ABSTRACT

The accumulation of huge non-performing assets in banks has assumed

great importance. The depth of the problem of bad debts was first realized
only in early 1990s. The magnitude of NPAs in banks and financial
institutions is over Rs.1, 50,000 crore.
While gross NPA reflects the quality of the loans
made by banks, net NPA shows the actual burden of banks. Now it is
increasingly evident that the major defaulters are the big borrowers coming
from the non-priority sector. The banks and financial institutions have to
take the initiative to reduce NPAs in a time bound strategic approach.
Public sector banks figure prominently in the debate not
only because they dominate the banking industries, but also since they
have much larger NPAs compared with the private sector banks. This
raises a concern in the industry and academia because it is generally felt
that NPAs reduce the profitability of a bank, weaken its financial health and
erode its solvency.
For the recovery of NPAs a broad framework has evolved
for the management of NPAs under which several options are provided for
debt recovery and restructuring. Banks and FIs have the freedom to design
and implement their own policies for recovery and write-off incorporated
compromise and negotiated settlements.
OBJECTIVES OF THE STUDY
 The basic idea behind undertaking the Grand Project on NPA was to:
 To evaluate NPAs (Gross and Net) in different banks.
 To study the past trends of NPA.
 To calculate the weighted of NPA in risk management in Banking
 To analyze financial performance of banks at different level of NPA

RESEARCH METHODOLOGY
The research methodology adopted for carrying out the study were-
 In this project Descriptive research methodologies were use.
 At the first stage theoretical study is attempted.
 At the second stage Historical study is attempted.
 At the Third stage Comparative study of NPA is undertaken.

Scope of the Study

Concept of Non-Performing Asset

Guidelines

Impact of NPAs

Reasons for NPAs

Preventive Measures

Tools to manage NPA’s

 SAMPLING METHODS:
To prepare this project I have taken five banks from public sector and five banks from
private sector.

Limitations of the study :-

 It was critical for me to gather the financial data of every bank of public sector banks
so the better evaluation of the performance of the banks is not possible.
 Since the Indian banking sector is so wide it was not possible for me to cover all
the banks of the Indian banking sectors.
INTRODUCTION
After liberalization the Indian banking sector developed very appreciate. The RBI
also nationalized good amount of commercial banks for proving socio economic services to
the people of the nation.
The Public Sector Banks have shown very good performance as far as the financial
operations are concerned. If we look to the glance of the financial operations, we may find
that deposits of public to the Public Sector Banks have increased from 859,461.95crore to
1,079,393.81crore in 2003, the investments of the Public Sector Banks have increased from
349,107.81crore to 545,509.00crore, and however the advances have also been increased
to 549,351.16crore from 414,989.36crore in 2003.
The total income of the public sector banks have also shown good performance
since the last few years and currently it is 128,464.40crore. The Public Sector Banks have
also shown comparatively good result. The gross profits of the Public Sector Banks currently
29,715.26crore which has been doubled to the last to last year, and the net profit of the
Public Sector Banks is 12,295,47crore.
However, the only problem of the Public Sector Banks these days are the increasing
level of the non performing assets. The non performing assets of the Public Sector Banks
have been increasing regularly year by year. If we glance on the numbers of non performing
assets we may come to know that in the year 1997 the NPAs were 47,300crore and reached
to 80,246crore in 2002.

The only problem that hampers the possible financial performance of the Public
Sector Banks is the increasing results of the non performing assets. The non performing
assets impacts drastically to the working of the banks. The efficiency of a bank is not always
reflected only by the size of its balance sheet but by the level of return on its assets. NPAs
do not generate interest income for the banks, but at the same time banks are required to
make provisions for such NPAs from their current profits.
NPA. The three letters Strike terror in banking sector and
business circle today. NPA is short form of “Non Performing Asset”. The
dreaded NPA rule says simply this: when interest or other due to a bank
remains unpaid for more than 90 days, the entire bank loan automatically
turns a non performing asset. The recovery of loan has always been
problem for banks and financial institution. To come out of these first we
need to think is it possible to avoid NPA, no cannot be then left is to look
after the factor responsible for it and managing those factors.

An asset, including a leased asset, becomes non- performing

when it ceases to generate income for the bank.
A ‘non-performing asset’ (NPA) was 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.
With a view to moving towards international best practices

and to ensure greater transparency, it has been decided to adopt the ‘90
days’ overdue’ norm for identification of NPAs, from the year ending
March 31, 2004. Accordingly, with effect from March 31, 2004, a non-
performing asset (NPA) shall be a loan or an advance where Interest
and/ or instalment of principal remain overdue for a period of
more than 90 days in respect of a term loan, The account
remains ‘out of order’ for a period of more than 90 days, in
respect of an Overdraft/Cash Credit (OD/CC),
The bill remains overdue for a period of more than 90
days in the case of bills purchased and discounted,
 Interest and/or instalment of principal remains overdue
for two harvest seasons but for a period not exceeding two half years in
the case of an advance granted for agricultural purposes.
As a facilitating measure for smooth transition to 90 days norm, banks
have been advised to move over to charging of interest at monthly rests,
by April 1, 2002. However, the date of classification of an advance as NPA
should not be changed on account of charging of interest at monthly rests.
Banks should, therefore, continue to classify an account as NPA only if the
interest charged during any quarter is not serviced fully within 180 days
from the end of the quarter with effect from April 1, 2002 and 90 days from
the end of the quarter with effect from March 31, 2004.
NPAs: AN ISSUE FOR BANKS AND FIs IN INDIA

To start with, performance in terms of profitability is a benchmark for any

business enterprise including the banking industry. However, increasing
NPAs have a direct impact on banks profitability as legally banks are not
allowed to book income on such accounts and at the sometime are forced
to make provision on such assets as per the Reserve Bank of India (RBI)
guidelines. Also, with increasing deposits made by the public in the
banking system, the banking industry cannot afford defaults by borrower s
since NPAs affects the repayment capacity of banks.
Further, Reserve Bank of India (RBI) successfully creates excess liquidity
in the system through various rate cuts and banks fail to utilize this benefit
to its advantage due to the tear of burgeoning non-performing assets.

INDIAN ECONOMY AND NPAs

Undoubtedly the world economy has slowed down, recession is at its peak,
globally stock markets have tumbled and business itself is getting hard to
do. The Indian economy has been much affected due to high fiscal deficit,
poor infrastructure facilities, sticky legal system, cutting of exposures to
emerging markets by FIs, etc.
Further, international rating agencies like, Standard & Poor have lowered
India’s credit rating to sub-investment grade. Such negative aspects have
often outweighed positives such as increasing forex reserves and a
manageable inflation rate.
Under such a situation, it goes without saying that banks are no exception
and are bound to face the heat of a global downturn. One would be
surprised to know that the banks and financial institution in India hold
nonperforming assets worth Rs. 110000 crores Bankers have realized that
unless the level of NPAs is reduced drastically, they will find it difficult to
survive.

GLOBAL DEVELOPMENTS AND NPAs

The core banking business is of mobilizing the deposits and utilizing it for
lending to industry. Lending business is generally encouraged because it
has the effect of funds being transferred from the system to productive
purposes, which results into economic growth.
However lending also carries credit risk, which arises from the failure of
borrower to fulfill its contractual obligations either during the course of a
transaction or on a future obligation.
A question that arises is how much risk can a bank afford to take? Recent
happenings in the business world -Enron, WorldCom, Xerox, Global
Crossing do not give much confidence to banks. In case after case, these
giant corporate becan1e bankrupt and failed to provide investors with
clearer and more complete information thereby introducing a degree of risk
that many investors could neither anticipate nor welcome. The history of
financial institutions also reveals the fact that the biggest banking failures
were due to credit risk. Due to this, banks are restricting their lending
operations to secured avenues only with adequate collateral on which to
fall back upon in a situation of default.
FACTORS FOR RISE IN NPAs
The banking sector has been facing the serious problems of the rising
NPAs. But the problem of NPAs is more in public sector banks when
compared to private sector banks and foreign banks. The NPAs in PSB are
growing due to external as well as internal factors.

EXTERNAL FACTORS:-

Ineffective recovery tribunal

The Govt. has set of numbers of recovery tribunals, which works for
recovery of loans and advances. Due to their negligence and
ineffectiveness in their work the bank suffers the consequence of non-
recover, thereby reducing their profitability and liquidity.

Willful Defaults
There are borrowers who are able to pay back loans but are intentionally
withdrawing it. These groups of people should be identified and proper
measures should be taken in order to get back the money extended to
them as advances and loans.

Natural calamities
This is the measure factor, which is creating alarming rise in NPAs of the
PSBs. every now and then India is hit by major natural calamities thus
making the borrowers unable to pay back there loans. Thus the bank has
to make large amount of provisions in order to compensate those loans,
hence end up the fiscal with a reduced profit.
Mainly ours farmers depends on rain fall for cropping. Due to
irregularities of rain fall the farmers are not to achieve the production level
thus they are not repaying the loans.

Industrial sickness
Improper project handling , ineffective management , lack of adequate
resources , lack of advance technology , day to day changing govt.
Policies give birth to industrial sickness. Hence the banks that finance
those industries ultimately end up with a low recovery of their loans
reducing their profit and liquidity.

Lack of demand
Entrepreneurs in India could not foresee their product demand and starts
production which ultimately piles up their product thus making them unable
to pay back the money they borrow to operate these activities. The banks
recover the amount by selling of their assets, which covers a minimum label.
Thus the banks record the non-recovered part as NPAs and has to make provision
for it.
Change on Govt. policies

With every new govt. banking sector gets new policies for its operation. Thus it has to cope
with the changing principles and policies for the regulation of the rising of NPAs.
The fallout of handloom sector is continuing as most of the weavers Co-operative
societies have become defunct largely due to withdrawal of state patronage. The
rehabilitation plan worked out by the Central government to revive the handloom sector has
not yet been implemented. So the over dues due to the handloom sectors are becoming
NPAs.

INTERNAL FACTORS:-
Defective Lending process
There are three cardinal principles of bank lending that
have been followed by the commercial banks since long.
i. Principles of safety
ii. Principle of liquidity
iii. Principles of profitability

i.Principles of safety:-
By safety it means that the borrower is in a position to repay the loan both
principal and interest. The repayment of loan depends upon the borrowers:
a) Capacity to pay
b) Willingness to pay

a) Capacity to pay depends upon:

1. Tangible assets
2. Success in business
b) Willingness to pay depends on:
 1.Character
2. Honest
3. Reputation of borrower

The banker should, therefore take utmost care in ensuring that the
enterprise or business for which a loan is sought is a sound one and the
borrower is capable of carrying it out successfully .He should be a person
of integrity and good character.
Inappropriate technology
Due to inappropriate technology and management information system,
market driven decisions on real time basis cannot be taken. Proper MIS
and financial accounting system is not implemented in the banks, which
leads to poor credit collection, thus NPA. All the branches of the bank
should be computerized .

 Improper SWOT Analysis:

The improper strength , Weakness, Opportunity, Threats analysis is
another reason for rise in NPA’s. While providing unsecured advances the
banks depend more on integrity, honesty, financial soundness and credit
worthiness of the borrower.

Banks should consider the borrowers own capital investment.

It should collect credit information from the borrowers from:
 From Bankers
 From external credit rating agencies
 Analyse the balance sheet
• True picture of business will be revealed on analysis of
profit loss a/c and balance sheet .
 Purpose of the loan
• When bankers give loan he should analyse the
purpose of the loan. To ensure safety and liquidity
bank should grant loan for productive purpose
only.

 Poor credit appraisal system:

It is another factor for rise in NPA’s. Due to poor credit appriasal the bank
gives advances to those who are not able to repay it back.They should use
good credit appraisal to decrease the NPA’s.
  Managerial deficiencies:
The banker should always select the borrower very carefully and should
take tangible assets as security to safeguard its interests. When
accepting securities bank should consider:
• Marketibility
• Acceptability
• Safety
• Transferability

The banker should follow the principle of diversification of risk

based on the famous maxim “do not keep all the eggs in one
basket”; it means that the banker
should not grant advances to a few big farms only or to concentrate them
in few industries or in a few cities. If a new big customer meets misfortune
or certain traders or industries affected adversely, the overall position of
the bank will not be affected.
Like OSCB suffered loss due to the OTM Cuttack, and Orissa hand loom
industries. The biggest defaulters of OSCB are the OTM (117.77lakhs),
and the handloom sector Orissa hand loom WCS ltd (2439.60lakhs).

 Absence of regular industrial visit

The irregularities in spot visit also increases the NPAs. Absence of
regularly visit of bank officials to the customer point decreases the
collection of interest and principals on the loan. The NPAs due to willful
defaulters can be collected by regular visits.

 Re loaning process
Non remittance of recoveries to higher financing agencies and re loaning of
the same have already affected the smooth operation of the credit cycle.
Due to re loaning to the defaulters and CCBs and PACs, the NPAs of
OSCB is increasing day by day.

PROBLEMS DUE TO NPA

 1.Owners do not receive a market return on their capital .in the
worst case, if the banks fails, owners lose their assets In modern
times this may affect a broad pool of shareholders.
2.Depositors do not receive a market return on saving. In the
worst case if the bank fails, depositors lose their assets or
uninsured balance.
3. Banks redistribute losses to other borrowers by charging higher interest
rates, lower deposit rates and higher lending rates repress saving and
financial market, which hamper economic growth.
4.Nonperforming loans epitomize bad investment. They
misallocate credit from good projects, which do not receive funding, to
failed projects. Bad investment ends up in misallocation of capital, and by
extension, labor and natural resources.
Nonperforming asset may spill over the banking system and contract the
money stock, which may lead to economic contraction. This spillover effect
can channelize through liquidity or bank insolvency:

a) When many borrowers fail to pay interest, banks may

experience liquidity shortage. This can jam payment across the
country.
b) Illiquidity constraints bank in paying depositors
c) Undercapitalized banks exceed the bank’s capital base

Out of Order' status:

:
An account should be treated as 'out of order' if the
outstanding balance remains continuously in excess of the sanctioned
limit/drawing power. In cases where the outstanding balance in the
principal operating account is less than the sanctioned limit/drawing power,
but there are no credits continuously for six months as on the date of
Balance Sheet or credits are not enough to cover the interest debited
during the same period, these accounts should be treated as
'out of order'.
‘
‘Ove rdu e ’:
Overdue’:
Any amount due to the bank under any credit facility is
‘overdue’ if it is not paid on the due date fixed by the bank.
TYPES OF NPA

 Gross NPA

 Net NPA

1) Gross NPA:
Gross NPA’s are the sum total of all loan assets that are
classified as NPA’s as per RBI guidelines as on balance
sheet date. Gross NPA reflects the quality of loans
made by banks. It consists of all the non-standard assets
like as sub-standard assets,doubtful , loss assets

2) Net NPA:
 Net NPA’s are those types of NPA in which the bank has
deducted the provision regarding NPA’s.Net NPA’s show
the actual burden of banks..

INCOME RECOGNITION
.

Income Recognition Policy

➢ The policy of income recognition has to be objective and
based on the record of recovery. Internationally income from non-
performing assets (NPA) is not recognised on accrual basis but is booked
as income only when it is actually received. Therefore, the banks should
not charge and take to income account interest on any NPA.
➢ However, interest on advances against term deposits,NSCs,
IVPs, KVPs and Life policies may be taken to income account on the due
date,provided adequate margin is available in the accounts.

➢ Fees and commissions earned by the banks as a result of

re-negotiations or rescheduling of outstanding debts should be recognised
on an accrual basis over the period of time covered by the re-negotiated or
rescheduledextension of credit.

➢ If Government guaranteed advances become NPA, the

interest on such advances shouldnot be taken to income account
unless the interest has been realised.

Reversal of income:
➢ If any advance, including bills purchased and discounted,
becomes NPA as at the close of any year, interest accrued and credited to
income account in the corresponding previous year, should be reversed or
provided for if the same is not realised. This will apply to Government
guaranteed accounts also.

➢ In respect of NPAs, fees, commission and similar income

that have accrued should cease to accrue in the current period and should
be reversed or provided for with respect to past periods, if uncollected.

Interest Application:
There is no objection to the banks using their own discretion in debiting
interest to an NPA account taking the same to Interest Suspense Account
or maintaining only a record of such interest in proforma accounts.

Reporting of NPAs
➢ Banks are required to furnish a Report on NPAs as on 31 March st

each year after completion of audit. The NPAs would relate to the banks’
global portfolio, including the advances at the foreign branches. The
Report should be furnished as per the prescribed format .
➢ While reporting NPA figures to RBI, the amount held in
interest suspense account, should be shown as a deduction from gross
NPAs as well as gross advances while arriving at the net NPAs. Banks
which do not maintain Interest Suspense account for parking interest due
on non-performing advance accounts, may furnish the amount of interest
receivable on NPAs as a foot note to the Report.

➢ Whenever NPAs are reported to RBI, the amount of

technical write off, if any, should be reduced from the outstanding gross
advances and gross NPAs to eliminate any distortion in the quantum of
NPAs being reported.

Asset Classification

Categories of NPAs

Standard Assets:
Standard assets are the ones in which the bank is receiving interest as
well as the principal amount of the loan regularly from the customer. Here it
is also very important that in this case the arrears of interest and the
principal amount of loan do not exceed 90 days at the end of financial
year. If asset fails to be in category of standard asset that is amount due
more than 90 days then it is NPA and NPAs are further need to classify in
sub categories.
Banks are required to classify non-
performing assets further into the following three categories based on the
period for which the asset has remained non- performing and the
reliability of the dues:

1) Sub-standard Assets

2 ) Doubtful Assets

3 ) Loss Assets

1 ) Sub-standard Assets:--
With effect from 31 March 2005, a substandard asset would be one, which
has remained NPA for a period less than or equal to 12 month.
The following features are exhibited by substandard
assets: the current net worth of the borrowers / guarantor or the current
market value of the security charged is not enough to ensure recovery of
the dues to the banks in full; and the asset has well-defined credit
weaknesses that jeopardise the liquidation of the debt and are
characterised by the distinct possibility that the banks will sustain some
loss, if deficiencies are not corrected.

2) Doubtful Assets:--
A loan classified as doubtful has all the weaknesses inherent in assets that
were classified as sub-standard, with the added characteristic that the
weaknesses make collection or liquidation in full, – on the basis of currently
known facts, conditions and values – highly questionable and improbable.
With effect from March 31, 2005, an asset would be classified as doubtful if
it remained in the sub-standard category for 12 months.

Loss Assets:--
A loss asset is one which considered uncollectible and of such little value
that its continuance as a bankable asset is not warranted- although there
may be some salvage or recovery value. Also, these assets would have
been identified as ‘loss assets’ by the bank or internal or external auditors
or the RBI inspection but the amount would not have been written-off
wholly.

Period for which the Provision requirement (%)

advance has been
considered as doubtful

Up to one year 20
One to three years 30

More than three years 60% with effect from March 31,
(1)Outstanding stock of NPAs 2005 75% effect from March
as on March 31, 2004. 31,2006

(2) Advances classified as 100% with effect from March

‘doubtful’ More than three 31, 2007
years on or after
April 1,2004.

:
.

. .

IMPACT OF NPA
  Profitability:-
NPA means booking of money in terms of bad asset, which occurred due
to wrong choice of client.

 Liquidity:-
Money is getting blocked, decreased profit lead to lack of enough cash at
hand which lead to borrowing money for shortest period of time which lead
to additional cost to the company. Difficulty in operating the functions of
bank is another cause of NPA due to lack of money. Routine payments
and dues.

 Credit loss:-
Bank is facing problem of NPA then it adversely affect the value of bank in
terms of market credit. It will lose it’s goodwill and brand image and credit
which have negative impact to the people who are putting their money in
the banks.
Early symptoms by which one can recognize a
performing asset turning in to Non-performing
asset:-
Four categories of early symptoms:-
---------------------------------------------------
(1) Financial:
✔ Non-payment of the very first instalment in case of term
loan.
✔ Bouncing of cheque due to insufficient balance in the
accounts.
✔ Irregularity in instalment.
✔ Irregularity of operations in the accounts.
✔ Unpaid overdue bills.
✔ Declining Current Ratio.
✔ Payment which does not cover the interest and principal
amount of that instalment.
✔ While monitoring the accounts it is found that partial
amount is diverted to sister concern or parent company.

(2) Operational and Physical:

✔ If information is received that the borrower has either
initiated the process of winding up or are not doing the
business.
✔ Overdue receivables.
✔ Stock statement not submitted on time.
✔ External non-controllable factor like natural calamities in the
city where borrower conduct his business.
✔ Frequent changes in plan.
✔ Non-payment of wages.

(3) Attitudinal Changes:

✔ Avoidance of contact with bank.
✔ Problem between partners.
(4) Others:
✔ Changes in Government policies.
✔ Death of borrower.
✔ Competition in the market
Preventive Measurement for NPA

Early Recognition of the Problem:-

Invariably, by the time banks start their efforts to get involved in a revival
process, it’s too late to retrieve the situation- both in terms of rehabilitation
of the project and recovery of bank’s dues. Identification of weakness in
the very beginning that is: When the account starts showing first signs of
weakness regardless of the fact that it may not have become NPA, is
imperative. Assessment of the potential of revival may be done on the
basis of a techno-economic viability study. Restructuring should be
attempted where, after an objective assessment of the promoter’s
intention, banks are convinced of a turnaround within a scheduled
timeframe. In respect of totally unviable units as decided by the bank, it is
better to facilitate winding up/ selling of the unit earlier, so as to recover
whatever is possible through legal means before the security position
becomes worse.

Identifying Borrowers with Genuine Intent:-

Identifying borrowers with genuine intent from those who are non- serious
with no commitment or stake in revival is a challenge confronting bankers.
Here the role of frontline officials at the branch level is paramount as they
are the ones who has intelligent inputs with regard to promoters’ sincerity,
and capability to achieve turnaround. Based on this objective assessment,
banks should decide as quickly as possible whether it would be worthwhile
to commit additional finance.
In this regard banks may consider having“Special Investigation”
of all financial transaction or business transaction, books of account
in order to ascertain real factors that contributed to sickness of the
borrower. Banks may have penal of technical experts with proven expertise
and track record of preparing techno-economic study of the project of the
borrowers
Borrowers having genuine problems due to temporary mismatch in fund
flow or sudden requirement of additional fund may be entertained at
branch level, and for this purpose a special limit to such type of cases
should be decided. This wil