India Ratings & Research (Ind-Ra) has affirmed IDFC long-term issuer rating at 'AAA'. The outlook is stable. Ind-Ra believes IDFC's transition into a bank from an NBFC-IFC (non-banking financial company-infrastructure finance company) will strengthen its balance sheet by reducing assets concentration risks while diversifying its funding profile through accretion of low cost deposits.
However, Ind-Ra believes the key to a successful transition lies in IDFC's ability to differentiate itself in the intensely competitive business. While IDFC's size, with its existing clientele, provides a strong footing for cross selling thereby opening up other income pools, its ability to keep costs under check through technological innovations while expanding its liability footprint will be a key monitorable.
IDFC's ratings continue to reflect its robust credit buffers, which strongly cushion downside risks stemming from its wholesale lending business model. The ratings also consider IDFC's efficient risk management practices and tight loan monitoring systems that have helped it contain credit losses at low levels despite a difficult macro environment around the infrastructure sector. The ratings also factor in the company's diversified funding profile that also benefits from its strong linkages with the government of India (GoI), its largest shareholder (16.4% stake in 1HFY15), and its consequent proximity to policymakers.
IDFC's Tier I capital ratio of 23.7% (in 1HFY15) and pre-provision operating profit (PPOP/average assets) of 4.1% at FYE14 compare favourably with its sector peers while a general loan loss provision of 3.6% offers further comfort.
Ind-Ra expects IDFC's credit costs to be impacted in the near term by various challenges faced by the infrastructure sector where we maintain a negative outlook. Nevertheless, the large contingency loan loss reserve buffer that IDFC has been building (over 6x gross NPLs at FYE14) should cushion against potential increase in slippages. Our stress test analysis including the top 20 vulnerable accounts indicates likelihood of impaired loan ratio inching up in the medium term. However, even in a severe stress scenario, PPOP buffers and contingent provisions should be able to absorb losses without eroding core equity. IDFC's solvency ratio despite the yoy increase, is superior to its peers in the commercial banking and non-banking finance company sectors.
Ind-Ra's sensitivity analysis on credit cost and cost-income ratios indicate that the bank would be comparable on PPOP to credit cost buffer with other 'AAA'-rated peers in FY19 unless credit costs spike significantly beyond 75bp. On the asset-liability management front, IDFC’s reliance on short-term funding was 12% of the total funding in FY14 (FY13: 6%). Ind-Ra expects IDFC to maintain a well-matched book, contingent on the potential issuance of long-term infrastructure bonds.
Ind-Ra expects the banking transition to impact IDFC's profitability in the medium term owing to negative carry on cash reserve ratio, statutory liquidity ratio and priority sector lending. Return on average asset is estimated to moderate to 1.5% in FY19. IDFC's refinancing capabilities are underpinned by its healthy capitalisation, track record of maintaining low credit losses and its linkages with GoI. While these linkages could lead to liquidity or capital support, under extra-ordinary circumstances, they have not been considered for the present ratings.
Shares of the company declined Rs 0.35, or 0.22%, to trade at Rs 157.50. The total volume of shares traded was 77,217 at the BSE (10.23 a.m., Tuesday).
