Global rating agency Moody’s has downgraded the rating for public sector lender Punjab National Bank to “Ba1’’ from “Baa3’’ due to the negative effect of fraudulent transactions (Nirav Modi sam) on capital position and asset quality.
At the same time, Moody's has downgraded the bank's baseline credit assessment (BCA) and Adjusted BCA to b1 from ba3.
The downgrade of the bank's BCA and ratings reflects the negative impact of the discovery of a number of fraudulent transactions on the bank's standalone profile, particularly its capital position, Moody’s said in a statement.
The rating downgrade also reflects the weak internal controls and processes of the bank, given that the fraudulent transactions were undetected for a number of years.
These actions complete Moody's review of the bank's ratings initiated on 20 February 2018, following the discovery of some fraudulent and unauthorized transactions -– Nirav Modi controlled firms-- amounting to Rs 14.4 billion ($2.2 billion) in February and March 2018.
On 14 February 2018, PNB announced to the stock exchange that it had discovered fraudulent and unauthorised transactions amounting to Rs 113.9 billion ($1.7 billion). Based on the bank's subsequent announcements, PNB's total exposure to these transactions amounts to Rs 144 billion ($2.2 billion).
Moody’s said the bank's weak earnings profile -— its large stock of nonperforming loans (NPLs) and the associated credit costs -— will limit its ability to absorb the impact of the fraudulent transactions over the next 12-18 months.
Furthermore, provisions relating to the fraudulent exposures would largely offset the benefit the bank will receive from the Indian government's (Baa2 stable) capital infusion plan.
Moody's expects that PNB would receive capital support from the Indian government. The bank would be able to release some capital from the sale of its non-core assets — such as its real estate holdings — as well as a partial stake sale in its listed housing finance subsidiary, PNB Housing Finance Ltd. Nevertheless, these sources are unlikely to prove sufficient to restore the bank's capitalisation to levels before the fraudulent transactions were discovered.
The fraudulent transactions represented 320 basis points of the bank's risk-weighted assets as of March 2018. In the financial year ended March 2018 (fiscal 2018), after providing for 50 per cent of the fraudulent exposure, the bank reported a common equity tier 1 (CET1) ratio of 5.95per cent compared to 8.05per cent in the quarter ended December 2017. The bank will provide for the remaining 50per cent exposure in the next few quarters.
Moody's estimates that PNB will require external capital of about Rs 120-130 billion in fiscal 2019 to meet the minimum Basel III CET1 ratio of 8 per cent by March 2019, including a capital conservation buffer. This estimate takes into account the ageing basis provisions for the NPLs, the deferred provisions for the fraud, investment losses and employee benefits expenses, as well as a reduction in risk, weighted assets.
While the Indian government has budgeted an infusion of Rs 650 billion into the country's 21 public sector banks, Moody's expects that the large capital shortfall will negatively impact PNB's ability to grow its loan book over the next year.