Indian Banking Industry Report - Banking Sector Research & Analysis in India - Equitymaster

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Banking Sector Analysis Report

[Key Points | Financial Year '15 | Prospects | Sector Do's and Dont's]

  • Global economy continued to remain in doldrums in the past year. During the year gone by, central bankers across the globe other than the US, resorted to monetary easing measures to boost the economy. However, the global economy continued to remain fragile with the second largest economy China witnessing a huge slowdown. Even crude prices continued to slide sharply on oversupply issues and this has further weighed down on the global recovery. The International Monetary Fund (IMF) lowered its global growth forecast to 3.4% in 2016. In the light of the continued weakness, the European Central Bank and Bank of Japan have decided to extend their quantitative easing programs. The US Fed, on the other hand, raised interest rates by 0.25% for the first time since 2006.

  • The Indian economy has been on a relatively sound footing, registering the fastest growth in FY15. However, problems such as a weak investment climate and tepid earnings growth continue to plague the economy. The banking sector, being the barometer of the economy, is reflective of the weak macro-economic variables. The Indian banking system continued to battle falling asset quality issues and the need to maintain capital adequacy in the light of piling bad loans.

  • The banking sector recorded slowdown in balance sheet growth for the fourth year in a row in FY15. The slowdown was on account of sluggish credit offtake that slipped to single-digits during the year. But on the back of controlled operating expenses, the sector managed to post incremental profits during the year. However, profitability remained depressed with the Return on assets (RoA) continuing to linger below 1% during the year.

  • The ownership in the banking sector remained predominantly in the public sector despite a gradual decline in their share in recent years. Public sector banks (PSBs) accounted for 72.1% of the total banking sector assets. However, in terms of profits, the share of private banks surpassed that of PSBs. In FY15, PSBs had a share of 42.1% in overall profits.

  • Since the start of 2015, the Reserve Bank of India (RBI) has reduced interest rates by 1.25%. Although banks have reduced base rates but not to the same extent. For the full transmission of rates, the RBI has asked banks to follow the marginal cost of funds while setting the base rate.

  • In order to prevent banks from liberally restructuring assets to avoid slippages, the Reserve bank of India has made all assets restructured from 1st April 2015 to be treated at par with NPAs as far as provisioning is concerned. This means that the provisioning in case of the restructured assets will increase from 5% to 15%.

     Key Points

    Supply Liquidity is controlled by the Reserve Bank of India (RBI).

    Demand India is a growing economy and demand for credit is high though it could be cyclical in nature.

    Barriers to entry Licensing requirement, investment in technology and branch network, capital and regulatory requirements.

    Bargaining power of suppliers High during periods of tight liquidity. Trade unions in public sector banks can be anti reforms and orchestrate strikes. Depositors may invest elsewhere if interest rates fall.

    Bargaining power of customers For good creditworthy borrowers bargaining power is high due to the availability of large number of banks.

    Competition High- There are public sector banks, private sector and foreign banks along with non banking finance companies competing in similar business segments. Additionally, the RBI has issued banking licenses to 23 new banks. These include 10 small banks and 11 payment banks. This will further increase competition in the industry.


     Financial Year '15

  • As the domestic economy remained sluggish, the growth in the Indian banking sector too remained under pressure in FY15. Credit offtake slowed down to 9.4% in FY15 from 14.3% recorded in FY14. Poor earnings growth by companies, slow pace of investments, risk aversion of banks due to rising bad loans, and availability of alternative funding sources for corporates pulled down credit growth during the year. Similarly, the growth in deposits of scheduled commercial banks (SCBs) at 10.7% in FY15 was much lower than the growth at 14.1% in the previous financial year. The base rate of major banks remained unchanged at 10.0% -10.25% in FY15. As a part of the monetary transmission, base rate of major banks fell to 9.75%-10% in April and declined further to 9.3%-9.7% by the end of 2015. Even deposit rates have fallen from 8%-9.25% in FY15 to 7%-7.9% towards the end of 2015.

  • There remains a wide disparity in the credit performance of public and private sector banks. While the credit growth of public sector banks has more than halved to 7.1% that of private sector banks has improved from below 17% to 18.7% in FY15.

  • The net interest margin and spread witnessed marginal decline in FY15. The aggregate profit after tax (PAT) of banks has risen by 10.1% in FY15 as compared to a decline of 14% in the preceding year. Although the growth in the net interest income has tapered down a bit, rationalization of operating expenses backed by moderation in the growth of the wage bill and a sharp decline in the growth of provisions and contingencies pulled up the profit growth during the year.

  • In terms of profitability, the return on assets (RoA) remained static at 0.8% whereas the return on equity (RoE) dipped slightly from 10.7% to 10.4% in FY15. Among banks, public sector banks reported a marginal decline in RoA from 0.5% to 0.46%. Private sector banks saw their RoA improve from 1.65% to 1.68% during the year.

  • The gross NPAs of banks (PSBs + private) increased over the last one year from 3.9% to 4.6% as on March 2015. The stressed advances that include restructured advances rose from around 10% to 11.1% of total advances during the year. The PSBs recorded the highest level of stressed assets at 13.5% of the total advances as compared to 4.6% in case of private banks.

  • The capital adequacy ratio (CAR) of banks slipped from over 13% to 12.9% as on 31 March 2015. PSBs continued to report the lowest CAR that stood below 12% whereas private banks recorded a CAR of around 16% as at 31st March 2015.


  • While the medium term prospects point towards an improving growth scenario, the Indian economy still continues to battle falling exports and sluggish investments which may lead to slowdown in credit offtake and piling up of bad loans.

  • The government has introduced a number of debt recovery measures such as Joint Lender's Forum, Structured Debt Restructuring (SDR), 5/25 refinancing scheme for extension of tenure in case of infra loans, and Ujwal Discom Assurance Yojana (UDAY) scheme for salvaging loans taken by debt-ridden and loss-making SEBs. These measures have given banks more arsenal in their fight to bring down the quantum of bad loans. However, these measures come with their own share of challenges.

  • In the case of SDRs, banks have been empowered to convert debt into majority equity holding, change the management if required, or sell assets to recover their dues. In this case, finding appropriate buyers at the right price for assets within 18 months can be a daunting task, especially in a depressed environment.

  • In the power sector, where PSBs have huge exposure, the effectiveness of the UDAY scheme will be dependent on the states taking over the loans of SEBs. This can limit the availability of state resources for other development programs. And with states such as Uttar Pradesh and Tamil Nadu going to the polls soon, there is a likelihood of tariff hikes not being implemented, thereby putting a spanner on the success of the scheme. Furthermore, with a large amount of bonds flooding the market (SEBs have accumulated debt of Rs 4.3 trillion), the appetite of the markets for these bonds is bound to be impacted. Therefore, the PSB's bad loan problem cannot be immediately wished away as the recovery measures will take time to yield results.

  • With an aim to shore up the capital base of banks, enable them to meet credit demand and adhere to Basel III norms, the government has earmarked Rs 700 bn for capital infusion in PSBs during the period 2016-2019. However, this is less than the total capital requirement of Rs 1.8 trillion estimated by the government over the next four years. The government hopes to raise the balance amount of Rs 1.1 trillion by divesting its stake in PSBS. However, this seems difficult in the current depressed market particularly when the bad loans in PSBs have reached Rs 2.67 trillion at the end of March 2015 .

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