Macquarie sees ticking bomb for India as restructured loans fail

Mumbai

INDIA's state-run banks' restructured loans are souring at a record pace, threatening their appetite for new lending with profitability already at a seven-year low.

Reworked assets that turned bad almost doubled to 570 billion rupees (S$12 billion) in the year ended March 31, industry data show. There's another 2.9 trillion rupees in the category, which must be reclassified as delinquent or healthy within two years. Macquarie Group has called this debt a ticking time bomb. Standard & Poor's predicts a record portion will fail in the year ending March 2016 as Fitch Ratings sees lenders' return on equity falling to the least since 2006.

"A further rise in soured restructured loans is inevitable," Deep Narayan Mukherjee, a senior director at Fitch's India Ratings and Research Pvt in Mumbai, said in a May 27 phone interview. "We aren't seeing any signs in macro economic developments that will help loan repayments." Bank credit has been the missing link as Prime Minister Narendra Modi strives to revive growth in Asia's third-largest economy. Lending increased 10.5 per cent in the 12 months through May 1, Reserve Bank of India data show, rebounding from February's 8.88 per cent, which was the slowest pace since 1994.

Banks previously had to provision for only 5 per cent of loans identified as restructured versus upwards of 15 per cent for those classified as bad. The RBI then ruled that, as of March 31, banks must consider any loans they reorganise as bad and make a 15 per cent provision immediately. The outstanding restructured loans, equal to about 2.9 trillion rupees, weren't affected.

RBI governor Raghuram Rajan has proposed penalties and incentives to get lenders to move faster in containing soured debt in an effort to bolster the financial system. He explained his hard line on classifying delinquencies during a speech in the western state of Gujarat in November.

"A nonperforming loan by any other name smells as bad," he said. "Forbearance allows banks to postpone provisioning for bad loans. So when eventually the hidden bad loans cannot be disguised any more, the hit to the bank's income and balance sheet is larger and more unexpected." India's state-owned lenders account for more than 70 per cent of all loans and their credit profiles will take longer to improve because they are tied to corporate balance sheets, Moody's Investors Service said in a May 13 report.

"State-run banks' profitability will be weak with return on assets staying flat in the current fiscal year because their exposure to vulnerable sectors is high," Pawan Agrawal, Mumbai-based chief analytical officer at Crisil Ratings, the local unit of S&P, said. "Their ability to raise capital to support business growth is under severe pressure because of the nonperforming assets burden." The cost to protect the debt of State Bank of India against nonpayment using credit-default swaps has risen five basis points this month to 155 basis points as of May 28, according to data provider CMA. Its US$1.25 billion of 4.125 per cent notes due 2017, sold to investors at a spread of 375 basis points over Treasuries in July 2012, are at a 139 basis-point premium, compared with a low this year in March of 132.7 basis points.

The rupee has weakened 2 per cent against the greenback this quarter, making it the third worst-performing currency in Asia after the Thai baht and Japanese yen. The yield on India's benchmark 10-year sovereign bonds due 2024 has risen 10 basis points to 7.84 per cent in the period.

Worst hit may be iron and steel companies, Macquarie said in its May 21 report titled: Restructured Loans: A Ticking Time Bomb? That industry accounts for close to 20 per cent of restructuring cases by value. Loans amounting to more than 300 billion rupees have gone bad over the past three to four years, the Sydney-based investment bank said, citing local press reports, with about 70 per cent of the stress coming from iron and steel, infrastructure, textiles, shipping and construction.

"About 40 per cent of standard restructured loans to infrastructure, iron and steel companies will slip into nonperforming assets in the coming quarters," P Karthikeyan, a Chennai-based banking analyst at Cholamandalam Securities, said by phone on May 27.

"Provisions for these bad loans will jump many fold and weigh on profits unless the government and regulators come up with new measures." Bloomberg