Rupees & Coins: Bad Bank & NPAs

Banks make money by lending to its borrowers interms of Loans. Banks take money from its depositors in terms of FD, RD and other saving deposits. For these deposits, banks pay them a nominal interest rate. On the other hand, banks take interest from the borrowers. The interest rate which they collect will be higher than the interest rate which they give to the depositors. This is how banks make money

There will be defaulters, who do not pay the interest nor the principle amount to the bank. These amount which are not collected will be considered as NPA (Non Performing Assets). Due to this NPAs, Banks profit percentage and investors will be reduced. Hence the banks will try to keep these NPAs as low as possible. It was noticed that, before covid situation, the combined average NPA of all banks in India was around 11%. It was also predicted that this might increase to around 18% to 20% post covid

Bad Bank now will collect all these NPAs in the Banks across India for a discounted price. Due to this, stress on Banks will get reduced as the NPA loss percentage will be reduced. After collecting all the NPAs, Bad bank will take control over the defaulters assets and will make money by converting them to cash. By this way, Bad bank will also make money little more than the amount they purchased the NPAs

Let's take for an example:

"XXX" bank have NPA for Rs.200 Crores. This was given to Bad Bank for Rs.100 Crores. Now, the stress on the Bank "XXX" is reduced to half. Bad bank will recover the asset of the defaulters for say around Rs. 110 Crores. By this way Bad bank make money of 10% (this figure is for an example)

This might be a welcome move by most of the Banks and its investors. But the worry on this situation is, managers of the Bank now will give more loans as they have the Bad Bank backing up their losses to half (a rough figure)

Announcement from the Government:

The Cabinet on Wednesday (15.09.2021) cleared Rs.30,600 Crores guarantee programme for securities to be issued by the newly incorporated "Bad Bank" for taking over and resolving NPAs amount to Rs. 2 Lakh Crores

The Reserve Bank of India is in the process of granting a license for the National Asset Reconstruction Company Limited (NARCL)

The toxic assets worth Rs. 90,000 Crores that banks have already fully provided for will move to the NARCL

15% cash payment would be made to the banks based on some valuations and the rest 85% will be given as security receipts

Public sector banks will have a 51% ownership in the NARCL, while their shareholding along with that of public sector financial institutions will be capped at 49% for the IDRC (India Debt Resolution Company)

16 Banks including private players, would put up about Rs.6,000 Crores as equity for the NARCL

Bad Bank has impacted the Indian stock market yesterday (16.09.2021). Due to this news announcement about the Bank Bank in India, the banking stocks particularly PSU banks gained very drastically. Few stocks are