City Union Bank Ltd Q2 FY2024 Concall Summary

Key Takeaways

• Highest-ever quarterly profit: PAT hit a record, with ROA recovering to 1.69%, driven by a sharp drop in credit costs as recoveries outpaced fresh slippages for the first time.
• Asset quality cycle has turned: Slippage ratio fell to 2.06%, near pre-COVID levels, and net slippages turned negative; management expects this recovery-led provision write-back trend to persist for another couple of years.
• Growth engine is still idling: Credit growth guidance was maintained at a muted ~10% for FY24, as MSME capacity expansion remains absent outside of renewable energy; a digital lending platform is the bet to unlock second-half momentum.
• NIMs face a steady-state ceiling: Management guided for NIMs to hold at current levels, plus or minus 10 bps, with no further rate hikes expected and limited pricing power beyond MCLR resets.
• What to watch next quarter: The full rollout of the BCG-Newgen digital lending platform and whether it can lift credit growth toward the 12-15% aspiration, plus any RBI response on the MCLR observation that has paused ~₹20 cr of income recognition.

Profitability & Asset Quality Recovery

• Record profit, credit-cost led: The highest-ever quarterly PAT was achieved despite headwinds in operating profit, solely because recoveries and upgrades surged past fresh slippages, slashing the incremental provision requirement.
• Negative net slippages arrived: Recoveries of ₹299 cr exceeded live slippage of ₹225 cr, flipping net slippages negative for the first time; management sees this as sustainable for another couple of years as long as the existing NPA pool remains available for recovery.
• Slippage ratio normalised: The slippage ratio dropped to 2.06%, a level management described as almost pre-COVID, down from a 3-3.5% range during the FY20-FY22 stress period.
• Recovery cycle lag explained: The bank’s COVID-era slippages occurred later than peers’, and DRT and court closures during the pandemic delayed auctions; consequently, the bank is now 1-2 years behind peers in its recovery cycle, with the benefits only now materialising.
• Upgrades driven by receivable releases: The largest upgrades included a resort (₹19 cr) with improved collections, a Tamil Nadu government contractor paid after quarter-end, and fishing-sector accounts; the common thread was delayed government and other receivables finally getting released.
• SMA pool shrunk dramatically: SMA accounts, once 6-7% of the book, are now around 2%, reinforcing the view that the stress pipeline has largely cleared.

Kamakodi: “Yes as long as you have NPA available to recover. So this scenario will continue for another couple of years”

Credit Growth & the MSME Conundrum

• Guidance held at ~10%: Full-year loan growth guidance was kept at around 10%, with the usual seasonal pattern of a second-half skew; the bank is counting on a digital lending platform to process MSME loans more efficiently and lift volumes.
• MSMEs are healthy but not expanding: Management flagged a dichotomy: MSMEs that survived COVID are showing strong cash flows and clean asset quality, but they are not undertaking capacity expansion or new investment, except in renewable energy like solar.
• Digital lending as the growth unlock: A soft launch of a new Loan Origination System for MSME loans under ₹3 cr, built by Newgen with BCG as consultant, is underway; full production throttle for 50-60% of products is targeted by the Q3 results call, with the remainder in soft launch or delivering results.
• Agri gold loan headwind: The bank had to stop its agri gold loan KCC product due to regulatory observations, which became a drag on growth.

Kamakodi: “Bulk of the investment that is coming is for renewable energy like solar: We are seeing quite a good number of people going for that but at the same time we are not seeing similar to whatever we could see in huge number in the earlier.”

Margins & Income Dynamics

• NIM outlook is flat: Management expects NIMs to remain at current levels, plus or minus 10 bps, with no material expansion levers visible.
• Yield uptick was a one-time transmission: The incremental yield benefit in Q2 came entirely from the full-quarter effect of MCLR resets that occurred mid-to-late Q1; management did not claim any improvement in bargaining power or card rates.
• MCLR observation overhang: The bank wrote to RBI regarding an observation on its MCLR methodology and, as a consequence, stopped recognising certain income; the unrecognised amount is approximately ₹20 cr, and a response is awaited.
• Rate cycle seen as done: Management assigned a 75% probability to no further rate hikes, with at most 25 bps of tightening left.
• Cost-to-income range set: In the absence of treasury profit opportunities in a rising-rate environment, the cost-to-income ratio is expected to stay in the 42-45% band.

Provisioning & Coverage Strategy

• PCR to stay around current levels: Management does not expect a significant improvement in the coverage ratio, arguing that the existing ~50-51% PCR aligns with actual recovery experience and that collateral backing makes additional provisions unnecessary.
• Net NPA target is pre-COVID levels: The bank aims to bring net NPA down to 1.5-2% by the end of FY24, and sees 1-1.5% as a comfortable ongoing range; reducing net NPA will automatically lift the coverage ratio.
• No voluntary PCR buffer planned: When asked whether the bank would preemptively raise PCR to avoid a regulatory mandate, management sidestepped, stating only that net NPA reduction improves coverage and that no specific circular on a 70% threshold exists.

Kamakodi: “We do not expect any major significant improvement in the coverage ratio because we do not think we need extra provision coverage ratio as we have collateral and this coverage ratio is by and large aligning with our recoveries that are happening.”

Leadership & Regulatory Updates

• RBI inspection cleared: The RBI inspection for the position as of March 31, 2023 was completed, with no requirement to disclose any divergence in asset classification or provisioning.
• MD & CEO succession process underway: A board subcommittee has been appointed and has begun exploring potential candidates; changes to the articles of association were made at the last AGM to comply with RBI’s requirement for at least one whole-time director apart from the MD & CEO.
• Kotak board position query deflected: When asked whether Uday Kotak had taken a board position, management responded, “You have another two years… Let us wait… things need to happen before I answer this question.”

Guidance & Commitments

Key Metrics