State-owned banks may be sitting on a powder-keg of inadequately provisioned loans
The banking sector’s June quarter earnings “pleasantly” surprised the market. The country’s largest lender, State Bank of India (SBI), has seen its net profit grow 137 per cent in the quarter, which has helped push up the profitability of the benchmark indices. On the back of such a stellar performance, the bank has been trying to convince analysts to give its shares a better rating, since its profitability puts it in league with companies like Oil and Natural Gas Corporation, Reliance Industries and Tata Consultancy Services.
The Street, however, is in no hurry to re-rate either SBI or the larger universe of public sector banks (PSBs), even though shares of these banks are available at throwaway prices. This is not surprising because state-owned banks have seen a pile-up of bad loans at a faster pace, compared to their private sector peers. For PSBs, the fresh inflow of non-performing loans (NPLs) in the quarter, also known as slippages, has sharply moved up in the opening quarter of FY13. For instance, SBI’s slippage ratio or share of impaired assets in Q1 has more than doubled to 4.59 per cent.
This sharp deterioration in asset quality of PSBs implies two things. First, the accretion of bad debt and loan restructuring signal financial stress. Second, the sharp rise in bad debt calls for a review of the lending process of state-owned banks, considering the borrower profile of private sector banks is no different and yet their non-performing assets are lower. Kotak Institutional Equities says it is intrigued by the low levels of NPLs of certain private banks versus the high levels of restructured loans and NPLs of state-owned banks. The brokerage notes that the loan profile of both is not very different.
What makes the situation worrisome for state-owned banks is the inadequate provisioning for these bad loans. In 2009, the Reserve Bank of India (RBI) had made it mandatory for banks to put aside Rs 70 for every Rs 100 that had become an NPL. Last April, the central bank unexpectedly relaxed the norms on this provisioning coverage ratio (PCR), under which banks were not required to maintain a PCR of 70 per cent for bad loans after September 2010.
The consequence of this relaxation is visible in the earnings of PSBs this fiscal. SBI’s PCR is down from 68 per cent in Q4FY12 to 64 per cent in Q1. Had SBI provided adequately for its bad loans, its profits would have been lower. BRICS Securities says while the profitability of the sector seems reasonable, it’s debatable if one adjusts for higher provisioning. Anish Tawakley of Barclays explains: “The balance sheets of PSBs have been deteriorating. If the PCRs had been maintained, the reported profits would have been lower. However, a liquidity crisis is not imminent here. Since most of the banking system is government-owned, depositors don’t get concerned about the safety of their deposits.”
For the top 10 PSBs, the average PCR has come down to 50.64 per cent from 53.63 per cent year-on-year. In contrast, the large private sector banks have a PCR of 80 per cent. According to analyst estimates, incremental provisioning (for the fresh accretion of bad loans every quarter) has come down sharply from the prudential 70 per cent levels for many PSBs. Investors and analysts believe that these banks are only deferring pain. Emkay Global’s analysis shows that the PCR of 10 PSBs has come down to 50.64 per cent from 53.63 per cent compared to last year. SBI’s Managing Director and Chief Financial Officer Diwakar Gupta says: “The first priority is to ensure that the balance sheet is robust and we will improve the PCR.”
PAT (Rs crore)
coverage ratio (%)
in Q1FY13 (%)
|Bank of India||888||1,193||60.86||47.71||2.6|
|Punjab National Bank||1,246||1,040||62.81||86.54||3.3|
|Union Bank of India||512||1,170||59.00||37.35||3.8|
|State Bank of India||3,752||7,562||64.29||36.90||5.0|
|* Incremental provisioning ratio is calculated by emkay’s analysts Source: Emkay Global|
Even as most PSBs are confident that the trend in asset quality deterioration will reverse soon, this optimism is questionable. The trend in asset quality deterioration suggests that currently medium and small corporations are stressed. In the June quarter, SBI’s reported net slippages were to the tune of Rs 7,500 crore, of which Rs 3,400 crore has come from medium and small companies. This is expected to spread to large corporate and retail borrowers in the coming quarters. Bad loans have increased to 9.5 per cent of gross assets for PSBs in the June quarter, while it has held steady for private banks at 3.2 per cent of gross advances, explains BRICS Securities. Given that PSBs account for 70 per cent of the banking sector, the sharp pile-up in bad debts is not good news.
Over the last few quarters, both restructured assets and fresh slippages have been high. In the fourth quarter of FY12, slippages for the 10 PSBs stood at Rs 12,631 crore, and loans worth Rs 37,435 crore were restructured. In the first quarter of FY13, the value of restructured loans is down to Rs 22,105 crore but slippages have doubled to Rs 22,926 crore.
Although banks could improve their PCR, it could come at the cost of lower net profit. It will hit the capital adequacy at a time when they are preparing for the roll-out of Basel III norms, for which the RBI governor has indicated the government will need to infuse Rs 90,000 crore over the next six years. Prabhakar said setting aside higher amounts (as provisions) will impact the bottom line and capital adequacy. Raising extra capital in the current market situation then becomes a challenge.
Going by the nature of companies headed for corporate debt restructuring, analysts believe that PSBs will have to write off at least 20 per cent of their restructured portfolio. Late last year, a consortium of 25 lenders agreed to restructure the Rs 16,000-crore debt of GTL Group. Similarly, 27 lenders have agreed to recast the Rs 3,300-crore debt of Hindustan Construction Company. Says one analyst, knock-offs will be high for these banks a few quarters down the line. Anish Damania, co-head equities at Emkay Global, says: “Asset quality woes will haunt PSU banks, thereby increasing credit cost requirement and eventually lowering return on assets. If slippages stay elevated, then revenue visibility will be lower and net interest income will decline.”
With growth slowing and interest rates high, companies are finding it increasingly difficult to service loans. The quarterly numbers of banks show that corporate borrowers are either defaulting on payments or seeking easier repayment terms along with lower interest rates. Not only has the fresh accretion of bad loans increased but the queue of companies outside the corporate debt restructuring (CDR) cell has grown longer. According to an analysis by Emkay Global, over FY09 and Q1FY13, the CDR cell has cumulatively restructured 309 cases amounting to Rs 160,000 crore. Either way, banks have to take a hit on their books.
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