Five public sector banks (PSBs), including Canara and Union Bank of India, are on the brink of being put under the Reserve Bank of India’s (RBI’s) prompt corrective action (PCA) plan. According to rating agency Icra, their net non-performing assets (NPAs) rose above 6 per cent in December 2017.If the banking regulator places them under PCA, the action may drive these banks to recall additional tier-1 (AT-1) bonds, which is included in Tier-1 capital, of Rs 157 billion from investors.Besides Canara and Union Bank, three other PSBs that may come under PCA are Andhra Bank, Punjab National Bank, and Punjab & Sind Bank.While taking the decision on putting a bank under PCA, the RBI assesses its standing on three counts, namely capital adequacy ratio (CAR), net NPAs, and return on assets (RoA).Banks become PCA candidates when they feel the minimum requirements of CAR or net NPAs rise above 6 per cent or the RoA is negative for two years. Breach of any one condition is seen as sufficient to trigger PCA.Those banks under PCA regime face restrictions on expanding loan book, as the aim is to turn the bank around and improve financial and credit profiles.With losses during the last three years, 11 out of 21 PSBs have been placed under the PCA framework by the RBI.
Prominent amongst them are Bank of India, IDBI Bank, Central Bank of India, Dena Bank, and Corporation Bank.The inclusion in PCA, coupled with recapitalisation of PSBs, by the government has triggered a ‘regulatory event’ and an early recall of AT-1 bonds by banks under PCA.These 11 banks account for Rs 219 billion of AT-1 bonds, which are likely to be called off during the next few weeks.During the last four years, PSBs have raised AT-1 bonds totalling Rs 603.85 billion to shore-up their Tier-1 capital ratios. These AT-1 bond issuances took place in the backdrop of losses, increasing capital requirements under Basel-III, and limited capital infusion by the government in relation to their requirements.
While the recapitalisation of PSBs was expected to improve their capital ratios, huge losses during the third quarter (Q3) of FY18 and an early recall of AT-1 bonds are likely to partially negate the recapitalisation programme of the government.Depending on AT-1 bonds issued by individual banks, the capital ratios can reduce by 0.7-2.0 per cent of risk weighted assets of these banks, Icra said. Cumulatively, the PSBs reported losses before tax of over Rs 920 billion between Q3FY16 and Q3FY18.~With huge losses, PSBs’ ability to service AT-1 bonds while meeting regulatory features had been steadily weakening, as bonds can be serviced through profits of the year or accumulated profits (in case there is a loss during the year).“Though the Tier-1 capital ratios are likely to weaken on the early recall of these AT-1 bonds by PSBs, however, the risk of coupon skip by weaker PSBs on their AT-1 bonds has significantly been reduced,” Icra added.
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