Mumbai: India’s banking regulator has rejected State Bank of India’s (SBI) appeal to waive the additional provision requirement for its special home loans, two persons familiar with the development said.
This means the country’s largest lender will have to set aside around Rs.400 crore to provide for such loans which, according to the Reserve Bank of India (RBI), carry more risk of default as they are priced at relatively lower interest rates for the initial two-three years before the rates are raised.
Setting aside money for making extra provisions dents a bank’s profits.
The Indian central bank has also turned down SBI’s request to revise its decision to downgrade its rating, following an inspection of the bank’s books for the fiscal year ended March 2009.
The rating, based on the six parameters—capital, asset quality, management, earnings, liquidity, and systems and controls (CAMELS)—has been brought down by one notch, from B to B minus, as RBI found the bank had underestimated bad assets and inflated its capital by not making provisions or setting aside money for certain assets.
The CAMELS rating of a bank is highly confidential and neither the bank nor the regulator ever discloses it.
RBI’s inspection for fiscal 2009, completed in January 2010, also pointed out corporate governance issues with the bank.
SBI had a few months ago moved the central bank, asking it to reconsider the revision. It argued that its large loan book is being continuously monitored and minor deterioration in the quality of assets is no cause for worry and does not call for the downgrade. The size of its loan book was Rs7.4 trillion in December.
The banking regulator, in its communication, made it clear that it has taken a serious view of the bank’s failure in making adequate provisioning and underestimation of bad assets and stuck to its decision of downgrading its rating.
RBI has also made the on-site inspection of a large bank like SBI an annual affair and not once in two years, which had been the case till recently.
An SBI executive confirmed receiving RBI’s communications on home loan provisions and the bank’s rating.
Another official said the banking regulator’s inspection for fiscal 2010 is just getting over. No one was willing to be named considering the sensitivity of the issues and involvement of the regulator.
In its mid-year review of monetary policy in November, RBI had raised the provision for standard assets of special home loans fivefold—from 0.4% to 2%.
According to RBI, such loans impact the quality of assets as chances of defaults by the borrowers are high when the rate rises and, hence, the directive for higher provisioning, which will discourage them from selling such loans.
While SBI calls the product a special home loan, RBI dubs it a “teaser loan” as it carries a relatively lower rate of interest in the first few years, after which it’s reset at a higher level. RBI’s concern is some borrowers may find it difficult to service the loan once regular rates become effective.
The regulator is willing to bring down the provision rate from 2% to 0.4% for those loans that do not turn bad one year after the loan rates go up.
Former SBI chairman O.P. Bhatt strongly contested RBI’s perception of risk and had said that while giving such special loans, the bank takes into consideration a customer’s capacity to service the loan when the rates go up. His view was that, in the absence of any risk of default, the bank does not need to make extra provisioning as directed by RBI.
The audit committee of SBI’s board, headed by chartered accountant Dileep C. Choksi, endorsed the chairman’s decision, and did not make any provision for the December quarter. Armed with the audit committee note, Bhatt had moved RBI seeking a waiver of the extra provisioning.
Incidentally, SBI has also been raising provision requirements for its bad loans in phases unlike other banks that have already done this in conformity with RBI’s norms.
There are three types of bad loans—substandard, doubtful and loss assets. Till recently, banks were required to set aside the entire amount of loss assets, or those assets which can never be recovered, while provisioning requirement for other two categories varied, depending on their age and quality. RBI, in 2009, made 70% provision mandatory for bad assets for all banks.
SBI has so far made close to 64% provisioning for its bad loans and sought time till September 2011 to raise it to 70%.
Bhatt had called the RBI move “arbitrary” and argued that since money has already been set aside for different categories of bad assets, there was no need for 70% provisioning.
No SBI official is willing to speak on the rating downgrade on record, but in private, SBI executives said all concerns of the regulator have been addressed and many of the issues raised by RBI’s inspection team have been resolved.
SBI raised its provisions in the September quarter and as a result of this, net profit was flat at Rs2,501.37 crore.
In the December quarter, net profit rose 14% to Rs2,828 crore, taking the profit of nine months in fiscal 2011 to Rs8,243.64 crore.
With Bhatt having retired in March, new chairman Pratip Chaudhury will sign off on the bank’s annual accounts.
SBI closed at Rs2,803.30 on Friday on the Bombay Stock Exchange. Since January, it has remained flat, as has the banking index, Bankex, while the bellwether equity Sensex has lost 5.47%.