Disrupted quarter, Bank performance divided
Private Banks (PVB) reported a 9 per cent YoY decline in net profit due as the muted earnings performance of Axis Bank weighed-in. Public Sector Banks (PSB) like SBI, BOB and PNB, reported combined profit of Rs 3,070 crore in 3QFY17, as compared to a loss of Rs 2,170 crore in 3QFY16 and a profit of Rs 3,640 crore in 2QFY17. The impact of demonetisation led to a moderation in net interest income (NII) and fee income growth. Core revenue performance was feeble, especially for PSBs but even for PVBs. Headline impaired loans as measured by gross non-performing assets (GNPAs) and restructured loans were sequentially stable for PSBs at 14.4 per cent of loans and retail PVBs at 1.4 per cent while they increased 70bps QoQ for wholesale PVBs to 7.3 per cent in 3QFY17.

Significant impact of demonetisation on balance sheets
The impact of demonetisation was witnessed in the sharp influx of deposits, more in PSBs versus PVBs, such that PVBs yielded 40bps market share in deposits and 120bps in current account / savings account (CASA) to PSBs sequentially in 3QFY17. However, PVBs cornered bulk of the credit growth, thereby improving their market share by 30bps QoQ to 18.3 per cent in 3QFY17. As a result, loan-to-deposit ration (LDR) declined more sharply for PSBs, that is 5 per cent QoQ than for PVBs, which was 2 per cent QoQ. This, along with persistent stressed asset accretion for PSBs, and private banks Axis Bank and ICICI, led to moderation in NII growth for PVBs to 12 per cent YOY and for PSBs at 1 per cent YOY.
Despite the sluggish growth, market share in credit swung towards private banks. Growth in credit for PVBs was 13 per cent YoY and 1 per cent QoQ while credit for PSBs declined 2 per cent YoY and 1 per cent QoQ. Credit growth in PSBs was affected by huge allocation of organisational resources to branches and cash management and also due to risk aversion with regard to corporate credit.
The pace of change in market share in credit towards PVBs has picked up over the last five quarters. PVB’s continue to gain market share in retail loans at a faster pace than they are gaining share in corporate loans.
Core revenue growth moderated more for PSBs and wholesale PVBs
NII growth remains more robust for retail PVBs than wholesale PVBs. NII growth for PSBs recovered marginally due to the low base of 3QFY16 and as slippages were relatively lower QoQ on an aggregate basis. NII for retail private banks increased 19.5 per cent YoY, for wholesale PVBs increased 6.9 per cent YoY and for PSBs it increased 0.8 per cent YoY. Despite the jump in CASA ratio, factors impacting net interest margins (NIMs) for PSBs were:
i) the sharp decline in LDR,
ii) persistent high slippages, and
iii) lower portion of retail loans in the overall mix.
This pressured core fund-based revenue growth in PSBs. NIMs declined for Axis Bank, ICICI, HDFC Bank, SBI and PNB on a YoY basis while they expanded for YES, Kotak Mahindra Bank (KMB) and BoB. Better margin performance of YES, IIB and KMB was due to higher CASA ratios and higher proportion of retail loans in the overall mix. Large interest reversals created a favourable base. NIM expansion was also due to change in loan mix towards higher yielding loans in the case of BoB.
Stress remained elevated for PSBs, wholesale PVBs due to high slippages
Total impaired loans (GNPAs + restructured loans) stabilised for PSBs at 14.4 per cent in 3QFY17 but increased to 7.3 per cent in 3QFY17 for wholesale private banks from 6.6 per cent in 2QFY17. Retail PVBs maintained their impaired loans ratio at 1.4 per cent in the quarter.
However, the mix of GNPAs continues to change with higher slippages from restructured loans. Incremental stressed asset formation has come from large and mid-corporate exposures of wholesale banks. Most private banks hardly utilised the RBI dispensation on a significant quantum of loans except Rs 100 crore by ICICI Bank. PSBs, on the other hand, benefited from the RBI dispensation. SBI used the dispensation for Rs 2,000 crore worth loans and BoB for Rs 480 crore in this quarter.
While slippage ratios moderated sequentially, the absolute slippage ratios remain high. For example, Axis Bank’s 5.8 per cent slippage ratio is high even though it moderated sequentially. Further, slippages from outside the list of stressed assets declared by banks like Axis Bank, ICICI Bank and SBI are either increasing or high. Restructured loans have been the key source of slippages, especially from iron and steel.

Profitability impacted, valuation disparity sustains
Profitability of the two bank-groups, PSBs and PVBs, continue to show considerable variance driven by their divergent core operating performances. Despite relative stabilisation in slippage ratios in PSBs and some up-tick in slippages in wholesale PVBs, overall earnings performance of PSBs was weak.
However, considering that the quantum of trading gains was extremely high across the board for PSBs, the core fee income accretion has moderated on a QoQ basis. SBI benefited from the profit on sale of 3.9 per cent stake in SBI Life in the quarter. The core operating revenue growth of PSBs remains under pressure, in both fund-based and non-fund based income.
Muted revenue performance and sticky costs (owing to pension, staff costs and higher other operating expenses) limits an improvement in operating profitability and thereby reduces PSBs’ ability to make adequate loan loss provisions. Overall provisions remained high in the quarter, resulting in further compression in reported profitability.

Valuation disparity likely to sustain going forward
Retail PVBs continue to have robust earnings and profitability performance and continue to receive premium valuations. YES, on other hand, is the only wholesale PVB whose valuation discount to retail PVBs has contracted meaningfully. Banks delivering higher return on equity (RoE) – except KMB – continue to receive premium valuations. Valuation differentials will sustain going forward as well as the divergent earnings performance sustains. Trading gains would not be available in each quarter to shore up profits either, especially with interest rates having dipped low already.
Source: JM Financial