In a key measure for the banking sector, RBI announced a one-time restructuring of loans without classifying them as NPAs.
What is the restructuring of loans?
Corporate restructuring is done by converting a portion of the debt into equity or other non-marketable, non-convertible debt securities issued by the borrower. Basically banks and NBFCs now have the option to convert debt to equity within the company – thus partially mitigating the systemic risk of rising NPAs
The COVID 19 pandemic has put a cloud over the health of the banking sector of India. While Moratorium has been given to several borrowers till August 31, 2020 – it remains to be seen whether many businesses will be able to service the debt post that due to the economic void COVID 19 has left on various Industries.
The latest NPA projections depict a tough time for the Banking and NBFC Industry as a whole. As per RBIs stress testing models, NPAs in Private sector banks can rise from 8.5% to 12.5% under the baseline scenario and could worsen to 14.5% if the economic conditions worsen.
For PSBs, the GNPAs could rise from the current 11.3% as of March 2020 to 15.2% by March 2021 or 17.5% if conditions worsen. Such a high amount of NPAs post a systemic risk to the entire Industry. One of the earliest indicators for the worsening health of a bank is a look at its Capital adequacy Ratio. The capital adequacy ratio (CAR) is a measurement of a bank’s available capital expressed as a percentage of a bank’s risk-weighted credit exposures.
An early indicator of a bank’s worsening health would be the Total Gross NPAs as a figure coming closer to the Capital adequacy Ratio. A bank with NPAs of 16% and Capital adequacy ratio – (which indicates how much capital it has to absorb all the bad loans) at 15% would pose a serious risk to the health of the banks. With a view to mitigating this risk, the RBI has proposed a one-time loan restructuring under a panel that will be headed by KV Kamath.
The restructuring will be done for 3 types of loans;
- Corporate loans
- Personal loans
- MSME loans
Resolution framework for Corporate and personal loans ;
- Eligibility – Only those borrower accounts classified as standard, but not in default for more than30 days (i.e. non-overdue or SMA 0) with any lending institution as on March 1, 2020, shall be eligible.
- The resolution plan has to be invoked by Dec 31 2020 and has to be implemented in 90 days for corporate loans and 180 days for personal loans.
- Lending institutions may allow extension of the residual tenor of the loan, with or without payment moratorium, by a period not more than 2 years.
- Lenders will have to keep 10% and 20% provisions of the post-resolution debt for corporate and personal loans effectively.
Framework for MSME debt;
- Eligibility – The aggregate exposure, (including non-fund based facilities), of banks and NBFCs to the borrower does not exceed INR 250mn as on March 1, 2020. The borrower’s account was a ‘standard asset’ as on March 1, 2020.
- The restructuring has to be completed by March 31, 2020.
- Banks shall maintain additional provision of 5% over and above the provision already
held by them, for accounts restructured under these guidelines.
While these measures are noteworthy, it remains to be seen whether execution is swift. Previous restructuring exercises had been delayed and thus made them ineffective.
But one thing is certain. The months ahead could pose a systemic risk to the banking sector. Only well-capitalized banks and NBFCs will be equipped to weather the storm.
