India banks’ bad loan cleanup faces a long day in court

India’s bad-loan crisis, afflicting almost 20 of banks’ assets, has moved tantalizingly close to a resolution. Giving the central bank the power to force lenders to shed soured debt is a welcome policy move. But a nine-month target to clear 60 large corporate delinquencies may be wishful thinking.
The reason is an untested bankruptcy court. That’s a risk investors aren’t paying enough attention to, in their rush to buy Indian bank stocks.
The Reserve Bank of India (RBI) can, under powers given to it by a new law, “issue directions to any banking company to initiate insolvency resolution process in respect of a default, under the provisions of the Insolvency and Bankruptcy Code, 2016.”
Note that the bankruptcy code is just a year old, and the tribunal that will decide insolvency cases isn’t ready to handle the 57 or so major stressed debtors that, by the government’s own calculations, would require haircuts of 75% or more to become healthy again.
Assume that the new RBI secretariat formed to oversee the handling of troubled assets conscientiously nudges banks to hand over these cases to the tribunal. What happens next? As of last month, the National Company Law Tribunal (NCLT) was looking for four judges and 12 technical members, all of whom are required to be at least 50 years old with 10 years of legal or 15 years of accounting practice behind them. Five years spent adjudicating labour disputes is also acceptable. The emphasis is thus on age and not experience, which, as BloombergQuint pointed out recently, continues the tradition of India’s ineffectual
company law board.
That’s only part of the problem. The new tribunal will handle not only the law board’s case load, but the winding-up petitions now processed by high courts, plus all the debt recovery suits currently in front of an older institution that’s being downgraded to deal with only individual insolvencies.
The pressure to handle the top 60-odd cases out of the top 100 stressed debtors, which represent the bulk of India’s $180 billion bad-debt challenge, will either fashion the tribunal into a robust new institution and lead to a permanent upgrade in the nation’s abysmal “ease-of-doing-business” rankings, or it will see the new system wilt. The creditor-friendly law is supposed to pave the way to liquidation in 270 days.
The good news is that the government, as the owner of the country’s largely state-dominated banking system, seems eager for a solution. Or at least that’s the signal it has sent by changing the CEOs of seven state-run banks at the same time that it empowered the RBI to clean up the bad-debt mess. New bank bosses will be more likely to cut losses on their predecessors’ mistakes, provided the RBI gives them protection from prosecution and the government assures them of fresh capital.
Yet the 30% surge this year in the benchmark index of Indian bank shares in dollar terms presents a risk. The bad-debt surgery may well turn out to be life-saving. After providing for soured credit, 77% of the banking system’s assets would be with weak lenders—those that have Tier 1 capital ratios of less than 10%, according to the International Monetary Fund. But given what we know about Indian bureaucracy, and delays in the judicial system, the operation won’t be as quick, easy or painless as
investors are anticipating.

— Bloomberg

Andy Mukherjee is a Bloomberg Gadfly columnist covering industrial companies and financial services. He previously was a columnist for Reuters Breakingviews. He has also worked for the Straits Times, ET NOW and Bloomberg News