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Asia-PacificJuly 1 2016

The state of play: India’s banks in 2016

In the past 12 months, Indian banks have finally uncovered the full extent of their stressed assets. And for the first time, the Reserve Bank of India has given local lenders a framework to identify and deal with loans of concern. Rekha Gupta Menon explores how these stressed assets have hit Indian banks' profitability, and which lenders have performed better than others and why. 
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Financial year 2015-16 will be remembered as the year Indian banks finally started to reveal the full extent of their stressed assets. With the strain in the banking system growing from 2011 onwards and showing no signs of abating, the country’s banking industry regulator and the central bank, Reserve Bank of India (RBI), initiated an asset quality review (AQR) in April 2015. Aimed at cleaning up bank balance sheets, the AQR has given banks a framework to identify loans of concern, take measures to get them back on track when possible, and make provision for delinquent loans.

The deep clean-up exercise, which the RBI dubbed “a surgical procedure”, has exposed a mountain of stressed assets that banks had originally not classified appropriately as non-performing loans (NPLs). Now, with banks having to increase provisioning for delinquent loans, their profitability has fallen alarmingly.

The impact is evident across the last two quarters of financial year 2015-16. Fifteen out of 27 public sector banks reported losses in the fourth quarter of financial year 2015-16, of which 12 had reported losses in the third quarter as well. The cumulative losses of public sector banks were more than Rs135bn ($2bn) in the third quarter of financial year 2015-16, increasing to nearly Rs260bn in the fourth quarter. Two of the largest public sector banks, Bank of Baroda and Punjab National Bank, declared some of the highest recorded losses in the industry over the past two decades.

Private impact

The AQR has also impacted private sector banks, albeit to a lesser extent. ICICI Bank, India's largest private sector bank and the second largest bank in the country, reported a dramatic 76% drop in fourth-quarter profits.

The RBI plans to have clean and fully provisioned bank balance sheets by March 2017. R Gandhi, deputy governor of RBI, says: “The AQR helps banks recognise non-performing assets [NPAs], and assists in forward guidance and in appropriate provisioning. The stressed assets scenario has actually improved slightly – it is the increase in the provision cover ratio that is impacting banks’ bottom line.”

He adds that though profitability might be affected by the AQR in the short run, the clean-up will prove beneficial for the banking system and the economy in the future.  

Consolidation exercise

Meanwhile, the Indian government has also embarked upon the much-discussed public sector banking consolidation exercise. As a first step, the country’s largest public sector bank, State Bank of India (SBI), has initiated consolidation discussions with three-year-old Bharatiya Mahila Bank (BMB) and with SBI’s own associate banks: State Bank of Bikaner & Jaipur, State Bank of Hyderabad (SBH), State Bank of Patiala (SBP), State Bank of Travencore and State Bank of Mysore. Although these banks are under SBI’s oversight, they operate as standalone banks with their own financials, board and management team.

At a banking event in April, RBI’s Mr Gandhi said there was tremendous scope for consolidation among public sector banks in India. “Most public sector banks follow roughly similar business models and many of them are also competing with each other in most market segments they are active in. Consolidation will bring efficiency and synergy of operations and will ensure that the Indian banking sector is capable of meeting the credit demand of our growing economy.”

However, he cautioned that consolidation needs to be a well-calibrated process based on sound economic logic. “A hasty top-down approach that does not adequately consider synergies in the business models and compatibility in the business cultures and technology platforms of the merging banks may not be sustainable in the long run,” he says.

Before 2016, SBI had already merged two subsidiaries, State Bank of Saurashtra in 2008 and State Bank of Indore in 2010. VG Kannan, managing director of associates and subsidiaries at SBI, acknowledges the challenges involved in merging the different banks. However, he believes its past experience will stand the bank in good stead. “The technology infrastructure at the associate banks is aligned with SBI’s. This will help make the operational merger easier,” says Mr Kannan. 

“There will be no staff retrenchments as a result of the merger,” he adds, to allay one of the concerns raised by banking trade unions, which are staunchly opposing the proposed merger. Employees will be reallocated to allied functions and the bank might slow down its recruitment process until the merger settles down, he says, and several benefits will accrue as a result of the deal. “There will be cost savings from branch and operations rationalisation. Large banks also command a premium in terms of valuation, and can raise funds internationally at cheaper rates. Overall, profitability will improve," says Mr Kannan.

The country needs bigger banks to support the growth of Indian industry, says Bharti Gupta Ramola, the markets leader for PricewaterhouseCoopers in India. “Look at China. Would China have been able to garner the position it has as a leading supplier of equipment around the world without its banks providing the supporting finance and insurance companies providing insurance?” asks Ms Gupta Ramola.

But trade union leader CH Venkatachalam, secretary of the All India Bank Employees Association, says: “India needs good and efficient banks, not big banks.” It is a fallacy to consider a big bank as a strong bank, he argues, pointing towards the 2008 global crisis, when several large banks faltered.

Notes of caution

Global ratings agency Moody’s cautioned in a note that union opposition could present a big hurdle to SBI’s merger implementation. While noting that from an operations perspective, the merger offers SBI the potential to leverage synergies and improve oversight of its consolidated operations, Moody’s says the proposed merger will not have a major effect on SBI’s financials, including its asset quality and capitalisation levels. “The merger will have limited impact on SBI’s credit metrics, given that SBI already fully owns SBH and SBP and has majority stakes in the other three associate banks. In addition, BMB only started operations in 2013 and accounts for less than 0.1% of SBI’s total assets,” says the ratings agency.

Among The Banker’s Top 1000 World Banks by Tier 1 capital for 2016, SBI ranks 54th by total assets, followed by ICICI Bank at 127th. The merger would boost SBI’s asset size, currently estimated at Rs447.9bn, by more than 30% and improve its ranking by a few places, although still far below the leading Chinese banks (four of the largest Chinese banks feature among the top 10 banks by total assets).

Consolidation efforts in the Indian banking sector are expected to persist for some time. According to local media reports, union minister of state for finance Jayant Sinha said at a recent event in Bangalore that when the dust settles, the 27 public sector banks would have been whittled down to eight to 10 “competitive banks”, some of them being large-scale global players while others would be differentiated banks focused on niche sectors. 

State Bank of India

The largest bank in India, SBI is the highest ranking Indian bank in The Banker’s 2016 Top 1000 World Banks ranking by Tier 1 capital, at 55th position.

Hit by RBI’s AQR, SBI reported a steep fall in standalone net profit of more than 66% from Rs37.42bn in the fourth quarter of financial year 2014-15 to Rs12.64bn in the fourth quarter of financial year 2015-16. Pre-tax profits for financial year 2015-16 declined by 34.46% to Rs181.77bn. Gross NPAs nearly doubled in the same time period to Rs981.73bn and gross NPAs as a percentage of total advances went up to 6.5% in financial year 2015-16 versus 4.25% in financial year 2014-15. SBI has also created a ‘watch list’ of Rs313.52bn-worth of risky loans that account for about 2% of the total credit portfolio. Going forward, the lender expects 70% of these loans to turn bad.

The bank has over the past few years focused heavily on digital initiatives. Nearly 74% of total banking transactions take place over digital channels and SBI accounts for 35.46% of the market share of mobile transactions in India. SBI chairman Arundhati Bhattacharya says the lender is also focusing on digitising all spheres of the bank, including customer-facing products and internal processes such as performance management.

Bank of Baroda

Bank of Baroda, the second largest public sector bank and the fourth largest bank in India by assets, shocked the market by posting massive losses for two consecutive quarters in financial year 2015-16. The bank reported standalone net losses worth Rs33.42bn for the December 2015 quarter and Rs32.3bn for the March 2016 quarter. The lender’s pre-tax loss of Rs62.33bn for financial year 2015-16 was the second highest in the industry after Bank of India. The ratio of its gross NPA to gross advances grew from 3.72% at the end of March 2015 to 9.99% at the end of March 2016. In a press release, the bank said the “management believes that asset quality has stabilised and it foresees growth and profitability in financial year 2016-17”.

Bank of Baroda has about 60 million customers, 5330 branches and 8975 ATMs. Both mobile and internet banking channels have grown rapidly over the past two years. With 106 offices spanning 24 countries, its international operations account for nearly one-third of total business. As of March 31, 2016, total business on a standalone basis was Rs9578.08bn, an 8.4% drop over the previous year.  

India's public sector bank losses new

Union Bank of India

Union Bank of India is India’s sixth largest public sector bank by assets, with a balance sheet of Rs4046.99bn. Although its profits have dipped between financial years 2014-15 and 2015-16, it is among the few public sector banks to have recorded a moderate profit recently. The bank announced a net profit of Rs961.2m in the fourth quarter of financial year 2015-16, a 78.34% fall from a Rs4437.7m net profit in the same quarter of 2015. Pre-tax profit for financial year 2015-16 stood at Rs17.66bn, a 40.24% drop from the previous financial year. As with other public sector banks, Union Bank’s asset quality is also under pressure. Gross NPAs stood at 8.7% as of March 31, 2016, versus 7.05% at December 31, 2015 and 4.96% a year prior.

In financial year 2015-16, Union Bank’s global business grew by 7% year on year to Rs620.44bn. Overseas business currently accounts for 5.3% of its total business and the plan is to double it over the next three years. Digital banking remains a key focus. The share of digital channels in overall transactions has increased from 55.9% in March 2015 to 66.7% presently. The bank aims to raise digital’s share in transactions to 75% by the end of financial year 2016-17.   

IDBI Bank

India’s seventh largest public sector bank by assets, IDBI Bank’s business, on a standalone basis, grew from Rs4682.13bn in financial year 2014-15 to Rs4816.13bn in financial year 2015-16. However, impacted by RBI’s AQR, IDBI Bank announced huge losses in the last two quarters of financial year 2015-16 with a pre-tax loss of Rs49.11bn for the year, against the previous year’s profit of Rs14.01bn.

Gross NPAs as an absolute number nearly doubled between financial years 2014-15 and 2015-16 from Rs126.85bn to Rs248.75bn. The bank’s gross NPA ratio jumped to 10.98% of total loans at the end of March 2016, from 8.94% at the end of December 2015 and 5.88% at the end of March 2015.

With its development financial institution antecedents, corporate banking constitutes nearly 70% of IDBI Bank’s business portfolio. However, the bank is focusing on increasing its retail footprint. Over the next three years, the retail and small and medium-sized enterprise (SME) segments are expected to account for 49% of the business. The bank has an aggressive plan to double its business in the next three years, says Kishor Kharat, CEO and managing director of IDBI Bank. This will involve increasing the bank’s branch network from 1800 to 4000, which will include 1500 low-cost kiosk branches that will operate as extension counters of main branches in a hub-and-spoke model.

IDBI Bank has also more than doubled its technology expenditure for financial year 2017 to Rs7bn. Technology will be the key driver for its transformation exercise, says Mr Kharat. “The giant will be awakening,” he adds. 

Punjab National Bank

With a network of 6760 branches, 7996 business correspondents and a strong push towards digital channels, Punjab National Bank is the third largest public sector bank in India with assets worth Rs 6673.9bn. The balance sheet clean-up mandated by the RBI has severely impacted the bank, which reported standalone net losses of Rs53.67bn for the fourth quarter of financial year 2015-16, the highest in the industry, as against standalone net profits of Rs510m for the third quarter of financial year 2015-16 and Rs3.07bn in the fourth quarter of financial year 2014-15. For financial year 2015-16, the bank reported pre-tax losses of Rs52.67bn, a drop of more than 200% from the previous year’s pre-tax profits.

Gross NPAs more than doubled from Rs.256.95m, or 6.55% of advances, at the end of March 2015 to Rs.558.18m, or 12.9% of advances, at the end of March 2016. The bank saw provision for NPAs rise to Rs113.8bn in financial year 2015-16 from Rs32.81bn in financial year 2014-15. Taking into account the alarming NPA situation, Punjab National Bank has announced that it is carrying out a “war” on NPAs by monitoring their recovery on a real-time basis as well as taking steps such as selling off bad loans to asset reconstruction companies. 

ICICI Bank

While much of the bad loans crisis in the Indian banking sector is being played out in the public sector realm, a few private sector players have also come under fire. The most notable is the country’s largest private sector bank, ICICI Bank. In its worst performance in nearly a decade, it reported a 76% drop in its 2015-16 financial year fourth-quarter standalone net profit to Rs7.02bn, from Rs29.22bn in the same period in financial year 2014-15. The bank reported pre-tax profits for financial year 2015-16 of Rs143.04bn, a 26.4% drop from the previous year.

The bank’s gross NPAs increased from Rs150.95bn, or 3.78% of advances, at the end of financial year 2014-15 to Rs262.21bn, or 5.82% of advances, at the end of financial year 2015-16. Provisions for NPAs more than doubled to Rs33.26bn in the March quarter of financial year 2015-16, versus the same period in the previous fiscal year. 

In a significant step, ICICI Bank announced it has made an additional “collective contingency and related reserve” on a prudent basis to guard against future contingencies. While speaking to analysts, Chanda Kochhar, managing director and CEO at ICICI Bank, said: “While the banks are working towards resolution of stress on certain borrowers in these sectors, it may take some time for solutions to be worked out. In view of the above, [ICICI Bank] has on a prudent basis made a collective contingency and related reserve of Rs36bn during the fourth quarter of financial year 2015-16 towards exposures to these sectors.” Also, in light of the bank’s weak performance, its senior management decided to forego their annual performance bonuses.

Digital leadership continues to be a core focus area for ICICI Bank. Nearly 69.2% of its transactions are via internet and mobile, 24.8% via ATMs and only 6.4% at the bank branch. The lender recently created a dedicated business unit, Technology and Digital Group, to leverage opportunities in the digital space. 

Axis Bank

The third largest private sector bank in India, Axis Bank’s balance sheet grew 7.34% in financial year 2015-16 and stood at Rs5254bn at March 31, 2016. In financial year 2015-16, Axis Bank’s retail franchise grew strongly, with retail loans growing at 24% year on year and accounting for 41% of net advances.

However, Axis Bank has also been negatively impacted by stressed assets. Standalone net profit for the fourth quarter of financial 2015-16 stood at Rs21.54bn, against Rs21.75bn in the same period in the previous financial year – the first drop in net profits in four years. Pre-tax profits, however, increased from Rs112.83bn in financial year 2014-15 to Rs126.89bn in financial year 2015-16. Gross NPAs grew by 48.1% between financial year 2014-15 and financial year 2015-16, reaching Rs60.88bn. As a special measure, Axis Bank created a contingency asset provision of Rs3bn, taking the cumulative balance of contingency asset provision to Rs4.8bn as of the end of March 2016.

“For the past three years, from the time we sensed that there was stress in the system, we have put in place tight guard rails, which helped the bank in experiencing 20% growth,” says V Srinivasan, executive director at Axis Bank. He adds that the lender has established a strong risk management framework, including publishing a special “corporate banking watch list” that highlights the key sources of future stress in its corporate lending book. The bank’s outstanding on these watch list accounts was about Rs226bn at the end of the fourth quarter in financial year 2015-16, and it expects about 60% of these to flow into NPAs over the next eight quarters.  

HDFC Bank

HDFC Bank has moved up a spot, ahead of Bank of Baroda, to become the third largest bank in India by assets. Its assets grew by 13.51% year on year to Rs7302.62bn in financial year 2015-16. The bank has the highest market capitalisation in India and was ranked 27th globally and sixth in the Asia-Pacific region in The Banker’s latest Bank Safety Rankings. It has 4520 branches, 12,000 ATMs, a strong digital banking programme and a customer base of 37 million.

Growth unabated in stressed assets

HDFC Bank also has a large retail deposit franchise, the cheapest source of funds for banks, and benefits from loan demand from both individuals and mid-sized companies. Retail accounts for 51% of its loans portfolio – retail loans have grown 29.7% year on year in financial year 2015-16, while wholesale loans grew at 27.2% in the same period.

With its strong retail focus and low exposure to the stressed sectors in the Indian economy, HDFC Bank turned in one of the strongest performances in the country's banking industry in financial year 2015-16. It reported standalone net profits of Rs33.74bn in the fourth quarter of financial year 2015-16 (up from Rs33.56bn in the third quarter) and Rs28.07bn in the fourth quarter of financial year 2014-15. Between financial years 2014-15 and 2015-16, pre-tax profits grew by 14.5% to Rs195.11bn, while net profits grew by 13.03% to Rs128.17bn. Gross NPAs, at Rs43.93bn, were 0.94% of gross advances as of March 31, 2016, as against gross NPAs of Rs34.39bn a year earlier, which were 0.93% of gross advances. Total restructured loans remained the same for financial years 2014-15 and 2015-16, at 0.1% of gross advances.

HDFC Bank has a robust capital position. Its total capital adequacy ratio as per Basel III guidelines was at 15.5% as of March 31, 2016, while India’s regulatory requirement sits at a lower 9%. The lender’s Tier 1 capital adequacy ratio was 13.2% as of March 31, 2016, compared to 13.7% as of March 31, 2015.

Yes Bank

India’s sixth largest private sector bank with assets of Rs1650bn reported a 22.12% growth in year-on-year pre-tax profits to touch Rs37.66bn in financial year 2015-16. Standalone net profit in the fourth quarter of financial year 2015-16 stood at Rs7.02bn, up from Rs6.76bn in the third quarter, and Rs5.51bn in the fourth quarter of financial year 2014-15. The growth in the last two quarters of financial year 2015-16 has been higher than expected, says Rana Kapoor, managing director and CEO of Yes Bank, so it has revised its growth projections for the next few years to 27% to 30%.

While Yes Bank saw an increase in stressed assets, Mr Kapoor says the situation was under control and the bank continues to maintain best-in-class asset quality compared to its peers, with a low net NPA ratio of 0.29% at the end of financial year 2015-16. The bank contained credit costs at 50 basis points after fully accounting for RBI’s AQR. Gross NPAs rose 139%, albeit from an extremely small base, to Rs7.48bn at the end of March 2016 from Rs3.13bn a year ago. Provisions and contingencies saw a near-50% jump to Rs1.86bn from Rs1.26bn in financial year 2014-15.

Currently, corporate customers account for nearly 65% of Yes Bank’s business. However, this is expected to change in the coming years as the bank builds its retail franchise. By 2020, retail will contribute to 50% of the bank’s business, according to Mr Kapoor.   

IDFC Bank

One of the two most recent new bank licensees, IDFC Bank started operations on October 1, 2015. In financial year 2015-16, the bank reported Rs1650.6m net profit for the March quarter versus Rs2421.7m for the December quarter. Pre-tax profits for financial year 2015-16 stood at Rs7157.63m. Gross NPAs as a proportion of gross advances increased from 3.09% in the December quarter of financial year 2015-16 to 6.16% in the following quarter.

The bank has 60 branches, of which 47 are in rural India. Given its parent organisation IDFC’s (Industrial and Development Finance Corporation) focus on providing infrastructure financing, IDFC Bank has a corporate tilt too. However, Rajiv Lall, founder, managing director and CEO at IDFC Bank, says it is now building its retail and SME franchise.

“We started retail banking on January 1, 2016, and by April we launched internet and mobile banking. We are acquiring customers at a rapid pace and expect that in the next six months we will cross 1 million unique customers. Within 18 months, 15% to 20% of our total assets will be from retail. And in five to six years’ [time], 50% to 60% of our portfolio will be retail focused,” says Mr Lall.

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