Profitability Of Merged Public Sector Banks Will Remain Weak, Says ICRA
All four merged public sector banks will be able to keep their net NPAs below 6 percent, says ICRA in its banking sector report.
The proposed merger of 10 public sector banks into four large state-run entities will lead to better-capitalised banks with greater solvency and asset quality, according to ICRA Ltd., but their profitability will remain weak in the medium term.
All four merged public sector banks will be able to keep their net non-performing assets below 6 percent, while achieving the minimum regulatory capital requirements, the ratings agency said in its report on the performance and outlook for the banking sector.
The merged Punjab National Bank entity will be the second-largest state-run bank with a 7.1 percent market share and will be comparable to State Bank of India’s current and saving accounts ratio, the ratings agency said, adding that it will benefit from lower cost of funds.
The merged Union Bank of India entity will have the largest quantum of gross non-performing assets on its book, followed by the merged Punjab National Bank entity. ICRA said that due to the lack of capital infusion into Syndicate Bank, the merged Canara Bank entity will have the weakest capital base.
External Benchmark-Linked Loans
After the introduction of external benchmark-linked loans from Oct. 1 onwards, there could be significant volatility for borrowers in terms of their equated monthly instalments, ICRA said.
While it is good to link lending rates to an external benchmark from a transparency and transmission perspective, the likelihood of further cuts is lower when the repo rate is at its lowest in the last decade at 5.40 percent, said Anil Gupta, vice president and sector head of financial sector ratings at ICRA.
Since the introduction of the marginal cost of funds-based lending rate in April 2016, banks have cut their one-year MCLR by 92 basis points against a 110 basis-point cut in the repo rate.
However, when the repo rate was hiked between April 2018 and January 2019, ICRA estimates that the one-year MCLR was increased by 33 basis points.
Despite a 110 basis-point cut in the repo rate since February 2019, banks have passed on a 20 basis-point cut in their one-year MCLR, ICRA said.
“In our view the repo rate has been more volatile compared to the MCLR, which could pose hardship for borrowers as and when rates go up,” Gupta said. “We will need to see the pricing offered by the banks and the pace at which they will change lending rates compared to changes to the repo, before quantifying the impact on the banks’ margins. Whether it will be a direct link to the external benchmark or indirectly linked.”
According to Karthik Srinivasan, senior vice-president and group head of finance sector ratings at ICRA, it is too early to quantify the impact of external benchmark-linked loans on the net interest margins of banks, although the banks would alter their spread so that their current yields are not impacted.
Asset Quality And Slippages
Gross NPAs for all banks stood at Rs 9.3 lakh crore as of June 2019, with PSU banks exposed to Rs 7.9 lakh crore of all bad loans in the system. The total GNPA in the banking system stood at Rs 9.2 lakh crore or 9.5 percent as of FY19. PSU banks will have to provide Rs 1.5-1.6 lakh crore against their bad loans, while private banks will need to park Rs 60,000-70,000 crore against the same in FY20, ICRA said.
The rating agency expects fresh gross slippages to be between 3.2 percent and 3.6 percent of standard advances or between Rs 2.8 lakh crore and Rs 3.2 lakh crore in FY20.
Fresh slippages for all banks grew by Rs 86,000 crore in the first quarter of FY20, compared to Rs 3.18 lakh crore in FY19 and Rs 5.36 lakh crore at the end of FY18.
Most of the stress is likely to emerge from defaults or non-repayment of dues from entities in the real estate, automobile and MSME sectors.
The stress could emanate from the retail segment as well, Gupta said, adding that the stock of GNPAs are unlikely to decline even though banks have been growing their advances. ICRA expects credit growth to bring down the banking sectors’ GNPAs to 8.6-8.7 percent by the end of March 2020.
Capitalisation And PSU Bank Mergers
The government has budgeted Rs 70,000 crore for capitalising the public sector banks in FY20, of which Rs 59,800 crore has been infused into IDBI Bank Ltd. as of August 2019. This leaves around Rs 10,200 crore available with the government for further infusion, if required.
With the proposed PSU bank mergers, all public sector banks will have to maintain a minimum Tier-1 capital ratio at 9.5 percent and CET-1 ratio at 8 percent by the end of March 2020.
ICRA expects that the entire state-run banking system to require between Rs 16,555 crore and Rs 30,340 crore worth of additional capital. This could be raised either through further bank recapitalisation, raising funds through markets by issuing Tier-I bonds or divestment of non-core assets.
For private banks, ICRA expects that they will need to raise between Rs 32,006 crore and Rs 51,709 crore of additional capital between FY20 and FY22.