DBS Group Holdings, Southeast Asia’s largest bank by assets and earnings, is largely a local bank. In FY2020 ended Dec 31, 2020, some 70% of its net profit of $4.72 billion was from its home market of Singapore. The city state is a relatively small market, and its cost of funds and interest rates are held hostage to the US Federal Reserve.
For much of last year, the Fed had its foot on the accelerator, driving policy rates in the US down to zero, to partly combat the impact of Covid-19. That in itself drove DBS’s net interest margins (NIMs) down to 1.49% in 4QFY2020, taking the whole year’s NIM to 1.62%.
During the results briefing on Feb 10, Piyush Gupta, CEO at DBS, said, “The pace of decline slowed through the year with second quarter 24 basis points lower than the previous quarter, third quarter nine basis points lower and then fourth quarter only four basis points lower. The bulk of the pain appears behind us and a range of 1.45%– 1.50% makes sense for 2021.”
Low interest rates could also enable DBS to raise inexpensive wholesale funding and place it in low risk assets at a positive margin. Since the start of February, and in the wake of a US$1.9 trillion ($2.5 trillion) stimulus bill being passed, 10-year US treasury yields have firmed, but are still below pre-Covid levels at this time last year. DBS’s second largest market is Hong Kong, where Hibor has similarly been pressured by the Fed’s moves.
Hence, the move by the Reserve Bank of India and the government of india, to fully amalgamate Lakshmi Vilas Bank (LVB) and DBS India (DBI) on Nov 27, 2020, using the special powers under Section 45 of the Banking Regulation Act 1949, could ameliorate DBS’s compressed NIMs.
“One of the good things about this deal was that LVB was fully amalgamated under Section 45 of India’s Banking Regulation Act which gave us full control of the bank. The reason we were able to do this is that we have been classified as a local bank in India since our subsidiarisation [in 2019],” Gupta says.
In March 2019, to expand the franchise and build greater scale, DBS converted its India operations to a wholly-owned subsidiary, making it one of the first foreign banks to subsidiarise. LVB can only be amalgamated with a local bank — which is what DBI effectively is. Hence, DBI injected $643 million into LVB.
More details were revealed during a results announcement on Feb 10. The provisional goodwill from amalgamation of LVB was $153 million, being the difference between the fair value of its assets and liabilities of $3.89 billion and $4.04 billion respectively. As at Dec 31, 2020, total loans transferred amounted to $2.14 billion, including net non-performing assets (NPA) and total deposits transferred amounted to $3.34 billion.
DBS’s 4QFY2020 results included amalgamation expenses of $33 million and general allowances of $87 million. Additional general allowances were set aside at group level to pre-emptively build up general allowance reserves to 9.5% of LVB’s performing loans.
Excluding LVB, DBI’s total income in FY2020 rose 40% to a record $376 million, and its pretax profit quadrupled to $89 million. DBS’s South and Southeast Asia segment was able to turn a net loss of $22 million in FY2019 to a net profit of $104 million in FY2020. This was partly attributed to the revaluation of deferred tax assets due to a cut in India’s corporate tax rate.
Cheaper funding, higher NIMs
“LVB gives us a substantial retail deposit base. Prior to amalgamation, DBS India was primarily wholesale funded, with the retail deposit base at only 23%. With LVB, DBS India’s retail funding base is now close to 50%, which makes a big difference to our capacity to grow the domestic India business,” Gupta says.
“It is without a doubt that the LVB deal would improve our NIM because the funding cost reduces as we increase the retail deposit base and our lending yield improves because yields on products like retail gold loans and SME loans are much higher than other products we offer in India,” he surmises.
LVB had $881 million of NPA for which special provisions of $669 million have been taken. The remaining $212 million (NPA less special provisions) has been added to DBS’s NPAs. Of the $1.93 billion performing loans, DBS has taken $183 million in gross provisioning, equivalent to 9.5%.
“We’ve dealt with the LVB issue. We bumped up NPA by [16%] and provided for incremental NPA. Of the residual good book of $1.93 billion, $800 million is on gold loans,” says Gupta.
Gold loans, peculiar to Indian banks, are secured loans. Customers pledge gold to the lender for an amount based on the valuation of the gold.
On the ratio front, DBS’s common equity tier 1 (CET1) ratio fell marginally y-o-y to 13.9%. Chng Sok Hui, CFO at DBS, says that LVB caused a 0.3 percentage point impact on CET1, keeping the ratio unchanged q-o-q. However CET1 could rise as profits continue to accrete. DBS’s non-performing loan ratio held steady q-o-q at 1.6%.
Ratios such as the leverage ratio, all currency liquidity coverage ratio and net stable funding ratios as at Dec 31 do not include the impact of LVB.
Impact of LVB
LVB adds 563 branches to DBI, taking its total to 600 branches, and raises DBI’s ATMs in India to 1,000. LVB also brings with it two million retail customers and 125,000 non-retail customers. As much as 90% of its assets, deposits and branches are situated in five southern Indian states.
“These states have higher GDP per capita compared to the rest of India. These states, which include Hyderabad, Bangalore and Chennai, are better managed and have a high amount of large corporate activity where core industries such as automotive and TMT (telco, media, tech) are located. This fits well with our business as Singapore and Asean trade primarily with these Indian states,” Gupta says.
As Gupta sees it, LVB’s physical branches and customers add a “layer” to Digibank, DBS’s digital bank in India and Indonesia. “When we have a branch presence, we are able to reach out to our SME customer base and then leverage our digital capabilities for last-mile fulfilment. Hence, I am quite confident that the expansion of our phygital strategy through LVB will allow us to deepen that digital capability and grow the business there faster,” he says.
Meanwhile, Gupta is looking increasingly at initiatives that should provide an avenue for growth. For instance, DBS’s digital exchange has started off with about 300 transactions a month. Established crypto exchanges such as Binance have revenues in the billions of dollars. With Covid-19 under control in most of Asia, China’s economy is rebounding.
More immediately, though, the sprawling sub-continent could provide excitement for DBS. “India’s growth rate is [likely to be] 11.5% in the next fiscal year,” Gupta points out, adding that is the highest rate for a big economy. “We expect LVB to be profitable in 12 to18 months.