The Indian banking industry seems to be in pretty good shape. At least that’s what the earnings of listed banks suggest. Barring six, all banks have posted a higher net profit in the fiscal year that ended in March. Collectively, the net profit of 39 listed banks has risen by around 17% to Rs51,020 crore. Operating profit grew by almost an identical margin. Only five banks have shown a drop in operating profit. The four banks that feature in both lists are Dhanalakshmi Bank Ltd, Development Credit Bank Ltd, Indian Overseas Bank and Bank of India.
Overall, the Indian banking industry is not only profitable, but also adequately capitalized. In fact, some banks’ capital adequacy ratio—a measure of capital expressed as a percentage of risk-weighted assets—is much above what they are required to maintain. For instance, Federal Bank’s capital adequacy ratio is 17.27% and that of three others—Axis Bank Ltd, Development Credit Bank and Corporation Bank —is at least 15%.
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Is there any worry for the Indian banks at this point of time? A central banker tells me the biggest worry is the quality of assets. Both the gross as well as net non-performing assets, or NPAs, of the Indian banking industry are on the rise and things could get out of hand if the banks are not smart enough to take prompt corrective action.
How bad is the situation? The gross NPAs of this set of banks have risen by 25.5% to Rs76,000 crore—around 50% more than the collective net profit of these banks. Net NPAs—excluding the loans against which provisions have been made—have risen by around 26% to Rs35,400 crore.
Technically, there are three types of bad assets—substandard, doubtful and loss assets. While the loss assets are to be provided for fully, the provisions for substandard and doubtful assets depend on the age of the assets. The Indian central bank wants all banks to provide for 70% of bad assets, irrespective of their age and classification, but most banks are resisting this move.
The most critical point to note is that 34 of the 39 listed banks have shown an increase in their gross bad assets in absolute terms. In percentage terms, 24 banks have shown a rise. Similarly, the net NPAs of 30 banks have risen in the past year in absolute terms even though in percentage terms only 24 banks have shown a rise in net NPAs.
This is no consolation. In a growing economy, when banks lend money to consumers, bad assets as a percentage of loans always decline. By setting aside more money, banks can also lower the percentage of net NPAs, but an ominous sign is the growth of bad assets in absolute terms.
Bank of India’s gross NPAs have almost doubled from Rs2,470 crore to Rs4,883 crore and Indian Overseas Bank’s gross NPAs have grown some 88%, from Rs1,923 crore to Rs3,611 crore. After making hefty provisions, Bank of India’s net NPAs have grown some 251%, from Rs628 crore to Rs2,207 crore. The growth in Punjab National Bank’s net NPAs is even higher—272%—from Rs264 crore to Rs982 crore. Union Bank of India’s net NPAs have almost doubled to Rs965 crore and that of Bank of Maharashtra have grown 144% to Rs662 crore. Overall, State Bank of India has the biggest book of gross and net NPAs—Rs19,535 crore and Rs10,870 crore, respectively, but their growth in percentage term is not that high.
Not too long ago, barring a few exceptions, all Indian banks had less than 1% of net NPAs and many of them even had zero net NPAs. They managed this feat by keeping a close eye on the quality of assets and aggressively making provisions. That’s no more that case. There is no zero-net NPA bank in India now. Eighteen of the 39 banks have at least 1% net NPAs, with Development Credit Bank topping the list (3.11%), followed by Indian Overseas Bank (2.52%). When it comes to gross NPAs as a percentage of loans, once again Development Credit Bank is the worst performer (8.69%). Other prominent names in this list are ICICI Bank Ltd (5.06%), Indian Overseas Bank (4.47%), Kotak Mahindra Bank Ltd (3.62%), United Bank of India (3.21%) and State Bank of India (3.05%).
Things can get worse this year as many of the loans that were restructured in fiscal 2009 when economic growth slowed and an unprecedented credit crunch hit the financial system in the wake of the collapse of US investment bank Lehman Brothers Holdings Inc. are likely to turn bad. The Reserve Bank of India allowed Indian lenders to restructure those loans where borrowers were hit by the slowdown and could not service debt. That gave a temporary reprieve to the banks as they were not required to classify many such loans as bad assets, but now they are being forced to do so. State Bank of India had restructured around Rs16,800 crore worth of loans and around 10% of such loans have already turned bad. Other banks, too, are feeling the heat.
Rising bad assets dent banks’ profitability as they need to set aside more money to cover them. Besides, they do not earn any interest income from the bad assets. By aggressively growing their loan books, banks can always distort the real picture of NPAs (as bad assets in percentage terms decline) but this does not help in the long run. At least some of the banks now need to focus more on bad loan recovery than on growing assets and the industry needs to be put on high alert.
Tamal Bandyopadhyay keeps a close eye on all things banking from his perch as a deputy managing editor of Mint. Please email comments to firstname.lastname@example.org