Bad Bank

A bad bank is a special purpose entity created to isolate and manage the non-performing assets (NPAs) and distressed loans of one or more banks — separating the toxic assets from the healthy balance sheet of the originating bank to allow it to focus on normal lending operations without the overhang of legacy stress. The originating bank transfers its NPAs to the bad bank at a negotiated price, receiving a combination of cash and security receipts (SRs) in exchange. The bad bank then undertakes the slow, complex process of asset resolution — recovering value through restructuring, selling assets, or liquidation. In India, the National Asset Reconstruction Company Limited (NARCL) was established in 2021 as India's government-backed bad bank, working alongside the India Debt Resolution Company Limited (IDRCL) — NARCL acquires stressed assets from banks while IDRCL manages and resolves them. The Government of India provides a ₹30,600 crore guarantee on security receipts issued by NARCL. For Indian banking sector equity investors, bad bank transactions are credit-positive events — when a bank transfers NPAs to NARCL, its Gross NPA ratio, Net NPA ratio, and credit cost improve, potentially leading to higher provisioning coverage and eventual write-back of excess provisions, which positively impacts reported profits and banking sector valuations.