Technical Analysis

Weak at the core

Radhika Merwin | Updated on June 10, 2018 Published on June 09, 2018

With asset quality pain likely to continue over the next few quarters, the bank’s earnings will remain under pressure

The RBI’s new framework for stressed assets released in February has, as expected, thrown a spanner in the works for banks, hoping for some gains from resolution of big accounts. The new framework, directing banks to act quickly by setting a timeline for resolution and withdrawing the old restructuring schemes, has led to sharp slippages and huge losses in the March quarter for some of the leading public sector banks. The tale of the country’s largest bank, SBI, has been no different.

In the latest March quarter, the bank reported fresh slippages to the tune of ₹33,670 crore, higher than the levels witnessed after the RBI’s asset quality review exercise in FY-16 and at the time of merger with its associate banks last April.

Contrary to most expectations that with the accelerated NPA recognition, the worst may be over for the state-owned lender, we believe that there is still more pain to unfold in the coming quarters. Recovery in earnings is likely to be long drawn, with not much respite in FY-19. Investors can exit the stock and switch to other private lenders and non-banking finance companies that have better earnings visibility.

What’s of concern?

For SBI, aside from the RBI’s asset quality review in December 2015, what continued to weigh on the bank, was the huge legacy of bad loans it took over from its associate banks, post their merger last April.

The central bank’s February circular has once again turned the focus back on the bank’s bad loan issue.

In the December quarter, the bank had reported outstanding stressed assets of ₹50,482 crore. In the March quarter, of the ₹29,000 crore of corporate slippages, ₹17,400 crore has been from the stressed pool. Despite the sharp slippages, the bank still has around ₹25,800 crore of accounts under the watchlist — this includes all corporate SMA2 (where payments are overdue by 61-90 days) and stressed SMA1 accounts (overdue by 31-60 days).

This leaves open the possibility of substantial slippages for the bank in the coming quarters.

Also, at a whopping ₹2.2 lakh crore, SBI’s gross non-performing assets is likely to keep provisioning requirement elevated owing to ageing of bad loans.

SBI anticipating a longer than expected timeline for resolution of NCLT accounts, implies a back-ended recovery and no let-up in earnings pressure until the end of FY-19. In the December quarter, SBI had expected 60 per cent of the NCLT cases to be resolved in the first quarter of FY-19. It now expects only 43 per cent of the NCLT cases (under the first list) to be resolved in the first quarter of FY-19 and the balance in the second quarter. It expects NCLT cases under the second list to be resolved by the end of FY-19.

Losing market share

SBI has been losing market share to its private peers over the past year. A look at the advances figures of listed banks suggest that the largest lender has lost about a percentage point in market share over the past four quarters. Evidently, the bad loan mess has weighed on the bank’s ability to drive its core lending business.

Elevated levels of stress in asset quality and fall in lending rates over the past two years has kept the bank’s net interest margin (NIM) under pressure. But some of the pressure has also been due to the bank’s notable shift towards corporate bonds (from loans). In FY-16, corporate bonds and commercial papers were around 4 per cent of SBI’s domestic book. In FY-17 and FY-18, it has inched up to about 7 per cent. Given that the yields on loans are higher than that on bonds, the bank’s NIM has been impacted to some extent.

While lending rates moving up in recent months should offer cushion to margins, the shift towards bonds, weak credit growth and risks to asset quality are likely to keep margins under pressure.

SBI’s net interest income in FY-18 has been marginally lower than that reported in FY-17. Domestic advances have grown by a muted 4.8 per cent Y-o-Y in FY-18. Deposits too have grown by a modest 4.2 per cent, lower than the 7-odd per cent growth at the system level.

Non-core investments lend comfort

At the current price, SBI trades at about 1.1 times its standalone one-year forward book value. But looking at the book value alone can be misleading. On an adjusted basis (adjusting the book value for net NPAs), the stock trades at about 1.6 times, which is not cheap.

However SBI’s non-core investments offer some scope for unlocking value.

SBI’s non-banking subsidiaries with notable earnings include SBI Capital Markets and SBI DFHI. SBICAPs offers investment banking and corporate advisory services, while SBI DFHI is one of the largest standalone primary dealers. These entities, valued at a price-to-earnings basis, add ₹8 per share to SBI’s core intrinsic value.

The real value unlocking for SBI comes from its insurance ventures. SBI Life listed last year and adds about ₹50 per share to SBI’s core value. SBI general insurance, on gross written premium basis and SBI AMC valued based on assets under management, add about ₹6 each to SBI’s core value.

While divestment of investments in subsidiaries (valued at about ₹70 per share to SBI’s core value) can help shore up capital and returns, the underlying weak core performance is likely to weigh on the bank’s valuation in the coming year.

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