With no ‘Sell’ rating on the stock, ICICI Bank is an analysts’ darling. The recent Q3FY23 results have reaffirmed brokerages’ belief in the bank. The results ticked all the boxes in terms of advance growth, margin expansion, net interest income (NII) growth, asset quality and profitability. ICICI Bank's share price has remained flat during the unfolding of the Adani group crisis. Bank Nifty has fallen by 4.8% in the same time period. 

The highlight of Q3FY23 results is its provisioning of Rs 2,257 crore, which is the highest in the past five quarters. This is despite the NPAs remaining stable. Commenting on the provisioning, ICICI Bank CEO Sandeep Bakshi says that it aims to be proactive in provisioning, with a key objective of strengthening the balance sheet. During the quarter, the bank changed provisioning norms on non-performing assets to make them more conservative for corporate, SME and business banking.

Given the current benign credit cycle, HDFC Securities believes that the bank is witnessing a profitability overshoot, which is difficult to sustain. However, the stock remains a ‘Buy’ for analysts. Trendlyne’s consensus target price is estimated at Rs 1,084, an upside of 26.8% from the current share price of Rs 855.30

Credit growth driven by business banking and retail loans

ICICI Bank’s credit growth has beaten the industry average of 18% and currently stands at 20% YoY. Credit growth has outpaced the more modest deposit growth of 10.28% YoY, while business banking grew 37.9% and retail loan books by 23.4% YoY. In retail loans, personal and credit card loans increased 42.1% and 51.5% respectively. The domestic loan book grew 21.4% YoY.

The high credit growth was achieved on the back of lower credit-to-deposit ratio (CD). The CD ratio improved by 681 bps in the past four quarters. A higher CD ratio implies better utilization of deposits in high-yielding loan instruments. The current CD ratio has been the highest-ever for ICICI Bank. A higher CD ratio and advances growth have increased net interest income and margin expansion.

ICICI Bank’s net interest income and profit after tax at a high point

ICICI Bank’s Net Interest Income (NII) has grown 34.56% YoY to Rs 16,465 crore, beating the street estimates by a good margin. The NII growth was backed by a higher loan book, coupled with better net interest margins (NIM).

The bank’s net profit has increased 34.19% YoY to Rs 8,312 crore but if we look at the net profit as a percentage of NII, it dropped by 63 bps QoQ. The drop is mainly on account of higher provisioning undertaken in Q3FY23. 

It is proactively building buffers when margins are high and NPA additions are low. Even though net slippages for Q3FY23 are at 0.5%, ICICI Bank undertook provision at 0.93% of the loan portfolio. 

The higher provisioning has resulted in a better Provision Coverage Ratio (PCR) of 82%. The RBI benchmark for PCR is set at 70%. A higher PCR means a bank has recognized all the losses on NPAs, and gets to start with a clean slate. Any recovery from such accounts will be added back as profits.

Under the current regulations, a bank books a provision after an account defaults. But a recently released discussion paper on the Expected Credit Loss framework (ECL) for provisioning by the RBI, proposes to change that and book provisions before the loan defaults. Accordingly, riskier loans may start seeing provisioning even before the actual default. The current provisioning methodology will completely shift to the ECL framework in the next five years. However, banks are allowed to design systems to determine stress in loan books before the actual default. 

ICICI Bank is shoring up contingent provisions, which might help once the ECL framework comes into play. Q3FY23 provisions also include a contingency fund of Rs 1,500 crore. Contingency provision stands at Rs 11,500 crore at the end of Q3FY23.

All-time high net interest margins are difficult to sustain

ICICI Bank has reported an all-time high Net Interest Margin (NIM) of 4.65%. NIM increased 34 bps QoQ and 69 bps YoY and is expanding in line with an increase in yield on advances.

The credit-to-deposit ratio is at an all-time high, providing the full impact of loan linkages to repo rate on margins. Of the total domestic loans, interest rates of 45% of loans are linked to the repo rate, 4% to other external benchmarks, and 21% to MCLR and other older benchmarks. The rest (30%) of the loans are linked to fixed interest rates. With a major portion of loans linked to the repo rate, ICICI Bank has been witnessing NIM expansion in the past three quarters.

ICICI Bank is expected to witness pressure on its margins on account of repricing of deposits. Changes in deposit rates are reflected in the cost of funds, with a lag effect. CASA deposits and the cost of funds are inversely linked. With the increase in deposit rates, term deposits are also going up. 

Term deposits have grown 14.2% YoY vs Current Account and Savings Account (CASA) growth of 5.9% in Q3FY23. With CASA ratio on a declining trend, the cost of funds is seeing an uptick. NIMs will start compressing in FY24. CASA has dropped by 335 bps since the start of CY23 and RBI raised the repo rate by 225 bps in the same period.

Gross NPA unchanged, Net NPA on a declining trend

Hovering in the range of Rs 33,000 crore, ICICI Bank’s gross NPA remains unchanged for the past four quarters. NPA slippages are offset by recoveries, and thus NPAs are maintained at the same level for the past three quarters. Usually, new NPAs are reported by the ‘Kisan credit card’ portfolio in the first and third quarters of the fiscal year. However, if we look at the gross NPA percentage, the number has dropped by 106 bps YoY. The accelerated drop in gross NPA percentage is on account of higher loan growth, which has overshadowed the slight drop in gross NPA numbers.

The bank’s net NPA and net NPA percentage are dropping in tandem on account of higher provisioning. Its net NPA percentage is well below the industry average. ICICI Bank is provisioning more towards ad-hoc contingency, compared to its NPA. Going forward, we can expect lower provisioning towards NPA and more toward the new ECL framework.

BB and below book is the major source of guidance for future NPAs. They are the lowest-rated accounts in the loan portfolio and give visibility on future NPA slippages. While Rs 1,564 crore of corporate and SME loans slipped into NPA for Q3FY23, Rs 1,121 crore of it was from BB and below book.

The lower percentage of BB and below book is a sign of management's inclination towards going for high-rated and less risky corporate and SME loans. BB and below numbers are expected to drop further as more accounts from this book are recognized into NPA or are upgraded in the rating system.

What happens if ICICI Bank undertakes full provisioning for its BB book and Net NPA?

Assuming that ICICI Bank takes a one-time hit on BB and below book, along with its net NPA, the total capital required would be roughly Rs 11,232 crore (Rs 5,651 cr net NPA and Rs 5,581 cr BB and below book). This capital would be derived from its reserves or capital funds. Currently, ICICI Bank has Rs 1,81,123 crore as capital funds, which includes revaluation reserves, retained earnings and other funds. Capital funds account for 16.02% (capital adequacy ratio) of its total risk-weighted assets. 

If the bank takes a hit of Rs 11,232 crore, its capital funds decline to Rs 1,68,891 crore. The new capital adequacy ratio (CAR) post-provisioning would be 14.93%, which would be way higher than the RBI mandate of 11.70%. This implies that ICICI Bank is well protected from capital adequacy buffers in case of a major setback in terms of NPA.

However, a better approach in provisioning would be to reduce the Net NPA and BB below book by increasing provisioning quarter by quarter. Periodic provisioning gives the bank more headroom and balances the profitability and asset quality of the bank.

Q3FY23 results have shown the strength of ICICI Bank in terms of its operating metrics. Most of the metrics like NIM, advance growth, gross NPA and PCR have been superior to the industry averages. 

With asset quality under control, ICICI Bank will see lower provisioning in FY24. However, the advantage will be offset by a contraction in margins on the back of repricing of deposits. Growth in advances will also slow down in FY24 owing to the higher CD ratio at the current juncture. ICICI Bank has sufficient contingent provisions in case the RBI implements the ECL framework. 

This analysis by Trendlyne is meant for investor education - to help understand companies and make informed investment decisions on their own. It should not be considered an investment recommendation.