Why all is not well with the State Bank of India

Last Updated: Wed, Sep 25, 2013 05:33 hrs

There is more to the downgrade of SBI than what meets the eye. Global rating agency Moody's downgraded the unsecured debt and local currency deposit rating by a notch citing asset quality and recapitalisation concerns. The rating agency has also pointed out the bank's reliance on a fiscally constrained government to maintain capital at levels desired by regulators as another reason for downgrade.

In layman language, SBI does not have money to fund its losses in order to keep its capital in line with the RBI guidelines. Normally the bank would run to the government when its capital adequacy ratio came down, either due to strong growth or rising losses. But now the government financials are in such a mess that it would find it difficult to raise the capital needed.

In the present scenario, SBI does not need to go to the government for funds as its capital adequacy ratio is fine. But its growth rate and rising NPAs can change the scenario. Further, the downgrade is for unsecured loans which will have an impact on the bank only if it plans to raise money from global markets. For unsecured loans, SBI uses the medium term notes (MTN) to raise funds. This forms a small part of its fund raised. The rating downgrade has no impact on the bank's ability and cost to raise funds in the domestic market.

In short on the operational front, there is nothing much to be worried about from the Moody's downgrade.

But, there are enough signs that all is not well in SBI, especially on the liquidity and non-performing assets front. An Economic Times [LINK] report says that SBI has stopped discounting Letters of Credits (LC) issued by other banks (apart from SBI and associate banks). There are three ways to interpret this action. One is that SBI has a liquidity crunch, second it is not keen on investing in low yielding products like discounting LCs and the third is that SBI is using the slowdown and stressed banking climate to acquire good clients.

Discounting LCs is a relatively risk-free business with a decent fee income. LCs are normally used by exporters whose customer through its banks produces a LC promising payment at a future date, normal 3-6 months. By discounting these LCs, banks pay the exporter upfront money after cutting their fees, and getting paid by the customer's bank at a later date. If SBI is genuinely in a liquidity crunch other banks should be in a worse scenario as their fund raising capability is far lower than SBI's. However, other indicators like Liquidity Adjustment Facility do not indicate a liquidity crunch in the system. Looks like SBI is playing it smart.

Over the last few months, SBI has been taking unorthodox actions. It started with the company increasing the salary limit for auto loans. The bank raised the salary limit to Rs 6 lakh per annum in order to discourage lower paid employees from seeking auto loans. An industry source says that highest defaults rates are in this segment could be the reason driving the bank to take such a step.

Investment bankers say that SBI has virtually stopped lending in the SME space or is delaying it at best. By doing this bank is does not want to increase its exposure to one of the most vulnerable segment of the economy.

As per Moody's, SBI already has a loan impaired ratio (percentage of loan on which the recovery of the entire amount is unlikely) of 8.6 per cent.This can increase as economy has only deteriorated further.

Recent data from RBI shows that credit rate has grown by a sharp 18 per cent while deposit growth has increased by only 13 per cent. Banks thus needs to raise more funds to meet the increased demand for it. SBI has recently increased deposit rates to meet the demand.

Moody's signalling a downgrade might not impact the bank in the near term but there are enough indicators which say that the bank is not in the best of health. Its result for the September quarter will highlight the extent of the problem not only in the bank but the entire economy.

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