Shares of RBL Bank fell 2.8 percent intraday on December 10 as global brokerage house Morgan Stanley remained bearish on the stock citing asset quality concerns.

The brokerage has an underweight rating on the stock with a target price of Rs 240 per share, implying 28.4 percent potential downside from current levels. Valuations at 1.5x FY21 appear unattractive, it feels.

The stock has already lost 50 percent of its value in the last six months, especially due to volatility over asset quality of the bank and weak guidance for the second half of FY20.

At the time of publishing this copy, RBL was quoting at Rs 330, down Rs 4.95, or 1.48 percent on the BSE.

Morgan Stanley believes RBL Bank has strong long term growth potential.

"The bank is in the early stages of growth; it remains one of the smallest in India, with a loan book of just around Rs 58,500 crore. It has an experienced team and a motivated workforce. It has lower impaired loans against state-owned banks. Competition is weak. Its lending portfolio is diversified. It has an expanding distribution network," it reasoned.

However, the brokerage expects RBL to see muted earnings trends in the near term given continued weakness in asset quality. Also, the bank is taking higher risk (with increased lending to unsecured segments), which needs to be monitored, it said.

"Valuations have corrected (1.5xF21 book), but we stay underweight due to lack of visibility on asset quality and muted profitability, although recent capital raising is a positive," it added.

The research house feels India's macro outlook remains difficult given muted economic growth and continued risk aversion amongst lenders. This, amid RBL's high exposure to BBB and below rated corporates (around 55 percent of corporate loan book), implies a high risk of continued elevated slippages, it said.

Hence it increased slippage and credit cost estimates over FY20-21 and is now building Rs 2,500 crore of slippages over and above normal slippage run-rate, compared to the bank's guided watchlist of Rs 1,800 crore as of Q2FY20.

It cut its F20/21/22 EPS estimates by 10 percent/15 percent/9 percent due to higher credit costs and dilution,, but expects good core pre-provision operating profit (PPoP) growth of 25 percent CAGR during FY19-22.

"Although the bank should reduce risk and see higher non-performing loans (NPLs) in corporate banking, we expect a continuing increase in the unsecured retail loans mix (credit cards, MFI). However, even after this, we expect return on equity (RoE) to remain at low teens over the next few years (around 11 percent during FY21-22) given elevated credit costs," Morgan Stanley said.

Recently the bank raised $380 million of capital via QIP and preferential allotment last week (dilution of around 18 percent), which helped it improve the CET 1 ratio from 11.3 percent to 15.3 percent (F2Q20 proforma basis).

"The key risk to our call is a sharp recovery in macro that would imply lower slippages and faster resolutions. A downside catalyst would be further upward revision to corporate watch list and/or higher retail NPLs," Morgan Stanley said.

The private sector lender in the July-September quarter had reported a 73.4 percent fall YoY in profit due to a sharp spike in provisions, and asset quality also deteriorated sequentially.

The lender had highlighted a few months ago, given the difficult corporate credit environment it had faced challenges in a few corporate accounts.

"As a matter of prudence, we have taken higher than required provisions on these accounts which have impacted our bottomline," Vishwavir Ahuja, MD & CEO, RBL Bank had said in a statement.

Asset quality deteriorated sharply during the quarter with gross non-performing assets (NPA) as a percentage of gross advances rising 122bps sequentially to 2.6 percent and net NPA climbing 91bps QoQ to 1.56 percent in Q2.

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(This story was first published on moneycontrol.com)