After Private Lenders, PSU Banks Tip Toe Towards Fund Raising

India’s top private lenders have always had success in raising money from the markets. This year has been no different. Despite the pandemic induced uncertainty, lenders including ICICI Bank Ltd., Axis Bank Ltd. and Kotak Mahindra Bank Ltd., among others have tapped the market for equity capital.

In contrast, most state-run banks have received lukewarm interest from private investors and have had to rely on government fund infusion. Still, these lenders are tip-toeing back into the market this year to raise funds they will need for provisioning against an anticipated rise in bad loans.

On Tuesday, the board of state-run Central Bank of India announced that it has approved a qualified institutional placement worth Rs 5,000 crore. The bank is looking to raise these funds by issue of shares at Rs 16.18 per share—a discount of about 6% to Tuesday’s closing price.

Central Bank’s fund raise, if successful, will embolden other government-owned lenders to hit the market. Six other lenders have board approvals in place to raise equity capital worth Rs 60,800 crore and may come to market in the months ahead.

India Ratings & Research, in a statement dated Sept. 18, said public sector banks will need capital worth between Rs 35,000-55,000 crore to meet the minimum Tier-1 ratio of 10% this year. The government has so far approved Rs 20,000 crore in bank recapitalisation as part of the supplementary demand for grants.

The investor response to these issues remains uncertain. This, despite the fact that most of these lenders are trading well below one-time price-to-book .

Raising capital at below book will be negative for minority shareholders, said Suresh Ganapathy, analyst at Macquarie Securities in a note on Sept. 23. “Since all these PSU banks trade below 0.5x P/BV, any capital raising will be dilutive to book and is a big negative for minority shareholders,” Ganapathy said.

Macquarie pointed out that state-run banks are expected to see cumulative credit costs, over three years, rise by 512 basis points owing to Covid-19, as compared with a rise of 389 basis points for private banks.

“The weak operating profitability, coupled with higher credit charges, should keep return ratios sub-optimal/low,” they said. “We do not see PSU banks on an average even crossing 50 bps ROA (return on assets) or 500 bps ROE (return on equity) by FY23E.”

Low return ratios, together with the fact that these banks have been ceding market share, may keep investor interest in the QIP issues modest.

“What we are likely to see is that government-led institutions and insurance firms will have to participate in this fund raising activity as minority shareholders of the bank. This is because they can hold on to the stock for longer,” said Dhananjay Sinha, head of research at IDFC Securities. “Other investors will probably not find much interest in the stock, since the expectation is that the weakness in their financials is likely to continue for some time.”

Sinha said while valuations may seem low, there’s good reason for this. “If you look at their performance, public sector banks have continuously ceded space to private banks. Even their operational metrics such as margins have been at levels last seen in 2003,” said Sinha, adding that the stressed assets also continues to be higher for PSU banks compared to private peers.

Saswata Guha, director of Fitch Ratings India, also said there may be limited interest. Part of the concern for any potential investor will continue to be the outlook for asset quality and, hence, earnings. “Public sector banks had under-provided for their bad loans in the past, resulting in significantly higher credit costs than their private sector peers,” Guha said. “With restructured loans likely to go up again due to RBI dispensation on Covid, estimating the true asset quality and earnings potential will be a challenge, which can be addressed with only reliable disclosures.”

The Reserve Bank of India has been pushing banks to raise equity capital and build buffers amid the Covid-19 crisis. While the RBI has permitted one-time restructuring of bad loans without a downgrade in asset classification to non-performing, it has asked banks to set aside higher provisions of 20% against recast loans.

“Building buffers and raising capital will be crucial not only to ensure credit flow but also to build resilience in the financial system,” RBI Governor Shaktikanta Das had said in a speech in July.