Tough but necessary

New RBI norms for restructured assets to improve transparency

The Reserve Bank of India announced a new set of prudential norms for restructured assets last week. After 2015, all re-structured assets will be treated on a par with non-performing assets (NPAs), requiring the same level of provisioning. Between now and then, there will be a steady escalation of provisioning for restructured assets, leading up to the parity requirement. Most importantly, banks will now seek higher commitments from promoters seeking to restructure their loans. Overall, these measures represent a significant effort to bring provisioning practices in India on a par with best international practices, where no distinction is made between restructuring and non-performance.

Over the past couple of years, as the economy slowed, more and more borrowers were attempting to restructure as an alternative to default. Times are undoubtedly still tough for borrowers and, if the GDP growth numbers are anything to go by, will remain so for a while. Thus companies have criticised the measures, arguing that this is hardly the time to impose more stringent norms. Apart from higher provisioning making banks more reluctant to restructure, cash-strapped promoters may simply be unable to afford it. The result is that NPAs will continue to rise, with adverse implications for bank profitability until 2015, when provisioning will be equal. But, as legitimate as they might be, these concerns should not come in the way of doing the right thing. Analysts already treat restructured assets as NPAs while evaluating banks, so investors are not being taken in by the distinction. If so, provisioning on a par with NPAs may reduce free cash flow - but will not impact valuations and, consequently, the ability to raise new capital, which is going to be the major challenge over the next few years as the Basel-III norms kick in.

The new norms do show some consideration for the impact of extraneous factors on a borrower's ability to service his debt. For infrastructure projects as well as for other investments, delays resulting from lack of clearances and other policy and administrative bottlenecks can be taken as mitigating factors by banks, thus exempting these exposures from parity with NPAs. This is not necessarily consistent with best practice, but it simply accommodates the legacy of banks having lent heavily to infrastructure projects a few years ago, when these sectors boomed and other sources of long-term finance were not in place. Importantly, this concession highlights the significant risks that the banking system faces from its exposure to infrastructure projects that are constrained from completing construction and beginning commercial operations. More delays can only put further pressure on banks, limiting their ability to both lend through other channels and improve profitability. This is a problem that the government must soon resolve - for broader reasons, relating to the revival of growth. For the moment, though, the RBI guidelines will contribute to a more transparent representation of asset quality and, hopefully, better management of this crucial parameter.