Misreporting of NPAs

Private banks must explain the discrepancy

The biggest worry for India’s economy over the past three years has been the growing mountain of non-performing assets (NPAs) of banks. For the most part, all the attention has been on the worsening NPA levels in public sector banks (PSBs), which account for roughly 70 per cent of the banking sector. Broadly speaking, banks had started providing for such bad loans by taking a hit on their profits. But as if the uncertainty over bad loans in the PSBs wasn’t enough, it has now emerged that at least three well-known private sector banks had grossly underreported their NPAs. Going forward, the Reserve Bank of India (RBI) must act fast to deal with this issue if it wants to ensure the credibility of its regulation as well as that of the banks concerned.

It all started with an April 18 RBI notification which took note of the significant divergence from the central bank’s norms in classifying loans in some banks. The banking regulator wanted banks to come clean under its new norms that require banks to publish in their balance sheet differences, if any, between their bad loan numbers and the value of loans that the RBI feels are in default. While banks usually end up providing for loans subsequently identified by the RBI, the divergence is a pointer to whether the bank’s provisions are in line with the RBI’s thinking. Analysts say investors will now await the RBI’s audit results for banks to have a clear idea about the divergences between what the central bank reports and what the banks have declared. Following the RBI’s diktat, three private sector banks disclosed that, for the financial year 2015-16, there were glaring differences between the level of NPAs they had reported in their annual reports and what the RBI norms would necessitate. This disclosure has, predictably, raised some alarming questions. For one, is this true only for one financial year or more? Secondly, how did this happen in the first place? After all, there is a clear definition laid down for what constitutes an NPA — a loan which has not been serviced for three months falls under this category. How is it open to interpretation? Or is it the case that these banks were resorting to “evergreening” of loans, a process by which banks lend anew to companies already struggling to service existing loans.

Beyond the exact details of how it happened in these three banks lies a much bigger question for the regulator to grapple with: Who else is involved in similar deception? Obviously, there are no easy answers and it will be up to the RBI to prise open the true financial picture from accounts of other private banks. In fact, since this is essentially a case of governance failure at the bank level, something in which the PSBs have acquired an embarrassing distinction, there is also a question mark now on the data coming out of the PSBs and the RBI must probe them as well. The last big concern relates to the credibility of the audit and accounting firms and professionals involved in this matter. The Institute of Chartered Accountants of India has reportedly reached out to the RBI to figure out more details about the divergence in estimating bad loans. Questions must, therefore, also be asked of how established auditing firms happily gave their stamp of approval to this fraud.