Strengths * Adequate capitalisation Capitalisation, adequate in relation to the bank's scale of operations, is supported by steady internal accrual apart from the bank's track record to raise need-based capital. Networth of Rs 4,916 crore as on September 30, 2020, was further bolstered by Rs 525 crore of share warrants held by Temasek, which were converted in the third quarter of fiscal 2020. The overall CAR was comfortable at 21.5%, of which tier I CAR was 18.3%. In fiscal 2021, the bank has realised Rs 737.2 crore as proceeds from selling its stake in Aavas Financiers Ltd (Aavas). These proceeds have bolstered the networth. After the last round of dilution in November 2020, the bank holds 0.004% stake in Aavas * Gradual ramp-up in deposit franchise Over the three years of its banking operations, the bank garnered deposits of Rs 26,980 crore registering year-on-year (y-o-y) growth of 22%; this deposit base constituted 73% of the total external liabilities (excluding off-book) on September 30, 2020 ' almost stable when compared last year. The deposit mix has been evolving, with higher focus on retail deposits. The aggregate share of CASA and retail term deposits (of less than Rs 2 crore) in the total deposit base (including CDs) has increased from 41.1% as on March 31, 2020, to 50.2% as of September 2020, and is expected to increase further though at a gradual pace. Alongside growth in deposit base, the average cost of funds declined as incremental funds are being sourced in the form of low cost deposits and refinance from financial institutions. For fiscal 2017, cost of funds was 9.6%, which has declined over the years, and averaged 7.8% for fiscals 2019 and 2020. For the first half of fiscal 2021, average cost of funds further reduced to 7.1% and incremental cost of funds was 6.1%. However, there could have been momentary volatility across quarters ' owing to market environment and specific events. The second half of fiscal 2020 witnessed two major events ' one in September 2019 pertaining to a co-operative bank and the other in March 2020 when moratorium was imposed on a large private bank ' that had an impact of the deposits inflow for the banking sector. In the aftermath of both, the inflow of incremental deposits moderated for AU SFB for a short span; however, it corrected to its business-as-usual rate soon after. * Healthy reported asset quality metrics AU SFB has sustained its healthy asset quality over the past few years supported by change in business segment, refurbished underwriting practices, proactive risk management systems and processes, and strong focus on portfolio monitoring and collection practices. This is in addition to the existing sound understanding of the operating geography and borrower profile. The GNPA (lagged by 1 year) remained relatively low at 1.5% as on September 30, 2020. Post the outbreak of the pandemic, the bank's collection efficiency dipped with a sizeable proportion of the book in moratorium. However, as the restrictions were uplifted in stages and business activity resumed in a staggered manner, the bank's business also picked up ' both in terms of collections and disbursements. From 54% for April, collection efficiency (including over dues, excluding prepayments) improved to 92% in the month of September 2020. As this improvement trajectory continues, the pace at which the bank will be able to reinstate and sustain repayment discipline among its borrowers and attain its pre-Covid resolution rate will remains a key monitorable. The ultimate credit loss arising out of this situation remains to be seen. The bank has made provision of Rs 278 crore (around 10% of SMA 0, 1 and 2 accounts as on March 31, 2020) in anticipation of Covid-19 related losses. Over the past two fiscals, the bank has diversified its product suit by a great deal. The SMC book, in particular, has grown at a robust pace and now forms 16% of the total loan book. However, as majority of the portfolio is unseasoned (especially the SME segment), the asset quality behavior here would be a key monitorable. * Adequate profitability despite costs linked to SFB transition AU SFB's profitability remained adequate over the past 3 years as it transitioned to a SFB. As anticipated, after commencement of banking operations, return on average managed assets (RoMA) declined from 2.8% (adjusted for exceptional income) in fiscal 2016 to 1.5-2.0% for the succeeding fiscals on account of shrinkage in NIIs and investments in lower-yielding securities, in compliance with SLR requirement. As the bank has been able to replace legacy institutional borrowing by low-cost deposits, leading to decline in overall cost of funds, benefits were passed on to the customers as well by the mode of reduction in yield towards the beginning of banking operations. It has more avenues to increase other income on account of increased distribution network, increase in income from PSLC and cross-sale of banking products to existing customers. In fiscal 2020, the bank increased yield across all retail segments to factor in the underlying risks in the borrower segment. However, being partly offset by carrying cost of liquidity, net interest margin reduced by 10 basis points. Other income, excluding one-time gain from the sale of stake in Aavas Financiers Ltd, also remained flat over the year. The bank has made additional provisions of Rs 138 crore in the fourth quarter of fiscal 2020, as a result of which RoMA (adjusted for one-time gain) for fiscal 2020 was 1.5% as against 1.3% for the previous fiscal. Similarly for the first half of fiscal 2021, the NIIs remained stable driven by a proportional decline in yield and cost of funds. The bank realised Rs 149 crore as net proceeds from stake sell in Aavas Financiers Ltd. After an incremental provisioning of Rs 140 crore in the first quarter of fiscal 2021, RoMA for the first half of the fiscal stood at 1.6% (annualised). In the medium term, AU SFB is expected to sustain its interest margin driven by strong market position in core territories and product segments, which allow it to price in the risks suitably. Operating expenses should remain at current levels given there are no major expansion plans in the medium term. While pre-provisioning profitability is expected to sustain, the ultimate loss on account of impact of Covid-19 and the additional provisioning requirement thereof will remain key monitorables. Weaknesses * Moderate, though improving, scale of operations and geographic concentration in revenue Scale of operations, though improving, remains moderate in relation to banking peers despite higher-than-industry-average growth. AUM were Rs 30,590 crore as September 30, 2020, against Rs 27,876 crore a year earlier. The bank grew at a y-o-y rate of 9.7% alongside maintaining its strong presence in the retail asset segment with a diversified product profile. As a bank, AU SFB has diversified in other asset segments such as home loans, agricultural-SME loans, gold loans, consumer durables loans, business banking, working capital, and overdraft facilities; however, these businesses remain relatively unseasoned. As a strategic call, the bank has been curtailing its exposure to NBFCs and builder loan against property (LAP) over the past few quarters. For builder LAP, there have been negligible disbursements over the past 11 quarters and lending to NBFCs has also reduced after September 2018. In terms of AUM mix, 84% of the book is deployed in retail loans with wheels/vehicles forming the largest portion at 40% followed by SBLs, which accounted for 39% of the book. Similarly, though it has a strong track record of operations in Rajasthan, Maharashtra, Madhya Pradesh and Gujarat, its portfolio is concentrated across the four states to the extent of 81%, with Rajasthan alone accounting for 42% of the overall AUM. Over the medium term, diversity across product suit and geographical base is expected to remain unchanged as the bank continues to focus on increasing its penetration in these states and product segments, and does not have plans to grow aggressively. * High, though reducing, wholesale deposits and relatively low share of CASA in overall liabilities compared with peers While AU SFB has demonstrated its ability to ramp-up deposit base in the initial phase of its banking journey and continues to do so gradually, a higher degree of focus has been on improving the granularity of the deposit base. About 49.8% of AU SFB's deposits are of ticket size Rs 2 crore and above or CDs. Bulk deposits, as opposed to retail deposits, are inherently rate-sensitive and not sticky. However, around 63% of AU SFB's bulk term deposits are reported to be non-callable. Nevertheless, they pose inherent challenges in managing asset liability mismatches, particularly when liquidity is tight. Consequently, building a granular deposit profile with a reasonable share of CASA is critical. The share of CASA was lower than that for banking peers at 14.4% of total liabilities (deposits plus borrowings) and 19.8% of the total deposit base (including certificate of deposits) as on September 30, 2020. The second half of fiscal 2020 witnessed two major events ' one in September 2019 and the other in March 2020 ' that had an impact of deposit inflow for the banking sector. In the aftermath of both, the inflow of incremental deposits moderated for AU SFB for a short span before correcting to business-as-usual rates soon after. Subsequently, in the second quarter of fiscal 2021, in the immediate aftermath of moratoria culmination, the renewal rates in fixed deposits declined driven by the bank's call to use this opportunity for garnering a higher retail deposit base since business requirements were low. As the share of term deposits in total deposit base reduced from 78% as of June 30, 2020, to 73% in October 2020, the share of CASA increased from 14% to 21% over the same period. Similarly, within TDs, the share of retail term deposits (less than Rs 2 crore) increased from 40.0% as on March 31, 2020, to 48.4% as on September 30, 2020. With a short banking history of three years, CRISIL believes improving the composition of the deposit profile will be a key monitorable for AU SFB over the medium term. |