Rating Rationale

Key Rating Drivers & Detailed Description

Strengths:

Adequate capitalisation

The banks’ capital profile remained comfortable with its Tier I and overall CARs at 22.9% and 24.4% respectively as on December 31, 2022, well above 12%. In fiscal 2023, the bank opened its IPO with fresh issuance of Rs 807.8 crore in September 2022. This boosted networth from Rs 5,336 crore as on March 31, 2022, to Rs 6,741 crore as on December 31, 2022. The networth coverage for net NPAs stood at 26.0 times as on December 31, 2022 as against 16.8 times as on March 31, 2022.

Moderate asset quality

Asset quality has improved after being impacted owing to the Covid-19 pandemic that disrupted cash flows of borrowers. The reported gross NPAs (GNPAs) stood at 1.7% as on December 31, 2022, as against 3.1% as on December 31, 2021. The improvement was primarily owing to regional recovery focusing on recovering dues as business activity opened up and the cash flows of customers improved. The bank has also been able to leverage its relationship with customers for recovering the dues. The GNPAs are expected to remain at similar levels as on March 31, 2023.

Overall restructured advances stood at 2.6% of total advances as on December 31, 2022. Since fiscal 2018, the bank started focusing on MSME, retail and gold advances. The bank’s underwriting process now focuses on the MSME and small business segments in Madurai, Sivakasi, Thoothukudi and other regions in Tamil Nadu. This lending is largely done to small textile, construction, manufacturing, food and beverages units. The overall loan book comprised MSME loans (35-37%) followed by agriculture loans (29-31%) and retail loans (22-25%) as on December 31, 2022. These loans are largely backed by good quality collateral. While the overall composition for corporate advances fell to 11% as on December 31, 2022, from 13% as on March 31, 2022, that for the other asset classes have improved significantly.

Nevertheless, asset quality will remain exposed to inherent political, social, economic and environmental risks on account of exposure to small borrowers and the same remains a key monitorable.

Above-average profitability

The overall profitability of the bank remains comfortable. It has been supported by overall NIM of 3.1-3.4% over the past several fiscals with improvement seen during previous two fiscals to around 3.6-4.0%. In addition, the operating costs of the bank has remained low at an average of around 2.1% over the past five fiscals. Hence, the average pre-provisioning operating profitability has been at 2.2-2.9% of average assets during the past 3-4 fiscals on account of steady margins and stable costs.

However, in the past, the overall earnings profile was constrained due to elevated credit costs. The credit costs had peaked at 1.6% during the pandemic which had resulted in the ROAs dropping to 0.9% for fiscal 2021. Nevertheless, with the improvement in the credit costs (0.3% for the first nine months of fiscal 2023), the earnings profile has also improved with ROA at 1.9% for the nine months ended December 31, 2022. The bank maintains a PCR of 40-55% on a steady-state basis (56% as on December 31, 2022) and this is expected to be adequate for the MSME and retail asset classes, wherein a significant amount of the banks’ exposure is backed by collateral and can be recovered by selling the underlying secured assets after the loans become substandard/doubtful assets.

Weaknesses:

Average resource profile

The deposit base stood at Rs 43,441 crore as on December 31, 2022. Further, CASA deposits ratio stood at 29.6% as on December 31, 2022, against 30.5% as on March 31, 2022. Until fiscal 2016, the proportion of CASA deposits was lower than that of peers; however, post demonetisation, CASA deposits have improved. The CASA growth is also on account of the high liquidity maintained since March 31, 2020, following the loan moratorium announced on YES Bank in March 2020. Being already beefed up with high liquidity and low credit demand, the bank did not require large fixed deposits, as a result of which it lowered the rates on such deposits significantly during previous fiscals while maintaining the overall CASA offerings at competitive rates. This is in line with the overall deposit base of other old private sector banks, which have witnessed improvement in the CASA ratio during this period. Sustainability of the overall CASA percentage level on a growing business will be an overall indicator of an improved resource profile. The resource base largely consists of retail deposits with limited bulk deposits at 11.1% of the overall deposits as on December 31, 2022. The bank will continue to focus on improving the CASA ratio by getting local government departments to open such deposits with it.

Small scale of operations, driven by regional and product concentration

Overall deposits and advances were Rs 43,441 crore and Rs 34,802 crore, respectively, as on December 31, 2022. This forms around 0.3% of the entire banking industry market share. Operations remain concentrated in Tamil Nadu with 73% of the branches, 77% of the advances and 74% of the deposits based in the state. The focus is likely to remain within the same region over the medium term. While the bank benefits from its established track record in its core geography, limited presence in the rest of India could constrain overall growth.

Within the overall advances mix, the bank has a high concentration of MSME loans (35-37%) followed by agriculture loans (29-31%) and retail loans (22-25%). It expects to focus on these segments with growth of over 15% per fiscal in the retail segment led by housing and around 15% in the other segments in fiscal 2024.

Exposure to risks arising from the dispute over ownership

The ownership dispute has been carrying on for the past several years. Although fiscal 2023 saw the bank holding its ninety-eighth, ninety-ninth and hundredth annual general meeting as well as the bank opening its IPO, the prolonged adjudication of cases related to this dispute is a constraint. Hence, issues relating to shareholding and ownership of the bank will remain key monitorables.