IndusInd Bank Limited (INDUSINDBK) Earnings Call Transcript & Summary

Ladies and gentlemen, good day, and welcome to the IndusInd Bank Limited Analyst Conference Call. [Operator Instructions] Please note that this conference is being recorded. I now hand the conference over to Mr. Sumant Kathpalia, MD and CEO, IndusInd Bank Limited. Thank you, and over to you, sir.

Good evening, and thank you for joining the call at a short notice. We have made a stock exchange disclosure post our Board meeting and wanted to answer if there are any queries relating to that. During an internal review of processes relating to other assets and other liability accounts of the derivatives portfolio, the bank has noted some discrepancies. Since then, the bank's internal review has estimated an adverse impact of 2.35% on the Bank's net worth as of December '24. The difference has been accumulated over a period of time. The Bank's profitability and capital adequacy remains healthy to absorb this onetime impact. Just to reiterate the issue was identified by the Bank. We also appointed an external adviser to review the processes and ascertain the root cause. While the impact is largely in the range mentioned earlier, we should have all the explanations once the final report is submitted by the advisers. We can now take questions. I also have Arun who heads our Global Markets and is Deputy CEO; and Indrajit, with me to answer any specific queries.

[Operator Instructions] Our first question comes from the line of Chintan Joshi from Autonomous Research.

A few questions. So firstly, which area is these derivatives linked to? Are these hedging? Are these trading derivatives, like what is the exact area in which the derivatives were applied to? Secondly, where is the corresponding gain booked, which line item in the P&L, 2.35% of equity will probably reflect somewhere in the P&L? Is it on the NII line? Or would it be on the trading line? It would be interesting to understand what adjustments we need to make to historical numbers to reflect this 2.35%? And thirdly, when can we expect this investigation to be completed so that we know that this issue is behind us.

Okay. Thank you for your question. I think -- Arun, yes.

So where -- these hedging instruments of derivatives are used by the balance sheet management desk, which is also the ALM desk of the bank. What really emanates is on account of the foreign currency deposits and borrowing in foreign currency, which lead to a balance sheet and foreign currency for converting them into INR, the derivatives are used. That was your first question. Second question is where did the income line go to? In most cases, it went to the interest income line. So that is where it is. Number three, when do you expect the closure of the external agency? We believe that should come around end of quarter 4.

Okay. So it's a relatively quick resolution. So in terms of the NII line, can I just check if you would give us some idea of restatements, perhaps for the last 9 months this year, at least, if not for the previous year, just so that we can understand what was accrued on the NII line. If you could disclose that in your presentation with the results, that would be helpful.

Yes, we will actually disclose the full information along with the result or maybe prior to results itself. And we will make sure that you get the full information.

And then finally, while I have you, could I ask you for an update on what MFI trends are you seeing? Is that something you would like to cover on this call?

So the MFI, like we said, I think whatever -- so the flows into the x buckets look very good, except in Karnataka, where I think the flows are now stabilizing. But otherwise, the flows are looking very good in the other parts of our business. Of course, the October, November flows, which we said will flow, I think have flown. And I think you will see an elevated number this quarter, all the flows. And we will also make sure that our 30-plus actually reflects the right where we reflect what is the normal view, and we may take some extra hits on account of that. So we should be very fine on our numbers as we go forward from quarter 1 onwards. So quarter 4 should be the bottom of the pyramid on this.

Your next question comes from the line of Rahul Jain from Goldman Sachs.

Just a couple of questions. So just wanted to understand how would this be rectified? So will it go through the book value? Or will it go through the P&L, i.e., like you said interest income -- so will there be reversal for the accumulated amount? Or how would this be reflected?

So I think we are in discussions as of now. We would actually -- I think general reserves cannot be touched, and I think we'll have to take it through the P&L.

Okay. Okay. And this would be over what period, Sumant, this is last 1.5 year...

We are saying quarter 4, but let's see if we get any dispenser, but I would love to just close it in quarter 4, if we can.

Got it. Second is, look, the amount is large in absolute terms, right? I mean, the income that got booked. So can you just give us some background as to how this got identified and the scope of the external party valuation? What will it cover? Any particular related transactions in the local books, et cetera, that also needs to be covered under this that eventually, the amount is well within this range or could this possibly be also higher if the scope were to be expanded?

So I think as part of the circular, which came in the December '22, '23 -- September '23, I think we started reviewing our derivatives book. And I think as effective April 1, '24, the new guidelines where internal trade had to be discontinued. I think we started reviewing whatever our internal trade book was. And I think we started observing some discrepancies in our businesses, which was identified by September and October. And then we hired the external agency to start reviewing our business. And that is why we are comfortable that by March end or April early, we should be able to identify the gap, and it seems to be in line with what we are saying, but we want to be very sure about it right now because it's still not validated completely. Having said that, let me hand over to Arun on the -- on whether we are comfortable with the derivative books right now. And effective April 1, '24, how are we running our business?

Yes. So effective April 1, we can confirm that there will be no internal trades in our book. We have not entered into any internal trades. The internal trades that were there prior to that period, which were existing on April 1, have been unwound and all according to mark-to-markets taken. There will be a small PB impact, which will keep on dropping because these are unwinding of trades, which is insignificant in nature, over the tenor or maturity of these internal trades. We now only do external trades with counterparties, market counterparties for hedging our entire balance sheet foreign currency book.

Can I ask a follow-on on this? So I could not be -- I would not be an expert on this, but my understanding was that the banks would not allow to run any book, which is unhedged over the night. So how could these internal trades be so large that the impact is so significant? Maybe I'm missing in my understanding, but -- and I believe this underlying is the foreign exchange contracts. So this is linked to any particular industry like gems and jewelry, et cetera? Or this is purely from the borrowing standpoint that you were doing earlier? -- that these hedges were pertaining to? Can you just give us some more color on that?

Sure, sure. So I think your first question, you're absolutely right. We do not run any unhedged positions on the balance sheet side of the business, right? So that is a confirmation I can give you and right from the beginning itself. Whatever foreign currency comes, if we keep it in foreign currency, if we do not need to hedge it, it will be kept in foreign currency. If it is converted into INR, it is hedged for the tenor -- underlying tenor, all right? So that way, we were hedged all the time. Number two, what was the...

Why is it such a large number?

Okay. The large number came up because there was a process that was always being followed by the bank right from the inception of these transactions for the internal trades that were done by the desk. Now let me just give you a bit on the internal trades for the desk also. So internal trades were entered only for trades which had little liquidity in the external market. For example, 3- to 5-year or yen deposit coming in to be swapped into INR or 8- or a 10-year dollar borrowing from a multilateral. So these are the typical trades that were entered. We used to take market quotes from at least 3-odd different sources before these internal trades were contracted. I think the issue came, and that is what came to our notice is when -- so let's put this, the external leg. So when you do this internal trade with the trading desk, the trading desk will in turn go out and hedge the trade itself because you got to be within your risk limits that are put up or what they've got to work within. So the external trade was mark-to-market, while the internal trade was on swap cost accounting or swap valuation. These 2 legs would vary during the period of contract, but converge on maturity. Now what happens is in the interim period, if you were to repay your borrowings, you would unwind that trade. And there are lots of cases where we did repay some of these foreign currency borrowings as well, where the internal trades were unwound. And it is in those cases that we found that one of the trades was hitting our P&L and the other was hitting our asset book. So that is where the difference came in. This was a practice that was being followed over a period of time.

Understood. That's very helpful. And last question is, is it linked to any particular sector, like I asked earlier?

No, no, sorry. As I mentioned, these are all balance sheet trades. Balance sheet trades are only on account of the balance of the bank's procurement of foreign currency borrowings or deposits. Nothing got to do with any client transaction in reference to what you had asked earlier.

Got it. Very helpful. And so therefore, we should not extrapolate it into the next few quarters in terms of the business growth, whatever.

No, no, nothing got to do with that. And in fact, as MD also said, our entire objective would be to get the validation of whatever comes out as a number because this is an internal number that we've arrived at, which is an approximate number, but not an exact number. And once that is there, it's our endeavor to take it -- to take the impact in the financial statements.

Got it. And I guess RBI has also been looked into it...

So yes, absolutely.

RBI absolutely looked in. And I think we gave a preliminary update last week, and we gave a final update now.

Your next question comes from the line of Sameer Bhise from Dymon Asia.

Just wanted to ask that, obviously, given the overall macro front, multiple issues generally facing, how one would be comfortable in terms of what we have guided to the market till now? That's one. And secondly, would you be able to comment if the RBI -- RBS is over for the bank. These are my questions.

RBS was over for the bank 3 months ago, the reserve bank supervision are you talking, right?

Yes, yes, yes.

That has been over and that there I don't think -- that was over in September, October. This was a different issue, which was discovered and we informed the regulator about it. And then continue with that process. That's a separate issue, don't link these issues up. Now said that I think we have the business performance during this quarter also continues the way we had guided the market. We will continue to meet the targets of what we have said. And from quarter 1 onwards, like I said, we should be back to what we were wanting to do and the credit cost will start showing a declining because microfinance would have stabilized by that. We would take whatever cost we have to take in the credit in quarter 4 for microfinance.

Your next question comes from Mahrukh Adajania from Nuvama.

So I just wanted to check that -- a couple of things. Firstly, you said that these were over time. So what is the time period where these trades were rejected? What time frame or how many months?

So these were continuing our practices of such for continuing for more than 5 to 10 years.

5 to 7.

7 years.

5 to 7 years.

So this is when we started the derivatives desk, it's approximately at that time itself, the process was started.

But the transactions that you're talking about right now have been over what period?

Similar period. So it's the similar period. So it's about a process that was put in place, which we realized now based on this new framework that we had to adopt on 1st April. And that is when we said, okay, there seems to be a large difference when we got to know about it. And then we started doing an internal bid, but also parallelly, we said, okay, in order to revalidate what we believe is coming out should be revalidated by the external agency as well. So to answer your question, yes, so it's over a period of 5, 7 years with no change in the schema that -- or anything in the intermittent period.

Got it. And you said that from April 1, 2024, it's a different methodology.

Not a different methodology but now we are not doing these sort of transactions anymore, which I explained earlier, the reason for doing these internal transactions. So we are not doing them at all. So as a result, the methodology is like how you would value any external trade. So there's no change as such in accounting, this classification.

Okay. And my other question is that which division of the bank would you hold responsible for this?

I think we are getting deeper into it, Mahrukh. But as I said, because this is amount or the impact is of a material nature, we thought it's prudent to come upfront based on our own internal review, as I'm saying, to disclose this to the market. To answer those questions, yes, we will absolutely answer your question in full transparency as and when we get the final report of the external agency and corroborate it with our financial statements.

Your next question comes from Bhavik Dave from Nippon India Mutual Funds.

Sir, just 2 things. One is on this 2.35% of net worth, and you mentioned your inspection is still going on from -- with the external agencies, do you think that number will be materially different in terms of outcomes because you mentioned that this is a ballpark number that the internal guys have maybe picked up. Can the number be significantly different from this or it will be like 5, 10, 20 basis points here and there. What would your judgment be like when it comes to -- because you've done a thorough review, an external guy will do a similar kind of review. So can the outcomes be materially different? Or it will be like in the range of 20, 30 basis points in that range?

I think very difficult to answer this question. We have done all our due diligence when we've come and disclosed it. It's an estimate right now because the validation is still happening. And as the validation get completed, we will come and disclose the number. In my view, I think the number should not be much different. It should be range bound, like you said, but very difficult to answer that question accurately right now.

Sure. And the other part I wanted to understand is this is something that you all picked up in an internal inspection, right, like not RBI or some other...

It is our internal checking. We have done it through our internal process.

Perfect. And lastly, in terms of -- you also mentioned that the inspection like the RBI annual review is done. So RBI from their end, considering we've just ended in terms of our CEO extension. In that context, it is very clear that there's no other impending investigation or any other review that is going on in the bank, right? That will be a fair estimate. That this is the only thing that we are working on and there's nothing else that are internal or [ external ] in terms of improvement in terms of processes. Is that a fair understanding?

RBI continues to do thematic reviews in an organization. So they continue to do KYC reviews. They continue to do loan asset reviews. They continue to do microfinance reviews. They continue to do credit card review. They continue to do corporate bankrupt reviews. It's an ongoing process with RBI. To say that there is nothing material right now, which is happening to my knowledge, and I don't think that we are seem to be worried about.

Your next question comes from Prakhar Sharma from Jefferies.

Just wanted to check, this 2.35% in rupee crore might be, let's say, closer to INR 2,100 crores. Would this have been, let's say, part of your interest cost had the accounting been done correctly?

So some part of it would have been in trading income. Some part would have been in the swap cost.

Mostly on swap cost.

So swap cost will go to the interest cost, right?

Yes.

Understood. And the April 1, 2024 reference, just to reconfirm, does that mean that since April '24, the transactions were being correctly recorded because practically those trades -- the structure of the trade was not happening, you were not doing internal trades. So it was...

Yes, Prakhar. Absolutely correct.

So practically, the entire 2.35% is relating to FY '24 and earlier?

Earlier. Yes, correct. Earlier.

The next question comes from M.B. Mahesh from Kotak Securities.

Just a couple of questions, in these derivative transaction, how does the audit typically happen? Is it done by an external auditor or is it done by an internal auditor?

So there are 4 types of audits which happen. So first of all, understand the structure of treasury. They have a front office, a mid-office and a back office and a concurrent audit, which continues to happen. Second, there is an internal audit, which continues to happen. And also they take care of -- they take support of external agencies, the bid for and everything to do the audit. Then there is a stat audit, which happens on these -- on an ongoing basis and then a compliance audit and then the RBI audit. All these audits continue to happen on treasury on a regular basis.

Why was it picked up in the last 3 months since it's gone through multiple layers of audit and the auditors have signed the balance sheets on these -- for these transactions. What has picked up in the last 3 months for this issue to come up?

I think those are questions which we will answer in detail once our review is complete by the external because I think it's important that we are -- I mean, as I said, based on this new circular, we did our own internal view. So it wasn't that -- and it wasn't -- so I would say that those questions, yes, we are -- also, in the same level of finding out as to where was this a miss from. So I'm sorry, I really can't answer it right now. But once we have those answers, we'll be absolutely transparent in getting back to you.

But just to add to this. See, the CFO had resigned a couple of months back, is there any link to the fact that it was -- there has been a transaction around this where he was aware and hence, he was not comfortable?

No, no, no. He was aware of this transaction, but I think his resignation -- and if you see the resignation is in public domain. And I think that he was always a little [indiscernible]. But I don't think it is linked to only this transaction that he was -- he had a different narrative on why he was leaving and I think that has been, and I think we were fine with it.

And we are disclosing this, right? So I think internally, we've decided and we are disclosing the same. So if there was an issue, I do not know. I mean...

So we could have delayed the LODR disclosure and saying, let us find -- the validate the accounts and then we will have the number and I don't think that is the right way. I think we should be upfront in what we have and we want to disclose to the market.

Sure. Sumant, just one clarification. In the third quarter results, you could have kind of reported that we are kind of looking at this transaction as well, because it's been under work for some time now.

No, I just think that I don't think the review was pending, and there was no available thing to say that there is a gap, that we -- I did not know that there was a gap. We never had a gap and there were so many audits which have gone through. It's just that we realize it now over a period of last 1 or 2 months, and I said that once it started coming in. We continue to review, review, dig deeper. And I think we said that we should not disclose it.

And I mean, we also mentioned that this data pertains to a very long period of time, right? And as a result, once you say something you should have some substance behind saying it. And once we've got the substance, while again, I'm reiterating, that's all internal and yet got to be sort of verified or -- with the external agency, but we've always thought it prudent to be upfront and be transparent.

And last question, Sumant, has this got any bearing to the fact that the appointments for you has been for 1 year? Or has there been any conversation on this issue? The Board has approved for 3 years but you've got only 1 year?

So I think that's for the regulator to answer. And I think, of course, this will have a -- would have had a bearing because they were aware of this issue. We actually -- there was some inkling towards the issue. And I think we couldn't -- we can't -- I can't be -- I don't know what is the rationale for them to give me 1 year, but I think they're uncomfortable with the way my leadership skills of running the bank is and we have to respect that. And I think this is a test -- litmus test for the bank as well as from a succession point that we see how to take the bank forward. I don't think the BAU of the bank will suffer. I don't think our growth agenda will get off the track. And I think I remain committed for 1 year to the bank. And I think let's see how the process goes. The Board will evaluate external as well as internal candidates for the CEO position. I don't know whether they evaluate me or they evaluate somebody else. That's for them to decide.

Ladies and gentlemen, we will take this as a last question for today. I will now like to hand the conference over to Mr. Sumant Kathpalia for closing comments.

Thank you for joining the call. I think it was a very short time which we gave you to come to this but it was a critical element. I just want to tell you that the bank has enough reserves as well as capital to manage this transaction. I wanted to be upfront with you to say that we are in a position where we are seeing some losses which are coming in. I think rather than coming in March and April and doing it, I think what we did in the microfinance, it hurt us very badly. So I think this is just being transparent and telling you, as we get more information, we will do another call in April to make sure that we are above. And as early as possible to make sure that you get enough information about what has really happened. Thank you, and you can contact me or Indrajit for any further clarification.

Thank you. On behalf of IndusInd Bank Limited, that concludes this conference. Thank you for joining us. You may now disconnect your lines.