The Bad Bank Takes Over - All You Need to Know

On 16th September, the Finance Minister Nirmala Sitharaman announced the plans for a bad bank - National Asset Reconstruction Co Ltd. But let’s not start this story from the end and have a look at what it means.

During the budget earlier this year, the FM had announced –

" The high level of provisioning by public sector banks of their stressed assets calls for measures to clean up the bank books. An Asset Reconstruction Company Limited and Asset Management Company would be set up to consolidate and take over the existing stressed debt and then manage and dispose of the assets to Alternate Investment Funds and other potential investors for eventual value realization."

Consequently, National Asset Reconstruction Co Ltd was formed in July 2021, based out of Mumbai, to take over the bad debts of the banks.

Acting on these words, on 15th September 2021, the Union Cabinet reportedly cleared a proposal to provide government guarantee to security receipts issued by the NARCL as part of the resolution of bad loans.

Now since we are aware of the chronology of the events, let us understand the arrangement that will ensue.

The NARCL or the bad bank will help the banks clean up their books by "purchasing" the NPAs for which full provisioning has been done. This will help to clean up the books of such banks.

These NPAs will be taken over at an "agreed value" by the NARCL. A total of 15% of this agreed value will be paid in cash and for the balance amount, NARCL will issue government-backed security receipts to the bank. The Union Cabinet has cleared a proposal to provide Rs. 30,600 crore government guarantee for security receipts issued by the NARCL.

The government guarantee for such security receipts will be valid for a period of 5 years. This is essentially the timeline provided by the government to recover the stressed assets and will ensure timely execution of the recovery process. These can be invoked in case of resolution or liquidation of bad loans.

*The amount of INR 6 cr is only for illustrative purposes.

The government is envisioning a transfer of NPAs of Rs. 2 lakh crores, of which Rs. 90,000 crores will be achieved in the first phase.

The Public Sector Banks to have a 51% stake in the NARCL.

Apart from this, the government also intends to set up an India Debt Resolution firm, which will further enhance the debt recovery process.

The banking sector reacted very positively to the rumours of the news (the market closed before the actual announcement). While the Bank Nifty was up by 2.2%, the PSBs saw a jump in their share price in hopes of a cleaner book.

Disclaimer: While utmost care has been taken in compiling and presenting the information, it should not be construed as legal advice and the author cannot be held liable for any damages ensuing due to reliance on the information.

The author is a practising Chartered Accountant in Noida and can be reached out at shubham.singhal@capksinghal.com