Why AU Small Finance Bank's profit surge isn't just about growth
Lower provisions, improved asset quality, and a rebound in unsecured lending drove AU Small Finance Bank’s Q3 profit growth. But rising operating costs and a competitive deposit market could cap upside going forward.
AU Small Finance Bank delivered a strong December quarter (Q3FY26) performance, marked by robust growth and sustained improvement in margins and asset quality. Net profit rose 19% sequentially to ₹668 crore, surpassing estimates. A closer look shows the jump was driven largely by lower provisions as bad-debt stress continued to ease after several quarters of deterioration. In contrast, pre-provision operating profit grew a much mellower 2% quarter-on-quarter to ₹1,235 crore.
Recoveries saw a seasonal uptick in secured assets. Unsecured portfolios, led by microfinance and credit cards, showed early signs of normalization: balances were down 17% year-on-year but edged up 1% sequentially. The result was a sharp 13% sequential decline in slippages.
Gross non-performing assets (NPAs) extended their quarterly fall to 2.3%. This enabled a 31% cut in provisions, even as net NPAs held steady at 0.88%. Provisioning savings of ₹150 crore quarter-on-quarter, along with a 31-basis-point drop in credit costs, more than offset a ₹20 crore rise in operating expenses (opex) linked to new labour codes. Despite a 12% sequential increase in opex to ₹1,850 crore, the timely fall in provisions underpinned the bank’s profit growth.
Buoyed by GST 2.0-driven festival-season demand and its retail-heavy franchise, AU posted industry-beating 19% year-on-year growth in advances to ₹1.3 trillion, while net interest income rose 16% to ₹2,341 crore during Q3.
A 22-basis-point sequential decline in cost of funds, aided by an improved deposit mix, lifted net interest margins to 5.7% from 5.45% in Q2. Higher fee income and stronger third-party product distribution drove 17% year-on-year growth in other income. Deposits expanded 23% to ₹1.38 trillion.
Despite all the good news, there are risks. A competitive deposit environment and rising operating costs are key concerns. Even excluding exceptional items, opex rose 27% year-on-year. With 27 new branches added during the quarter under review, management attributed the increase to continued investment in manpower, distribution expansion, and marketing and promotions.
The stock is hovering near its 52-week high of ₹1,030, hit on 16 January, and trades at about 3.2x FY27 book-value estimates, according to Bloomberg data. Valuations suggest that further upsides may be limited in the near term. That said, a sustained recovery in unsecured lending, improved deposit mobilization and operating leverage from higher business volumes, alongside the bank’s transition towards a universal banking model, could still drive earnings upgrades.
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