The Federal Bank Limited (FEDERALBNK) Earnings Call Transcript

Ladies and gentlemen, good day, and welcome to the Q2 FY '27 Conference Call hosted by Federal Bank. [Operator Instructions] I now hand the conference over to Mr. Souvik Roy, Head Investor Relations, the Federal Bank Limited. Thank you, and over to you, sir.

Thanks, Fran. Good afternoon, everyone, and welcome to our earnings call. We have announced the results. I'm hoping all of you have gone through it already, and we are pleased to share that the bank has delivered a strong performance this quarter. . We have with us today our MD and CEO, Mr. K.V. Manian, along with the entire senior leadership team, who will take you through the performance and the key developments that happened in the quarter that went by. With that, I'll hand it over to Mr. Manian for his opening remarks. Over to you, sir.

Thank you, Jovy. Good afternoon, everyone, and welcome to Federal Bank's quarterly results call. Let me begin by briefing you on some changes to our board. Virat Diwanji, who has been our National Head of Consumer Banking, joined our Board, and we look forward to his continued leadership. I'm also pleased to welcome Rajesh Varrier to the Board. He's strong as an independent director. His strong technology background and experience will be valuable as we continue to strengthen our capabilities in the technology and AI areas. I would also like to place on record our sincere appreciation for Ramanan Muncur for his valuable contribution and service to the bank over the past 5 years. We thank him for his guidance and association with the Federal Bank and wish him the very best. Coming to the quarter, we have delivered a strong performance underpinned by sustained momentum on the liability side, disciplined growth on the asset side and continued focus on fees and operating efficiency. A significant milestone this quarter has been our average CASA deposits crossing INR 1 lakh crores. This reflects the progress we have made in strengthening our liability franchise and improving the quality of our deposit mix. We have also garnered our meaningful share of FCNRB deposits under the special window, participating at a quantum and economics that we believe are appropriate for us. On the asset side, we have continued to grow in a calibrated and disciplined manner with healthy momentum across our chosen segments. Our focus remains on pursuing quality growth while maintaining discipline -- while maintaining the discipline on risk-adjusted returns, which continues to improve each quarter. As we have articulated in our annual report, sustained momentum and discipline remain central to our approach. The progress we are making on both sides of the balance sheet reflects this commitment. A stronger liability franchise, combined with disciplined asset growth is helping sustain our NIM trajectory, and we remain confident in its underlying resilience. The evolving interest rate cycle should provide an additional supportive factor as we move forward. Beyond margins, we have delivered a strong performance on fee income. Fee income as a proportion of average assets has reached an all-time high with performance broad-based across various fee-generating businesses. At the same time, we have maintained discipline on operating expenses and kept our cost-to-income trajectory under control. If we look at the guidance we provided about 1.5 years ago, we have, by and large, tracked well against our stated objectives on NIM, ROA and fee income with certain parameters actually outperforming the anticipated metrics. Our profitability trajectory and PAT growth reflect the underlying strength of the franchise and progress we are making towards our strategic objectives. Our reported profitability for the quarter also incorporates the impact of the change in accounting policy related to ESOP expenses. Venkat will later explain on this call the accounting treatment and its implications in more detail. Looking ahead, we remain constructive about the balance quarters of the financial year. We will continue to pursue growth with discipline, strengthen the quality of our earnings and remain focused on delivering sustainable value for all our stakeholders. With that, I will hand it over to Venkat to take you through the financial performance and the key numbers in greater detail. Venkat?

Thank you, Manian, and good afternoon, everyone, for joining this call. I'll focus on the key financial developments for the second quarter. As usual, before that, a quick overview of the macro environment. In the last call, we flagged on the inflation trajectory and you would have noticed that the headline CPI rose in each of the months, July, August and September from 4.45% in July to 4.83% in August and 5.4% in September. It averages approximately 4.9% for the quarter. The September reading was the highest so far in 2026 under the revised series and the fourth consecutive month above RBI 4% target. Food inflation remained the main driver. It was 5.52% in July, 5.97% in August and 7.74% in September. Whilst in August, the MPC held a report rate at 5.25% and retained its neutral stance on October 7, the unanimously rates are reported by 25 basis points to 5.5%. And it also changed the stance to calibrate it. RBI raised the FY '22 projection to 7.1% from 6.7%. It also raised the FY '27 inflation projection to 5.2% from 50%. The growth base remained strong. Real GDP grew at 7.8% in June quarter, ahead of RBI estimate of 7%. And the March quarter was revised up to 8.6%. Most of the benefit from the easing cycle has now passed through to our liability book. From here, the margin mix will depend on improvement in assets and the strength of our liability branches. Now coming to the performance overview for Q2 -- our net profit for the quarter was INR 1,386 the highest in the client's history with 45.1% of Y-o-Y and 17.77% Q-o-Q. Earnings per share stood at INR 22.26% up 44.34% and 16.25% Q-o-Q. Operating profit was INR 2,225.37 crores, up 35.35% Y-o-Y and 17.29%. In fact, if you look at our OP, if not for the onetime impact of the income tax refund, which we had in Q4 of last year. If you exclude that , OP also has been the highest ever for the bank at INR 2,225 crores. Total business crossed INR 6 lakh crores and gross advances crossed INR 3 lakh crores. Net interest income was INR 3,153.4 crores, up 7% Q-o-Q and 26.3% Y-o-Y. NIM was 3.32%, down only 1 basis point Q-o-Q and up 26 basis points Y-o-Y. Our cost of deposits declined 3 basis points during the quarter and 39 basis points Y-o-Y. Last quarter, we said that the pace of decline in deposit cost would moderate. -- and it has. The cost of deposits fell 3 basis points Q-o-Q against 22 basis points in Q1. With the October rate increase, the externally benchmarked part of our loan book will reprice ahead of deposits, which will reprice as they mature. We also expect competition for deposits to intensify once the liquidity situation normalizes. On the deposit and liability franchise, our total deposits closed at INR 3,42,693 crores, up 7% Q-o-Q and 18.6% Y-o-Y. Our CASA balances stood at INR 1,09,803, up a very impressive 6.4% Q-o-Q and 22.56% Y-o-Y. That is approximately 395 basis points faster than the deposits. Our CASA ratio improved 103 basis points Y-o-Y. Another important milestone was the average CASA cross INR 100 crore during the quarter. NRE and O&R deposits together reached INR 1,19,055 crores, up 13.25% Q-o-Q and 26.6% Y-o-Y. Savings balances grew close to 4% Q-o-Q and 19.6% Y-o-Y. Last quarter, we addressed the sequential dip in current form, and we did say that traction would resume at the March quarter seasonality was up. It has -- demand deposits grew 14.4% -- 14.04% Q-on-Q and 33% Y-o-Y. CASA itself grew by 6.4% Q-o-Q. And there is no change to our guidance on CASA. The 103 basis point improvement in the ratio Y-o-Y reflects the trend in the growth. On advances, our gross advances closed at INR 3,01,687 crores, up 7.27% Q-o-Q and 21% Y-o-Y. We have grown on the chosen segments, and our stated focus remains on the higher-yielding granular assets that improves the risk-adjusted return profile of the book. And this granularity also feeds into our core. Gold loans grew 37.13% Y-o-Y and 6.67% Q-o-Q. LAP grew 32.1% Y-o-Y, and credit cards grew an impress of 28.7% Y-o-Y. Commercial Banking continues with the strong growth trajectory over the years and in this quarter also grew 6.99%, almost 7% Q-o-Q, and 25.46% Y-o-Y. PDC grew 21.74%. Upgrade on institutional banking grew 17.19% Y-o-Y. We continue to engage with pricing and counterparty quality made out pressure. Business Banking grew 12.39% Y-o-Y, and Q-o-Q, 7.48%. We did mention in the last quarter that we would grow this book as service adjusted returns justify seen directional change coming through now. Retail banking grew by 17.92% Y-o-Y. The average CD ratio for the quarter was 86.22%, and we continue to operate within a band, which we have set for us. On fee income, our fee income was again INR 1,167 crores, up 22% Q-o-Q and 31.86% Y-o-Y. Total other income at INR 1,490 crores is the highest in the bank's history. Our fee income to assets is at an all-time high of 1.11%. Last quarter, fee income was seasonally lower against strong March base. This quarter has been a very strong growth, and it is well distributed, as Manian mentioned. Our cost-to-income ratio improved to 52%, down 196 basis points Y-o-Y and 42 basis points Q-o-Q. We'll continue to operate in the range of 52% on the CI ratio. As explained in the past as well, the focus will be on ensuring that the revenue growth is faster than cost growth. They will be investing in technology, in new branch openings and other initiatives, which will position us well for the future. Manian also mentioned that I'll explain about the ESOP, employee cost-related change. Until last year, we followed the intrinsic value method for ESOPs granted to nonmaterial risk takers. For the material risk-takers, it was at fair value. From 1st April '26, we have standardized this, and this is in line with best practices, and we are moving to fair value accounting for results across all employees. This change has resulted in an incremental employee cost of INR 32.7 crores and a consequent PAT impact of INR 24.5 crores. So when you're comparing year-on-year movement in employee costs and profitability, please keep this accounting change in mind. On asset quality, our GNPA improved to 1.32%, down 20 basis points Q-o-Q and 51 basis points Y-o-Y. Our NNPA continues to be the best-in-class in the industry at 0.17%. Both GNPA and NNPA are decade loads. Our PCR, excluding technical write-offs, is at 86.78% and including technical write-offs, the coverage is at 94.4%. Credit cost is at 0.31%, down sequentially by 10 basis points and 19 basis points Y-o-Y. Our ROA improved to 1.32%, up 10 basis points in this quarter and 23 basis points Y-o-Y. You will recollect that we had given a guidance of ROA of 3 to 4 bps per quarter. And we did mention that it will not be on a quarterly basis, but it won't be in every sequential quarter. But for the year, we have given the guidance. And our ROE improved to 13.57% up 156 basis Q-o-Q. Last quarter, we did explain the sequential dip in ROE reflected the share and subscription money received ahead of deployment, and we said that it is expected to reverse as the capital was deployed. Our book value has grown to INR 166.32, and stands at a very healthy 16.84%. In closing, the bank has delivered its highest ever profit and highest ever other income. Total business crossed INR 6 lakh crores and advances crossed INR 6 lakh crores. Over the year, profit has grown 45%, margin expanded 25 bps, cost to income improved by 196 basis points and credit costs declined by 20 basis points, and our provision coverage ratios improved by 1,300 basis. CMPA and NNPA are a decade low. The macro picture ahead carries higher inflation and tighter policy and also the overhang of the price. Competition for deposits will intensify. Our priorities are unchanged. On the liability franchise, growing our chosen segments at the right risk-adjusted returns and hold the line on cost and credit policy. Standalone and secured character of this balance sheet allows us to. Thank you all, and we'll now open up for questions.

[Operator Instructions]

Ryan, 1 quick thing before we begin, a quick refers to everybody. Please limit yourself to 1 question per participant so that we can allow more people to participate in the discussion. So please bear this in mind.

We take the first question from the line of Mahrukh Adajania from Tara Capital Partners.

Congratulations. I had over -- actually, I had a few questions. My first question is on general asset quality, right? Given inflation drag, does that affect any of your segments, especially the high-yield segment? Have you seen any stress in any of these segments so far? That's my first question. And my second question is on your levered FCNR deposits. The leverage seems to be lower than other banks, right? So any thought process behind it? And my third question is on talks about M&A. You've already clarified on exchanges. But what I want to understand is that -- I mean, why would the bank be keen on acquiring an MFI given that the cycle may be too short, they are very volatile, and they are very steep and deep bad cycles? So just your thought process around it.

So your first question related to asset quality. We have not seen any impact on our asset quality of the environment that you were talking about. Having said that, we remain watchful and we will -- as you know, we have also been cautious about growing certain segments. If you look at our agri book, it has not -- we have not pushed the pedal on that. For example, our microfinance book, we have not pushed the pedal on that. So therefore, we've been cautious about some of those segments, and we continue to watch the outcomes of El Nino, geopolitics, all of that, interest rate scenario inflation, all of that. Just now, we don't see any impact on our portfolio. That is your first question. The second question related to -- I mean, we have disclosed our relate FCNR. And I think what we focused on was the right quantum, right economics and right granularity of that exercise was important for us. And I think we did what is -- what was appropriate in those context. And rest of the questions, I just leave it to -- they don't need an answer because there is nothing to discuss right now. So we don't discuss .

We take the next question from the line of Akshay Jain from Autonomous.

Congratulations on a great quarter. Sir, my first question is again on FCNR. So given FCA like Federal Bank's strong NR base one would I have expected to have a much higher share of FCNR. So what is driving this number? And if we can provide margins excluding the FCNR impact, like what is the FCNR funds, which have been deployed in loans or bulk deposits, which have been repaid and what is still sitting in liquidity? So that's my first question. .

Right. So like I said, I think we -- what we wanted to ensure was there was right granularity to it, right, economics to it. And we think what we have done is appropriate given our size of the balance sheet. It's appropriate given our ALM, economics, granularity, all of that put together and deployment opportunities, all of that. So I think we did what is appropriate from our point of view. Rest of deployment into what all is a matter of a lot of detail, Akshay, so I will leave that to -- if you require a one-on-one discussion we can do that. But A lot of that is not really value additive. Finally, all of that is reflected in the NIM figure that we have reported, right? Finally, it bakes in all of that.

Sir, second is on the loan growth. So loan growth, if I remove the FCNR leverage is now around 18%. So like how sustainable is this loan growth? And is there any revision in growth guidance? .

So we continue to maintain what we had guided as mid-teens as the growth rate guidance, we continue to maintain that guidance.

Understood. And sir, lastly, on the inorganic growth. I understand you will not be able to comment on any specific deal. But what is the philosophy when you refer to any inorganic acquisitions like given the hard work you have put in strengthening the asset quality over the years? Like will you be comfortable in going into segments like MFI or similar segments? .

From our point of view, I think I have stated this earlier on our inorganic philosophy, what we want to follow. One is we are quite clear that whatever we do, we must see it as accretive, and we are very disciplined about that. There are instances where we have given up opportunities where we have found it not accretive enough, and some of them are known. And, therefore, the first principle is that it should be accretive. We remain focused on areas where we think we can acquire newer capabilities or scale remains the second area. And of course, our preference is core, over a period of time also the universal banking franchise that will determine the opportunities we evaluate and take forward. So that -- and I have earlier said that we also believe that a single pearl strategy is probably better than a big bang strategy. And that's what -- these are some of the guiding philosophies we'll follow as and when we look at an opportunity and close that.

We take the next question from the line of Kunal Shah from Citigroup.

So firstly, on OpEx, even if I adjust for the overall SOP, OpEx appears to be quite high, both the overhead cost as well as the employee cost. I do understand we added almost 75 odd branches would this be largely the infra-related spend, which would have been there, which is leading to this kind of rise in OpEx?

So, Kunal, first of all, you have to see it in the context of cost to income and our past guidance on that. We have always maintained that don't bake in advantages on cost to income. And therefore, first of all, it is in line with our guidance, the cost-to-income guidance that we have given, number one. Number two, this, of course, includes extra branches, extra people. We have added -- as you know, we have added a new sales channel. We are investing in technology. We are -- so there are several lines of expenses that we are -- and of course, there is some actuarial impact that has happened. So it's a combination of things. But I would say that remains within the overall guidance that we issued.

And the question was in terms of ROA lever looking at OpEx. We have seen this getting towards like 2.3% now, more than 2.3% on average assets. So would this kind of investments continue? And would we see like limited levers on the OpEx side towards the ROA or maybe a negative to the ROA?

Not negative, but we had -- Kunal, you would recall all our calls over the last several quarters, we have maintained that. Please don't bake in benefits out of cost on ROA, and that guidance remains as of now. That was a 2-year -- we had, at that time, indicated that for a couple of years, we'd like to invest for a sustainable future protection. And that guidance continues.

Sure. And second question is on fee side. So does this include the fee on the leverage book, which is leading to the higher fee income? Or this is more -- I would say, more business as usual and we should continue to see the traction? Because again, fee income was something wherein we were expecting a buildup out. So is there any one-off in the fee income or it is all structural, yes? .

So if you have seen the document we have given you the disclosures we have given you is almost every line of the fee income...

But the only thing is processing fee and other service charges if there is any number -- yes.

There is some component of the FCNR there. But it is not -- I mean, it was that significant to call out, we would have called out.

Okay. Got it. And any reason to this price of INR 238-odd crores even when is have hardened. Overall, the other income, there is a you support coming in at INR 238 crores. So any gains which have been booked even from the -- maybe the portfolio which has been there, investor portfolio?

So we've got -- it's a combination, again, of some investment that we encashed during the quarter, there was some in treasury, I would say we had a good quarter. I don't know what to call one-offs, but there was there was -- clearly, we gained out of IPOs, we gained out of some other 1 particular investment, and of course, there was an SR that was encashed during the quarter, which also contributed to it. But more importantly, when you're looking at the numbers, please remember that we are looking at it from a very low base in the last 2 quarters. Last 2 quarters were super suppressed because of new and other issues. And therefore, to some extent, it is also replacing back to normal that is contributing. If you go back to earlier quarters, our treasury incomes were not as low as the last 2 quarters, right? So it's a combination, I would say. Yes, to some extent, it is a good treasury quarter, whether we can assume that the same will repeat, yes, it may not repeat.

We take the next question from the line of Nitin Aggarwal from Motilal Oswal Financial Services Limited.

Congratulations on a good quarter. One is on the lending yield. So if I feel like while our focus has been like to grow the mix of high-yielding deposits, but given how the repricing has been playing out, the lending yields has been coming down bit by bit every quarter. And so not counting in any rate hike related gains from here, can we say that the lending yields now have bottomed? And therefore, how do you expect the margins to play out now over the coming quarters?

Yes, you can say that. If you see last quarter, the lending yield was almost -- if you adjust for there was an FCNRB impact on that. But if you adjust for that, it was more or less constant or slightly higher, I would say, compared to the last quarter. So we have already seen the bottom of that cycle last quarter, I would say. This quarter is more the FCNR impact. But I would say, last quarter, we saw the bottom of that cycle.

Okay. And sir, on the margins, now this quarter, we have held essentially flat, how should 1 look at the margins now over the coming quarters? .

So broadly, Nitin, I would say for the year, we gave a broad guidance that it will be 5 to 6 basis per quarter improvement. And we had said that it will not be linear, it will vary from quarter-to-quarter. But on an average, we should get that. We are still striving to get there, that number.

Okay. And second, just as a data point on the LCR ratio, if you can share that number? .

119.8 -- 120.

Okay. So it has improved 3 odd percentages this quarter. Am I right?

Yes, that's right. See our desired band of 110 to 120, we are continuing to operate within that kind of a band as an intention. So I don't see 17 to 19 as an improvement. It is just that we are operating in that band. So it is sometimes 117, sometimes on 120, whatever, or 115. It could be anywhere between 110 to 120. That is our targeted bank, which we want to operate.

We take the next question from the line of Piran Engineer from CITIC Securities International.

Just 1 thing, just as a clarification. Is there any one-off OpEx from raising of USD bonds for the FCRC?

We have not raised bonds. There is some loan processing transactions, which are build it -- yes, which are built in.

Got it. Good. And also, just could you help me understand the NIM thing in totality now. So if you have not raised FCNR, our NIM would have been at least 8, 10 bps higher. Is that a fair SP307264873 Conclusion. So it's flat because you use SCR and ex of that, that much?

Piran, that is a slippery slope of calculation. All I can say is it would have, of course, been higher for sure. How much is a matter of what all assumptions you make FCNR -- this scheme did not come doesn't mean no FCNR would have come right in normal course of business. So all those are very complicated calculations to make. So all I would say is, yes. Has the FCNR impacted NIM? Of course, it has impacted NIM, especially in the lending side of the side has impacted the NIM. But how much is a matter of how -- what all kind of assumptions you make.

We take the next question from the line of Jayprakash Mundra.

A few questions, sir. First, on gold loan, we have been at around 10.4%. Now in -- I believe -- I mean, if you can specify what is the usual average tenure of this product because I believe the rates are fixed here, and how quickly or how easy or difficult would it be for you to change the rate in rising rate cycle or you believe because it is a short tenor product, it may not have any issue in -- from the NIM accretion perspective?

So Jay, if you look at overall structure of our book, it's fairly healthy. 33% of our book is fixed, 45% is pulling, then the rest of it is MCLR-linked. So we have a good mix of floating and fixed book in our balance sheet now. And gold loans are typically a 1-year kind of product. So we don't see an issue. And I think this mix overall, it's a very good mix for us to work with NIM in -- over cycles.

No, sir, I'm saying the yields on gold loan are higher than the blended yield when the other floating rates will go up in line with repo, do you think that this product can also see similar upward movement in yield or this may not have because it's a fixed loan product?

No, no, it's a fixed loan, but the every month something matures, right? So it is like the maturity will be repriced at the higher levels, yes. And it is a 1-year maturity product lost largely. We have a little bit of long-term loans. Otherwise, it is a 1-year maturity product, and every day some new loan matures, which will obviously be priced at higher interest rates, if interest rates go up.

Right. No. So sir, that is a precise question, sir. When interest rate were to go up, can -- do you see a scope to increase the price going on?

Of course. Of course. Why would we not?

The only thing is, sir, there are a lot of competition from PSU banks, which charge less than 9%. So that is the background of the question.

But they were always charging less than us.

Right, right, right. Okay. And secondly, sir, on OpEx, right? So apart from this INR 32 crores of ESOP provisioning change, how to look at the staff cost incremental? Was there any INR 32 crores pertain to only this quarter or maybe some back dated? Is this a new normal for staff cost? Or how to think about this? .

No, no. INR 32 crores is the onetime impact of change in accounting policy. So it's a onetime impact of INR 32 crores. And just to stop -- sorry, just to go back to your question. You asked others were charging low. There were many people charging higher than us also in the market on gold loans. So...

Yes, understood, sir. On the staff costs, so INR 132 crores is, let's say, onetime, the rest of the base is reasonably the new revised base, right? That is the way to look at this.

No. So it has a combination of 2 or 3 things. One is, of course, we are adding people. And that is adding to costs. As we are adding branches and people, therefore, it is adding cost. Second is that actuarial impact is there and that keeps fluctuating a bit. As interest rates rise, some of that will get written back in the next few quarters. So that retirement cost will fluctuate a bit with the market.