For public sector banks, the situation appears to have taken a particularly dire turn since the quarter ended June 2011

The current economic downturn is proving to be a testing time for banks, with asset quality concerns coming sharply to the fore yet again. The gross non-performing assets (GNPAs) of banks was 2.9 per cent as at the end of March 2012. Critically restructured assets and NPAs, which have surged sharply in the past year and a half, will rise further in 2012-13 and aggravate asset quality concerns in the banking system.

The worries over asset quality are more so in the case of public sector banks (PSBs) which account for around 80 per cent of the banking credit. The difference between PSBs and private banks is starkly evident when one looks at absolute numbers.

During 2011-12, GNPAs of PSBs grew by Rs.39,000 crore compared to only Rs.500 crore in the case of private banks. For private banks, this enormous difference is a reflection of better credit underwriting norms, recoveries and upgradations.

In addition to the worsening macro-economic scenario, factors that drove this marked deterioration in asset quality of PSBs during 2011-12 include sharp upward movement in interest rates, volatile currency and commodity markets, and the adoption of a system-based NPA recognition that caused a sudden spike in GNPAs from the small retail and agri-based portfolio. The major sectors that fuelled this rising trend in NPAs are real estate, textile, aviation and infrastructure (specifically, power and telecom segments), in addition to priority sector loans.

For PSBs, the situation appears to have taken a particularly dire turn since the June 2011 quarter. As the accompanying chart shows, restructured assets, as a percentage of advances, were over 7 per cent at the end of the June 2012 quarter compared with 4.8 per cent as of June 2011.

More importantly, what stands out in loan restructuring this time when compared with 2008-09 and 2009-10 is that it is not just small borrowers who are facing problems with loan repayments, but large corporates as well. In the present phase, over two-thirds of the loans restructured (until December 2011) had a ticket size of over Rs.1,000 crore.

This qualitative change is also indicated by a fairly sharp increase in the number of corporate debt restructuring (CDR) cases.

From 59 in the 12 months ended June 2011, the number of cases referred to CDR increased to 110 in 12 months ended June 2012, and the corresponding amount of loan referred has shot up to Rs.83,800 crore from Rs.24,600 crore.

Infrastructure, telecom, ship-breaking, iron and steel and construction account for around 70 per cent of the loans referred to CDR during the 12 months ended June 2012.

The large quantum of restructuring is also a reflection of the prevailing stress on corporate India’s credit quality because of lower profitability, weak demand and tight liquidity.

Asset quality will deteriorate further if restructured accounts slip into the GNPA category. And indications are that this is already happening. As of March 2012, close to 14 per cent of restructured advances for 14 PSBs (together accounting for around 65 per cent of advances) were classified as GNPA, up from around 11 per cent as of March 2011.

It is evident that both profitability and capital adequacy of PSBs will be severely hit if a significant proportion of the restructured assets turn out to be non-performing assets. With India’s GDP growth in 2012-13 expected to slip to 5.5 per cent from 6.9 per cent in 2011-12 and the global economic situation still seeming extremely fragile, the risk of slippages appears highly plausible.

Gross NPAs of the banking system as a percentage of advances are, therefore, likely to touch 3.5 per cent by March 2013.

At the moment, the comfortable capital position in the banking system acts as a buffer to these risks. In particular, credit risk profiles of many PSBs are underpinned by expectations of continued support from the Central Government.

Nevertheless, in the short run, closer monitoring of restructured accounts to prevent slippages and sale of some non-performing assets would help in conserving capital.

The author is Director, Crisil Research, a division of Crisil.

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