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Setting up 'bad bank' garners mixed reactions from analysts

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Analysts view this as a positive development as the focus remains on a faster resolution of stressed assets. This will improve the balance sheet of banks, and the upfront cash payment would also aid in providing incremental cash flows, while it will also enable banks to focus more on their core operations.

Setting up 'bad bank' garners mixed reactions from analysts
The Narendra Modi government's move to set up a 'Bad Bank' for the resolution of stressed loans has garnered mixed views from top experts. On one hand, the step is expected to speed up the resolution of stressed assets and improve the balance sheet of banks, particularly the state-run lenders, on the other, certain analysts believe this will have no near-term impact and may not see major recoveries.
The union finance minister Nirmala Sitharaman on Thursday announced that the Cabinet has approved a  government guarantee of up to Rs 30,600 crore for security receipts issued by the National Asset Reconstruction Company (NARCL).
The government guarantee, which will be valid for five years, can be invoked by NARCL for meeting the shortfall between the face value of the Security Receipt and the actual realisation upon resolution or liquidation.
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She added 15 percent cash payment will be made to banks for non-performing assets (NPAs) based on some valuation, and 85 percent will be given as Security Receipts.
Sitharaman also announced that the government is setting up an India Debt Resolution company, in which PSU banks will hold a 49 percent stake.
Analysts view this as a positive development as the focus remains on a faster resolution of stressed assets. This will improve the balance sheet of banks, and the upfront cash payment would also aid in providing incremental cash flows, while it will also enable banks to focus more on their core operations.
"Aggregation of debt at one entity is expected to speed up the process for finding interested buyers, transfer of assets, formalising write-downs and reworking terms of new debt. Nevertheless, quality of asset matters the most," said global brokerage Jefferies.
It highlighted that in NCLT cases (40 cases) where good ones in the steel sector got resolved with negligible haircuts for banks, but tough ones in power, auto, consumer are yet to find a resolution.
"Historically, banks see 10 percent recovery from written-off loans, and we believe that recoveries here may be broadly in line. While there is a chance that accounting policies allow for upfront recognition of gains, we hope RBI/ banks take a conservative stance," Jefferies said.
According to the announcement, the resolution of the proposed Rs 2 trillion of legacy stressed assets will lower gross non-performing assets (GNPA) by more than 2 percent and an estimated realisable value of 18 percent will lead to provisioning write-back of Rs 36,000 crore (more than 35 bps of advances) over the period.
Further, through successful execution of phase-1, one can expect near term NPA reduction of over 1 percent and NPA recoveries equivalent to 10 bps of system credit, as per ICICI Securities.
Leading PSU banks have highlighted that 0.9-1.3 percent of advances will be offloaded to NARCL in phase-1 (SBI – Rs 20,000 crore, PNB – Rs 7,900 crore, Union Bank of India– Rs 7,800 crore, Bank of India – Rs 3,500 crore, Central Bank – Rs 2,700 crore).
Recoveries of 18-20 percent suggest a 6-8 percent boost to operating profit or 1.5-2.5 percent accretion to networth (pretax), the brokerage house said.
Kotak Institutional Equities is of the view that faster resolutions of some of the bad loans and senior management bandwidth release to solve these bad loans are probably the best possible outcomes of the formation of NARCL.
However, it is of the view that the creation of a bad bank would have been most fruitful just after the asset quality review (AQR) or earlier when the stress was just building up and banks were looking to delay recognition for various reasons.
Today, the NPL recognition and provisions cycle is largely complete with some of the largest bad loans already resolved. Banks have around 90-100 percent coverage on these assets, implying there is no management incentive to delay decision making.
"The major benefit would accrue through faster debt consolidation, potentially leading to quicker decision making and better recovery rates. We don’t see a meaningful impact in our coverage universe. Further, senior management bandwidth would be released on solving these problems, which can be channelized towards identifying fresh segments for growth that has been tepid in recent years," Kotak Institutional Equities said.
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