Why on earth does it require a slap in the face from an international rating agency for the government to realize the country’s largest public sector bank needs more capital? The bank has been seeking to float a rights issue of Rs 23,000 crore for about a year now and its tier I capital adequacy ratio declined to 7.6% at the end of June. But the government has, as usual, put off taking a decision in the matter.
A day after the downgrade, the government has grudgingly agreed to cough up anywhere between Rs 3,000 crore and Rs 10,000 crore. The vagueness in the figure is because this information comes from State Bank of India (SBI) chairman Pratip Chaudhuri and not from finance ministry mandarins who have chosen the safe option of asking the bank to submit a report on the downgrade. The downgrade of SBI by Moody’s Investor Services is, therefore, an indictment of the government’s mismanagement. SBI is, after all, a proxy for the sovereign.
State Bank of India building in Mumbai. Photo: Bloomberg
That said, the rating agency doesn’t really say anything new about the bank. The need for capital is a no-brainer; it is required fast. But SBI’s woes of rising non-performing assets (NPAs) and slowing credit growth have been well documented, too, and baked into the stock price. So, what did Moody’s add?
On asset quality, the rating agency has conducted a stress test and said that SBI’s ability to absorb losses in a stress scenario is below that of other C- rated Indian banks. These are HDFC Bank Ltd, Axis Bank Ltd and ICICI Bank Ltd. There’s little doubt that SBI’s financials are worse than these banks. The gross NPAs of Axis and HDFC Bank as a percentage of advances are much lower. ICICI Bank’s gross NPA percentage is higher, but the trend is improving, while that of SBI has gone up. More importantly, ICICI Bank’s tier I capital adequacy ratio is above 13%. So it’s no wonder the rating agency said “SBI’s ability to absorb losses in a stress situation is below that of the C- rated Indian banks.” However, it hedged its statement by saying the “probability of systemic support for SBI, if needed, is very high”, and by increasing one of SBI’s deposit ratings. SBI’s rating has been downgraded to D+, at par with public sector banks such as Bank of Baroda (BoB), Bank of India and Punjab National Bank (PNB).
The rating agency also said that “capital deployed for loans growth, assuming 15% per annum for the next three fiscal years, will cause the tier I ratio to fall below 8%, thereby necessitating another capital exercise”. But SBI is not the only bank that has to approach the market rather often. As assets grow, banks will necessarily need to be recapitalized and may have to return to the markets time and again.
SBI itself has sought to downplay the rating change, indicating that it was applicable only on a particular instrument—some $625 million of perpetual bonds. Chaudhuri said at a press conference that overseas borrowings made up only about 6% of the total and the increases in borrowing costs would be capped at 2 basis points. The bank has a strong current and savings account (Casa) franchise.
That said, SBI is still vulnerable to the deteriorating economic environment. The strong 5.6 percentage points rise in the Casa ratio over the past three years has come with a 33% rise in the number of branches. That, along with pension and wage settlements, means staff expenses have ballooned by 85% over the same period. Even if the bank has managed to rein in its cost-income ratio, these would continue to put pressure on costs, along with the increase in NPAs. Thus, the stock price decline may have to do more with markets now believing that earnings may fall further than anticipated earlier. Note also that, on a price to estimated adjusted book value basis for FY12, SBI still quotes at a premium to its new D+ rated buddies. That’s in spite of BoB and PNB having a higher estimated return on average assets and all of them having a lower gross NPA percentage.
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