With public sector banks, suffering weak valuations, failing to raise external capital, the government’s recapitalisation plan has nearly doubled from its original estimate for FY19. Taking into account the latest round of capital infusion worth Rs 48,200 crore, the government’s equity contribution in FY19 stands at Rs 1.06 lakh crore, against an initial estimate of Rs 65,000 crore. This is notwithstanding IDBI Bank-LIC deal, which lowered the burden by about Rs 21,000 crore.
Market watchers say the latest round somewhat concludes the two-year recapitalisation plan unveiled in October 2017. Till date, direct government support for PSBs is around Rs 1.96 lakh crore, which also exceeds original estimates. With the increased capital support, PSBs will achieve Common Equity Tier 1 (CET 1) ratios of about 8 per cent by March 2019, higher than the required 7.375 per cent (a minimum of 5.5 per cent and a capital conservation buffer of 1.875 per cent). The fresh capital will enable banks to use operating profit to boost provisions for NPAs, while stronger banks will have sufficient capital to support credit growth.
And as asset quality and profitability improve, banks will likely reduce capital deficiencies and improve valuations enabling them to raise equity from capital markets, reducing the need for government capital infusions. Going further, PSBs may need about Rs 20,000-25,000 crore external capital in FY20 to maintain CET1 ratios of about 8.5 per cent so they can have a cushion against a CET1 requirement of 8 per cent under Basel III, says Moody’s.
“The government had little choice but to ramp up capital support... after two years of substantial losses, which eroded capitalisation. Due to their weak financial performance, PSBs had trouble attracting private investors and failed to meet a government target to raise Rs 58,000 crore from the equity market. The weakest banks are the biggest beneficiaries of the government recapitalisation, receiving the largest capital infusions relative to size, which has significantly eased risks to their solvency,” Moody’s noted.
Besides fresh capital, it’s expected that banks’ operating profit will significantly boost provisions for bad loans and the average provision coverage ratio will likely increase to about 60 per cent. This in turn will reduce net NPA ratios and substantially improve their ability to take haircuts.
“With these improvements, we expect three or four more banks will exit the RBI’s prompt corrective action program in the coming fiscal year. There are currently eight PSBs under PCA,” Moody’s said.
It added that as credit costs decline due to growth in loan loss reserves and moderation in NPAs, banks will return to profitability in FY20 and start generating capital internally, reducing their dependence on government capital support.