By Jindal Haria

India Ratings and Research (Ind-Ra) has revised Union Bank of India’s (Union) Outlook to Negative from Stable and affirmed its Long-Term Issuer Rating at ‘IND AA+’. The instrument-wise rating actions are as follows:

Instrument Type

Date of Issuance

Coupon Rate (%)

Maturity Date

Limit (billion)

Rating/Outlook

Rating Action

Basel III AT1 Bonds*

 

 

 

INR45

IND AA/Negative

Affirmed

Lower Tier II Bonds*

 

 

 

INR4 (reduced from INR12)

IND AA+/Negative

Rating affirmed; Outlook revised to Negative

Basel III Complaint Tier II Bonds*

 

 

 

INR10

IND AA+/Negative

Rating affirmed; Outlook revised to Negative

*Details are given in annexure

The Outlook revision reflects the impairment in Union’s ability to sustain its current position of systemic importance, with the possibility of a dip in its overall share of systemic assets and liabilities post recognition of deterioration in its asset quality. Ind-Ra expects Union’s stock of non-performing assets, restructured assets, and overdue loans (in the special mention category) that resulted in a substantial credit costs of 4.7% in FY18 (FY17: 3.2%) would continue to adversely impact the bottom line in FY19. Also, the capital infused by the government of India (GoI) in FY18, although substantial, is likely to prove inadequate and the bank would require a higher additional quantum to maintain Basel III capital ratios by FY19. 


However, the fact that Union is the sixth largest public sector bank with share in advances of about 3.5% and GoI’s shareholding of 67.4% (June 2018) holds moderate systemic importance even if its growth is impacted in the next couple of years.  

For Additional Tier 1 (AT1) bonds, Ind-Ra considers discretionary component, coupon omission risk and write-down/conversion risk as the key parameters to arrive at the ratings. The agency recognises the unique going concern loss absorption feature that these bonds carry and differentiates them from the bank’s senior debt, factoring in a higher probability of an ultimate loss for the investors. The AT1 bonds’ rating reflects the bank’s standalone credit profile (which has deteriorated) along with its ability to service coupons and its equity requirement to avoid write-down triggers compared with other public sector banks’.

KEY RATING DRIVERS

Effects of Asset Quality Stress to Remain: In Ind-Ra’s assessment even after the stressed asset recognition and corresponding credit costs in FY18, gross non-performing assets (GNPAs) remained elevated at 15.7% at 2QFY19 (1QFY19: 16%, FY17: 11.2%) and credit costs to 4.7% in FY18 (2.18%). The bank is underprovided on its GNPAs as compared with its peers'. Further, NPA aging, haircuts on cases under resolution (additional provision may be warranted on cases under National Company Law Tribunal and slippages especially from special mention 1 and 2 accounts (4%-5% of net advances at FY18), non-corporate segments and restructured assets could add to the existing stress. As a consequence, the bank would continue to suffer high credit costs of around 2.4% in FY19 and FY20 each in the medium term, although lower than in FY18.


Large Capital Requirement through FY19: Union’s core capitalisation weakened to 7.5% in 2QFY19 (FY18: 7.6%) despite GoI’s capital infusion of INR45.2 billion in FY18, indicating a significant deterioration in the asset quality. Ind-Ra estimates the bank would need around INR40 billion of additional equity infusion, assuming a CAGR growth of 8% over FY19-FY20, to maintain common equity tier I ratio of 8% and around INR5 billion-10 billion of AT1 to maintain Tier 1 ratio of 9.5% over the same period, given the expected credit costs. Higher-than-expected deterioration in the profitability in the short-to-medium term along with the inability to shore up adequate capital could further strain the bank’s ability to maintain its market position and standalone profile, and attract a negative rating action on Tier 1 bonds. Union’s distributable reserves as a proportion to risk weighted assets is 3.7%, which in Ind-Ra’s view is adequate to cover coupon servicing over the long term.

Liability Franchise and Liquidity: 
Union’s funding profile is comfortable with low-cost current and savings deposits at about 34% of total deposits since FY17 onwards, although lower than better rated peers. However, the bank has over FY14-FY18 lost a significant share in current account deposits (FY18: 2.6%, FY13: 4.0%) while the share in savings account has declined marginally to 3.3% in FY18 from about 3.6% in FY13 in line with most public sector banks. The bank’s liquidity is also adequate with a low asset funding gap of about 5% of total assets over a one-year period at end-March 2018. Union’s liquidity coverage ratio, although deteriorated to 102% at FYE18 (FYE17: 127%) is above the regulatory requirement of 90% till December 2018 and 100% from then onwards.


RATING SENSITIVITIES

Negative: The rating of AT1 bonds is linked to Union’s standalone profile, and there could be a negative rating action if the bank’s internal accruals remain significantly weak to materially impact its distributable reserves and capitalisation beyond expectations of the agency. Further, higher-than-expected deterioration in the asset quality, less than adequate equity infusion or sizeable loss could also lead to a negative rating action. 


The Long-Term Issuer Rating is linked to Ind-Ra’s expectation of support from the GoI and ability of the bank to maintain its market share in advances and deposits.

Positive:
A significant consistent improvement in the bank’s capital and profitability buffers could lead to the revision in Outlook to Stable.  


COMPANY PROFILE

Union is a public sector bank with operations across India. At end-June 2018, the bank had 4,298 domestic branches and 7,556 ATMs.


FINANCIAL SUMMARY

Particulars

FY18

FY17

Total assets (INR million)

4,874,059

4,527,044

Total equity (INR million)

250,968

239,762

Net income (INR million)

-52,474

5,560

Return on average assets (%)

-1.1

0.13

CET1 (%)

7.6

7.71

Capital adequacy ratio (%)

11.5

11.79

Source: Company Annual Report, Ind-Ra


RATING HISTORY

Instrument Type

Current Rating/Outlook

Historical Rating/Outlook

Rating Type

Rated Limits (billion)

Rating

9 October 2017

20 March 2017

23 March  2016

Issuer Rating

Long-term

-

IND AA+/Negative

IND AA+/Stable

IND AA+/Stable

IND AA+/Stable

Basel III AT1 Bonds*

Long-term

INR45

IND AA/Negative

IND AA/Negative

IND AA/Stable

IND AA/Stable

Lower Tier II Bonds

Long-term

INR4

IND AA+/Negative

IND AA+/Stable

IND AA+/Stable

IND AA+/Stable

Basel III-Complaint Tier II Bonds

Long-term

INR10

IND AA+/Negative

IND AA+/Stable

IND AA+/Stable

IND AA+/Stable

*unutilised INR 5 billion

ANNEXURE

Issue Name/Type

ISIN

Date of Allotment

Tenor (years)

Maturity Date

Amount Mobilized (billion)

Coupon Rate
(% p.a.)

Put/Call Option

Rating/Outlook

Rating Action

Lower Tier II Bonds

Lower Tier II Bonds

INE692A09175

23 December 2008

10

23 December 2018

INR2

9.50

Nil

IND AA+/Negative

Rating affirmed; Outlook revised to Negative

Lower Tier II Bonds

INE692A09183

30 December 2008

10

30 December 2018

INR2

8.60

Nil

IND AA+/Negative

Rating affirmed; Outlook revised to Negative

Basel III Compliant Tier II Bonds

Basel III-Complaint Tier II Bonds

INE692A09274

29 March 2016

10

29 March 2026

INR10

8.61

Nil

IND AA+/Negative

Rating affirmed; Outlook revised to Negative

Basel III Compliant AT1 Bond

Basel III AT1 Bonds

INE692A08029

15 September 2016

Perpetual

Perpetual

INR10

9.50

Call -
15 September 2021

IND AA/Negative

Affirmed

Basel III AT1 Bonds

INE692A08037

4 November 2016

Perpetual

Perpetual

INR10

9.00

Call -
4 November 2021

IND AA/Negative

Affirmed

Basel III AT1 Bonds

INE692A08052

29 March 2017

Perpetual

Perpetual

INR2.5

9.10

Call -
29 March 2022

IND AA/Negative

Affirmed

Basel III AT1 Bonds

INE692A08060

30 March 2017

Perpetual

Perpetual

INR7.5

9.10

Call -
30 March 2022

IND AA/Negative

Affirmed

Basel III AT1 Bonds

INE692A08078

31 March 2017

Perpetual

Perpetual

INR5

9.10

Call -
31 March 2022

IND AA/Negative

Affirmed

Basel III AT1 Bonds

INE692A08086

3 May 2017

Perpetual

Perpetual

INR5

9.08

Call -
3 May 2022

IND AA/Negative

Affirmed


COMPLEXITY LEVEL OF INSTRUMENTS

For details on the complexity level of the instruments, please visit https://www.indiaratings.co.in/complexity-indicators.

SOLICITATION DISCLOSURES

Additional information is available at www.indiaratings.co.in. The ratings above were solicited by, or on behalf of, the issuer, and therefore, India Ratings has been compensated for the provision of the ratings. 

Ratings are not a recommendation or suggestion, directly or indirectly, to you or any other person, to buy, sell, make or hold any investment, loan or security or to undertake any investment strategy with respect to any investment, loan or security or any issuer.

ABOUT INDIA RATINGS AND RESEARCH

About India Ratings and Research: India Ratings and Research (Ind-Ra) is India's most respected credit rating agency committed to providing India's credit markets accurate, timely and prospective credit opinions. Built on a foundation of independent thinking, rigorous analytics, and an open and balanced approach towards credit research, Ind-Ra has grown rapidly during the past decade, gaining significant market presence in India's fixed income market. 

Ind-Ra currently maintains coverage of corporate issuers, financial institutions (including banks and insurance companies), finance and leasing companies, managed funds, urban local bodies and project finance companies. 

Headquartered in Mumbai, Ind-Ra has seven branch offices located in Ahmedabad, Bengaluru, Chennai, Delhi, Hyderabad, Kolkata and Pune. Ind-Ra is recognised by the Securities and Exchange Board of India, the Reserve Bank of India and National Housing Bank. 

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For more information, visit www.indiaratings.co.in.

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Analyst Names

  • Primary Analyst

    Jindal Haria

    Associate Director
    India Ratings and Research Pvt Ltd Wockhardt Towers, 4th floor, West Wing Plot C-2, G Block. Bandra Kurla Complex Bandra (East), Mumbai 400051
    +91 22 40001750

    Media Relation

    Namita Sharma

    Manager – Corporate Communication
    +91 22 40356121