New norms of provisioning with effect from the beginning of this year will affect the profitability of banks further
The Financial Stability Report (FSR) of June 2015 released by Reserve Bank of India (RBI) last week says that the Indian economy is resilient but there is no room for complacency due to the continued uncertainty over global growth and absence of effective international monetary policy coordination.
On the domestic banking sector the report says: “while risks to the banking sector have moderated marginally since September 2014, concerns remain over the continued weakness in asset quality indicated by the rising trend in stressed advances ratio of scheduled commercial banks (SCBs), especially of public sector banks (PSBs).”
It further states that the macro stress tests suggest that current deterioration in the asset quality of banks may continue for few more quarters, and PSBs may have to bolster their provisions for credit risk from present levels, to meet the ‘expected losses’ if macroeconomic environment were to deteriorate under assumed stress scenarios.
The RBI further says that this assessment of the banking sector by the FSR reflects the collective assessment of the Sub-Committee of the Financial Stability and Development Council (FSDC) on risks to financial stability. But the report unfortunately does not spell out any concrete steps to improve the situation, except to say that the policy initiatives for improving the governance and management processes at public sector banks become significant.
Asset Quality of banks:
The present level of both non-performing and restructured assets of public sector banks are quite high (see Charts below) and they are expected to worsen further before any improvement is expected as stated in the report.
The gross non-performing advances (GNPAs) of SCBs as percentage of gross advances increased to 4.6% as on 31 March 2015. The restructured standard advances during the period also increased, pushing up the SCBs’ stressed advances to 11.1%. PSBs recorded the highest level of stressed assets at 13.5% of total advances as of March 2015, compared to 4.6% in the case of private sector banks (PVBs).
The following charts sourced from the RBI’s Financial Stability Report clearly brings out the steep deteriorating NPA position both at the gross and the net level for PSBs from March, 2011 to March, 2015.
(PSBs = Public Sector banks. PVBs= Private Sector Banks. FBs = Foreign banks.
GNPA = Gross Non-performing Assets. NNPA = Net Non-performing Assets.)
Capital Requirements of PSBs:
As per the latest estimate, PSBs in India require additional equity capital to the tune of Rs2.4 lakh crore by 2018 to meet Basel III norms as ordained by RBI. And during the current financial year PSBs were looking to raise over Rs21,000 crore from the capital market as the Government has allocated only a sum of Rs7,940 crore for this purpose in the current year’s budget. The Finance Secretary, however, announced last week that the government is proposing to inject Rs11,500 crore in addition to the earlier budgeted amount during the current year. And as per media reports, the Finance Ministry has now asked banks to explore innovative strategies to attract investors for their future stake sale.
How do you attract investors for subscribing to bank shares? There is only one obvious factor that determines the interest of investors in share investment and that is company’s performance. It is a well known fact that investors will come flocking to you if you show continued improvement in the performance quarter after quarter. Due to the subdued performance of PSBs during the last three years, their performance in the stock market has also been impacted and most of the PSBs have very low valuations in spite of majority ownership resting with the central government.
The following chart shows the relative performance of SCBs during 2012-2014.
Perceptible fall in net profits impacting growth:
Despite a few relaxations in provisioning requirements by RBI, most of the public sector banks have been showing fall in their net profits and three of the PSBs have for the first time declared net loss for the fourth quarter of last financial year. With the introduction of new norms of provisioning for restructured accounts with effect from the beginning of this year, and with banks having to make more provisions for restructured accounts, profitability of banks will be further impacted putting pressure on the banks to raise more capital from the market. This again is constrained by the fact that government is required to hold a minimum of 51% of the share capital of every public sector bank, with little leeway available to raise capital from the market. What is adding insult to injury is the poor valuation of these banks at the bourses, putting the public sector banks in a bind of helplessness that will ultimately affect their growth due to their inability to fund the growing needs of the economy.
This should open the eyes of the powers that be to ensure that the public sector banks are not left high and dry, but out of the box solutions are found to improve the functioning of these banks to make them more agile, more competitive and more profitable to enable them to stand on their own legs without depending too much on the tax payers’ money to boost their capital requirements in the coming years. The future looks challenging for the banking industry and the government has a tough task in hand to meet these challenges.
(The author is the financial analyst writing for Moneylife under the pen-name ‘Gurpur’