There is a saying in India that “taking a loan of Rs 500,000 is more difficult than taking one of Rs 500 crore”. We have many sick companies but no sick promoters! this does not, however, mean the business class is a monolith. An economy where there is no default is an economy where promoters and bankers are taking too little risk. Again, it is also true that innovation is lower in countries where the law governing funding is rigid.
In normal circumstances, there are two sources of distressed loans: Either the fundamentals of the borrower are weak or the ability of the lender is poor. In both the cases, a loan can be treated as a distressed loan.
In the documentation process of getting a loan, the documents or information broadly required are: Project report (i.e. feasibility study ), creditworthiness of the promoters and creditors, six-nine month bank statement, collateral for loan, valuation report of collateral, guarantor id, financial id, some proof of address of the stakeholder, a verification of legal documents and collaterals etc.
Even after the disbursement of a loan, the bank would follow a process. Get the financials submitted on a periodic basis; receive a stock report (if it involves stocks) on a periodic basis and inspect the borrower on a quarterly or monthly basis.
It means that the deficiencies in evaluation can be compensated by careful post-lending activities like an examination of the financials, a proper evaluation of the stock report and inspection. But the absence of a proper evaluation and careful post-lending activities leads to bad loans. This is nothing but an issue of a systemic failure.
Despite the documentation and processes, banks are getting various types of audits at frequent intervals. These audits are done by an internal team, external auditors or, in many cases, by the RBI: Concurrent audit, revenue audit, IT audit, statutory audit etc.
Even when some borrowers turn defaulters or show such symptoms, we need to accept the situation and look out into the options available. Whenever such a situation arises, we have may a penalty law or instrument:
- The Recovery of Debt due to Banks and Financial Institutions (RDDBFI) Act 1993: Here, Debt Recovery Tribunals (DRT) were set up to recover dues fast without getting into lengthy processes of civil courts
- The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest (SARFAESI) Act 2002: This went a step further to recover dues and interest even without approaching the DRT
- Central Repository of Information on Large Credits (CRILC): It is a database of all loans worth over Rs 5 crore, which RBI shared with all banks. It shows the status of every loan — performing, NPA or going to be NPA
- Assets Reconstruction Company (ARC) to deal with such stressed assets and
- The Insolvency and Bankruptcy Code, 2016
Apart from the laws above, we need to place a foolproof system to technically analyse every project that comes up for financing and real monitoring system, as this will reduce the chances of loans turning distressed.
Ironically, a defaulter and a banker who is dealing with such loans know this very well and, chances are high, one of them or both took an advantage of these systemic gaps for the loan that went bad. We may be a unique country where a list of big loan defaulters is submitted to the Supreme Court in a sealed envelope — as though disclosing them would bring an earthquake. In most of the cases, it is a nexus between the banker and the borrower which is aggravating the situation.
By and large, we need to accept the fact that large defaulters are not stupid; they will dodge any draconian law. A draconian law will but entrap the genuine and small borrower and this will ultimately affect employment and the overall economy.