Provisioning woes

 

Provisioning woes

Sarath Chelluri / Mumbai November 02, 2009, 0:18 IST

 

The recent monetary policy announcements pertaining to asset quality and inflation would put pressure on the profitability of banks in the medium term.

Banking stocks were fancied in the last four months on expectations of a revival in the economic prospects and improved profitability. However, things started to drift in the last two weeks. The big jolt came in the form of the monetary policy that was announced on October 27, wherein the RBI directed banks to provide for (maintain a loan provisioning coverage) at least 70 per cent of their respective non-performing assets (NPAs) by end-September 2010. While the move is seen impacting the sector’s profitability in the near- to medium- term as quite a few banks will have to set aside a higher amount towards this, it is also positive from a longer-term perspective as it will reduce their balance sheet risk.

The RBI’s move comes a week after rating agency, Moody’s, downgraded thirteen domestic commercial banks. Meanwhile, the declining trend in credit growth hasn’t shown any major sign of improvement; incidentally it is now at the lowest in as many as five years. But, economists believe that there are some signs of improvement. All these factors have accentuated the market losses for banking stocks in the last two weeks; more prominently since Tuesday. Post Diwali and till October 29, the BSE Bankex lost 12 per cent as against 7.25 per cent for the BSE Sensex. We look at the impact of these developments on the sector and individual banks, as well as the prospects going ahead.

A tough stance?
The latest move by RBI asking banks to increase their provision coverage to a minimum of 70 per cent of NPAs by the end of September of 2010 is seen impacting the profits of the banks. CRISIL estimates that the proposed minimum coverage for NPAs will mean that banks now have to make an additional provisioning of Rs 13,000 crore till end-September 2010—as on March 31, 2009, the NPAs were at 2.3 per cent of system advances, while the NPA coverage was around 55 per cent as on that date. Of the 35 banks rated by Crisil, 11 banks had provision coverage of less than 50 per cent and about 16 had provision coverage of between 50 per cent and 70 per cent.

Abhishek Agarwal, analyst, Religare Hichens, Harrison says, “We note that short-term ROE of banks may be hit, but sustainable ROE would remain healthy”.

The new provisioning directive however, means different things to different banks. Banks like ICICI Bank and SBI have a provisioning coverage ratio of around 50 per cent, while some others like HDFC Bank and PNB have a coverage ratio of 70 per cent or more.

CRISIL’s recent note says “The impact on the profitability of individual banks will vary. Since a bank’s provisioning is linked to factors such as the age of its NPAs, the available security, and its internal policy, there is a marked variance in the provisioning coverage ratios of banks.”
 

ADDITIONAL BURDEN
in Rs crore	Non-performing loans		Provisioning coverage		Likely shortfall
	Gross	Net	Current  (%)	at 70%	Absolute	% of FY09 PBT
Axis Bank	1,132	417	63.2	792	77	2.8
Bank of Baroda	1,957	405	79.3	1,448	-	-
Bank of India	2,788	1,234	55.7	1,951	398	30.8
Canara Bank	2,348	1,694	27.8	1,644	990	38.5
HDFC Bank	2,027	602	70.3	1,419	-	-
ICICI Bank	9,695	4,667	51.9	6,787	1,759	34.3
Kotak Bank	1,072	640	35.0	750	375	37.0
Punjab National Bank	2,865	297	89.6	2,005	-	-
State Bank of India	15,318	8,402	45.2	10,723	3,807	26.8
Union Bank of India	1,918	223	88.4	1,343	-	-
As per latest data available                                                                                       Source: Banks and estimates

 

O P Bhatt, chairman, State Bank of India explains, “Over the past four-five, years we have seen that a large portion of our assets slide into the sub-standard category and slide back into the standard category”. He further adds, “When you execute a write-off, your provision coverage drops drastically, whereas if you don’t write it off and continue to provide for the asset your provision, the coverage remains high”.

If the provision norms are to be adhered to, estimates indicate that SBI would need to provide over Rs 3,800 crore by September 2010. This means that, in the short-term there could be an impact on the profitability. To give a hypothetical example, if the provision coverage was pegged to 70 per cent from its first quarter ratio of 45 per cent, the net NPAs would have reduced from the actual 1.55 per cent to around 1.35 per cent but net profit would have been around 40 per cent lower (compared to Rs 2,330 crore reported) in the June 2009 quarter.

However, we have not heard the last of this provisioning norm; some modifications might come along the way. Banks have requested RBI to allow loan write-offs to be treated as part of the 70 per cent loan loss coverage mandated by the regulator. In this regard, Agarwal says, “Further clarification is awaited on whether previously written-off assets would be adjusted while calculating the coverage ratio. If this is permitted, the additional provisioning requirement would come down further.”
 

OTHER INCOME BOOST

in Rs crore

NII

% chg

Other income

% chg

Operating profit

% chg

Provisions & contingencies

% chg

Net profit

% chg

CMP (Rs)

P/E* (x)

P/BV* (x)

SBI

5,608

2.8

3,525

50.4

4,835

15.3

1,016