Bank conversion to weaken IDFC profitability: India Ratings

Highlighting execution challenges that IDFC faces in turning into a universal bank, India Ratings has said key profitability metrics of the infra financier will drop sharply in near to medium-term.

"The successful conversion from an infrastructure non-banking finance company (NBFC) into a commercial bank with a strong retail deposit franchise and a diversified loan book will be a major challenge for IDFC," the rating agency said in a note on Thursday.

IDFC's return on assets and return on equity (RoE) are likely to "drop sharply" due to requirements to maintain the statutory liquidity ratio at 23 per cent, cash reserve ratio at 4 per cent and 40 per cent priority sector lending, it said.

The city-based firm has RoE of 14.2 per cent and RoC employed at 11.4 per cent and a core capital of 22.1 per cent.

RBI has given three options to NBFCs to carry out banking operation. One of the options is to convert NBFC into a bank.

IDFC, which is among the biggest infra financiers, on Wednesday bagged the coveted banking licence along with micro lender Bandhan, beating corporate biggies like Aditya Birla Group and Anil Dhirubhai Ambani Group.

India Ratings said the operational costs for IDFC will increase significantly as it invests in the branch network and employees. Also, maintaining credit costs at low levels will be important as it starts lending to non-infra sectors.

IDFC will also be tested on the risk management front as the loan book becomes more diverse, and is expected to maintain a robust capital buffer, it said.

The other key challenge for the lender will be building a retail deposit franchise, it said and maintained that competitive market and a mandatory requirement to have branches in non-urban areas will be a drag on this front.

On IDFC's rating, it said the banking licence will be helpful to the credit profile in the long term "provided the transition is managed appropriately."