Many times, projects are conceived factoring in a particular scenario, which doesn’t materialize or changes by the time the project is commissioned.
One glaring example of this is huge investment in natural gas based power plants, specially closer to Andhra Pradesh coast, based on the premise that large amount of gas would be extracted from the K-G basin by Reliance Industries. However, most of these power plants remained stranded for long period due to decrease in gas supply from the basin coinciding with sharp rise in global prices of natural gas and became NPA. Another example of this is sharp, almost sudden, decline in crude oil prices, which has rendered most of the shale oil industry based in USA, commercially unviable, which will eventually become NPA if prices remain this low.
A more important reason for NPA generation is the delay in projects, which mostly happens due to delay in government approval, delays in land acquisition, litigation and so on. For instance, if a company has taken loan for a new project with a gestation period of four years, then the interest and principal would become due after that on the books of the banks. However, if the projects doesn’t get commissioned due to a delay, a very usual phenomenon in most of the infrastructure projects, and does not generate cash, the bank would be forced to classify it as an NPA.
The NPA discussion also needs to be looked at, from the perspective of industry/ economic cyclicality. During the up-cycle, there is an increasing demand in the economy, industries are producing, generating cash and on the basis of bright outlook, keep reinvesting the money along with the bank borrowings into newer projects and capacity expansion. The period of 2003-2008 may be classified as one such period. However, once the projects are commissioned, the market gets flooded with over supply leading to fall in prices, pressure on balance sheet etc, from wherein begins the industry down-cycle.
While a down-cycle puts stress on the balance sheet of the companies and, in turn, the banks, the next phase of revival again start the engines of economy. An example of the same is industrial revival beginning around 2003-04 aided by government efforts as well as global increase in demand. It is interesting to note that the Gross NPAs of banks which had reached a level of as much as 14.8% of total advances in 1998 at the bottom of the economic cycle, improved to 5.2% in 2005 and further to 2.5% in 2007.
Does it mean there is no reason to worry..? Of course not… But, it is essential to differentiate between – if we can call it this way – the good NPA and the bad NPA; allow breather to good NPA and chase the bad NPA..! The bad NPA meaning where there is a wilful default, occasionally in collusion with the bank officials. In fact, this phase of rising NPA may be a slight blessing in disguise to the extent that it has made regulators become more vigilant to address the systemic deficiency.
Other than that, we need to have faith in the market dynamics and wait for the economic up-cycle to begin in due course..