Non-Performing Assets (NPA)

Non-Performing Assets (NPA) have become a significant concern for banks and financial institutions. These assets represent loans or advances that are no longer generating income for the bank because the borrower has failed to make the required payments for a specified period. NPAs impact the financial health of banks, leading to reduced profitability and increased risk. In this article, we'll explore what is NPA, NPA meaning, the causes of NPA, how they work, their types, and their broader implications on banking operations.

What is an Asset and Non-Performing Assets for a Bank?

An asset is anything owned by an entity that has value. In the case of a bank, a loan is an asset because it generates interest income. Once borrowers have failed to pay either principal or interest for a defined period, usually 90 days, it becomes a non-performing asset. At this point, the loan stops generating income for the bank, putting it into the class of Non Performing Assets, popularly known as NPA.

How Non-Performing Assets (NPA) Work

NPA symbolises the Non-Performing Assets, indicating that those advances and loans by banks cease to generate any income after the borrower defaults on servicing principal and interest for at least a period of 90 days. A common reason for NPA is the borrower's inability to meet financial obligations due to factors like economic downturns or poor financial management. The lowered ability to lend and profitability with increasing NPAs in the portfolio of a bank comprise this. Considering the stability in the banking sector, a number of steps have been initiated by the Reserve Bank of India and the government in this respect to arrest and bring down NPAs.

Types of Non-Performing Assets

The classification of Non Performing Assets based on the period for which these accounts or loans have remained non-performing in nature. The major types of Non Performing Assets include:

1. Sub-Standard Assets: Sub Standard Assets refer to assets that have been NPAs for a period ranging from one day to a period of 12 months. These forms of NPAs have presented a higher risk of loss to the bank.
2. Doubtful Assets: Assets that are NPAs for over 12 months are categorised in this class. Not recoverable in their full amounts, they place a significant risk since recovery becomes too doubtfully certain.
3. Loss Assets: Of course, these are reckoned as not recoverable and mostly written off by the bank, even though some recovery may still be possible.

NPA Provisioning

NPA provisioning refers to the process of taking a certain amount of the profit earned by the bank to compensate for the probable loss made by NPAs. The extent of provisioning varies in accordance with the classification of the assets as Sub-Standard, Doubtful, or Loss, and at the same time in consideration of the type of bank. These different requirements ensure that both Tier-I and Tier-II banks have a safe financial statement.

GNPA and NNPA

Banks are also required to report their NPA numbers, which involve two important ratios as mentioned below:

Gross Non Performing Assets: It is the full value of any and all NPAs within the loan portfolio of a bank in the absence of provisioning.

Net Non-Performing Assets: The amount of provisioning is subtracted from the GNPA, and it would precisely indicate the amount of risk that the bank is exposed to.

How to Calculate Gross Non-Performing Assets Ratio and Net Non-Performing Assets Ratio?

Here is how Non Performing Assets calculation is done:

The ratio of the total GNPA to total advances of the bank is the Gross NPA ratio. The Net NPA ratio is arrived at by dividing the NNPA by the total advances. These ratios are of paramount consideration when analysing the financial health of a bank and its capacity for credit risk management.

Example of an NPA

Imagine a scenario where a fictional bank, XYZ Bank Ltd., reports its quarterly financial results. If the Gross Non-Performing Assets (GNPA) for a specific quarter is ₹10,000 crores and the total advances are ₹3,00,000 crores, the GNPA ratio would be approximately 3.33%. This ratio is calculated by dividing the total value of non-performing assets by the total amount of loans the bank has issued, and then converting that figure into a percentage. This percentage reflects the proportion of loans that are not generating income for the bank. You can analyse the Non Performing Assets examples on some case studies available online.

Impact of Non-Performing Assets on Operations

High levels of Non Performing Assets of banks do have an impact on the deep working of a bank. They bring down the profitability of the bank, reduce its lending capacity, and increase the risk of loan defaults. In the worst case, a high NPA ratio may result in a banking crisis that will have an effect on the whole financial system.

Conclusion 
Non-Performing Assets are a question of great concern to banks, concerning financial stability and operational efficiency. For knowing how to manage and mitigate the risks associated with the banking sector, it becomes very important to know what an NPA is, its types, and the effects of NPAs. Finally you have to understand the importance of an online share trading app.