SBI numbers reveal rising efficiencies in public sector banks

MUMBAI: State Bank of India (SBI), the mothership of public sector banking, just delivered a staggering riposte to Cassandra.

Till a few weeks back, fears abounded that with cost of deposits rising faster than lending rates, the crucial net interest margin (NIM) of public sector banks are getting squeezed like never before.

By improving its NIM to 3.31% in the fourth quarter, SBI has put this monster to sleep.

Compare what the numbers were in the preceding three quarters: 3.3% in December 2006, 2.9% in September and 2.9% in March.

The improvement has come about in the second half of last fiscal, when interest rates rose more than 300 basis points.

For the record, SBI posted a 75% rise in fourth-quarter net profit to Rs 1,493 crore for the year ended March 31, 2007, handily beating consensus estimates of around Rs 1,085 crore.

Why is NIM important? Because, it highlights the operating efficiency of a bank. Its calculation: Total interest income minus interest expenditure, divided by average earning assets.

On this count alone, most public sector banks have shown an improvement, thanks to a healthy CASA ratio (Current and Savings Account deposits as a percentage of total deposits).

CASA is critical because it is extremely cheap money in these times.

While banks don’t pay interest on money lying in their current accounts, they pay just 3.5% on savings accounts deposits.

This money the banks lend at over 10%, keeping the difference. So, higher the CASA, the better it is for banks.

HDFC Bank has the highest CASA ratio among banks at over 50%. Naturally, it has consistently reported NIMs in excess of 4%.

Another entity bolstered by higher CASA in the fourth quarter was Union Bank of India. Its NIM rose 71 basis points to 3.52% as interest income grew faster (33.2%) than interest expenditure (28.5%).

Manish Chowdhary, Aditya Narain and Himani Shah of Citigroup Research, in a report on May 7, 2007, said Union Bank’s rise in interest expenses was lower than expected because CASA ratio improved to 34.5% from 32% earlier.

They said that Union Bank management is now targeting a CASA ratio of 36% for the current fiscal.

Indeed, many banks have improved NIM, and due to varied reasons.

For example, a better yield on assets (such as lending at higher rates) has also positively impacted NIMs.

Take the case of Bank of Baroda. Its NIM improved to 342 bps (up 13 bps YoY and about 30bps QoQ) on the cumulated effect of a 200 bps rise in lending rate over the year.

But there have been some exceptions, too, like Allahabad Bank, where NIM fell by 10 basis points.

Edelweiss Securities banking analysts Vishal Goyal and Ajitesh Nair said in a May 8 report that Allahabad Bank’s margins have remained stable at 2.8% as increase in cost of deposits were negated by improved yields on advances and investments.

BoB’s CASA ratio was also stable at 38%.

Coming back to SBI, analysts had expected an improvement in its operating parameters, but not by this much.

SBI’s operating profit increased 21.23% to Rs 10,000 crore in FY07; for Q4, it was up 34% to Rs 3,968 crore.

Angel Broking banking analyst Sarika Purohit said this has been largely due to an improvement in yields on earning assets.

This rise in yields is also reflected in SBI’s gross NPA (non-performing assets, or loans on which banks have not received interest for two quarters) ratio declining from 3.61% to 2.92%.

Therefore, net NPA ratio fell from 1.88% to 1.56%, despite a nearly 10-fold increase in loan loss provision of Rs 1,429.50 crore (FY06: Rs 147.81 crore).

Another factor helping the SBI bottomline is the growth in non-interest income, which has risen 31.57% from Rs 4,385 crore to 5,769 crore in FY07.

This, says a banking analyst from India Infoline, “is because the share of non-interest income to operating income has risen from 21.95% to 26.44%.”

Public sector banks have been focusing on increasing their fee income (by selling insurance policies, mutual funds and other financial products), and SBI is no exception.

But they are still behind private sector banks, which generate more than one-third of their income - 35% to be precise - from fee-based income.

Peers Allahabad Bank, Union Bank, Canara Bank have all notched up substantial rises in fee-based income, though they seem to have been not as successful at treasury operations.

Overall, this has dragged down total non-interest income.

For example, take the case of UTI Bank. Its fee-based income was up 58.8%, but other non-interest income (treasury) fell 34.3%. Hence overall non-interest income grew by only 34.3%.

Overall, better margins and increasing fee-based income in a way indicate improving pricing power of banks, especially the public sector lot.

A thrust on the retail segment is also helping improve overall yields.

Banks are also rationalising operating costs significantly.

For SBI, operating cost has risen 9.87% to Rs 3246.02 crore in the fourth quarter, but for the whole year, it is up only 0.84%.

That is yet another reason for the improvement in profitability.

Others, too, are not far behind on this count.

For instance, Allahabad Bank’s operating expenses declined 3.3% to Rs 287.2 crore in Q4, while Union Bank’s adjusted operating expenses were up just 5% and Bank of Baroda’s was up 14% — these are far less than the growth in core income - interest and others.

It indicates public sector banks have been able to use scale to their advantage and extract more business.

Even for private banks like HDFC and UTI, growth in expenses are high but the rate of growth is lower, albeit marginally, compared with income growth.

It is still a good sign.

A bank’s bottomline also depends on the provisions it makes towards bad loans, etc.

In this aspect, there is no broad trend visible - in some cases, provisions are up, while it is down in others.

For SBI, total provisions were not high for the year and for Q4, which together with other factors mentioned above, have resulted in net profit rising 75% to Rs 1,493 crore.

That however was not the case with some other banks.

For instance, ICICI Bank recorded a slower growth thanks to higher general provisions. ICICI’s margins were also impacted and were down 13 basis points to 2.66% in Q4 led by higher cost of deposits; its CASA stood at 22%-23%

In case of SBI, its CASA ratio was quite high at 43.57%, a shade better than last year. This was the primary factor behind interest expenses on deposits growing marginally from Rs 18,132 crore to Rs 19,084 crore, which means a growth of just 5.25%. This is despite a growth of 14.60% in deposits to Rs 435,521 crore. Compared with other public sector banks, SBI’s performance is a positive surprise given its excess SLR and high CASA.

Considering the fact that SBI plans to focus more on fee-based income through the creation of its Corporate Accounts Group, SBI ‘s performance promises to be still better in FY08.

Finally, the increased focus on non-interest (mainly fee-based) income aided by healthy CASA ratio, better pricing power and focus on use of technology augur well for PSBs.

In a way, it seems they are catching up with their private counterpart, though gradually.

But, what remains a desire is a sharper increase in customer service and efficiency.

If and when it happens, it could give sleepless nights to most private sector banks. Most importantly, it can lead to a re-rating. That is, better valuations for public sector bank shares on the bourses.