Liquor baron Vijay Mallya may have become poster boy of loan default cases in India but he's just one part of a much bigger problem.

Between 2013 and 2015 alone, Indian banks wrote off loans worth Rs 1.14 lakh crore and there are unrecoverable loans worth more than Rs 3.6 lakh crore languishing in their books that have been classified as non-performing assets. And India Inc could make this worse.

If the latest Financial Stability Report released last week anything to go by, India Inc is on the verge of making the banking system further bankrupt. The report indicates that the worst is not over for Indian banks as non-performing assets are likely to rise. And things are unlikely to improve till the economy begins to perform and private sector companies start paying back their loans.

This comes at a time when the Reserve Bank of India and the Union government have been scratching their heads for solutions to the lending problem facing Indian banks. RBI Governor Raghuram Rajan has given banks time till March 2017 to account for all the bad debts – those that are unrecoverable or are proving a challenge to recover – and clean up their balance sheets.

Saving banks from capitalists

Media reports have termed this a challenge of saving Indian banking from crony capitalism. It’s a small population of large borrowers – those who have an aggregate fund-based and non-fund based exposure of Rs 5 crore or more – who account for much of the bad debts in the country. In March, large borrowers had taken 58% of the loans but were responsible for 86.4% of the non-performing assets, according to the report.

Consider this: Top 100 large borrowers – in terms of outstanding funded amounts – account for almost one-fifth of all unrecoverable debt in Indian banks. The RBI report said that the gross non-performing assets ratio had risen sharply, from 5.1% last September to 7.6% in March and warned that this could rise to a steep 9.3% by March 2017 if the macroeconomic situation worsens.

Another cause of concern for Indian banks is going to be large corporate borrowers that are burdened with huge debt are therefore unlikely to pay up in time – if at all they do. Just a week before the RBI released its Financial Stability Report, a study by ratings agency India Ratings and Research said corporate debt worth Rs 6.7 lakh crore is facing the risk of default. The study further said that 240 of the top 500 borrowers might not be able refinance their debt liability – take another loan to pay back the outstanding one – which expires in the next financial year. Of this, Rs 4.7 lakh crore may have already become delinquent – pending for months beyond the due date of repayment.

No band-aids

The challenge for these banks is that they have lent one-third of all outstanding loans to these 500 companies. If they fail to pay up, non-performing assets will only rise further, the India Ratings and Research study said.

“Banks have been rationing credit due to their capital constraints, higher non-performing assets and challenges of the post-default recoveries,” the study said.

Among the top borrowers in the country are Reliance Industries, Tata Steel, Vedanta, Jaiprakash Associates and Bharti Airtel, according to the India Ratings report. In May, The Hindu reported that some of the biggest corporate entities in the country had lined up their assets for a “fire sale” after banks started acting tough to get them to repay loans.

Ray of hope

What could come as a silver lining is that the RBI report said in the short term, some companies have improved their ability to pay a part of their loans. Even though a major rebound to explosive growth in repayment is unlikely, the report suggested the recovery could marginally improve.

In March, the percentage of “leveraged” companies fell to 14% as compared to 19.6% in September 2015. A leveraged company is one which has a negative net worth, or a debt that is double its equity.

The percentage of “highly leveraged” companies – for which the debt is triple the equity – stood at 12.9% in March, as compared to 15% in September last year. This, however, is still a high number and recovering loans from these companies that are in deep debt is likely to be a big challenge.

However, RBI’s data is limited to 2,600 listed non-government, non-financial companies. The rot, however, runs deeper.

In December, Mint analysed data of listed and unlisted corporate firms and said that this is not “an isolated problem that rests on the balance sheets of a few foolhardy corporate groups.”

“The problem may be most extreme in some pockets, but it certainly isn’t restricted to a handful of firms,” it said. “...while the debt woes of large corporate borrowers get a bulk of the attention, smaller companies are also struggling.”