However, the bank’s ‘default rating’ has been kept at BBB-, given the high probability that the government of India will lend support in case of such an eventuality.
“The two-notch downgrade to PNB’s VR is a reflection of the significant deterioration in its standalone credit profile, mainly due to a drop in its core capital ratio that was bigger than Fitch’s expectation,” Fitch said.
The deterioration in its core capitalisation was caused by a sharp increase in its non-performing loans in recent months, including the $2.2 billion in fraudulent transactions reported in February 2018.
The fraud increased credit costs for the bank and forced the bank to report a loss of around Rs 13,400 cr (about $2 bln) for the March quarter.
“The decline also highlights management’s weaker execution and previous underwriting and oversight gaps, which the bank has already started taking steps to address,” Fitch said.
The rating agency also kept PNB on ‘negative rating watch’ as there is a possibility that things could get worse.
“The Rating Watch Negative reflects our expectations that the pressures, mainly relating to asset quality, earnings and profitability, will persist at least over the next few quarters.
“This could weaken its already low core capitalisation further unless the bank is able to save or generate capital through intrinsic sources such as non-core asset sales and cost reductions although there is the prospect of the government injecting further capital into the state banks,” Fitch added.
PNB’s ability to sustain, if not improve, its buffers through sources such as retained earnings, fresh equity raising and stake sales is important for its VR.
“Fitch will continue to focus on the bank’s ability to raise a significant portion of its capital needs – independent of the government – to counter pressures on its asset quality and earnings performance, failing which further action could be taken on the bank’s standalone creditworthiness,” it said.
PNB has a gross non-performing loan ratio of 18.4% in FY18, meaning that out of the Rs 100 that the company lends, Rs 18.4 does come back.
Fitch expects PNB’s capital position to recover gradually but downside risk remains, it added.
“Ongoing efforts at rationalizing risk density (risk-weighted assets to total assets) and planned non-core asset sales are likely to play an important role.
“We expect a recovery in earnings to be handicapped by elevated credit costs, with potential for further deterioration. The resolution of some of the large NPL accounts during the course of the year, not our base case, presents the possibility of positive surprises in its earnings and asset-quality performance,” it added.
The agency also pointed out that the bank is currently in breach of at least three separate risk thresholds of the Reserve Bank of India’s prompt corrective action framework.
“Timely access to external capital remains essential to prevent the bank’s capital ratios from breaching the regulatory minimum,” it said.
PNB officials are facing investigations for fraudulently issuing letters of credit to a couple of diamond merchants, who used the instruments to raise billions of dollars in loans from other banks.