AU Small Finance Bank best suited to transition to universal bank per new RBI guidelines, say brokerages

Over the past six months, shares of AU Small Finance Bank have fallen more than 7 percent.

AU Small Finance Bank is the best poised to transition from a small finance bank (SFB) to a universal bank, according to broking houses Nomura and Investec.

The RBI recently issued guidelines for SFBs looking to convert themselves into a universal bank.

Both Nomura and Investec have are positive on AU Small Finance Bank, which emerges as a top contender to transition, since is the only small finance bank that meets all the required criteria mandated by the RBI.

"Equitas SFB is not eligible as its NNPA is 1.1 percent versus threshold of 1 percent. However, the RBI's guidelines provide a path and it will be eligible after two years," said Investec.

The brokerage added that for the rest of the SFB pack, the RBI may not be comfortable given their high concentration towards microfinance.

Shares of AU Small Finance Bank gained 4 percent in morning trade. At 12 noon, the stock price was quoting Rs 618.9, up 3.1 percent on the NSE compared to the previous close.

Also Read | RBI says eligible SFBs can apply to become universal banks under on-tap licensing

RBI's criteria for transitioning

According to the central bank, the SFBs aspiring to become a universal bank needs to have scheduled status with a satisfactory track record of performance for a minimum period of five years. Also, the shares of the bank should have been listed on a recognised stock exchange, the RBI said.

The minimum net worth should be Rs 1,000 crore, while the SFBs should meet the prescribed capital requirements and have recorded a net profit for the last two fiscal years.

Additionally, the small finance banks should have a gross non-performing assets (GNPA) and net non-performing assets (NNPA) of less than or equal to three percent and one percent respectively in the last two financial years, the RBI said.

The RBI's guidelines also stated that the eligible SFBs that have a diversified loan portfolio will be preferred.

The board of directors of the AU Small Finance Bank will soon discuss the plan for the application of a universal bank license to the Reserve Bank of India (RBI), a top official of the bank told Moneycontrol on April 26.

A top official of the bank, who did not want to be named, said, "Currently, we are fully focused on ensuring a smooth integration with Fincare SFB." However, the bank is studying the circular in detail and will consider the next course of action following a discussion with its board of director.

Benefits of becoming a universal bank

There are a slew of benefits for any small finance bank to transition into a universal bank. The cost of funding comes down as there is greater customer acceptance, while a lower capital requirement for universal banks will give it higher financial leverage.

Small finance banks are also required to ensure 75 percent of its net credit is towards priority lending sectors (PSLs). For a universal bank, only 40 percent of the net credit has to be allocated towards PSLs.

Unlike small finance banks, universal banks have no restrictions on lending ticket size, which allows access to businesses like corporate banking, noted Nomura.

"Universal bank licences have historically been extremely exclusive licences given out by the RBI," said Nomura. In 2014, when the RBI opened up to applications for private bank licences, it gave them to only 2 out of 25 applicants, which were IDFC Bank and Bandhan Bank.

In 2016, the RBI opened up to ‘on-tap’ applications for a banking license but since then has not given out a single one, despite receiving 5 applications. On-tap licensing means that the RBI has a window for bank license applications open through the year.

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