In the aftermath of the government of India’s disruptive move to demonetise two high-value currency notes late last year, the Reserve Bank of India (RBI) has come under fire.

While it has been ridiculed for the dozens of tweaks it has made to the rules vis-a-vis demonetisation, of late the central bank has also received flak for the delay in accounting for the old notes deposited by citizens. In fact, for the first time ever, it has failed to release the balance sheet for the week ended June 30, the day it officially closes its accounting year. This evasive move, reportedly an after-effect of demonetisation, drew further criticism. Some on Twitter have called the RBI a “Shakespearean Tragedy,” others labeled it “India’s biggest non-performing asset (NPA).”

However, on Monday (July 17), social media commentators seemed to have largely missed a landmark court ruling that could be the proverbial shot in the arm for the bank regulator in its endeavour to clean up India’s nearly Rs10 lakh crore stressed-asset problem.

In its ruling, the Gujarat high court (HC) allowed the banks to continue with the bankruptcy proceedings against Essar Steel, which owes Rs45,655 crore to various lenders. Essar, along with 11 other companies, accounts for nearly 25% of the gross NPAs of Indian banks. This judgment marks a big win for the central bank and cannot be ignored amidst the brickbats it is receiving.

A landmark judgment

On June 13, the RBI directed the banks to take the top 12 large defaulters to the bankruptcy courts. Each of these accounts have an outstanding loans of over Rs5,000 crore. At least 60% of the total amount owed has been classified as non-performing assets by banks at the end of March 2016.

It’s the first time that the RBI has directed banks to take the defaulters to court. The move comes about a month after the government made changes to the Banking Act, giving the RBI more powers to deal with NPAs. Now, the banking regulator has the authority to direct lenders to initiate the insolvency resolution process in case of default. On June 13, the RBI enforced this authority.

Bankers explain that the dirty dozen has been involved in other resolution processes, too, but none has worked out in the last two-to-three years. For instance, the various lenders of Essar Steel had come together to try the joint lenders forum (JLF) tool for recovery. In this process, the creditors brainstorm to find an effective resolution. However, either there has been discord among the banks or with the promoters, leading to delay.

Essar had earlier offered a loan-restructuring process wherein it was to begin payment of dues only after 25 years and that, too, at a mere 1% interest. This evidently is a terrible proposition for the banks.

Following the RBI’s move to push it towards the bankruptcy courts, Essar Steel moved the HC on July 04. It claimed that as a restructuring process is already underway, this step would disrupt the firm’s operations. Out of Essar’s total debt, Rs32,864 crore had been declared as non-performing by March 31, 2017.

However, the HC rejected Essar’s plea, providing relief to the banks. The RBI argued the urgency to resolve the toxic loan problem, saying that and taking defaulters to the bankruptcy court will speed up resolution.

“Typically, once a case is admitted to the bankruptcy court it can be resolved in less than a year as opposed to the 2-4 years taken via other mechanisms. Therefore, this judgment is pertinent,” explained a public sector banker, requesting anonymity.

This will help improve the banks’ financial health. The Rs10 lakh crore stressed loans, which includes NPAs and restructured loans, form 12% of the total loans in Indian banking. So out of every Rs100 lent, banks are likely to recover only Rs88.

In fact, India’s stressed loan problem now exceeds the GDP of 137 countries.

Given this backrop, the RBI’s move is a good judgement call, Sunil Srivastava, deputy managing director (corporate accounts group), the State Bank of India, said.

Strong signal

The judgment is also a signal to other debtors. “It also sends out a strong message to the other borrowers that they can’t use the same grounds again to stall the proceedings,” said Ashvin Parekh of Ashvin Parekh Advisory Services, which provides banking and transaction advisory services to lenders and other financial firms. Parekh called it a “landmark judgment.” After Essar, another borrower, Bhushan Power & Steel, too, had reportedly planned to approach the HC. It has defaulted on loans worth Rs43,000 crore.

Meanwhile, Essar is expected to approach the supreme court (SC), lawyers believe it will meet the same fate there.

“In such cases, the court first tries to determine if they are indeed NPAs or not, and if the borrowers have been serving these loans or not. If these are rightly classified, then the RBI can direct them to a speedier process. So, even if it goes to the SC, which is likely, I think the HC proceeding may hold ground there, too,” explained Ramesh K Vaidyanathan, founder and managing partner, Advaya Legal.

Meanwhile, bankers have cautioned that moving the bankruptcy court isn’t a magic wand and that the recovery process will be gradual. However, now at least debt recovery is somewhere in sight.