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Core performance improving; elevated stressed asset pool poses credit cost risk in FY23E

South Indian Bank’s (SIB) Q1FY23 financial performance continued to improve for the second consecutive quarter with advances growth at 5% QoQ, cost / income ratio down 100bps QoQ to 63%, and credit cost settling much lower at 1%. However, RoA remained subdued at 0.5%. Steady improvement in CASA ratio to 34% vs 30.4% in Q1FY22, and bulk-deposits down 63% YoY, reflect SIB’s liability strength. While asset quality continued to improve for five straight quarters, NNPL remained elevated at 2.9%.

Corporate advances grew by a strong 31% YoY vs total advances growth of 11% YoY as management opted to deploy excess liquidity in credit products rather than park it in G-Sec or similar lower-yielding instruments. Cash + bank balances + investment during covid phase was at an average of 33% of total assets vs 26% pre-covid. With improving credit outlook, management estimates double-digit credit growth in FY23 and would focus on scaling up the retail segment. While we note that financial performance has improved during the past couple of months, elevated stressed pool (GNPL + standard restructured book at 9.4%) is likely to keep credit cost high. Also, increase in corporate lending would result in lower NIMs. Hence, with limited levers to RoA improvement in the near term, we resume coverage on the stock with a TP of Rs8, valuing the stock at 0.4x Sep’23E ABV.

Key risk – higher credit cost than anticipation and NIM expansion if Retail growth accelerates.

Steady decline in NPL ratio, yet elevated.

SIB contained slippages at Rs4.3bn vs Rs8.8bn in Q1FY22 and higher recoveries led to GNPL falling to 5.87% in Q1FY23 from 8.02% in Q1FY22. Similarly, NNPL fell to 2.87% from 5% in Q1FY22. Standard restructured book too reduced to 3.5% as of Jun’22 from the peak of 4.5% in Dec’21. However, total stressed pool GNPL + restructured book remained elevated at 9.4%.

PCR at 53% and collections falling to 97% in Q1FY23 likely to result in credit cost remaining elevated in remaining quarters of FY23

While the management has been conservative in building adequate provision buffer on the existing NPL portfolio as reflected in PCR improving to 53% vs 39% in Q1FY22, it still appears lower than peers. Further, collections in Q1FY23 fell to 97% vs 100% in Q4FY22. Hence, we expect credit cost in the remaining quarters of FY23 to remain higher than the 1% in Q1FY23.

Revival in credit growth was largely driven by corporate segment.

Total advances grew 5% QoQ in Q1FY23, but this was driven largely by the corporate segment with >60% of disbursements toward large corporates during the quarter. Bulk of corporate lending was towards AAA / AA rated corporates as reflected in their share increasing to 80% by Jun’22 from 43% in Jun’21. Notably, business loan and retail loan growth remained muted at 0.1% / 2% QoQ respectively. Higher corporate lending resulted in 6bps QoQ reduction in NIM to 2.74% from 2.80% in Q4FY22.

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