SBI: Cost control and prudence challenges

Increasing market share as well as asset provisioning push profits down.

The performance of State Bank of India (SBI) disappointed the Street as its standalone net profit for the quarter dipped 32 per cent to Rs 1,867 crore. India’s largest bank faces challenges on the cost control and provisioning fronts.

Its operational costs have jumped 41 per cent in the March 2010 quarter over the same quarter of the previous year. And, even though its provisioning coverage ratio (PCR) – which is used to protect investors against bad loans – grew from 40 per cent to 59.5 per cent, it still remains below the Reserve Bank of India-stipulated 70 per cent level. The bank has to achieve this level by September 2010.

This is without taking into account the advances under collection accounts (Auca). After adjusting for it, the figure works out to 44.36 per cent. Even if the central bank extends the deadline, the bank will still be under pressure to maintain an average growth rate that’s above industry. This is because up to Rs 5,000 crore of earnings will be wiped off the balance sheet in the financial year 2011.

Other banks (like ICICI Bank) which have a similar PCR level have gained an extension. Indian Overseas Bank, with a PCR of 53 per cent, is also seeking an extension from the central bank. Dena Bank and Canara Bank, which had a lower PCR earlier, managed to reached the 70 per cent mark, thanks to technical write-offs and a lower growth in gross non-performing assets (NPAs).

In the case of SBI, analysts reckon technical write-offs will be difficult to come by. This will rework earnings downwards by 10 per cent, even if the central bank extends the deadline.

The slippages in the NPAs have been in line with the guidance of sub-10 per cent at Rs 1,616 crore. Also, operational fundamentals remain strong with a better credit-deposit ratio of 73 per cent and net interest margin improving to 2.9 per cent.

However, cost controls will have to be looked at. Though the recruitment of 27,000 employees in the March 2010 quarter and a provision of around Rs 1,000 crore for wage hikes are not expected to be repeated often, other growth-related costs could escalate. In the short-term, therefore, the pressure on the share price would remain unabated.