunction with the Cash Flow rather than only on the basis of Funds Flow. 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 unit’s 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. Multiple Financing:- 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. 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. Toward 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 non-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. 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 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. 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.

Interim report

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