That the bad loans have turned out to be a big blow for the banks' balance sheets is well-known. Public sector banks have been the biggest victims of the poor credit quality of borrowers.
Going by the earnings account of public sector banks for the quarter gone by, it candidly indicates fall in credit disbursements. For instance, State Bank of India (SBI) has reported a mere 1.2% loan growth on sequential basis during the June quarter of 2014. On similar lines, Bank of Baroda and Punjab National Bank both have witnessed a decline of 1.9% and 0.7% on sequential basis for the first quarter.
That's because the banks have been refraining from lending to lower rated companies. Most of the banks have shifted their credit exposure towards government-owned Navratna companies. Private sector firms with higher ratings are preferred. SBI, for instance, has focused on lending only to the "A" rated borrowers. Almost 90% of the SBI's loan book was dominated by high rated companies for the June quarter.
On prudent grounds, banks have trimmed their credit books. Thanks to the economic slowdown, the business sentiments have remained weak too. Not just that! Capital constraints and unwillingness to take excessive risks have restricted the credit expansion too for these banks. Stringent capital adequacy ratios stipulated by the regulator makes increasingly difficult for the banks to grow at a higher pace. Hence, it would become quite important now for the borrowers seeking credit to have superior creditworthiness.
Besides capital pressures, banks also need to set aside certain amounts as provisions for every loan that is disbursed. And lower the credit rating of the company, higher the provisions that the banks need to make. As lower rated borrowers are perceived to be riskier. What more? The new international BASEL III norms on capital adequacy also require the banks to maintain higher capital buffer to meet future contingencies. Inarguably therefore assessment of two crucial factors such as capital and credit quality have become more pronounced today while taking loan decisions.
Even the Reserve Bank of India (RBI) is not leaving any stone unturned with respect to monitoring asset quality of banks. The RBI raises red flags against every big-ticket loan by banks to lower rated companies. The Central bank is also vigilant about the bank's utilization of capital. As a consequence, banks are on a tight leash. They do not mind comprising on profitability but they prefer to settle down with safe bets. The first quarter earnings for FY15 of PSU banks are the case in point.
We hope the investors are all ears to these developments. For just like the lenders and the regulators, investors too need to remain cautious and do thorough due diligence. Nonetheless Equitymaster continues to remain dedicated to help each one of you out there to arrive at better investment decisions. So stay tuned!
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