SC verdict on sugar farmers will boomerang on farmers as banks threaten to stop lending

The Supreme Court’s order, early this week, rejecting the plea of banks seeking priority over farmers’ dues while disposing of collateral, could make banks less willing to lend to sugar mills.

In future, banks may be less willing to lend against stocks as the SC has set a bad precedent. Even existing bank loans to these borrowers can become non-performing assets (NPAs) as current norms prevent a debtor from selling assets already pledged to a lender.

“This (the SC order) can be only a temporary reprieve to farmers,” said Sushil Muhnot, chairman of Bank of Maharashtra, whose bank has exposures to the sugar industry in Maharashtra and Uttar Pradesh.

“Logically, banks will not grant further loans against the same type of collateral as similar instances can occur again,” Muhnot said.

Muhnot, however, said his bank’s loans to sugar mills is not significant and the bank has been reducing exposure to the industry over the past few years. Most state-run banks have an exposure to sugar farmers, mainly State Bank of India and Punjab National Bank (PNB).

At the heart of the matter is an estimated Rs 8,000 crore loan exposure for SBI and Punjab National Bank to sugar mills in Uttar Pradesh. These loans have been given to mills against the collateral of sugar stocks. Firstbiz couldn’t independently verify the exact exposure of banks to the borrowers affected by the court verdict.

Rashtriya Kisan Mazdoor Sangathan, the sugar growers’ association which moved the Allahabad High Court seeking payments to farmers first before lenders, cited the drought situation in the state and farmers’ suicides to support its case.

The Allahabad High Court ruled in favor of farmers. Under banking laws, lenders have the first right over the collateral against which the loan is given. By upholding the HC order, the apex court has turned a blind eye to lenders’ legal claims.

Following the SC ruling, the sugar mills will sell the stocks by 31 October to pay close to Rs 2,900 crore of dues to sugar growers in the state.

To be sure, the SC verdict giving precedence to the lives of farmers over the right of banks to do business cannot be morally disputed but a more balanced judgment would have helped prevent a crisis of confidence in bank lending to sugar mills.

While the SC verdict will certainly give some reprieve to cash-strapped farmers, in the longer term, it is going to hit them bad since banks would hesitate to lend again, bankers said.

Besides, given that mills have begun selling the same assets hypothecated to banks as collateral, banks are also likely to term these loans as bad, complicating the matter for borrowers, they said.

Prudence vs justice

This isn’t the first time an intervention by courts has come in the way of banks’ right to recover money from stressed borrowers.

Recently, the Kolkata High Court had granted a stay to Vijay Mallya-promoted Kingfisher Airlines, which owes about Rs 6,500 crore of loans to a host of banks, from being tagged as a wilful defaulter by United Bank of India.

A borrower is declared as Wilful defaulter if he (or his company) doesn’t repay money to banks even if when they have the capacity to do so. The matter is currently being fought in court.

Every creditor has a right to claim the underlying asset from a debtor if the loan is not repaid. Repeated interventions by the judiciary questioning the basic fundamentals of banking business could lead to chaos in the banking system, which is already neck-deep in bad loans.