Preventing NPAs by Money Matters Club IBS-HYD

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FINANCIAL BULLETIN (Edition - December, 2021)

PREVENTING NPAs A Way Forward

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The Financial Bulletin

Money Matters Club IBS, Hyderabad Est.. - 2005

For Editorial Queries Contact : Newsletter Coordinators: Isha Agarwal: 91-77173 93848 Rashmi Kumari: 91-83358 77318 Shravan Kumar: 91-88868 80912 Mehul Patwari: 91-98747 16133 Faculty Coordinators: Dr. M.V. Narasimha Chary

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FROM THE EDITORS Dear Reader, It gives us pleasure to come up with the December 2021 issue of the Financial Bulletin successfully. In this issue, we aim to give you a brief about the issue of NPA and its resolution process. In this publication, we have discussed the financial stability of 5 renowned banks of India and have tried to derive some qualitative and quantitative outcomes. The work was assisted by fellow juniors of MMC Happy Reading!

Isha Agarwal Rashmi Kumari Shravan Kumar Mehul Patwari Newsletter Coordinators

MENTOR SPEAKS Preventing NPAs – A way forward Banking

India

forms

the

base

for

the

economic development of the country. Major changes in the banking system and management have

been

seen

over

the

years

with

the

advancement in technology, considering the needs

people.

The

banking

sector

development can be divided into three phases: Phase I: The Early Phase which lasted from 1770 to 1969 Phase II: The Nationalisation Phase which lasted from 1969 to 1991 Phase III: The Liberalisation or the Banking Sector Reforms Phase which began in 1991 and continues to flourish till date The financial crisis of 2007-2008 caused many bank failures, including some of the world's largest banks, and provoked much debate about bank regulation and supervision. This led to focus on supervisory control, capital regulations, marketentry regulations, activity restrictions, private monitoring and liquidity. The biggest problem in the banking sector is non-performing assets (NPAs). They are recorded on a bank's balance sheet after a prolonged period of non-payment by the borrower. A non-performing asset (NPA) refers to a classification for loans or advances that are in default or in arrears. A loan is in arrears when principal or interest payments are late or missed. A loan is in default when the lender considers the loan agreement to be broken and the debtor is unable to meet his obligations. NPAs place a financial burden on the lender; a significant number of NPAs over a period of time may indicate to regulators that the financial fitness of the bank is in jeopardy. One immediate action that is required is resolving the NPAs. Banks have to accept losses on loans (or ‘haircuts’). They should be able to do so without any fear of harassment by the investigative agencies. The Indian Banks’ Association has set up a six-member panel to oversee resolution plans of lead lenders. To expedite resolution, more such panels may be required. An alternative is to set up a Loan Resolution PAGE 1

MENTOR SPEAKS Authority, if necessary, through an Act of Parliament. Second, the government must infuse at one go whatever additional capital is needed to recapitalize banks providing such capital in multiple instalments is not helpful. Over the medium term, the RBI needs to develop better mechanisms for monitoring macro-prudential indicators. It especially needs to look out for credit bubbles. True, it’s not easy to tell a bubble when one is building up. Perhaps, a simple indicator would be a rate of credit growth that is way out of line with the trend rate of growth of credit or with the broad growth rate of the economy. Actions need to be taken to strengthen the functioning of banks in general and, more particularly, PSBs. Governance at PSBs, meaning the functioning of PSB boards, can certainly improve. One important lesson from the past decade’s experience with NPAs is that management of concentration risk — that is, excessive exposure to any business group, sector, geography, etc. – is too important to be left entirely to bank boards. The RBI has drawn this lesson to some extent. Effective from April 1, 2019, the limit for exposure to any business group has been reduced from 40% of total capital to 25% of tier I capital (which consists of equity and quasi-equity instruments). The limit for a single borrower will be 20% of tier 1 capital (instead of 20% of total capital). Other aspects of concentration risk remain to be addressed. Overall risk management at PSBs needs to be taken to a higher level. This certainly requires strengthening of PSB boards. We need to induct more high-quality professionals on PSB boards and compensate them better. Gross NPAs which piled up as high as 11.2 percent in FY 2018 had come down to 7.5 percent by March 2021. However, RBI’s latest Financial Stability Report (FSR) warns that NPA levels are likely to get worse again. NPA levels may see a spike from 7.5 percent in 2021 to 11.2 percent in March 2022 under severe stress scenario. This high level was seen in 2018. However, this projection is much less than the prognosis in the previous (January 2021) FSR at over 14.8 percent under severe stress and even less than the Baseline projection of 13.5 percent. Large advances contributed to over 77.9 percent of these bad loans. However, it may be noted that according to the latest FSR, MSME are showing signs of severe stress even after special restructuring packages of about ₹58,000 crores. The impact of the ferocious Covid second wave on businesses particularly MSME is a matter of concern.

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MENTOR SPEAKS As several reports bear it out, excessive lending, lax credit standards, poor monitoring, diversion or siphoning off funds besides malfeasance and frauds have contributed to the high level of NPAs. This is not to dismiss genuine business failures. In the most recent case resolved under IBC, lenders suffered a 95 percent haircut. We have to immediately fix the weak and dilatory legal ecosystem existing even after the introduction of IBC. As evident from the huge pile-up of NPAs and several audits and investigation reports, banks need to significantly improve credit appraisal techniques and processes and also strengthen the monitoring system. To begin with, a sound credit appraisal essentially involves assessment of Character, Capacity, and Capital of the prospective borrower. The most difficult to evaluate is Character and Intent of the borrower. Banks need to reset their loan appraisal processes. Regulators should step in to curb excess lending in exuberant times. Regulators need to identify excesses in lending, including credit concentrations, well in time and intervene to moderate lending in exuberant times. Some well-defined indicators like credit growth in relation to GDP etc may be put in place. While forbearance cannot be avoided totally, a distinction needs to be made between cyclical and secular declines of industries. More safeguards are needed in granting forbearance in secular decline scenarios. Boards need to play a better role in identifying and mitigating strategic risks and restraining exuberance.

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INTRODUCTION According to the RBI, a ‘Non-Performing Asset’ (NPA) is defined as a credit facility in respect of which the interest and/ or installment of principal has remained ‘past due’ for a specified period of time. An asset, including a leased asset, becomes nonperforming when it ceases to generate income for the bank. It essentially is a classification for loans or advances that are in default or in arrears. A loan is in arrears when principal or interest payments are late or missed. A loan is in default when the lender considers the loan agreement to be broken and the debtor is unable to meet his obligations. Gross NPA = (B1 + B2 + B3 ……………………. + Bn)/Gross Advances Where B1 is the borrower. Net NPA = (Total Gross NPA) - (Provision for Unpaid Debts)/Gross Advances Now we will understand through an example Suppose, a loan account of Rs. 1,00,0000 @ 10% interest rate p.a. is due for payment on 30th August. If the payment is not made within 90 days starting from the 30th of August, the account will be classified as a Non-performing Asset.

How do NPAs work? The Bank’s Balance Sheet reflects the position of NPAs. When the borrower is unresponsive towards paying his dues, the lender can opt for liquidating the assets that were pledged or writing it off as bad debt and collecting dues through tribunals. Losses can be recovered by the lender by taking proactive steps to restructure the loan. Bad loans can be converted into equity by lenders. ARCs or Bad Banks can buy the loans from the lender at a steep discount while the lender recovers a small percentage of the recovered sum.

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INTRODUCTION

The underlying reason for NPA in India An internal study conducted by RBI shows that in the order of prominence, the following factors contribute to NPAs. Internal Factors Diversion of funds for Expansion/diversification /modernization Taking up new project Helping /promoting associate concerns time/cost overrun during the project implementation stage Business Failure Inefficiency in management Slackness in credit management and monitoring Inappropriate Technology/technical problem Lack of coordination among lenders External Factors Recession Input/power storage Price escalation Exchange rate fluctuation Accidents and natural calamities, etc. Changes in government policies in excise/ import duties, pollution control orders, etc.

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IMPACT OF NPAs Banks don’t have sufficient funds for lending for other productive activities in the economy. In order to maintain their profit margins, banks will be forced to increase interest rates. Due to a curb in investments, there may be a rise in unemployment rates.

Measures to Curb NPAs in India The government and RBI have taken numerous measures to control the NPAs in our economy. These are as follows – Creation of DRT or Debt Recovery Tribunals. Impetus to Asset Reconstruction Companies to proliferate. Introduced corporate debt restriction and the Insolvency and Bankruptcy Code. Introduction of the 5:25 rule or the Flexible Restructuring of Long Term Project Loans to Infrastructure and Core Industries. Mission Indradhanush to bring about reforms in the public sector banks. SAMADHAN scheme introduced for asset management and debt change structure. Asset Quality Review in Banks. Lok Adalat, Credit Information Bureau extensively deals with NPAs.

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KEY POINTS OF NPA NPAs are recorded on a bank's balance sheet only after a long period of nonpayment by the borrower. NPAs create an unnecessary financial burden on the lender. The high number of NPAs over a period of time may highlight to regulators that the financial health of the bank is in declining Lenders have rights to possession of any collateral or selling off the loan at a significant discount to a collection agency. In India, the RBI controls the entire banking system and as defined by the country’s central bank, if for a period of more than 90 days, the interest or principal amount is overdue then that loan account can be considered as a Non-Performing Asset. Global position:- If we compare India with other countries then India stands at 4th position in the world with 9.90% of NPA and it can also be seen in the graph given below

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CLASSIFICATION OF NPA After a prolonged non-payment period, the bank's balance sheet records an NPA, as these place a financial burden on the lender. If over a time period the bank shows a significant number of NPAs then this indicates that its financial fitness is in jeopardy. Generally, a lender provides a grace period before classifying the asset as NPA. Following this, the lender or bank classifies it into three categories, based on the period for which an asset has been non-performing and the realisability of dues, i.e., the probability of repayment.

Different categories of NPA are as follows: Sub-standard Assets An asset that has remained a non-performing asset for upto one year is a Sub-standard asset. Doubtful Assets Those assets which have remained NPA beyond one year are classified as doubtful. A doubtful loan has all weaknesses of sub-standard assets inherent in it. The bank is doubtful on full repayment of the loan by the borrower, also its own risk profile is affected by this category of NPA. Usually, the banks provide a reduction in market value for such NPAs too.

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CLASSIFICATION OF NPA Three categories of these are: D1:

Assets that have been doubtful for up to one year.

D2:

Assets that have been doubtful beyond one year and up to three years.

D3:

Assets that have been doubtful beyond three years.

Loss Assets When the security value of an asset is insignificant and it has been certified by the auditors or RBI as bad, it is termed as a loss asset. Such assets are uncollectible even after an extended non-payment period. A bank has to record a loss in the balance sheet, as the continuance of these assets as a bankable asset is not warranted, though some salvage value might be there. Broadly, the asset classification into above categories is done on the basis of the degree of credit weaknesses and the extent to which banks are dependent on the collateral security for dues realisation. To eliminate the tendency of delay in NPA identification, appropriate internal systems should be created by the banks.

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REQUIREMENT OF ARC & BAD BANK Over a period of time, in the Indian banking sector, there has been a subsequent rise in NPA levels resulting in lower capital adequacy and subdued profitability levels. This leads to muted growth in lending capacity, which increases NPAs, which banks cannot recover. Besides, banks have to focus on capacity building and loan recovery, risk management, etc., to stay ahead of the learning curve. According to Reserve Bank of India’s Trends and report 2020, Gross Non-Performing Assets (GNPAs) of Indian banks reached 8.2% (equivalent to ₹9 lakh crore) at the year ending of March 2020 as against 9.1% (equivalent to ₹9.36 lakh crore) at the end of March 31, 2019. In fact, GNPAs of public sector banks (PSBs) stood at 10.3% (equivalent to ₹6.78 lakh crore) as of March 31, 2020. There has been an exponential growth in the NPAs of banks. Stressed assets of Indian banks have been mounting due to a slew of factors such as persistent global economic slowdown exacerbated by Covid-19, stalled infrastructure projects as well as cost overruns, inordinate delay in obtaining various clearances, land acquisition issues, etc. The RBI predicted in its report that the asset quality of the Indian banking system may deteriorate sharply within the near future. To address this, there has been recapitalization of banks along with cleaning of their balance sheets. Asset Reconstruction Companies (ARCs) were set up as part of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act (Sarfaesi Act, 2002) as an institutional alternative for NPA resolution in India. The ARC industry started with the establishment of Asset Reconstruction Company India Limited (ARCIL), sponsored by five public banks in India — state bank of India, IDBI Bank, ICICI Bank, and Punjab national bank, in 2002, and commenced operations in 2003. Thereafter, private players like JM Financial came in. In 2019-20, the number recovered as the percent of the amount involved under the ARCs was 26.7%. But, In the last few years, there has been a trust deficit with ARCs, because of several factors like non-redemption of SRs and suboptimal roleplay by ARCs. the absence of market-aligned realistic price discovery, some distortions are evident and constraints within

the

operating

framework

have

limited

the

success

meaningful

reconstruction. Banks in India have been slow in selling assets to the existing ARCs as neither the ARCs nor the banks were ready to bear the losses, which prolonged recovery.

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REQUIREMENT OF ARC & BAD BANK The proposed bad bank is better than the prevailing Asset Reconstruction Companies because it will be owned by the Government. Once the NPAs are transferred to the bad bank, PSBs need not resort to higher provisioning and would be better placed to mobilize capital from the market. Since there has been a steep rise in discount rates from 30 to 60% of the value of bad loans because of the regulatory norm of an upfront cash payment of 15% by ARCs, the timing of bad banks is apt. The main objectives behind the creation of the bad bank are to clean the balance sheets of banks in India, to enable the banks to succeed in the specified level of capital adequacy by mobilizing fresh capital from the market, and to focus on credit growth to boost investment and ultimately economic growth. Essentially, a bad bank would help the Indian banks trim losses and focus on their core lending business.

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RISE OF NPAs The banking industry in India is seriously affected by the NPA crisis with the rising number of defaulters increasing sharply due to Covid-19 in 2020. Thousands of crores worth of loans has gone sour due to non-payment by borrowers and the amount of NPAs is likely to increase further. The Gross- Non-Performing Assets (GNPAs) and Net- Non-Performing Assets (NNPAs) of the banks stood at 8.3% and 2.7% respectively on 31st December, 2020 as compared to 8.6% and 3% respectively on 31st March, 2020. A large number of individuals were struggling to repay their loans after losing income or employment because of the historic economic crisis triggered by the coronavirus pandemic and the initial lockdown. Furthermore, the other reasons from the history adding to the incapability of banks to recover loans is: 1. Credit Boom: The problem of rising NPA was magnified during the credit boom of 2003-04. During that time, the world economy, as well as the Indian economy, was booming; and hence, multiple Indian firms borrowed a lot to avail of the growth opportunities. 2. Tightened Monetary Policy: The RBI followed a tightened monetary policy at that time, increasing the repo rate and reserve repo rate. However, even after that, there was credit expansion that led to a rising NPA ratio. 3. Hindrances in the Judicial & Legislative Procedures: The judgments given by courts at that time were not in favor of businesses, and had an adverse impact. Moreover, businesses faced problems in acquiring land, which led to many projects getting stalled. The combination of the above factors, along with regulatory control, made it difficult for companies to repay the loans. Some of the other factors that made the NPA crisis even worse were: 1. Severe competition in specific market segments. 2. Natural reasons, like flood, drought, earthquake, etc. 3. Maladministration by corporations.

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RISE OF NPA Another reason is the relaxed lending norms adopted by banks, especially to the big corporate houses, foregoing analysis of their financials and credit ratings, and the inability of the banks in most of the cases to declare the defaulters as ‘wilful defaulters’. Also, the lags in the due diligence and analysis that should be carried out by the banks before sanctioning a loan are missed many times, resulting in payment default. These existing reasons with the Covid-hit made the NPA a crisis for the Indian Banks. Although, during the Covid pandemic times, various steps were being taken by the government (such as strategies for recognition, resolution, recapitalization and reforms), in order to put a hold on the rising numbers of the NPA. As a result of which, the NPA of banks has declined by Rs. 61,180 cr. to Rs 8.34 lk. cr. at the end of 31st March, 2021. RBI permitted lending institutions to grant a moratorium of 6 months on payment of all installments falling due between March 1 and August 31, 2020, in respect of all term loans and to defer the recovery of interest for the same period in respect of working capital facilities. But as the rating agency, ICRA mentioned in a report (formed in FY 20), that as these interventions (such as various relief measures like moratorium on loan repayment, a standstill on asset classification, and the liquidity extended to borrowers under the Guaranteed Emergency Credit Line (GECL)) wanes off, there is a chance of the asset quality pressure to resurface. The report stated the estimations regarding GNPAs and the NNPAs for FY22. The GNPAs of the banks may worsen even more and rise to 9.9% - 10.2% by March, 2022 as compared to 8.6% on March, 2020. However, the NNPA position of the banks is expected to decline to 2.3%- 2.5%. It is believed to be because of the significant provisions made by banks on their legacy NPAs. With the decline in the NNPAs and the improvement in the capital position of the banks by infusing fresh capital raise, the solvency position of the banks is at a relatively better position now, providing them with comfort to their loss absorption capabilities.

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ESSENTIAL RATIOS To check which bank is performing better, there are a set of parameters and ratios that the investors should look into, before investing. Apart from helping the investors and the management of the bank, these ratios also help the Indian Government and RBI to closely monitor the working of the banks. These ratios also form an integral part of financial analysis done by marquee investors and analysts before investing in the same. The parameters/ratios essential in determining the performance of the Banks are: 1. Net Interest Margin (NIM): The NIM is an industry-specific profitability ratio that indicates the bank’s profitability and whether the bank is efficiently investing its funds. It basically is the “net benefit” of lending. A positive NIM signifies that the bank is efficiently investing its funds and vice versa. Net Interest Margin (NIM) = (Interest Revenue- Interest Expense)/ Average earning assets Here, Average earning assets refers to the income that the bank generates by investing in stocks, bonds, notes, certificate of deposits, etc. A NIM of 3% is an aid to be a healthy margin. If the NIM is greater than 4%, it suggests that the bank is taking a higher risk in its portfolio. 2. Cost to income Ratio (CIR): This ratio is used to determine the banks efficiency and the bank’s operating expenses with respect to its operating income (operating expenses do not include financial expenses). Cost to Income Ratio (CIR)= Operating Costs / Operating Income A lower CIR is beneficial to the bank. Usually, efficient banks have a CIR of 35% 40% 3. Credit Cost Ratio (CCR): This ratio is used for evaluating the credit risk of a bank. It is an important tool, specifically when evaluating banks. If a bank has a higher CCR, it means that the banks are taking higher risks. A CCR of 1% is beneficial to the bank. Credit Cost Ratio (CCR)= Provisions for NPA/ Advances 4. Return on Assets (RoA): It’s a ratio that gives the analysts and the investors an idea as to how a bank uses its assets to generate revenue. A RoA that rises over time indicates the company is doing a good job of increasing its profits, i.e, higher the RoA ratio, the better the bank performs. An RoA of greater than 1% is beneficial to the bank. PAGE 14

ESSENTIAL RATIOS Return on Assets (RoA)= Net Income/ Average Total Assets Here, Net income is the income that the bank generates after deducting expenses. And Avg total assets is calculated as an avg of assets that a bank has in the current and the previous year. 5. Capital Adequacy Ratio (CAR): This ratio indicates that the banks have sufficient capital, to withstand any kind of losses or risk from being insolvent. It signifies that the depositor’s money is safe and promotes the stability and efficiency of financial systems around the world. The capital in this ratio is divided into 2 parts, namely- Tier 1 and Tier 2. Tier 1 capital consists of share capital, revenue reserves, and intangible assets. Tier 2 capital consists of retained earnings, general reserves, and unaudited reserves. Tier 2 capital is used at the time of winding up the bank. CAR= (Tier 1 Capital + Tier 2 Capital)/ Risk-Weighted Assets Here, risk-weighted is the minimum amount of capital that a bank shall have in order to reduce the risk of insolvency. A bank shall have a minimum CAR of 9%. A CAR of 10%-11% is considered as a healthy ratio for the banks.

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HDFC BANK INTRODUCTION HDFC Bank Limited, an Indian banking and financial services company is India’s largest bank in the private sector considering its assets and the market valuation. It is headquartered in Mumbai, Maharashtra. HDFC provides multiple products and services such as wholesale and retail banking, auto loans, personal loans, consumer durable loans, loans against property, lifestyle loans and credit cards, etc.

CURRENT SCENARIO The net profit of the bank rose from Rs. 26257.3 cr. In FY 2020 to Rs. 31116.52 cr. in FY 2021. The rise can be mainly associated with an increase in its interest income and lower provisioning. Improved asset quality, positive management outlook, have also helped the bank in improving its performance over the years. HDFC Bank has substantially grown a lot over the years maintaining high profits.

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HDFC BANK

The above graph shows the Gross Non-Performing Asset value of HDFC bank of the FY starting 2017 to FY 2021. The value is increasing every year, highest being in the FY 2021 at Rs. 150.86 bn. The rise each year is almost constant.

NPA Ratios:

INTERPRETATION The Credit to Deposit Ratio has decreased from 86.60% to 84.85% in the FY2021. Even though there is a decrease, the amount of decrease is very minimal. This ratio represents the bank’s ability to make optimal use of the resources available and is the first indication of the bank’s health. The higher the ratio, the more the pressure upon the bank’s resources. PAGE 17

HDFC BANK The Revenue Ratio of the bank has seen a decline to 1.87% in the FY 2021. This ratio is an indicator of how a bank spends in order to earn from its loans (assets). As the NPA increases, this ratio decreases as expenses and NPAs have an inverse relationship. Capital Adequacy Ratio defines the capital the bank has available with it. The minimum CAR to be maintained by each bank is 8%. Higher CAR of HDFC Bank implies that it is vulnerable to a financial downturn and other unexpected/unforeseen losses. Return on Assets Ratio defines the profit made by a bank on its total assets. It has seen a positive increment from FY20 as it rose from 1.71% to 1.78% in FY21 and so has the NPAs. But the percentage increase in the NPAs is less than the percentage increase in the ROA, which implies that the bank, despite an increase in the NPA, was able to recover loan amounts. Solvency Ratio is seen to be increased from 6.5X to 7.9X in FY21. When there is an increase in the NPAs, the solvency ratio is adversely affected. As the loan assets stop generating income, the liabilities exceed their assets and eventually, the bank will go on raising debt or equity to meet its capital requirements. The Interest Income to Total Assets ratio is to see the efficiency of the bank. And for HDFC Bank, this ratio has increased from 6.91% to 7.50% implying that the bank is efficiently working and the loan assets generating interest income is also increasing. The proportion of Secured assets for FY21 and FY20 were 67.46% and 68.74%, respectively. As the secured assets decrease, there is a rise in the NPAs, implying that the bank has higher chances of risk to lose the entire amount in case of any default.

MANAGEMENT DISCUSSION AND ANALYSIS: As per the Management Discussion and Analysis Report, the bank’s financial performance remained healthy with Total Net Revenue (Net Interest Income plus Other Income) increasing by 13.4% to Rs. 90,084 cr from Rs. 79,447.1 cr in the previous year. Revenue Growth was driven by an increase in both Net Interest Income and Other Income. Net interest income grew by 15.5% to Rs. 64,879.6 cr due to acceleration in loan growth. Other Income grew by 8.4% to Rs. 25,204.9 cr. The largest component was Fees and Commissions at Rs. 6,169 cr.

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HDFC BANK

CONCLUSION: The analysis of the above ratios depicts that the bank is functioning well despite the pandemic, with its net profits going up from Rs. 26,257 cr in 2020 to Rs. 31,116 in 2021. It brings us to a conclusion that the investors and depositors can be assured that the bank is performing well.

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ICICI BANK INTRODUCTION The Industrial Credit and Investment Corporation of India Bank, also known as the ICICI Bank Limited is an Indian financial services company which is headquartered in Vadodara, Gujarat and has its corporate office in Mumbai, Maharashtra. ICICI Bank provides access to a diversified portfolio of banking and financial services and products to its retail, SME and corporate customers. The bank has specialized subsidiaries in the field of investment banking, life, non-life insurance, venture capital and asset management. ICICI Bank Limited marks its presence in 17 countries and has a strong network of 5,275 branches and 15,589 ATMs across India. The services and facilities offered by the bank include money transfer facilities, tracking services, debit and credit card facilities, current, saving and recurring deposit accounts, mortgage, locker facilities and digital wallets. The bank visions of creating a sustainable value for the stakeholders by emerging as a trusted financial service provider.

CURRENT SCENARIO The net profit of the bank rose by 48% from Rs. 2581 cr. In FY 2020 to Rs. 3752 cr. in FY 2021. The rise can be mainly associated with its lower provisioning and rise in interest income. Digital initiatives have also helped the bank in improving its performance over the years. ICICI Bank has overall grown a lot over the years maintaining high profits. However, to understand the health of the bank let’s assess the non-performing assets of the bank. PAGE 20

ICICI BANK

The above graph shows the gross non-performing asset value of ICICI Bank Ltd. from the financial year 2017 to 2021. The highest value was witnessed in 2018 after which the graph sees a decline. Values of 2020 and 2021 are almost similar. Analysis through Ratio Analysis:

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ICICI BANK

NPA Ratio:

Interpretation Credit deposit ratio of ICICI was 83.69% in FY 2020. It saw a decrease in FY 2021 as it came down to 78.68%. Despite the decline, the condition is still not ideal for the bank as a ratio as much as 78.68% will create pressure on the bank’s resources as it also has to maintain CRR and SLR. A ratio above 70% also hints at capital adequacy issues. A decrease in expenses to revenue ratio indicates an increase in NPAs. The ratio for ICICI bank reduced from 1.96% to 1.75% for FY 2021. Lower ratio indicates that the bank has lower operating expenses compared to total assets which indicate the efficiency of the bank. Net income to total assets ratio has increased for the bank from 8.30% in FY 2020 to 10.25% in FY 2021. The increase highlights the bank's efficiency in generating profits. A ratio above 5% is good for the bank. Capital Adequacy Ratio of ICICI Bank is beyond the minimum set limit of RBI. It has one of the highest capital adequacy ratios in comparison to other banks. This highlights that the bank has enough capital on reserve to handle losses without being at a risk of becoming insolvent. ICICI has positive returns on asset ratio. It increased from 2.34% in FY 2020 to 3.04% in FY 2021. This highlights that the bank is able to utilize its assets efficiently and its assets are profitable in generating revenue. ICICI’s net NPA stands at Rs. 9180.20 cr. which is lesser than the previous year. There’s no universally acceptable limit for NPA, but bad loans within 3% are considered manageable. For ICICI bank it is 1.41% which indicates that the bank is in a good position.

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ICICI BANK

Management Discussion and Analysis As per the management Discussion and analysis, the bank's operating profit increased by 16.9% from FY 2020 to FY 2021. The increase was mainly because of a rise in net interest income, which rose by Rs. 57.22 bn. The total deposits also increased by 21% from Rs. 7,709.69 bn in FY 2020 to Rs. 9,325.22 bn in FY 2021. Net advances increased by 13.7% primarily due to an increase in domestic advances. However, the increase in advances was lesser compared to increase in deposits, which suggests that the bank is in a position to undertake risks without the fear of going insolvent. Borrowings decreased by 43.7% owing to a decline in overseas loan books. The bank’s net NPAs decreased from Rs. 101.14 bn to Rs. 91.80 bn. The ratio of net NPAs to net customer assets decreased from 1.41% to 1.14%. The decreasing NPAs and ratio indicates that the bank is in a favorable position.

Conclusion The analysis and interpretation of the above ratios highlights that despite the covid situation, the bank is faring well. The ratios indicate that the investors as well as depositors need not worry about the Bank’s health.

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SBI BANK Introduction State Bank of India (SBI), with 66 years of legacy, is an Indian multinational Public Sector Bank and Financial services statutory body headquartered in Mumbai, Maharashtra. SBI is the 43rd largest bank in the world. It is a public sector bank and the largest bank in India. SBI has invested in various subsidiaries namely - SBI Life Insurance Ltd, SBI Cards and Payment Services Ltd, SBI General Insurance (70%), Jio Payments Bank (30%), Yes Bank (30%, Andhra Pradesh Grameena Vikas Bank (35%), Kaveri Grameena Bank (35%). The net profit of the bank rose by 41% from Rs. 14,488.11 cr. In FY 2020 to Rs. 20,110.17 cr. in FY 2021

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SBI BANK

Interpretation Credit deposit ratio of SBI was 74.04% in FY 2020. It saw a decrease in FY 2021 as it came down to 69.75%. Despite the decline, the condition is still not ideal for the bank as a ratio as much as 69.75% will create pressure on the bank’s resources as it also has to maintain CRR and SLR. A ratio above 70% also hints at capital adequacy issues. A decrease in expenses to revenue ratio indicates an increase in NPAs. The ratio for SBI bank reduced from 0.190% to 0.0182% for FY 2021. A lower ratio indicates that the bank has lower operating expenses compared to total assets which indicate the efficiency of the bank. Net income to total assets ratio has decreased for the bank from 6.51% in FY 2020 to 5.84% in FY 2021. The decrease highlights the bank's efficiency is less. A ratio above 5% is good for the bank. SBI has positive returns on asset ratio. It increased from 0.38% in FY 2020 to 0.48% in FY 2021. This highlights that the bank is able to utilize its assets efficiently and its assets are profitable in generating revenue. SBI bank’s net NPA stands at Rs. 36,810 cr. which is lesser than the previous year. There’s no universally acceptable limit for NPA, but bad loans within 3% are considered manageable. For SBi bank it is 1.50% which indicates that the bank is in a good position.

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SBI BANK

Management Discussion and Analysis Covid-19 pandemic impeded the economic activities resulting in a contracted global growth rate of -3.3% in 2020 as against a 2.8% growth in 2018. Authorities across the globe extended fiscal and monetary aids, Central Banks provided liquidity support to various borrowers, the Govt. joined in to support households and firms through several measures such as transfers, wages, subsidies, liquidity support, unemployment insurance, and nutrition assistance. Consequently, global trade volumes rebounded sharply in H2 2020. However, cross-border service trade remained at a subdued -8.5% as against 0.9% growth in 2019. Coming to India's growth report, it contracted to -7.3% in FY2021. Against all odds of the 2nd wave, the government is trying to hasten the process of vaccinations in an attempt to fight the pandemic and looking forward to a recovery in FY2022.

Conclusion SBI being the largest public sector bank is reasonably sound enough to handle tough stress situations, with extended support from its 11 subsidiaries, the company is very well positioned in terms of profitability and growth.

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YES BANK INTRODUCTION YES Bank Limited is an Indian private sector offering service in banking and financial services for corporate and retail customers. Services are offered to retail customers through retail banking and asset management services. YES Bank has three subsidiaries namely– YES Securities (India) Limited, YES Trustee Limited and YES Asset Management (India) Limited. The net loss of YES bank has decreased by 21.2% from 16432.58 in FY 2020 to 3,488.93 in FY 2021.

The above graph shows the gross non-performing asset value of YES Bank Ltd. from financial year 2017 to 2020. The value has substantially increased from FY17, from Rs. 20.19 bn to Rs. 328.78 bn in just 4 years. The highest increase over the last year was seen for the FY20.

PPAAGGEE 217

YES BANK

NPA Ratios:

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YES BANK

Interpretation The credit Deposit ratio of YES Bank was at 162.7% in FY 2020. It saw a decrease in FY 2021 to 102.43%. Due to this, the bank’s potential to earn interest income through lending loans has decreased. The CD ratio of YES bank shows that it has lent more loans than the deposits that were taken. A slight decrease in the expenses to revenue ratio indicates an increase in NPAs. The ratio for YES Bank was reduced from 2.66% to 2.16% for FY 2021. Lower ratio indicates that the bank has lower operating expenses compared to total assets which indicate the efficiency of the bank. Interest income to total assets ratio has decreased for the bank from 10.10 % in FY 2020 to 7.32% in FY 2021. This ratio is used to analyze the bank’s efficiency in terms of profitability. However, as YES bank has reported a loss in FY 2020 and FY 2021, this metric is not applicable here. The capital Adequacy Ratio of YES Bank has increased significantly from 8.5% in FY 2020 to 17.5% in FY 2021. It is beyond the minimum set limit of RBI (around 8%). This highlights that the bank has enough capital to deal with the situation of losses and is financially capable of dealing with unexpected adversity. YES, Bank has negative returns on asset ratio. It decreased from a negative 6.36% in FY 2020 to 1.27% in FY 2021. This highlights that the bank is unable to utilize its assets efficiently and its assets are not profitable in generating interest income anymore. Yes Bank’s net NPA stands at Rs. 9813.36 cr. in FY 2021 which is more than the previous year. There’s no universally acceptable limit for NPAs as such, but bad loans within 3% are considered manageable. For YES bank it is 5.88% which indicates that the bank may not be in a good position to recover the default amount.

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YES BANK

Management Discussion Analysis As the COVID pandemic took over the world the economic recovery has slowed down towards the end of December 2020. However, the massive vaccination drives undertaken by the countries lead to the IMF revising the global growth rate to be more than 6% for the year 2021. In the Indian scenario, although the growth rate shrank by 7.3% in the first half of 2021 it is expected to increase in the later half of FY 2021. Many measures taken by the government to effectively fight the pandemic coupled with the RBI monetary policy has helped sustain the economic growth of the country.

Conclusion The analysis and interpretation of the ratios above shows that YES Bank may not be in a very good position as most ratios have shown an unfavorable result. Therefore, the health of the bank may not be in its best condition

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AXIS BANK Introduction Axis Bank is one of the largest private sector banks in India. The Bank offers financial services to customers of Large and Mid-Corporates, MSME, Agriculture and Retail Businesses. The Bank has 4,594 branches across India with 11,333 ATMs & 5,710 cash recyclers across the country. The Bank currently has 6 Virtual Centres and has over 1500 Virtual Relationship Manage

NPA Ratios:

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AXIS BANK

Conclusion The fiscal 2021 began on a note of uncertainty, but with the ratios calculated above, it is quite clear that the bank has been performing relatively well. Measures by the government and central banks stimulus was successful in containing the second order effects like insolvencies and provided help to financial asset prices

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WHAT ARE ARCS? An Asset Reconstruction Company (ARC) is a specialized financial institution which assists banks and different financial institutions to clean up their balance sheets by acquiring their non-performing assets or bad assets. That is to say, ARCs are in the business of buying bad loans from banks. ARCs clean up the balance sheets of banks when the banks sell these to the ARCs. This helps banks to focus on normal banking activities. Also, Banks save a lot of time and effort when they sell their bad loans to ARCs at a mutually agreed value.

Origin of ARCs-SARFAESI Act 2002 The Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest (SARFAESI) Act, which was passed in December 2002 administers the lawful basis for setting up ARCs in India. Section 2 (1) of the Act elucidates the Asset Securitization. Correspondingly, ARCs are also elaborated under Section 3 of the Act. The SARFAESI Act assists in the reconstruction of bad assets without the intervention of courts. Following this, many ARCs were formed and were registered with the RBI which has got the power to regulate them.

Capital requirements of ARCs As per the latest amendment in the act, a minimum Net Owned Fund (NOF) of Rs 2 Cr. should be maintained by the ARC. However, RBI decided to raise the minimum net owned fund to 100 crores in 2019 and for all the already registered ARCs having less than Rs 100 crore NOF, RBI stated that they will have to achieve the prescribed minimum NOF level latest by 31st March 2019, and same should be duly certified by the Statutory Auditors. Similarly, the ARCs are required to maintain a capital adequacy ratio of 15% of its riskweighted assets.

How do ARCs meet funding requirements to buy bad assets from banks? An ARC’s chief and probably the unique source of funds is the issue of Security Receipts. It may also issue bonds and debentures for meeting its funding requirements. As per the SARFAESI Act, Security Receipts are a receipt or other security, issued by a reconstruction company (or a securitization company in that case) to any Qualified Institutional Buyers (QIBs) for a particular scheme. The Security Receipt gives the holder (QIB) a right, title, or interest in the financial asset that is bought by the ARC and is backed by impaired assets.

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ARCS

Regulations for the acquisition of assets and their valuation by ARCs NPAs shall be acquired at a ‘fair price’ in an arm’s length principle by the ARCs. They have to value the acquired bad assets objectively and use a uniform process for assets that have the same features. SARFAESI Act permits ARCs to acquire financial assets through an agreement with banks. Banks and FIs may receive bonds/ debentures in exchange for NPAs transferred to the ARCs. A part of the value can be paid in the form of Security Receipts (SRs). The latest regulations instruct that ARCs should give 15% of the value of assets in cash. Bonds or debentures can have a maximum maturity of six years and should have a rate of interest at least 1.5% above the RBI’s ‘bank rate’. While dealing with bad assets, ARCs should follow CAR regulations.

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BAD BANKS Introduction Rising Non-Performing Assets (NPAs) can be a major problem for the banks. Only when the banks are freed from the burden of NPAs, they can take a positive look at loans. This is where Bad Banks comes to the rescue. A Bad Bank is set up with the purpose of buying bad loans and other illiquid holdings of a lender or a financial institution, which helps the institution in clearing their Balance Sheets. Then they work towards resolving these bad assets over a period of time. It can also assume high-risk assets held by an entity. This type of structure allows investors to assess the financial health of institutions with greater certainty. A Bad Bank structure might be developed by banks or financial institutions to deal with a difficult financial situation. It can also be set up by the government of the country or some other official institution as a response to financial crises across a number of institutions. For example, the financial crisis of 2007-10 witnessed the incorporation of bad banks in several countries.

Models There are four models of bad banks identified by Mckinsey & company: · On Balance Sheet Guarantee – In this model, a bank uses a mechanism, typically government guarantee, in order to protect part of its portfolio against risks and losses. This model is simple to implement but the investors find it difficult to assess the financial situation under this. · Internal Restructuring – Under this model, a bank creates a separate unit to hold all the bad assets. This model is very transparent however, it does not isolate the bank from risk.

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BAD BANKS · Special Purpose Entity – Under this model, the bank transfers its bad assets to a different organization (usually a government-backed organization). This solution requires significant government support and participation. · Bad Bank Spinoff – In this model, a bad bank creates a completely new, independent structure to hold all the bad assets of the bank. Bad Bank Spinoff isolates the original bank from problematic assets.

Examples The first bank to use this strategy was Mellon Bank. It set up an institution in 1988 called Grant Street National Bank to house all of its bad assets. Such structures were also established during the Swedish Banking Crisis, Finnish Banking Crisis, Asian Financial Crisis, Financial Crisis of 2008, etc. for disposing of assets of an extensive number of distressed banks. Covid 19 pandemic has further revived interest in bad banks. The pandemic has crippled the earnings of businesses and individuals, which has affected their ability to repay loans. Managers all over the world are contemplating the segregation of problematic assets from banks in order to start lending activities without fear.

Criticism Critics of Bad Banks argue that the prospect of government or some institution taking over the problematic assets or non-performing loans encourages the banks to take undue risks, which they would have not taken otherwise. This can lead to a moral hazard in risk-taking. Despite the criticism, Bad Banks in the past have resolved many toxic loans and made positive returns to the relevant stakeholders. This structure has been set up all around the world by governments and authorities as a best practice.

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BAD BANKS

India’s Position Bad Banks have been under consideration for a long time in India. For years, the government was asked to take an initiative regarding this as the government dominates the banking system in the country. India’s first Bad Bank took shape recently on July 7, 2021 with the registration of National Asset Reconstruction Company Limited. The institution has been registered in Mumbai and it will be headed by Mr. Padma Kumar Madhavan Nair, an SBI executive. The setting up of this bad bank will help in cleaning up India’s financial system, which has the biggest piles of bad assets in the world. Along with other effective options, this structure will further lead to the continued recovery of bad loans.

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