Q2FY18 preview: RBI's NPA resolution under IBC to weigh on banks' earnings

Results for the second quarter of the fiscal year FY18 has begun with South Indian Bank. 

Banks continue to struggle with problems like higher non-performing assets (NPA), weak asset quality, muted credit growth, higher slippages which have impacted their earnings for past many quarters.

Banks in Q2FY18 will have no surprises but once again face another muted quarter as recovery remains weak.

Nitin Aggarwal and Alpesh Mehta, analysts at Motilal Oswal outlined three key factors that will continue to impact earnings in Q2FY18.

They are - (a) tepid corporate loan growth, (b) excess liquidity chasing quality credit (pressure on yields), and (c) progress on stressed asset resolutions under Insolvency and Bankruptcy Code (IBC) as well as quantum of new cases referred.

Manish Agarwalla, Pradeep Agrawal and Paresh Jain, analysts at Phillip Capital said, “Banking universe will see muted 5% yoy growth in net interest income, marred by weak credit growth and non‐accrual of income on stressed assets.”

NII will be hampered due to lackluster credit growth. As on August 18, 2017, system‐wide credit in the industrial segment stayed weak at ‐0.3% yoy. Retail credit growth remained buoyant at 16% yoy and growth for services was tepid at 5%.

Analysts at Motilal Oswal said, “We expect retail growth to show better traction for private banks sequentially due to pent-up demand of demonetization period and the Supreme Court’s ruling on BS-III. We expect mid-sized private banks to grow at 4-5x system during the quarter.”

It added, backed by excess liquidity and continued high CASA ratio in the system, cost of funds may remain benign, especially for bulk lenders.” However such will help in marginally offsetting the impact on NIMs.

With this, the large private banks are expected to show strong growth, led by refinancing. While mid-sized PSBs would continue losing market share due to capitalization and asset quality issues.

Also banks’ clean-up exercise (expect largely from restructured loans and watch list), non-fund-based exposure turning into NPAs for some stressed corporates, and impact on the supply chain of stressed large corporates - will have their share of hampering the asset quality. 

Motilal Oswal has factored a  net slippage ratio of ~1.5% (1.3% in 1QFY18) and provision-to-operating profits of 79% (80% in 1QFY18) for state-owned banks and 33% (34% in 1QFY18) for private sector banks.