Bad loans on rise: How can banks tackle the menace?

There has been an increase in the number of defaulters of late. Companies like Kingfisher , Winsome , Bhushan , Zoom Developers, Sterling Biotech , have exploited the Indian banking system.

What makes PSU banks so vulnerable – is it the corruption or lack of due diligence or are they too weak to arm-twist their borrowers and take tough calls?

Discussing the same, Economist Haseeb Drabu said the corporate governance in PSU banks is not as strong as private banks and there is lot of involvement and interfering by government officials. Besides, many companies do not disclose impaired assets on time, he feels.

Drabu feels forensic audits are must for all frauds reported in the recent past.

Diwakar Gupta, Former MD & CFO, State Bank of India , said the banks face the problem of governance deficit. There is lack of adequate incentive for PSU banks to take proactive decision.

Below is the transcript of Diwakar Gupta and Haseeb Drabu's interview to CNBC-TV18's Latha Venkatesh and Sonia Shenoy

Latha: The most obvious question first, why is it that public sector banks have suffered more than private sector banks in handling non-performing loans (NPLs) in this down cycle?

Drabu: If you look at it from a broader perspective, it points to governance deficit and management deficit. I think the corporate governance in PSU banks is not as strong as it ought to be and the skill set that the management teams must have now in a kind of financial system that is evolving and kind of size and scale of credit particularly in India, the skill set doesn't really exist at that level.

In terms of governance the biggest issue is the separation of ownership and management. The Government of India owns a large chunk of these banks ranging from 50 percent to 85 percent and a lot of people are ex-official members on the board be it the finance secretary or banking secretary depending on the nature, size, class of the bank.

There is definitely involvement and interference at that level. Board directors of these banks are favors, they reach out to people with political context, these are in some ways parking slots. So the ideal governance environment and it is a new regulatory environment because if you see we have moved from a control regime to a regulatory regime and the key players there is the board of directors. That is where the real problem starts and then subsequently it becomes an operational issue and so on.

Latha: So two big issues, political interference which is governance issue as well as inability to do as much due diligence, quality of diligence. There are people like NBFCs who believe that due diligence of State Bank of India (SBI) is much better than the quality of bankers in several private sector banks. Why do Bhushan's happen, why do Winsome's happen?

Gupta: I would agree with Haseeb Drabu that there is governance deficit and that governance deficit is not because credit skills are lacking because today in large advances you have adequate due diligence from very competent people. It is really the fact that in good times you underprice risk, you go overboard, in bad times you want to find a skate board. So if I were to draw an analogy, women in our country for example they are used to comments being passed against them. Only once in a while there is outrage.

What we are looking out today is that the reaction is not the root cause of the problem, the root cause of the problem is the fact that in the public sector space there is not adequate incentive for taking proactive decisions which can then get questioned later. Therefore a lot of this problem is happening by default because there is indecision.

Kingfisher Air stock price

On August 21, 2014, at 11:12 hrs Kingfisher Airlines was quoting at Rs 2.94, up Rs 0.01, or 0.34 percent. The 52-week high of the share was Rs 6.84 and the 52-week low was Rs 2.06.

The latest book value of the company is Rs -166.59 per share. At current value, the price-to-book value of the company was -0.02.