The agency believes this move would improve banks' ability to raise capital from markets and tighten the spreads on additional tier 1 bonds. In case the capital allocation is spread proportionally across PSBs, it could moderate the pace of portfolio churn and credit market shift towards that private sector banks, and to some extent, towards wholesale non-banking finance companies. The renewed competition for market share may put additional pressure on yields on advances.
Ind-Ra estimates the present equity requirement of PSBs at around INR2.5 trillion (assuming a blended growth rate of 7.5%), factoring in the capital required for reaching Basel III requirements, additional provisioning requirement for adequately providing for already identified stressed assets and provisioning requirement for migrating to the expected loss regime on migration to IND-AS 109 from 1 April 2018. The capital requirement would rise significantly, if the growth rate were to pick up.
Ind-Ra's calculation demonstrates that banks with a disproportionately larger share in the loan system require somewhat lower regulatory capital and a large part of the incremental capital requirement would be used for growth. Ind-Ra's conservative estimate of haircuts on stressed assets suggests eight banks under the prompt corrective action category which constitute about 18% market share in PSBs' advances itself would require around INR750 billion of equity to take up the provision level to 55% for their stressed assets and step up equity to the Basel III requirement level even on an almost flat advances portfolio. In this context, it would be interesting to understand the government's capital allocation plan, as there is limited clarity on this front. This will also throw light on any change in the government's support stance, where it was understood that banks with stronger operational performance will be disproportionally rewarded with equity support.
According to the announcement, PSBs will receive INR1.35 billion of recapitalisation bond support (around one-fourth of the current net worth of PSBs) and INR760 billion of budgetary support. The second part is left over from the Indradhanush programme, as part of which additional INR180 billion is to be disbursed over FY18-FY19 by the government to PSBs. The remaining INR580 billion is the capital required to be raised by banks. As part of the Indradhanush programme, banks were expected to raise INR1.1 trillion from markets, however only a part of this has materialised till now. Ind-Ra expects this infusion to be in form of core equity (and not AT1 instruments).
The agency believes that PSBs' strengthened balance sheet will provide them the much-needed manoeuvrability to go through with the resolution process for the stressed assets, which banks were hesitant about on account possible haircuts on want of capital. Additionally, it would open the current chocked credit flow to the Indian economy (PSBs' loan growth fell to 2% in FY17). The largest beneficiary of the same should be MSME sector where the credit supply has been tepid over the last couple of years.
The credit growth to large corporates, however, may still be sometime away, given the limited demand in face of overcapacity in the system. Ind-Ra's analysis shows that those sectors that have registered a high leverage ratio (9x-10x) and a significant decline in capacity utilisation rate (20%-30% from the peak FY06 level of 80%- 90%), such as infrastructure, metals and mining, and power could remain away from capex during FY18-FY20. These three sectors contribute to around half of adjusted gross block. Additionally, capex spending of the top 200 asset-heavy corporates is likely to remain muted (5%-8%) and primarily focused on maintenance capex over FY18-FY20, according to Ind-Ra's base case scenario. This is in comparison to 4% during FY13-FY17, 13% in FY09-FY12 and 49% in FY05-FY08.
Ind-Ra expects the capital to be infused by the government would be judiciously used to step-up provisions for the stock of stressed assets, which will structurally improve the health of the sector and reduce volatility in performance. The agency would take appropriate rating actions, if required, after it attains clarity on the matter.
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