Sanjiv Bajaj is not known to mince words. The 50-year-old Bajaj family scion, who runs India's largest non-banking consumer finance company with 43 million customers, has been vocal in opposing the six-month moratorium on loan payments announced by the Reserve Bank of India (RBI) to help borrowers tide over the cash crunch due to the Covid-19 lockdown. "It can alter credit behaviour of customers," warns the younger son of industrialist Rahul Bajaj.
This vice chairman of Bajaj Finance has a point. Consider the moral hazard created by massive farm loan waivers that has affected credit discipline of farmers. "A longer moratorium does bring a risk if things are bleak on the economic front," says Chandan Sinha, a Director on board of State Bank of India, India's largest bank. But Sinha, who has had a long stint with the RBI, says, "Things have to look up."
This is what every banker must be praying for considering the huge loan payments that are stuck because of the moratorium. Under the moratorium, which ends in August this year, banks and non-banking finance companies (NBFCs) do not have to classify loans that turn bad during this period as non-performing assets (NPAs). This means the first batch of Covid-related NPAs will hit the street in the December quarter. The exact damage will be known only by January next year.
New NPA Cycle
Bank NPAs fell for the first time in seven years in FY19, when gross NPAs settled around Rs 9 lakh crore, roughly 9 per cent of advances. But before bankers got any breathing space, the lockdown set the ball rolling for a new NPA cycle.
"The banking sector is looking a lot more exposed today than in the previous NPA cycle," says Saswata Guha, Director at Fitch Ratings. The reasons are likely negative GDP growth in FY21, low credit growth, high NPAs, shrinking capital and lower profitability. "The banking system was in a better shape when it had entered the last NPA cycle," says Guha.
The numbers bear this out. Some public sector banks (PSBs) have reported that 65-70 per cent of their loan book is under moratorium. For most private sector banks, the figure is one-third. The outstanding term loan book was Rs 59.52 lakh crore on December 31, 2019. As per RBI estimates, Rs 38.68 lakh crore is under the six-month moratorium. In a worst-case scenario, 20 per cent of this, or Rs 8 lakh crore, can turn bad. This will double bank NPAs (9 per cent at present).
Agencies have made various estimates of how each loan segment will behave. India Ratings and Research has estimated FY21 corporate slippages alone at Rs 3.4 lakh crore. "The incremental stress is mainly from power, infrastructure, construction, hospitality, iron & steel, telecom and realty sectors," it says. The MSME segment, with loan outstanding of over Rs 15 lakh crore, is next in line. "MSMEs have been enjoying benefits of past restructuring also. The current guarantee and other support will also help. Their problem (loans turning NPAs) will get postponed for a year or two," says a banker. PSBs are more exposed to the MSME segment than private sector banks.
In retail, the biggest worry for large private banks such as ICICI Bank, HDFC Bank and Axis Bank is unsecured loans, especially personal loans and credit cards. Take Federal Bank. Its 35 per cent loan book is under moratorium. Its assessment has found that 5-6 per cent of the retail book under moratorium is at high risk. In case of Bandhan Bank and small finance banks, almost 90 per cent of the micro loan book is under moratorium. Bandhan is very active in the small loan space. But R. Baskar Babu, MD & CEO of Suryoday Small Finance Bank, is positive and says small finance banks have a much better personal touch with customers than other institutions and so will emerge out of the crisis relatively unscathed. "This is a crisis which tells you about the personal connect with customers if you are in retail lending," says Babu. NBFCs are on a much weaker wicket than banks as most of their customers have irregular incomes.
The stress will unfold after the lockdown opens. Experts say considerable pain awaits financial services companies.
Prudence & Conservatism
The moratorium will certainly make borrowers more indebted as lenders add interest for the period the payments are stopped. The interest accrued to banks but not paid is estimated to be Rs 2 lakh crore for the six-month period. "Creditworthiness of a borrower is also likely to fall because of depressed economic activity," says Saswata of Fitch Ratings.
Banks are clearly in uncharted territory considering that the economy will shrink this year after growing for several decades on a trot. At present, special mention accounts (SMAs), the potentially risky accounts with less than 90 days default, add up to Rs 4 lakh crore. The RBI has, as a precaution, has asked banks to make 10 per cent provisioning for these accounts in March and June quarters. However, no provisioning is needed for a large part of the Rs 40 lakh crore moratorium book, where there is high possibility of fresh NPAs considering that those who have opted for delayed payments are under a severe cash crunch. These include companies in aviation, real estate, construction, hospitality sectors, all of which have been badly hit by Covid-19. Similarly, a number of individuals who have opted for the moratorium are workers of mid-sized enterprises that have announced job and salary cuts.
Banks know they will have to make extra provisioning to keep themselves safe from these future NPAs. ICICI Bank has already made Covid-related provisioning of Rs 2,725 crore against standard assets. This includes Rs 607 crore for SMA accounts, as per the RBI rule, for the March quarter. Bandhan Bank has made a provisioning of Rs 690 crore for FY20, of which Rs 64 crore is for SMA accounts. In fact, Bandhan made the entire 10 per cent provisioning for SMA accounts (5 per cent each for March and June quarters) in March quarter itself. Axis Bank and Small Finance Bank Equitas also made the entire SMA provisioning in March quarter itself.
The worried banks have started testing the moratorium book for stress. They are analysing borrowers based on past default, age, leverage, company profile (level of Covid impact), geography (green, orange, red or containment zone).
A young borrower who has taken the moratorium will be seen as a lower risk as he or she is likely to work for more years. Banks are working with credit bureaus like CIBIL and Experian for this. "We have the capability of identifying and creating segmentation of borrowers," says Sathya Kalyanasundaram, Managing Director, Experian India. So, banks doing fresh lending after the moratorium period will be able to know if the customer has taken the moratorium option in the past. The will become a starting point for fresh lending.
Banks are also segmenting their loan book under different sub-segments. Take the retail book, where micro loans, commercial vehicle loans, personal loans and credit card dues are more prone to default. Similarly, in the MSME book, Mudra loans and farm sector loans require closer scrutiny. These are the segments where banks have seen high moratorium requests. Amitabh Chaudhry, MD & CEO of Axis Bank, recently assured investors the bank has stress-tested its entire portfolio. Banks are also making an assessment of collateral considering that its value will fall if GDP shrinks. Experts say PSBs will be the hardest hit due to high proportion of book under moratorium (65-70 per cent) as against 25-30 per cent for private banks, though they add that corporate book of PSBs may face more headwinds but retail book of PSBs is in a far better shape than that of private banks. "Our retail book mostly comprises home loans," says Samuel Joseph Jebaraj, Deputy MD at IDBI Bank.
Uday Kotak, the promoter of Kotak Mahindra Bank, which recently raised capital from the market, has said the banking sector will need recapitalisation of Rs 3-4 lakh crore. The capital will be required for loss of cash inflows via EMIs, higher provisioning for NPAs and delay in recoveries because of suspension of the Insolvency and Bankruptcy Code. For PSBs, which control two-third of banking, this will be an urgent requirement. Their low valuations mean the equity sale option is ruled out. Also, given the fiscal constraints, immediate government support is unlikely. Experts say the government can issue bonds to PSBs and pump in the money raised into PSBs as capital. The regular outgo for the government will be the interest paid, though this will create a big future liability during the bond redemption stage. "The future capital requirement will depend on loan repayment, recoveries and likely delinquencies in the moratorium book. It is quite possible that the banks will need capital," says Sameer Narang, Chief Economist at Bank of Baroda.
Ratings downgrade is another risk for banks which can hit their ability to raise resources, says Gopalkrishna Tadas, former Executive Director at IDBI Bank. Moodys has already downgraded close to a dozen banks. More downgrades are likely as the economy shrinks.
So far, banks are putting up a brave face. They are conserving liquidity and sitting on cash rather than lending. Most are saying that their moratorium customers have money in their accounts. But banks, as custodians of public money, have to prepare for the worst.