Lenders need to be proactive in monitoring borrowers: RBI

Amid a recent surge in payment delays and loan defaulting, Reserve Bank of India (RBI) Deputy Governor N.S. Vishawanathan said lenders need to be proactive in monitoring their borrowers and identifying financial stress, using a combination of leading indicators and renegotiation points in the form of loan covenants, rather than wait for a borrower to default.

Addressing the Convocation ceremony at the National Institute of Bank Management here on Wednesday, Vishwanathan said early identification of stress and loan modifications in response would provide sufficient time for lenders to put in place the required resolution plan.

"The new framework requires lenders to put in place a resolution plan within 180 days of default and some have commented that 180 days is insufficient to put in place a resolution plan, especially where multiple lenders are involved. However, one has to note that default in payment is a lagging, not leading, indicator of financial stress of a borrower and the framework provides 180 days after a default to put in place a resolution plan," he said.

Talking about the one-day default clause proposed by the RBI, Vishwanathan said a large number of borrowers, even some highly rated ones, have failed in following this norm, and urged that this needs to change at the earliest.

"On the basis of first few reports received from banks under the new reporting system, that non-payment on due date appears to be seen as par for the course by the banks and the borrowers. If borrowers fail to pay on the due date because of a cash flow problem, banks should see that as an early warning indicator warranting immediate action," he said.

"If borrowers, with ability to pay on the due date, delay it routinely or because they see other arbitrage options, this must change too. Bankers should warn their customers that one-day default will lead to their being on watch for resolution. Borrowers too should realise that they have to meet payment obligations as per the contract and it is no more sufficient to pay up only by 60/90 days past due date," he added.

In terms the new payment framework, the top RBI official said the repayment schedules of loans should take into account idiosyncratic risks and accordingly be customised to suit the cash flow pattern of the borrowers. He also called for 'enough skin in the game' from the borrower so that there are adequate buffers (debt service reserve accounts) to tide over temporary cash flow volatility.

"The present problem is that banks allow excessively high leverage thus leaving out any possibility that the borrower can be made to deal with emergencies. This has been possible in an environment in which both the lender and the borrower were not too keen to maintain the sanctity of the debt contract. Such poor credit culture must be incentivised to change and the revised framework is aimed to precisely achieve this objective. For the small borrower who may not have the wherewithal to bring funds swiftly in the event of non-payment by clients, the framework makes an exception. The framework for restructuring has been consciously made non-applicable to the Micro, Small and Medium Enterprises (MSMEs) with borrowings of Rs 250 million and less," he added.

The new RBI framework paves way for reduction of arbitrage borrowers are currently enjoying while raising funds through borrowing from banks or raising funds from the capital markets. However, if a borrower delays coupon/principal payment on a corporate bond even for one day, the market would penalise the borrower heavily - the rating would be downgraded, the yields on the bonds would shoot up, cost of further financing would increase, and suits would be filed by investors, to name a few.

In this regard, the RBI official noted that only when the overdues stretch beyond 90 days, the loans would be classified as non-performing assets (NPA). Therefore, Vishwanathan said prompt repayment to banks is critical, as they access unlimited uncollateralised funding from among others, the common persons, on the strength of the banking license.

All these steps, Vishwanathan said, would improve credit flows further and create demand for fresh investment, which may further accelerate growth.