October 30, 2017

Even as Indian lenders face the central bank’s ire over the classification of loans or divergence that seems to be burning holes in their books, the dispute may be temporary.

RBI’s scrutiny of non-performing assets raises concerns over the way classification is being done by auditors at banks. Three private-sector lenders have together reported more than Rs 12,000 crore in asset classification divergences for FY17 so far.

Divergence in the classification of NPA accounts between banks and the regulator surfaced after RBI pointed out differences in asset classification and provisioning as on 31 March, after the annual risk-based supervision. The divergences are not only negative surprises for investors but also highlight the inability of managements and auditors to properly assess stress in loan portfolios.

Yes Bank reported a divergence of Rs 6,355 crore for FY17, while this number was at Rs 4,177 crore for FY16.

"These loans are from the last fiscal, and mostly related to infrastructure and related sectors. However, in the first six months of the year, about 81 per cent of these loans have either been repaid or their interest and principal payment is now meeting standard account norms," Rana Kapoor, Yes Bank CEO, had said.

Even HDFC Bank had to bear the brunt of the regulator’s audit when it was directed to classify a standard account to the non-performing asset (NPA) category. Another lender Axis Bank, currently struggling under the burden of its legacy infrastructure loans, reported a divergence of Rs 5,633 crore for FY17, while this number was at Rs 9,480 crore for FY16. "We recognise according to the RBI rules. To the extent the regulator has told us you have to recognise this extra, we have done that. But it’s a judgment call at the end of the day, and we are following what RBI has told us to do," said Shikha Sharma, MD & CEO, Axis Bank in an interview last week. "Were we following the rules earlier? Yes we were. But if the rules are not black and white and there is an element of judgement in them, there will always end up being a point of view."

ICICI Bank had reported a divergence of Rs 5,104 crore in FY16. "This is not a systemic issue. It is an individual bank issue," said YV Reddy, former Governor of the Reserve Bank of India. "In every country, there is a review of the asset classification done by the auditors. So if one auditor your assumption is true that the auditor who audited a bank wrongly classified an asset, that auditor should be disqualified."

In the coming days, RBI may question the provisioning methodology and NPA figures arrived at by auditors of the banks, say people in the know. ICICI bank and Yes Bank are audited by BSR & Co. Deloitte Haskins & Sells is HDFC Bank’s auditor, and SR Batliboi is the auditor of Axis Bank.

BSR & Co, is an affiliate firm of KPMG India, while SR Batliboi is an affiliate firm of EY India. A detailed questionnaire sent to KPMG, EY and Deloitte did not elicit any response.

According to a person close to the development, there are two reasons for the divergence. First, RBI’s access to information compared to that of auditors and, second is change in accounting standards.

According to a major bank’s auditor, the differences are not unexpected.

"The RBI has access to information an auditor may not. Like, if a loan in bank X has gone toxic, the auditor of bank Y may not know, but RBI would," he said. He added that there is a time lapse between auditors preparing an account and RBI conducting inspections.

"What you must look at is the impact on the P&L of a bank due to divergence. In most cases, that is not much," he said.

Another senior auditor told ET that the divergence is due to new accounting standards. India has changed its accounting standards from GAAP to Ind-AS, which is on a par with International Financial Reporting Standards (IFRS), from April 1, 2016.

[The Economic Times]