The government should more than double its Rs 2.11 lakh crore infusion in state-run lenders as the level of bad loans is high and the fraud at Punjab National Bank underscores the need for steep haircuts.
That’s the view of Dhnananjay Sinha, head of research at Emkay Global Financial Services Ltd. Stressed assets worth Rs 9.6 lakh crore are still in the banking system and the recapitalisation amount accounts for only 45 percent of the provisioning, he told BloombergQuint in an interview.
With the current recap sanctions, public sector banks will face a haircut of about 75 percent, he said. Given the fraud at PNB, this seems to be a fair level and banks need to write that off, said Sinha.
With the top lender in the country, State Bank of India, incurring losses and the second-largest public sector bank hit by a large-scale fraud, the asking rate for increased capital rises. The recap amount of Rs 2.11 lakh crore falls short by Rs 2.6 lakh crore, according to Emkay Global’s analysis.
Watch the full interaction here:
What could be the impact on PNB?
How it will pan out, what the regulators do, how much you take back from the organisation is the separate thing. Assuming that the numbers are what they are, there is a likelihood of a hit. Roughly a fifth of the bank’s tier 1 capital gets eroded. In terms of the ratio, it comes down by 102-160 basis points; in terms of valuation, the stock price looks expensive because of the sudden decline in tier 1 capital. Considering the entire hit of Rs 13,000-odd crore we estimate, there is a hit on the book value of roughly Rs 56 per share. Even if you consider Rs 4,500 crore in terms of recapitalisation, then all that goes away and you still have a hole in the book. The ability of banks to grow will be compromised. That’s one implication.
What is the right way to compare this? Will this first come into provisions?
It should be considered for provisioning as that (the fraud amount) straightaway becomes a bad asset. It has to be written off. We don’t know how much of it was ploughed back. If you look at the status as of now, we should consider it as a non-performing assets and it should be completely provided for.
Is this an NPA for other banks who lent funds based on PNB’s guarantees?
For PNB, it will be an NPA. Whatever be the amount, it should be written off from the book. According to us, it reduces the tier 1 capital by almost 25 percent. That is a major hit. So, effectively, the stock becomes expensive, you are not able to grow.
The broader issue is the systemic issue: whether this is one-off or are there many more such transactions? The regulator is going to respond to prevent it from becoming contingent. The bigger problem is about the monitoring system. This issue is being unattended, it was not identified in a system where you have technology. Those are the things which come into consideration as far as the future outlook is concerned. That is the uncertain part of the whole story.
Is there negativity around public sector banks?
I have been underweight on PSU banks for donkey’s years. Bank managements have been talking about NPAs having peaked out for a long time. But they have consistently grown. Now you have the RBI guidelines of restructured assets. Incrementally, it means that the option for banks to classify bad assets into restructured assets will go away and you have to provide for it. In the recent quarter, we saw the GNPA growth taper. It will start increasing.
The other aspect is the existing stock of restructured assets of roughly around Rs 2.5-2.6 trillion. How will that roll out going forward? Are there slippages coming from there too? What is classified as a standard asset within restructured assets also starts adding to the pipeline. We don’t know how much that will happen. The shock is on the positive side as far as GNPA growth is concerned.
Post demonetisation, the PSU banks have gone overboard in terms of G-Sec exposure which increased. My hunch is that they increase the duration in their G-Sec portfolio to gain from trading profits. In the past six quarters, excluding December quarter, more than 100 percent profit before tax was contributed by trading profits. With the yield curve steepening, you have a significant hit in terms of trading losses. So your ability to grow is now compromised and some of these developments add to woes. From the cyclical standpoint, the ability of PSU banks to grow or regain market share is severely compromised. Whatever cyclical recovery that we are expecting from a credit growth will be largely taken over by private lenders.
Will non-bank financial services companies will have tough time in 2018?
The question for PSU banks is valuation. So, the ability to grow is not compromised. The ability to grow with a higher margin is somewhat compromised. What we have seen in NBFCs in the last several quarters is that the yields are falling and rates are declining. As far as growth is concerned, they might still be structurally positive. From a cyclical standpoint, margins might squeeze and return on assets or ROA might be compromised. But that is a valuation thing. At some point, they will again become attractive.
Are you segregating among PSU banks to remain positive?
The whole issue is about the headwinds that they face. Are there opportunities where they can grow stronger than the system, grow more profitably incrementally so that all these headwinds are neutralised? My answer is no. The larger banks are still showing stress. Over next two, three quarters, with higher provisioning, higher GNPA growth, I think the sentiment will not turn positive for them.Within the banking space, some of the private lenders have improved growth capital. ICICI Bank and Axis Bank have raised money either by selling stakes in subsidiaries or from the market. HDFC Bank also talked about raising money. HDFC Bank has the growth capital and on top of that, they are growing. Even for corporate lenders such as ICICI Bank and Axis Bank, if I knock off 75 percent of stressed assets including the restructured assets, they will still have growth capital. Incrementally, what they have done in terms of raising capital adds to potential to growth. It is clearly visible in terms of who will be gaining market share. The whole mix of lending by banks is more inclined towards retail lending and less towards corporate. Those who have good asset and liability management in a rising-rate scenario will sees margin improve. The contours of banking space are very clearly visible.
At this point, are we talking about the need of government to step up its contribution to bank capital even more than what they have announced?
We looked at Rs 2.11 trillion recapitalisation. Our estimate was GNPA at Rs 7 trillion and restructured assets at about Rs 2.6 trillion in September. In all, Rs 9.6 trillion worth of stressed assets. So, that’s 45 percent provisioning on GNPAs on an average. You have unaddressed GNPAs of about Rs 6.5 lakh crore. We have taken a haircut of 75 percent of total outstanding stressed assets. People said that it is aggressive, and you should be somewhere around 50 percent. As things are turning around, for example at PNB, a 75 percent haircut is fair level. What is tangible tier 1 and what you need to have to meet the required level of 9.5 percent in tier 1 capital? We arrived at a number saying that Rs 2.1 trillion that has been provided for recapitalisation is falling short by Rs 2.6 trillion. If you take into consideration the haircut and write off of 75 percent, then you have the ability to grow going forward and allow some earnings from future. If you consider that, then it is adequate.
In the PNB example, if you knock off 25 percent of your book, then your asking rate is even higher. Rs 2.6 trillion worth of shortfall looks to be steep. It is inadequate. The recapitalisation was to be around Rs 4.7 trillion. At these numbers, you get statutory requirement of 9.5 percent of tier 1. With 9.5 percent, it will be normal growth. For the next two years, PSU banks will still be grappling with NPAs and resolution issues. There are other lenders who already have growth capital. So, if I want to put my money I know where to put it. It would be with lenders who can gain market share.