Punjab National Bank: Slipping up, badly

It has been a nightmarish two years for many banking stocks, particularly State-owned ones with no let up in asset quality pressure. Since the RBI’s review, which forced banks to declare certain loans as non-performing assets (NPAs) and make additional provisioning, the performance has only worsened in the December and March quarters. While the quantum of bad loans being declared gives a sense that the worst may be over, the possibility of a sharp rise in delinquencies cannot be ruled out for some of the beaten down stocks.

Punjab National Bank (PNB) is one such stock that has more than halved in the last two years, but still remains at risk of falling from the current levels. Even after reporting record losses in the latest March quarter, its worries are far from over. Muted core performance, further slippages into NPAs in the coming quarters and capital infusion below book value, leading to dilution in returns, are key risks. Investors can sell the stock at the current levels with no respite visible in earnings over the medium term.

Punjab National Bank has been going downhill over the last two to three years, much before the RBI’s review played havoc with its financial performance. From 2.9 per cent in 2011-12, bad loans crept up to 6.5 per cent of loans by 2014-15. The bank reeled under high delinquencies due to lending to troubled sectors in the past.

The RBI’s asset quality review triggered a sharp increase in bad loans and provisioning in the last two quarters. In the latest March quarter, bad loans shot up to a steep 12.9 per cent of loans, among the highest in the banking sector. Provisions trebled to about ₹11,300 crore, eroding the bank’s earnings; PNB reported the highest ever quarterly loss in the Indian banking history of ₹5,367 crore. But even with such steep increases in bad loan recognition, the bank is still not out of the woods.

For one, a chunk (46 per cent) of PNB’s loans is still from the large and mid corporate segment, where its exposure to stressed sectors continues to remain high.

The other concern is the possibility of sharp slippages from the restructured accounts into bad loans in the coming quarters. The bank’s restructured loans as of March 2016 fell to 4.6 per cent of loans, from about 9 per cent in the December quarter.

But this was because a majority of the slippages into bad loans were from restructured assets. Slippages from these accounts continue to pose a serious risk. While the sharp increase in provisioning eroded the bank’s earnings, its weak core performance did not help. PNB’s loan book grew by a modest 8.4 per cent as of March 2016 over the previous year. The net interest margin (NIM) has fallen by about 50 basis points to 2.6 per cent in 2015-16. This, along with weak credit growth led to a 7 per cent year-on-year fall in net interest income in 2015-16.

Loan growth for the bank can be further impacted due to weaker capital position than in the past. PNB’s Tier I capital fell to 8.4 per cent as of March 2016, from 9.3 per cent last year, despite capital infusion of ₹1,732 crore by the Centre. The bank would require further capital from the Centre in 2016-17.

Capital infusion at below book value — PNB shares have been trading below book value in the last two to three years — can lead to further dilution in book value. This can also impact return ratios which are already in the red.

With the steep correction in the stock price, the bank’s valuation too has fallen sharply. The stock trades at 0.4 times its one-year forward book value, far below its five-year historical average of about 1.1 times. But valuations based on banks’ book value can be misleading. Adjusting for NPAs and restructured book (assuming 30 per cent slippages) that have gone up significantly in the last two years, the PNB stock trades close to its adjusted book.

Given that the book can be eroded further by sharp increase in bad loans and slippages from the restructured accounts, the stock can slip further from current levels.