Stock Review: IDBI Bank

   IDBI Bank appears to have embarked on something that HDFC Bank did a decade ago. The state-run bank is now adopting innovative measures to boost its Current and Savings Account Deposits, or CASA deposits, to boost its net interest margin, or NIM. Indeed, it is a positive development, but it is way too early to predict whether the bank's efforts will succeed just like HDFC Bank.

   With an aim to double its retail base, IDBI Bank recently announced the waiving off all service charges on its current and savings accounts. This move is the first of its kind in the banking industry and is certain to meet with a healthy response from retail depositors. It is similar to HDFC Bank's aggressive marketing drive several years back to target the salaried class with zero balance accounts and allied services. The strategy had worked wonders for the bank, as well as for other lenders, as HDFC Bank's CASA deposits have stayed above 40% of its total deposits since then. Even today, most state owned banks have a CASA ratio of close to 30%.

   CASA are deposits on which banks pay little or no interest. As a result, the high proportion of CASA deposits tend to lower the cost of funds for banks and improves the interest rate differential between borrowings and lending.

   The announcement marks a key change in IDBI Bank's growth strategy, which so far focused on mid and large institutional or corporate clients. However, it has now acknowledged the fact that only by focusing on retail can it increase the share of low-cost CASA deposits. The market welcomed IDBI Bank's move as its shares rose 6% in the week following the announcement.

   As competition intensifies and banks come under pressure in terms of lending rates, managing the cost of funds may be the only way of improving profitability. That is why a larger share of CASA deposits is crucial.

   A higher CASA base and an improvement in NIM might be positive for the bank, which currently has a CASA of just 14% and NIM of 1.6% — lowest among its larger peers such as Bank of Baroda, Punjab National Bank and HDFC Bank. Although positive, this strategy will have to take care of increased costs of maintaining these accounts going forward. Typically, it costs Rs 300-400 annually for a bank to maintain a CASA account.

   IDBI Bank has grown its advances 34% in FY10, twice the rate at which the industry lend to corporates and individuals. While the bank has been able to grow at a rapid pace, its asset quality still remains a concern for investors. In an industry where a bad loan ratio of over 1% is considered high, the bank's net NPA or bad loans of 1.2% indicates a significantly higher bad loan ratio. High NPAs or bad loans impact profitability, as banks need to set aside more capital for providing against such bad loans.

   For investors, the concern now mainly lies around the increase in costs that the new marketing strategy might impose and the ability of the bank to arrest its pile up of bad loans. The bank's performance in the coming few quarters will indicate whether this strategy was as effective as HDFC Bank's strategy.