Meeting asset quality guidance key for IDFC First

Retail NPA at 3.88% is the highest among the top 7 private banks

Among many things, it’s the retailisation strategy that has worked for IDFC First Bank since 2018, when it was merged with Capital First and V Vaidhyanathan took over from Rajiv Lall to head the bank. The share of retail loans, which was 13 per cent ahead of the merger, jumped 60 per cent in the December 2020 quarter (Q3). The bank’s decision to write off unviable corporate loans and adequately provide for them where necessary, at the cost of incurring heavy losses since the merger, has also lifted its balance sheet.

It is only lately that the Street is acknowledging this metamorphosis and in the past six months, IDFC First Bank’s stock has more than doubled, joining the list of outperforming bank stocks. Therefore, the decision to raise ~3,000 crore of equity against the backdrop of strong market acceptance isn’t much of a surprise.

Even as this would be the second fundraise in FY21, the stock has appreciated 17 per cent since the bank announced its capital raise plan last week, shrugging away concerns of any potential value dilution in the process. Analysts at Credit Suisse have recently upgraded the stock from “underperform” to “neutral” and noted that with funding cost to stay low, the bank’s return on assets was set to increase to one per cent in FY23, from 0.3 per cent in FY21.

However, amid the euphoria, there are some aspects of which investors should be cautious about.

Capital consumption has been elevated since FY19 and coincides with the bank’s clean-up and retailisation efforts. Therefore, it’s important that after the proposed fundraising, the bank augments its capital position by deploying its net profit. To that extent, while the fundraise is touted as growth capital, there is stress accumulating in books and the Street will monitor if the coffers are dipped into for asset quality management.

At 4.18 per cent proforma gross non-performing assets (NPA), that is without factoring for Supreme Court’s standstill on asset recognition, this is the highest stress that IDFC First Bank has been through, so far. Proforma gross NPA for retail loans at 3.88 per cent is also unsettling, and is the highest among top seven private peers. These are never seen before levels for the bank; even during the stressful quarters after demonetisation, Capital First’s (when it was an NBFC) gross NPA was contained at less than 3 per cent.

While retail book’s 20 per cent-plus growth, so far, in FY21 is well supported by net profit growth, compared to peers (though at a much larger base) the growth rate appears high. Analysts at Edelweiss noted that their prognosis of systemic asset quality remains bleak. “Watch out for IDFC First Bank’s asset quality; the next few quarters will be crucial,” they added.

For now, the bank has guided for normalisation of stress in the next three quarters. Meeting the guidance will be critical for the stock to sustain the re-rating momentum.