Bad loans: Banks sleeping at the wheel

Non-performing assets (NPAs) have always been a part of the credit function in banks. It is only after the regulator introduced the concept of income recognition and provisioning in the 80s, tightening the definition of NPAs and provisioning norms, that they have assumed greater importance. Adoption of the Basel guidelines on capital adequacy made it a critical segment. For the third quarter of this year, most banks reported a decline in profits, citing the burgeoning NPAs. The fears of the rating agencies, which are sceptical about the assets quality and health of the banks, have been confirmed.

Gross NPAs showed signs of easing for a couple of years, but are moving menacingly towards the 4 per cent mark. The problem is so widespread that a CEO of a major PSB could defend the low profits as a fall-out of decline in asset quality, and not change in incumbency. Normal growth in credit could have, to some extent, improved the earnings and salvaged the ratios, but the economic slowdown and higher inflation and interest rates have dampened investments.

Increasing Frauds

If a critical analysis is made, some worrying aspects do surface. Increasing number of frauds has contributed in no small measure to the problem. The acts of criminal minds in financial transactions, internal or external, including cyber crime, are labelled ‘fraud’ and are reported to the RBI. These do not, however, fully reflect the magnitude of the problem. A clear trend of defrauding the banks is emerging. The amounts lost in transaction frauds or theft pale into insignificance if the amounts involved in NPAs due to misrepresentation, falsification of accounts, diversion of funds, cheating, forgery and wilful default are considered.

Believing it to be safe lending, all banks pushed for housing loans in a big way. While percentages may provide a false comfort, the sheer number of cases where banks were cheated, some times several banks by the same person, with fake or forged documents runs into thousands. If the notices of sale or auction appearing in the press daily are any indication, many loans seem to have been granted without meticulous verification of the KYC norms, the earnings or the repayment capacity of the borrowers.

A common modus operandi of the fraudsters is to sell off the property or mortgage it to other banks, using multiple copies of the documents. In the era of colour printers it is difficult to make out the genuineness, except by a thorough verification at the registration office. This is time-consuming and beset with practical difficulties, too. With the records not updated in some States even for 5 to 7 years and there being no system of issuing encumbrance certificates in some others, it reads like a horror story. The advocates have to wade through voluminous haphazardly stored papers to verify.

Wilful default

The number of camouflaged fraudulent borrowings in the trade, manufacturing and services sectors is on the upswing. What is more alarming is that an increasing number of large value or corporate borrowers are resorting to false information and fake or forged documents for obtaining credit.

The failure of the banks to make a critical and realistic appraisal of credit needs and have efficient credit management practices at all levels, makes it that much easier for a dishonest borrower. Banks have to help themselves by not rushing through the sanctions, in the name of competition. It is a paradox that applicants still complain about delays.

Prudence or due diligence need not result in delays. But negligence of basics of banking can lead to frauds. Outsourcing most functions such as project appraisal, verification of documents, inspection of securities and their valuation, scrutiny of accounts and books, verification of stocks, internal audit and even recovery, have the bankers lost their professional touch? Is it because of volumes or reluctance to face accountability?

Realising that the entire exercise of recovery is ending in knots, the government and the RBI thought it fit to have a national register of bank mortgages as a self-help measure. But it will take time to stabilise, as in many States, the revenue and municipal records need to be streamlined and updated. Promotion of Credit Information Bureau (CIBIL) for building the credit history of borrowers is another initiative by the RBI.

Slow Recovery

The recovery process is slow and painful, despite creation of DRTs and introducing the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act (SARFAESI). Several borrowers become wilful defaulters, only to take advantage of the one-time settlement (OTS) system and gain. Having enjoyed the funds, interest apart, they bargain for discount in the principal. Anxious to reduce NPAs and at their wits end, finding no better alternative, banks fall for the OTS bait, sacrificing substantial amounts.

The DRTs and the SARFAESI act procedures involve interventions of police and revenue machinery and finally courts, leading to delays up to several years. The work load has also multiplied manifold over the years. Stays are sought and granted routinely, rendering the process ineffective. DRTs frequently stay proceedings under the SARFAESI Act which is not envisaged.

The Board of Industrial and Financial Reconstruction, which was to be wound up, is going strong and promptly stays recovery proceedings, unable to dispose of the cases for years on. Borrowers know this too well and after several years, throw the bait of OTS at the frustrated bankers.

If some banks successfully reach the stage of disposal of properties, influential defaulters ensure that no one participates in the auctions. For fear of litigation about the price and procedure, banks shy away from private sale. They settle for sale of debts to asset recovery and management companies at deep discount, as a last resort.

Illusive securities

Only banks with security of immovable property can hope to recover some dues. Traditionally, stocks of goods or commodities, machinery and book debts were considered good liquid securities.

But not any more. Once an account is irregular or becomes an NPA the stocks do a vanishing trick or the banks find them of no value. Mostly machineries and fixtures are either not available or of only scrap value, by the time the bankers could lay their hands on them, overcoming the various hurdles.

Book debts are like mirages; either mere statements submitted by the borrowers or the certificates given by the chartered accountants. Bankers seem to have forgotten the skill of verifying and monitoring the book debts. No details of transactions or contact particulars or any supporting documents are available with the banks.

Banks cannot deny credit for want of securities, particularly if there are not any. The RBI and governments prodding the banks to achieve targets for sectors such as exports, even those who have enough means, avoid offering any securities. Thanks to Export Credit Guarantee Corporation (ECGC), some relief is at hand. Ultimately, it boils down to banks substantially upgrading their appraisal skills and monitoring methods of scrutiny, verification, checks and cross checks. Self-help is the best help.

They need to look more inwards.

The author is former MD, State Bank of Mysore.

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