Rescheduling a Distressed PACS Loan Before Audit
A district central co-operative bank in Bundelkhand has a loan book of ₹4,200 crore, a capital-to-risk asset ratio of 9.6% against a regulatory minimum of 9%, and net NPAs of 6.8%. Three PACS in a drought-affected block have not serviced ₹46 crore of crop and medium-term loans for 14 months. At the board meeting, the managing director tables a proposal to 'standardise' these accounts after a fresh one-year rescheduling, a 25% cash payment and new promissory notes. The credit general manager supports it because, without the upgrade, CRAR would fall below 9% and NABARD refinance would be at risk. The internal auditor objects that the PACS have no credible repayment source and one has diverted ₹1.8 crore to a rice mill. The board asks for a note before voting.
1. Can the three PACS accounts be upgraded by rescheduling? Apply asset classification and prudential reasoning.
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No. Rescheduling does not, by itself, convert an NPA into a standard asset.
- Asset classification follows the record of recovery, not the paper created at the board table. Accounts overdue for 14 months are non-performing. A fresh promissory note or a one-year rescheduling does not create a repayment record.
- A 25% cash payment is token. Unless the entire arrears are cleared and the account shows sustained recovery, the account remains an NPA. Calling it 'standard' would be evergreening and would misstate the bank's CRAR and NPA figures.
- The diversion of ₹1.8 crore to a rice mill is a red flag. It suggests misutilisation and possible malfeasance, not a routine drought-related cash-flow problem. Restructuring such an account without inquiry would compound the risk.
- The board cannot use its resolution to override prudential norms or the auditor's objection. The proposed upgrade is not a business decision; it is an accounting device to protect the CRAR number.
A legitimate restructuring may be considered only within the applicable RBI/NABARD framework, with a credible repayment plan, proper documentation, provisioning and transparent disclosure. It cannot be a device to avoid recognition of loss.
2. What should the board decide on the proposal, and what alternatives exist to address the capital shortfall?
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The board should reject the 'standardisation' proposal, retain the NPA classification and provisions, and direct a recovery and accountability review for each PACS. It should ask why the diversion was not detected earlier and whether staff collusion is involved.
To address the capital shortfall, the board should consider lawful and transparent options:
- Recovery first: invoke arbitration, enforce security, attach assets and pursue the diverted amount. Recovery improves capital without accounting tricks.
- Capital infusion: seek a state government recapitalisation, member/PACS contribution or other approved capital support. The board should place a realistic capital plan before the Registrar and NABARD.
- Balance-sheet cleanup: make full provisioning, tighten credit appraisal, reduce operating costs and stop fresh lending to defaulting PACS without a credible plan.
- Transparent OTS policy: if a one-time settlement is used, it must be a board-approved policy with objective eligibility, haircut norms, independent valuation and disclosure-not a single-borrower favour.
The board must report the correct position to the regulator and refinancing agency. A false upgrade may preserve the CRAR ratio on paper but will damage the bank's credibility and may attract supervisory action.
3. What governance and audit controls should accompany any restructuring?
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Any restructuring should be ring-fenced with controls:
- Independent review by the audit committee, not only by the credit department that proposed the package.
- No interested director in the decision; record recusals.
- Cash-flow and end-use verification for each PACS, including the rice-mill diversion.
- Monthly monitoring of arrears, security cover and recovery, with covenants and triggers.
- Full provisioning and disclosure in the balance sheet; no netting or concealment.
- Staff accountability for appraisal and monitoring failures.
- Reporting to the Registrar, NABARD and the statutory auditor, with board minutes recording the dissent and the auditor's objection.
Good governance here means accepting a lower CRAR after honest provisioning rather than manufacturing a higher one through reclassification. The former is a solvency problem to be solved; the latter is a credibility problem that can become a regulatory one.