Published on 15/08/2020 12:35:13 PM | Source: Emkay Global Financial Services Ltd

Banking, Financial Services And Insurance Sector - Restructuring may delay NPA formation, but higher LLP could hurt in near term By Emkay Global

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RBI maintains status quo as inflation risk on the rise: The RBI maintained status quo on policy rates in the wake of elevated inflation, but also maintained the accommodative stance to support growth. We believe that recent high inflation readings are largely due to supplyside disruptions in food, higher taxes/duties on petroleum/alcohol (by some states), rising gold prices. However, we expect inflationary pressure to ease-off a bit in H2FY21, leaving scope for a 25-50bps rate cut in FY21. The RBI has maintained a negative growth outlook in line with our expectations, but has once again dithered to provide growth/inflation guidance in numbers, which is surprising. We believe that continued risk aversion and low economic activity have impacted overall bank credit growth (~6% yoy) and it is unlikely to see any meaningful pick-up in the near term.


Restructuring better than short-term moratorium, but lenders likely to be selective: The RBI has extended the MSME restructuring (loansRs250mn), corporate loans (non-financial/govt) not overdue beyond 30 days as on March 1, 2020, without a change in the asset classification. The restructuring scheme has to be invoked by December 31, 2020, and implemented within 180/90 days for corporate/retail loans. The restructuring will be allowed by the extension of the residual tenor (max 2 years) with or without the moratorium and even the conversion into another credit facility (which we believe some banks/NBFCs have done recently). For corporate loans, sector-wise restructuring will be allowed after recommendations from the expert committee led by Mr K V Kamath, instead of blanket restructuring allowed post the GFC, which led to higher restructuring (4% in FY10/6% in FY15) and NPA formation at a later stage (see Exhibit 12). Our preliminary discussions with banks suggest that the restructuring benefit will be extended selectively to viable MSME, CV, HL/LAP and select corporate loans in Covid-19-affected sectors (such as Hotels, Travel, etc.), while would prefer to take the pain upfront in loans, where long-term viability is at risk even after the restructuring.


High provisioning cost to deter unwarranted restructuring: To discourage rampant and unviable restructuring, banks will be required to make high provisions at 10% on restructured retail/corporate loans (20% on corp loans for banks outside ICA). However, 50% of these provisions on retail loans will be reversed in case the borrower pays 20% residual debt, and the balance 50% on payment of another 10% without slipping into NPA. Assuming Covid-19- induced stressed loans at 10-15% and at least 50% restructured in the worst case, our rough calculations show systemic level immediate additional provisioning cost at 10% could be 50- 75bps. Within our coverage, ICICI/Axis carry contingent provisions of 125-130bps, HDFCB/KMB/IIB/RBL around 60bps and large PSBs at 10-15bps. Thus, we believe that some banks may have to further accelerate their provisioning buffer, factoring in the incremental provisioning requirement on restructured loans and potential NPAs.


Prefer to remain cautious; stay put with quality: We believe that the RBI has largely ticked all the boxes in terms of policy measures, with no rate cut to tame the rising inflation (which should also contain margin pressure for banks) and also not extending the moratorium (which lenders were resisting fearing weakening credit discipline). We believe that the restructuring will certainly slow down/defer the NPA formation well below the RBI’s expectation, while 10% provisioning cost for banks should discourage unwarranted restructuring unlike the post-GFC period and partly cover the impact of potential NPA formation from the restructured pool at a later stage. However, we prefer to remain cautious on the sector amid weak macros and elevated stress in the system, which should keep overall return ratios depressed. Our preferred picks in the large private banking space remain HDFCB/ICICI, while SBI in the PSB space. Within NBFCs, we prefer HDFCL.


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