Sometimes, one quarter of weak numbers is enough to disrupt many years of good show a stock has enjoyed in the bourses. City Union Bank experienced this in the week gone by. With December quarter results published last Saturday (February 11) disappointing estimates by a wide margin, the stock plunged over 15 per cent when it opened for trade on Monday. It closed the week with 13.4 per cent fall in its stock price, effectively shaving off gains earned over 2-year, 3-year and 5-year time frames.

The question is whether the downside risk is now protected?

To be fair, the management has guided for lower growth in the rest of FY23 as investment cycle hasn’t picked up and working capital utilisation remains weaker than pre-Covid levels. Therefore, from 15-18 per cent growth targets, it’s now slashed to 12-13 per cent. Certain procedural lapses resulted in non-recognition of interest subvention totalling ₹32 crore and this consequently impacted the NIM or net interest margin, which declined by 12 basis points in Q3 year-on-year to 3.88 per cent.

Also, with gold loans (accounting for 25 per cent of total loan book) in fixed interest rate and term deposits (with 1-year maturity) due for repricing in the near future, it would be prudent to expect reset in NIM at 3.8-4 per cent as against the historical levels of 4-4.25 per cent.

The issue that spooked investors most, though, pertains to elevated slippages and non-performing assets. Q3’s gross NPA came at 4.63 per cent, while slippages, which shot up to 4.4 per cent in Q3, up from 2.9 per cent a year-ago, didn’t lend comfort. The management is guiding for a normalisation in FY24, and this could be the case, given that much of the spike in Q3 can be attributed to the divergence reported after the RBI audit.

That the bank was candid to accept that the divergence was due to differences in interpretation which resulted in insufficient provisioning is appreciable. However, that also raises some eyebrows on its risk management practices. If it has evened out its practices, investors should expect some shake-up in the NPA numbers in the near term. Added to this, the bank plans to keep itself ready for the new loan loss recognition regime. Anticipating a hit of ₹200 crore due to adoption of ECL or estimated credit loss norms, higher provisioning and slippages may continue to feature in CUB’s financials for a while.

Outlook

The good news is that, the recent developments don’t point at gloom and doom. CUB remains one of the most SME concentrated banks (over 45 per cent share in loan book). Despite all the shake-up in Q3, its ROA stood at 1.8 per cent, which is noteworthy, and this number may not face any disruption. Therefore, despite 20-40 basis point likely disruption to NIM, its overall return profile remains tall among private banks. Investors of CUB don’t have to think of switching out from the stock just yet. However, the decline in valuations from 2x FY24 estimated book to 1.8x post the past week’s correction may not necessarily offer a good entry point for investors. It would be prudent to see how the bank closes FY23 and the outlook its management offers for FY24.

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