MANAGEMENT’S DISCUSSION & ANALYSIS
FY2016 witnessed volatile external environment with renewed risks of weaker global activity. However, India macro fundamentals continued to fare well as against its emerging market peers; and with regard its own medium-term potential, steady progress is being made. Further, inflation appears to have been contained with current account deficit within comfortable limits. The attempts have been made to contain fiscal deficit with an improvement in spending quality by shifting expenditures away from current to capital expenditures. Policy reforms have continued at gradual pace, while the Reserve Bank of India has been able to turn more accommodative during the year.
The growth environment
The new revised national accounts series (base 2011-12) released by the Central Statistical Organisation (CSO) shows some perceptible improvement in growth. As per the advance CSO estimates, the economy is estimated to have grown at 7.6% in FY2016 compared to 7.2% in FY2015 in constant price terms at market prices. This was largely led by industrial growth. Nominal GDP growth outdid the real GDP growth for FY2016, led by 1% growth in the deflator. CSO estimates manufacturing sector growth at 9.5% in FY2016. Services sector growth at 9.2% in FY2016, largely led by ‘financial, real estate and professional services’ sectors that is estimated to grow at 10.3% (10.6% in FY2015). However, the ‘public administration, defense, etc.’ sector (a proxy of government spending) is expected to see sharp deceleration to 6.9% in FY2016 from 10.7% in FY2015.
Ground realities, such as sluggish activity indicators, low capacity industrial utilization, continued debt overhang of corporate and worsening NPA position of banking sector are a cause of concern.
Growth challenges: India’s balance sheet syndrome
India faces a twin balance sheet challenge of the stressed financial positions of PSU Banks and some corporate. The twin balance sheet challenge is the major impediment to private investment and a sustained economic recovery. The large corporate that leveraged heavily during the boom years to invest in infrastructure and commodity-related businesses are currently stuck with a debt overhang. Corporate profits are low while debts are rising, which has forced firms to cut investment to brserve cash flow. On the other hand, the balance sheet vulnerability in the banking sector is mostly a derivative of corporate sector fragilities. Stressed assets (nonperforming loans plus restructured assets) have been rising ever since 2010, impacting capital positions, even as the strictures of Basel III loom ever closer on the horizon. Banks have responded by being more cautious and by limiting the flow of credit to the real economy so as to conserve capital. This has also acted as an impediment to monetary policy transmission.
This state is not sustainable and needs policy focus and decisive decision-making. However, some welcome steps have already been taken. Specifically in August 2015, the government launched the Indradhanush scheme, which includes a phased program for bank recapitalization. Meanwhile, the RBI initiated the 5:25 and SDR schemes, which create incentives for the banks to come together with their borrowers to rehabilitate stressed assets. These are good initial policy steps which might require follow-up.
Domestic price dynamics
The domestic price brssures remained overall contained in FY2016, despite another year of drought witnessed by the country. The retail inflation, as seen by the Consumer price Index (CPI; Base year 2012=100) eased substantially in FY2016 while measures of underlying trends — core inflation, rural wage growth and minimum support price increases — have similarly remained muted. The headline CPI inflation averaged 4.9% in FY2016 after 6.5% in FY2015 and ended March 2016 at 4.8%, after having seen lows of 3.7% in August 2015. Within CPI inflation, food inflation moderated sharply to 4.9% in FY2016 from 6.4% in FY2015. Core inflation (ex food & beverages and energy) also eased to 4.3% in FY2016 from 5.3% in FY2015.
Meanwhile, the Wholesale Price Index (WPI) has been in negative territory since November 2014, the result of the large falls in international commodity prices, especially oil. The reflection of global soft commodity prices is found more in the WPI inflation as it contains more of tradeable items. WPI inflation averaged (-)2.5% in FY2016 as against 2% in FY2015 while core WPI inflation averaged (-)1.5%.
Monetary policy and interest rates
RBI continued with its accommodative stance in FY2016, after having cut cumulative 50 bps in January and March 2015. The first cut of FY2016 came in June 2015 with RBI cutting policy Repo rate further by 25 bps to 7.25%. But RBI cautioned against inflation risks owing to weak monsoons and characterized the June policy action as ‘front-loaded’ suggesting limited scope for further rate cut. However, continued disinflationary brssures and benign growth created further room for additional easing in FY2016. Potential price shocks due to weak monsoons were managed effectively as the government engaged in an active food-supply management. Meanwhile, global environment also became favorable where in the Fed chose to delay the rate lift-off in September 2015 owing to global headwinds from China and EMs. Thereby, RBI surprised the markets by delivering a higherthan- expected rate cut of 50 bps in 29th September, 2015 policy. The policy tone was dovish, with clear worries emerging out of the weak growth momentum. However, weak rate cut transmission to the real economy continued to remain a worry. In the last monetary policy of FY2016 that took place in January 2016, the RBI kept the rates unchanged but the stance of the monetary policy continued to remain accommodative.
The bond yields started the fiscal year some what bearish, after having rallied substantially in 4QFY15, helped by rate cuts by RBI during that period.
Bonds sold off further post the June 2015 policy, wherein the RBI signalled that it had front loaded the 25 bps rate cut. Helped by healthy inflation prints, yields eased marginally by September 2015, but again spiked as September rate cuts by RBI were perceived as end of the easing cycle. Yields hardened post October as supply concerns, fears of fiscal slippages for next fiscal year (FY2017) owing to structural changes in the SLR-HTM norms, fading hopes of further rate cuts, and mismatch in G-Sec demand-supply dynamics, particularly post the UDAY (Ujwal Discom Assurance Yojna) scheme came to fore.The sbrad between 10-yr G-Sec yield and the policy repo rate started inching up and peaked at ~113 bps by late-February 2016. However, the yield sbrad narrowed as the bonds rallied post the Union budget on February 29, which adhered to the 3.5% fiscal deficit (as a percentage of GDP) for FY2017, while the budgeted market borrowings were lower than the market expected. Moreover, the government relaxed
UDAY bonds norms and allowed them to be considered in HTM category for banks while these bonds were also mostly placed privately. The benchmark 10-yr paper eased to 7.465% to end the fiscal year, while the yield sbrad narrowed to ~72 bps.
External sector dynamics and the USD / INR
India has come a long way over the past two years in terms of external sector adjustments. From being the poster-child of emerging market external sector vulnerability in 2013, India has now been one of the most favored EMs through most of the last two years. This has been helped by healthy macro adjustments that have transpired over the past two-three years. Since FY2014 the economy has continued to see significant narrowing of current account deficit. FY2015 saw the CAD / GDP ratio at 1.3% (US$26.8 billion), after having corrected from 1.7% (US$32.4 billion) in FY2014. FY2016 is likely to continue the same momentum and is poised to correct further. CAD / GDP ratio has averaged 1.4% in first nine months of FY2016 (summing US$22 billion), with the last official 3QFY16 print reporting a healthy 1.3%.
A part of this improvement owes its genesis to the fiscal consolidation which has been a critical determinant of the CAD combrssion. More importantly, the commodity correction constitutes a significant positive terms-of-trade shock that has benefited CAD of commodity-importers like India vis-à-vis commodity exporters such as Brazil, South Africa, and Russia. Stand-alone, these dynamics have augured well for the Rupee. However the ominous aspect here was that the fall in CAD was also accompanied by slump in exports growth, which reflected the continued sluggish global demand. In FY2016, exports as reported by Ministry of Commerce and Industry stood at US$261.7 billion, against US$310.3 billion in the same period last year, registering a sharp de-growth of 16%. Plus weak domestic demand led to non-oil, non-gold imports slow materially over the last year. Overall imports have also contracted significantly for the same period by 15.3% (US$ 380 billion), where in oil imports have contracted by 40% while non-oil imports have contracted by 4.2%. While CAD has been comfortable, the Balance of Payment surplus appears to have reduced in FY2016, owing to significantly slower foreign portfolio inflows, as global risk appetite waned
The rupee had a good FY2015, helped by improving macro fundamentals, particularly the external account, which continued in early part of FY2016 as well. However, USD-INR gradually started to drift higher. The big jump was seen in August 2015, when heightened global uncertainties owing to Chinese Yuan devaluation and change in China’s FX policy regime led to EM sell-off. Some relief came post September when US Fed decided to delay its rate normalisation cycle owing to increased global risks. However, this was short-lived and USD-INR slowly started drifting higher. US Fed finally raised rates by 25 bps in December, but global markets rejoiced, as major event risk was finally out of way. However, the new calendar year started on a volatile note on global front, as China FX uncertainties resurfaced. INR also bore the brunt of it and breached 68.50 levels by mid-February and was one of the worst performing EM currencies from January to mid-February. However, helped by improving global sentiments and better domestic fiscal dynamics, INR recovered to end the fiscal year at ~66.24/$.
MERGER OF ING VYSYA BANK WITH KOTAK MAHINDRA BANK LIMITED
The Board of Directors of Kotak Mahindra Bank Ltd and the Board of Directors of ING Vysya Bank Ltd (eIVBL) at their respective meetings held on 20th November, 2014 had approved an amalgamation of ING Vysya with Kotak.
Kotak, with 641 branches and relatively deeper brsence in the West and North, has a differentiated proposition for various customer segments including HNIs, deep corporate relationships including emerging corporate, a wide product portfolio, including agricultural finance and consumer loans, and a robust capital position.
eIVBL had a strong customer franchise for over 8 decades, with a national branch network of 573 branches and deep brsence in South India. It had a large customer base across all segments. It was particularly noted for a best-in-class SME Business, as also for serving large international corporates in India by access to the international relationships of ING Group.
The merger was effective from1st April, 2015 and post merger, Kotak Mahindra Bank Limited (the Bank) is now the “fourth-largest private sector bank”.The combined entity has capitalised on the wider distribution network with balanced footprint. During the year, various facets of integration including human resources, branches, operating processes, part of the systems and business plans have been integrated. With the result, the combined entity will shortly operate as one seamlessly integrated entity post the full systems integration. The integration has been value accretive, since it emphasized on best of both worlds, enhancing productivity and retaining employee talents in the combined entity.
Organisation structure and re-design
The Bank has realigned leadership across the combined entity with a view to promote learning through best practices of KMBL and eIVBL. The organisation structure was partially altered to create an effective way of functioning and provide opportunities for talent to grow together. The Bank expects to derive clear benefits of the modifications in the forthcoming periods.
• The Bank has started realising combinational synergies of the merger on customer acquisition and revenue. The Bank is now adding ~100,000 customers a month. The impact of 6% savings rate is visible in the growth of the eIVBL network.
• The enhanced footprint has provided the advantage of “network effect”. Distribution of asset products has been provided a boost with the increased and wide sbrad branch network. Deeper penetration into the SME segment will be enabled by integrating the SME business with branches. This will provide traction in current account deposits along with an accelerated SME business growth.
• The wider distribution network has multiplied the effect on its various subsidiaries too.
- Cross sell of insurance and mutual funds have picked up.
- The Bank is seeing traction in credit cards, auto loans and Trinity accounts of Kotak Securities.
- The Bank also sees a significant opportunity in Privy segment.
• Traditionally strong credit and risk management practices will provide a further impetus to the synergies on asset distribution and profitability.
• The cost benefits are visible inspite of adding front line sales people. This saving culminated due to an early-on decision to restrict external recruitments for middle to senior level personnel for a period of time
• The Bank is also carrying out a rationalisation of brmises and rentals. The Bank is continuing to surrender rental brmises and disposal of noncore and high cost brmises. Further possibilities of surrendering rental brmises have also been identified.
• Utilisation of eIVBL currency chests across the combined network has helped in realising cost synergies.
• The Bank also expects to gain efficiencies from optimizing the operating models in certain business segments. The Bank had undertaken detailed re-assessment of its operating models both on the asset and liability side.
• The Bank is also rationalising vendors and negotiating better pricing terms due to increased scale of operations.
• Consolidation of data centres and eliminating overlapping IT systems will provide the Bank with opportunities to unlock the required cost synergies.
Impact on Financial Results
Since the merger of ING Vysya Bank with Kotak Mahindra Bank was effective from 1st April, 2015, the financial results for FY2016 are for the merged entity and therefore not comparable with FY2015 financial results.
In consideration of the transfer of and vesting of the undertaking of eIVBL, 725 equity shares of KMBL of the face value of Rs. 5 each fully paid-up was issued to shareholders of eIVBL for every 1,000 equity shares of the face value of Rs. 10 each of eIVBL held by them on the record date i.e. 17th April, 2015. Accordingly 139,205,159 equity shares of Rs. 5 each of KMBL were allotted to the shareholders of eIVBL.
The amalgamation has been accounted using the pooling of interest method under Accounting Standard 14 (AS-14), “Accounting for amalgamation” and the principles laid down in Part VII – paragraph 19 of the approved Scheme of Amalgamation.
The excess of the paid up value of equity shares of eIVBL over the paid up value of equity shares issued as consideration amounting to Rs. 122.4 crore has been transferred to Amalgamation Reserve as per the Scheme of Amalgamation.
The assets, liabilities and reserves and surplus of eIVBL were recorded by the Bank at their carrying amounts as on 1st April, 2015 except for adjustments which were made to bring uniformity of accounting policies as required under AS-14. The impact of these adjustments was Rs. 189.9 crore, which has been adjusted in the balance in Profit and Loss Account. Timing differences, if any, arising on these adjustments have been accounted with corresponding adjustment to deferred tax asset. Further, with respect to revaluation of fixed assets, the revaluation reserve amounting to Rs. 101.4 crore held by eIVBL was reversed and the Gross Block of Fixed Assets were credited back with Rs. 101.4 crore. The accumulated debrciation on such reserve amounting to Rs. 11.2 crore was also reversed in Gross Block of Fixed Assets. Certain other reclassifications of items were carried out to ensure consistency in brsentation.
CONSOLIDATED FINANCIAL PERFORMANCE
The Bank along with its subsidiaries (the Group), offers a wide range of financial products and services to its customers. The key businesses are commercial banking, investment banking, stock broking, car finance, asset management, life insurance and general insurance.
The Group has seen a steady and sustainable shift in its overall business mix to relatively stable lending businesses from capital markets-driven revenue streams. The financing business now contributes to 82% of the consolidated PBT mix as compared to 43% in FY2008. The capital market business now contributes to around 8% of the consolidated PBT mix as compared to 53% in FY2008. The Insurance and Asset management contribution has increased to 10% in the current year consolidated PBT mix as compared to 4% in FY2008. The diversified business profile of the Group allows it to sustain healthy profitability despite cyclicality in some of its businesses. With the improved macro-economic conditions, the capital market business contribution to the profits of the Group can increase significantly.
The Group had a net worth of Rs. 33,360.6 crore as on 31st March, 2016 (Rs. 22,153.3 crore as on 31st March, 2015) and book value per share at Rs. 181.9 (Rs. 143.4 as on 31st March, 2015). The Group earned a Return on Average Assets (RoAA) of 1.6% in FY2016 (2.3% in FY2015).This is after considering one time hit on account of retiral benefits for eIVBL employees under Indian Banks’ Association (IBA) structure, integration costs and additional provisions from eIVBL book.
Bank, Its Subsidiaries and Its Associates:
Financial and operating performance Bank Highlights Kotak Mahindra Bank is the flagship company of the Kotak Group, and has a diversified business profile covering consumer loans, corporate finance and commercial vehicle financing. The Bank has launched its International Banking Unit (IBU) in GIFT city (Gandhinagar) on 3rd May, 2016, which will offer foreign currency loans and deposits to corporates.
Profit before tax of the Bank for FY2016 was Rs. 3,123.7 crore as against Rs. 2,833.0 crore for FY2015. Profit after tax of the Bank was Rs. 2,089.8 crore in FY2016 compared with Rs. 1,866.0 crore in FY2015
The Net Interest Income (NII) of the Bank for FY2016 was Rs. 9,512.6 crore compared to Rs. 6,252.2 crore. The Bank had a Net Interest Margin (NIM) of 4.30% for FY2016 compared to 4.87% for FY2015. Average advances increased by around 84% and average earning investments increased by around 71%. The margins were impacted due to:
• eIVBL NIMs were much lesser than Kotak NIMs, impacting the combined entity NIM.
• Payment of additional interest on savings accounts of eIVBL around Rs. 131.0 crore on account of increase in savings deposits rate upto 6%.
The growth in the non-interest income was lower in the current year due to the following reasons:
• Profit on exchange / derivative transactions includes a reversal of income of Rs. 62 crore on account of a credit event with respect to a derivative customer.
• Commission, exchange and brokerage income was impacted mainly due to the change in AMFI guidelines of reduced upfront incomes and increased annuities. Credit card fees and loan processing fees did see an uptake contributed by the synergies of KMBL and eIVBL network.
• Profit on sale of investments reduced substantially compared to the brvious year.
The employee expenses of the Bank have increased to Rs. 2,804.0 crore for FY2016 compared to Rs. 1,449.7 crore for FY2015 primarily due to -
• Increased staff strength due to the merger and increase in average salary levels to an extent.
• Provision for retiral benefits of eIVBL on a one time basis of more than10% of the total employee expenses of the merged entity.
Other operating expenses
Other operating expenses were Rs. 2,667.5 crore for FY2016 compared to Rs. 1,805.0 crore for FY2015 primarily on account of:
- Integration expenses of around Rs. 95 crore
- Inorganic expansion in the branch and ATM network due to the merger, leading to higher infrastructure expenses i.e. brmises cost, repairs and maintenance, debrciation cost etc.
- Increase in brokerage expenses primarily due to additional incentive paid to direct marketing agents on advances and loans.
Provisions and contingencies
The provisions and contingencies were Rs. 917.4 crore for FY2016 compared to Rs. 164.5 crore for FY2015 primarily due to -
• Higher specific provision of which significant portion relates to eIVBL
• Provision on security receipts and credit substitutes
• Credit costs were at 82 bps
The RoAA held at 1.2% for FY2016 as compared to 2.0% in the brvious year. RoAA was also impacted by one time hit of employee cost on account of retiral benefits for eIVBL employees under IBA structure, integration costs and additional provisions from eIVBL book. Further, ROAA of eIVBL was lower than the ROAA of KMBL, hence impacting the ROAA of the combined entity.
The Bank’s capitalisation levels remain one of the strongest in the industry with overall CRAR at 16.3% (Tier I ratio of 15.3%) as compared to 17.2% as on 31st March, 2015 (Tier I ratio of 16.2%).
The core of the Bank’s strategy is to build low cost and stable liability on which the Bank has been working over the past few years. The momentum has been continued in the current year as well because of which the rate at which Bank’s current account deposits, savings account deposits and term deposits have grown is significantly higher than the industry average. CASA plus term deposits below Rs. 5 crore, account for around 70% of the total deposits. Average SA increased by around 35% with an increase of around 40% and 26% increase at KMBL branches and eIVBL branches respectively
Advances have primarily been driven by growth in retail advances - Small business, Personal Loans and Credit Cards. The Bank has started growing the Construction Equipment (CE) and Commercial Vehicles (CV) loans as the macro economic factors are showing some signs of improvement.
The restructured advances considered standard as on 31st March, 2016 are Rs. 304.6 crore (0.26% of advances book), of which a significant portion is from eIVBL. Further, post-merger, the Bank has not done any CDR participation, has not sold any of its loans to Asset Reconstruction Companies and has not converted any on-balance sheet advances to off-balance sheet exposures
While there has been some stress in segments such as Emerging Corporate, Agriculture division and Corporate accounts, the Bank has an overall healthy asset quality.
The Bank had moved around 6% of its stressed eIVBL corporate portfolio in the first quarter under experienced asset reconstruction team, commonly known as ‘Bad bank’. This was about 2.5% of the combined book and mainly included NPA’s, asset sold to ARCs, assets under CDR, restructured assets, standard but under ‘Watchlist’.
Restructured loans considered standard at Rs. 304.6 crore (0.26% of advances), of which a significant portion is from eIVBL.
large portion of problem loans, particularly from eIVBL have already flown to a significant extent into the NPA bucket, which is already reflected in the gross and net NPA numbers above.
A brief analysis of the performance of various divisions of the Bank is as follows:
The Bank has continued its growth journey powered by expansion of its network, increase in deposit base, higher focus on segmental banking and cross dimensional qualitative initiatives.
The Bank added 72 branches during FY2016 taking the total branch count to 1,333 branches across 674 locations and 2,032 ATMs as on 31st March, 2016.
Some of the key initiatives taken during the year which helped provide a differential offering were:
I. Segmental Focus
Products & Services
• MY FAMILY - a savings bank proposition tailored exclusively for the entire family. The proposition gives the benefit of pooling in balances across family members & also gives them the benefit of a dedicated relationship manager for the family.
• ALPHA - a savings bank proposition linked to investments. The customer gets the benefit of an NMC waived savings account when they choose an RD (or) MF SIP (or) NPS along-with a Term Insurance brmium of Rs. 300/month (which offers a cover of Rs. 0.20 crore) linked to their savings account. The proposition also offers Cash Back on Debit Card spends and is targeted for an age group of 18-55.
• The Bank has been appointed as Authorised Collection Centre (ACC) by Stock Holding Corporation of India Ltd (SHCIL) for providing E-stamping facility in the states of Punjab and Rajasthan.
• The Bank has also been appointed as one of the collecting Banks for Government of India’s Sovereign Gold Bonds and was actively involved in raising subscriptions across all three tranches.
• Three new Current Account Products - Kotak Pro Plus, Kotak Elite Plus and Kotak Ace Plus were launched. Key feature of these products is around cash and offer higher limited and more efficient management in select locations.
• Privy League program, positioned to cater to the affluent segment, now services 3.4 lakh customers. A new tier-“Insignia” was launched at select locations to cater to customers with group relationship value of at least Rs.1crore. A Corporate Credit card with exclusive benefits for Privy League Business banking customers was introduced to increase the segmental focus in the program. To address customers’ need for legacy planning, Smart Will an automated Online Will writing solution was launched in association with Kotak Securities.
II. Customer Convenience
• Introduced Kotak Cheque Protect, a calibrated credit oriented program for offering cheque protection facility to existing customers for honouring cheques in the event of shortfall in the bank account, based on certain br-approved parameters.
• Tied up with Thomas Cook and Kuoni Travels to offer a Holiday Savings Account linked to a Recurring Deposit. Customers get benefit of various schemes and offers launched by these travel companies and the banking linkage enable them to save on a monthly basis to facilitate the holiday expense.
• Digital Initiatives
- Launched a combrhensive Microsite for New Pension System with various calculators and educative content to demystify the concept of Pension and also enable people to get started with opening their pension account online.
- Launched a real time customer acquisition platform for personal loan, where a customer PAN, Aadhar & CIBIL are checked real time & decision about the loan amount and interest rate can be given instantly.
- Initiated Pre-Approved Personal Loan on Net Banking for salaried customers. This enables a br-qualified customer to apply for Personal Loan while logged into the net-banking account and the disbursed amount is instantly credited to customer’s banking account.
- The Bank has commenced tab based account opening process for Savings Account. This is an end-to-end digitized work flow, from lead capture to account set up, thereby reducing the processing time and enhancing customer experience.
- Hashtag banking was given further fillip by creating capability to order a book or special promotional movies by just a single tweet.
- The Bank has the highest rated banking app (4.4) in India. This year the Bank has added many more convenience features for its customers.
- The Bank was the first to launch India’s first internet-free app (Kotak Bharat Banking). This app does not need internet to transact.
Customer can do 25 different transactions including mobile recharge and small value fund transfer. The app is available in 6 languages (Hindi, Gujarati, Marathi, Tamil, Kannada and English). Response messages within the app will also be in regional language.
- The Bank rolled out e-store on Net Banking after successful roll out of m-store on banking app. This includes travel categories like flight tickets, bus tickets and hotel booking.
Introduced new features in the iPhone version of mobile app. iPhone customers can now book a Recurring Deposit (RD), Add a new biller and set Auto Pay amongst various new services introduced.
The Bank is amongst the top 5 banks in mobile transactions, both in terms of value and volume. The Bank’s market share in mobile transactions is 4.7% (Rs. 2,882 crore) by value and 4.3% (27.6 lacs) by volume in March 2016 corresponding to 1.4% share of Deposits and 1.5% share of Advances in India.
Of every 1,000 active customers,133 customers were acquired through digital sales compared to India average of 80 and global average of 74.
The digital acquisition to total acquisition is 7% for savings accounts and 15% for personal loans. The 90-day digital activity level change for the Bank is 8.1% compared to India average of 3.9% and Global average of 3.6%.
Consumer Banking Assets
The Consumer Assets business maintained its growth trajectory across the wide range of products offered by the Bank. Trend of Consumer Bank advances outstanding over the last 5 years is as below -
Credit card business has 6.3 lakh cards in force as on 31st March, 2016. YoY spends have grown at 40.3%.
Under this portfolio, the Bank offers a wide range of products from secured and unsecured business loans to loans against properties to working capital finance. This business has grown its book by 28.3% in FY2016 with significant business coming from active engagement with existing liability customers of the Bank.
There has been a significant shift in customer brference with respect to channel usage for service and transactions.
In FY2016, ATM network serviced 6.2 crore transactions, which is 22.8% more than last year. Of this, 5.3 crore were cash withdrawals.
POS spends for the year grew by 48.5% (including e Commerce) with the overall spends at Rs. 2,317.6 crore and total spends through payment gateway for online shopping were a very healthy at Rs. 3,087.3 crore, a jump of 46.0% over last year. Transactions through Bill pay and Visa Money Transfer increased by 41.4% for a value throughput of Rs. 800.4 crore.
The Bank’s business model of ‘concentrated India, diversified financial services’, caters to both India and Bharat. The Commercial Banking business caters to customers of Bharat, and plays a pivotal role in meeting substantial portion of the priority sector lending obligations. It offers a range of products for agriculture (agri) and tractor finance, purchase and operations of commercial vehicles and construction equipment, rural housing finance and gold loans. Further, Emerging Corporate Group (ECG), a division within the business, caters specifically to the needs of small and medium enterprises.
Economic environment of semi-urban and rural areas influences the business operations and performance. Monsoon plays a large role in shaping up the Indian economy. Bad monsoon for two consecutive years adversely impacted crops, related activities and also the purchasing power of the rural Indian. The Bank’s calibrated de-risking business strategy helped us tide over the situation and register positive growth in terms of both topline and bottom line.
Split of commercial advances over the years is as below
Considering two consecutive bad monsoons and opportunity available in Bharat, the Bank adopted approach of continuous and cautious, which is reflected in its expanding network of rural branches in Tier II to Tier VI towns and portfolio. The number of rural branches has increased from 164 in FY2015 to 196 in FY2016. The Bank will continue to increase its network in rural regions to provide products and services to a larger customer base
The Bank’s commitment to Bharat has yielded positive results with consistent growth of portfolio. In FY2016, its agri and tractor finance portfolio increased by 48.6%. However, the slowdown in the rural economy has led to marginal deterioration of portfolio quality. Further, its tractor disbursements picked up during the year despite industry de-growing by 10%.
Internationally fuel and commodity prices have fallen dramatically leading to slowdown in exports and export dependent units. The Bank continues to focus on balanced growth, maintaining asset quality and providing exceptional service to customers.
The Bank’s CV and CE financing businesses have started registering growth because of accelerated growth in the economy, specifically in the infrastructure sector over the past few years. Decrease in energy prices has led to the recovery of the economy and also reduced levels of delinquency.
The Bank started increasing exposure to this sector in the second half of FY2014. After reversing the trend of de-growth in FY2015, CV portfolio grew by 47.2% in FY2016. Sales of Medium & Heavy Commercial Vehicles (M& HCV) and Heavy Commercial Vehicles (HCV) grew by 30% and 17% respectively and the Bank increased its exposure in this asset class during this period. Small Commercial Vehicles (SCV) sales, however, remained in negative territory and fell by 3%.
The government’s focus on the infrastructure sector and faster environmental clearances has led to buoyant environment. Green shoots are being seen in core sectors like mining, port and road construction. This has improved order book position of customers compared to earlier periods. After attenuation of the portfolio by10% in FY2015, the Bank has increased lending in this sector and portfolio grew by 27%.
The business also diversified its operations in two areas – gold loans and rural housing finance. With the consolidation of eIVBL gold loan, this product is now available across 500 branches and Rural Housing finance is offered at 50 locations.
The Corporate banking business caters to various customer and industry segments in the wholesale space such as Large Corporates, Mid-market Corporates, Financial Institutions, Commercial Real Estate offering a wide range of banking services covering their working capital, medium term finance, trade finance, foreign exchange services, supply chain, cash management and other transaction banking requirements. The focus has been on customised solutions delivered through efficient technology platforms backed by high quality service. The core focus of the business has been to acquire quality customers on a consistent basis and ensure value add through cross sell of the varied products and services.
The business strategy in the large corporate segment has been to build franchise with top tier corporate as well as deepen the existing relationships with synergies across business verticals. The mid-market strategy is clearly driven by targeted client acquisition and becoming one of the brferred bankers to the corporate.
The Bank has focused on increasing its share of the large and mid-corporate space. In view of the macroeconomic scenario, exposure was confined to segments with credit comfort in terms of better rated exposure and industries with a positive outlook. During the current year of integration, the Bank has taken the opportunity to re-evaluate and streamline major processes which would further assist in a robust growth in the future.
The Transaction Banking Group continued to focus on acquiring clients through in-depth understanding of client requirements and ability to deliver tailored solutions in both Trade & Cash Management businesses. Driven by innovation, leveraged on robust technology and specialized product solutions, the Bank has been able to consistently add value to transaction banking clients across Cash Management & Trade Services. This has helped its clients achieve optimized working capital and liquidity management benchmarks. The Bank is active participant in the Global Trade Finance Program
(GTFP) offered by IFC, Washington.
The product offering includes Documentary Credits, Bank Guarantees, Export Credit and Supply Chain Financing amongst others. The growth in fee based income was a result of higher trade, foreign exchange and debt syndication services. The growth in current account balances was driven by products like cash management services, supply chain management services, escrow account services and other transaction banking services.
The Bank also provides a range of fund based and non-fund based services to capital market intermediaries and custody and derivative clearing services to domestic and foreign institutional investors. Product innovation and risk management through efficient technology platforms backed by high quality service has been the key focus. The mix between funded and non-funded for last five years is as follows:
The risk appetite of the Bank mandates a well-diversified portfolio. The Bank has laid down exposure limits for various industries. These are reviewed periodically based on industry performance. The Bank has an industry research group that rates industries on an internal scale and defines the outlook towards various industries which forms an input to management in defining industry strategies.
The Bank continually monitors portfolio diversification through tracking of industry, group and company specific exposure limits. The entire portfolio is rated based on internal credit rating tool, which facilitates appropriate credit selection and monitoring. The corporate banking portfolio continued to show robust characteristics throughout the year.
Treasury teams of the combined entity worked tirelessly and in coordination with meticulous planning to make this merger efficient and effective. The Bank’s Treasury operated as a single merged entity with effect from 1st April, 2015, whilst assimilating and resolving residual merger issues, the Treasury maintained its focus on markets and on client delivery.
RBI initiated normalisation of policy rates in the last quarter of FY2015 by easing policy rates by 50 bps. FY2016 started with an expectation of lower interest rates, dipping crude prices and downward bias of international commodity prices were suggestive of lower inflationary expectations; in this backdrop, an accommodative policy stance from the RBI was largely seen as a catalyst for lower interest rates in the economy.
While most of the factors pertaining to interest rates remained benign throughout the year, currency markets witnessed a ‘trend-less’ year, European, Japanese and later Chinese economies worked respective monetary policies towards growth impetus and exchange rate corrections. The US FED – on the other hand, initiated normalising its excessively accommodative policy by increasing the target rates by 25 bps in December 2015. In the latter part of the year, global markets eased the projections for policy rate hikes by US FED. Mixed global outlook also led to global portfolio investors – including sovereign funds, pare exposures to emerging markets.
Pursuant volatility in the global currency markets reflected in higher volatility in domestic equity markets. Against an expectation of lower rates – benchmark yield rates remained elevated in comparison to the policy rate action. Affirmation of Government’s continuation on the path of fiscal discipline in the Union Budget 2017 (February 2016) and its subsequent action of harmonizing small savings rates spurred into a late movement in volatile but largely range bound domestic interest rates. 10 year G-Sec yield in February 2016 (prior to budget) was at 7.86% as against 7.74% in March 2015, ending at about 7.46% in March 2016.
The Treasury Fixed Income Trading Desk – maintained a positive outlook balanced with abundant caution. The portfolio durations were maintained as per the overall risk framework and under the oversight of the Bank’s Asset Liability Committee (ALCO), which also functions as the Investment Committee. Well thought and composed positions yielded desired outcome for the year. The Primary Dealer (PD) desk at Treasury, in addition to gainful positioning on the Trading portfolio, also improved upon its capability of distribution and retailing of sovereign securities. The PD desk maintained its track record of surpassing its regulatory obligations of bidding and success ratios in primary auctions and trading volumes in the secondary market for Government Securities.
The Treasury FX Trading desk maintained its vigil on the market and took measured and calibrated positions in a ‘trend-less’ market. Broadly, the USD gained vis-à-vis major currencies on the back of a recovering economy in USA. While rupee lost about 6%, EUR apbrciated about 6% against the greenback. The relative economic weakness in significant trade partner countries as well as domestically led to some slowing of export and import flows at a national level. Notwithstanding, Treasury successfully maintained its focus on expanding the foreign exchange flows from client businesses.
Treasury also continued its endeavour in technology led initiatives for transparency and convenience in FX transactions by the Bank’s customers.
Technology platforms were harmonised for all the customers acquired as a result of the merger.
The Treasury Bullion desk adapted its business strategies to align with regulatory changes, the portfolio shift resulted in creating a profitable annuity book. The merger also created incremental customer opportunities which were duly capitalised. Pursuant to the efforts of the desk, the Bank was adjudged ‘Best Emerging Bullion Bank of Year’ by India International Gold Convention.
While market sentiments were characterised by volatility, the liquidity in the banking system largely remained in a deficient zone. The deposit rates - though responsive to the policy action by RBI, also remained range bound. The Balance sheet Management Unit (BMU) continued to maintain a prudent stance on liquidity. While efficiently meeting the reserve requirements and maintaining optimal funding mix, the Bank also successfully maintained appropriate liquidity buffers as per the norms of the Liquidity Coverage Ratio (LCR) guidelines.
The ALCO continued to maintain constant and close vigil on the Market risk, Interest Rate and Liquidity Gaps, counterparty and country exposures.
With the announcement of the merger of eIVBL, the Bank took up the initiative of merging the technology systems and data of the two Banks. The merger provided an opportunity to leverage the “best of breed” systems from both banks. As the technology integration progressed across business verticals, the Bank identified synergies in systems and capabilities to optimize costs across the technology operations of the two banks. The merged systems will provide a standard customer experience across all channels to all customers of the merged entities.
New initiatives and the drive for digitization continued, with the Bank launching online loan approval and disbursement facility to its retail customers. New account opening was digitized end to end with field sales people using tablets to open accounts for faster turnaround time, and mobile account opening capability has been initiated. Personalized offers to customers were enabled on the Bank portal. Turnaround times for lending to commercial customers significantly improved by digitizing the process by introducing a tablet based lead management system for use by sales people in the field. Corporate customers got an upgraded FX trading portal. Finally, digitization for wealth management customers was also strengthened with the launch of a portal providing a single view of all their investments. Also, a wealth management mobile application was initiated. World’s First Bank agnostic P2P Platform ‘Kaypay’ was also launched.
Digital capability was extended to “non-internet” geographical areas with the launch of “Bharat Banking” that provides the facility of using a mobile application, even when the customer does not have internet capability. Thus bringing further digital ease to wider segments of customers
Customer data security and risk management need to keep pace with digital offerings. With this in mind, the Distributed Denial of Service was augmented with an in-brmise solution. A fraud management solution to track customer transactions across channels was implemented. On the regulatory side, a new Enterprise Risk System was implemented for the Value-at-Risk calculation of the treasury products.
Kotak Mahindra Prime Limited (KMP)
KMP is primarily engaged in car financing; financing of retail customers of passenger cars, Multi-Utility Vehicles (MUVs) and term funding to car dealers.
KMP finances new and used cars under retail loan, hire purchase and lease contracts.
The main stream of income for KMP is from car financing to customers and dealers. KMP also receives income from loans against securities, personal loans, corporate loans and developer funding, securitisation / assignment transactions and recovery of acquired non-performing assets
The passenger car market in India saw growth of 8.2% for FY2016 as compared to 3.2% for FY2015. Total unit sales of cars and MUVs crossed 27.9 lakh units in FY2016 versus 26.1 lakh units in FY2015. KMP added 128,680 contracts in FY2016 compared to 120,001 in FY2015. Gross NPA for the year was Rs. 174.6 crore (0.8% of gross advances) while net NPA was Rs. 88.5 crore (0.4% of net advances). Further, the CAR as on 31st March, 2016 was 18.2%.
KMIL is primarily engaged in finance against securities, corporate loans, developer funding and other activities such as holding long-term strategic investments. KMIL enables its customers to pursue ambitious growth strategies and execute value-creating transactions for mutual growth. KMIL’s strategy has been of relationship management and penetration, continuous product innovation coupled with tight control on credit quality and effective risk monitoring and management. It is well positioned to harness all opportunities that may be offered in the current economic environment.
During the current financial year, the customer advances increased to Rs. 4,794.9 crore as on 31st March, 2016 as compared to Rs. 3,268.4 crore as on 31st March, 2015. The Company reported a total PBT of Rs. 235.9 crore (FY2015: Rs. 158.2 crore) for FY2016, a growth of 49.1% YoY.
Gross NPA to overall advances were at 0.1% (Rs. 3.9 crore) as on 31st March, 2016 as compared to 0.2% (Rs. 7.5 crore) as on 31st March, 2015 due to recoveries coupled with growth in advances. Further, the CAR as on 31st March, 2016 was 18.2%.
The financial year started on an optimistic note as the market volumes recorded, in the Cash Segment, for the last quarter of FY2015 were the highest of the 4 quarters. The new Government was approaching completion of a year in office and it was expected that key legislation including GST would be passed. Oil prices had dropped further which would help India on the Economic front in reducing the fiscal deficit. The Rupee was stable over the immediately brceding half year and inflation was expected to be reined in. In the back drop of this scenario, Corporate earnings were also expected to show improvement in the financial year.
The Sensex which closed at 27,957 at the end of the financial year 2015 closed at 25,342 at the end of the current financial year with a high of 29,095 and low of 22,495. Similarly, the benchmark Nifty which closed at 8,491 at the end of the brvious financial year closed at 7,738 at the end of the current financial year with a high of 8,845 and low of 6,826.
Market average daily volumes decreased to Rs. 20,247 crore from Rs. 21,424 crore in the brvious financial year for the Cash Segment, and increased to Rs. 264,107 crore from Rs. 229,779 crore in the brvious financial year for Derivatives Segment. The increase in the absolute volumes in the Derivative Segment, further skewed market mix in favour of Derivatives.
Institutional Equities division has strengthened its leading position in the Broking Segment and is number 1 Domestic Broker. While the Institutional cash segment volumes were flat compared to FY2015, the derivatives market volume grew by about 24%, resulting in a skew towards Derivatives. Yields across the client segments continue to remain under brssure. Company’s strategy has resulted in a market share growth in both segments. Company has continued to invest in technology upgrading platforms wherever required. The Institutional Equity Research continued to be recognized for its indepth high quality financial modeling, breadth of stock coverage and valuable investment insights, winning valuable votes from its clients.
Retail market volumes in Cash Segment, were below the levels recorded in FY2015 however the Derivatives Segment recorded an increase. Gold prices continued to fall for large part of the year but recorded an increase around the 4th quarter of the year. Real estate price continued to be sluggish.
Mutual Funds continued to show net addition to AUMs although the rate of increase decelerated towards the end of the financial year. Given the volatility in the markets, retail investors would have shifted some allocations to Gold and Mutual Funds. Company’s focus on Cash Segment saw it increase market share to some extent. Given the rise in the retail derivative segment, the Company has devised a suitable strategy to increase market share in this segment too.
Company has upgraded its customer on boarding process for quicker turnaround time. Customer acquisition resulted in addition of about 136,331 customers with a large part of them being online trading customers. The new website launched during FY2015 was well received and the Company has also launched various tools to help customers in their trading activity. Mobile trading volumes through the Company’s mobile application recorded
a growth. Other initiatives have also been taken to make it simpler for clients to use services of the Company. The total outlets stood at 1,209 at the end of the financial year. The number of registered sub brokers / authorised persons stood at 2,013 for NSE and 1,556 for BSE. KMCC is a leading, full-service investment bank in India offering integrated solutions encompassing high-quality financial advisory services and financing solutions. The services include Equity Capital Market issuances, M&A Advisory and Private Equity Advisory.
Equity Capital Markets
In FY2016, the Indian equity capital markets saw significant uptick in primary market activity led by 24 IPOs. A total of Rs.48,480 crore* was raised across
Initial Public Offerings (IPOs), Qualified Institutional Placements (QIPs) and Rights Issues, while Rs.19,822 crore was raised from the secondary market through Offers for Sale (OFS) (Source: Prime Database).
KMCC successfully completed 13 marquee transactions across various product formats, including eight IPOs, one rights issue, two government disinvestments and two QIPs, raising a total of Rs.36,017 crore* in FY2016. (Source: Prime Database). The Equity Deals that were concluded by the Company during the year include:
HDFC QIP (NCD & Warrants) – Rs. 10,435 crore*, Indian Oil Corporation OFS - Rs. 9,396 crore, Tata Motors Rights - Rs. 7,498 crore, InterGlobe Aviation IPO - Rs. 3,017 crore, Container Corp. of India OFS - Rs. 1,166 crore, Coffee Day Enterprises IPO – Rs. 1,150 crore, Healthcare Global Enterprises IPO – Rs. 650 crore, Dr Lal PathLabs IPO – Rs. 632 crore, SH Kelkar IPO – Rs. 508 crore, Sadbhav Infrastructure Project IPO – Rs. 492 crore, Manpasand Beverages IPO – Rs. 400 crore, Hindustan Construction QIP – Rs. 400 crore, and Power Mech Projects IPO – Rs. 273 crore.
KMCC was ranked the #1 Book Running Lead Manager in IPOs and #2 across all Equity Offerings (IPOs, FPOs, QIPs, OFS, IPPs and Rights issues) in FY2016 (Source: Prime Database).
* Includes HDFC warrants on fully converted basis and warrant brmium collected upfront.
Mergers & Acquisitions
The total M&A Advisory deal value in FY2016 stood at US$44.1 billion vis-à-vis US$62.3 billion in FY2015, while deal volumes increased to 1,793 in FY2016 from 1,052 in FY2015. While domestic transactions (excluding restructuring) decreased in value terms to US$17.3 billion in FY2016 from US$21.1 billion in FY2015, the volume of domestic transactions (excluding restructuring) more than doubled to 1,141 in FY2016 from 560 in FY2015. (Source: Bloomberg)
In FY2016, KMCC was ranked #2 by volume of deals and #8 by value of deals in the M&A league tables (Source: Bloomberg, amongst investment banks only). KMCC advised on a diverse array of twenty M&A and Private Equity transactions across a wide range of products and sectors, for a total deal value of US$ 3.6 billion:
• Across products, ranging from Acquisitions & India Entry, Divestments, Mergers, Private Equity investments, Restructuring, Delisting Offers, Buyback Offers and Open Offers;
• Across sectors, ranging from Financial Services, Technology, Industrials, Telecom, Pharmaceuticals / Healthcare, Consumers, Agri-chemicals, etc.
Some of the key Advisory deals that were announced / concluded by the Company during the year include:
• Acquisition of controlling stake in Viom Networks Limited by American Tower Corporation – Rs. 13,435 crore
• Merger of Advanta Limited with UPL Limited – Rs. 4,435 crore
• Exclusive Financial Advisor to Bandhan Financial Services Limited for investment by GIC, IFC and SIDBI – Rs. 1,600 crore
• Manager to the Buyback Offer for Dr. Reddy’s Laboratories Ltd - Rs. 1,569 crore
• Divestment of controlling interest in National Collateral Management Services to Fairfax – Rs. 876 crore
• Advisor to the Committee of Independent Directors of Hitachi Home & Life Solutions India Ltd. for Open Offer by Johnsons Control Inc - Rs. 616 crore
With an overall improvement in the economy, inflation under control and an upward revision to India’s growth estimates, the pace of M&A activity is expected to escalate in FY2017:
i. The recent relaxation in FDI norms across key sectors and anticipated reforms such as GST are expected to provide a stimulus to M&A deal activity from an inbound investment, domestic M&A and Private Equity investment perspective.
ii. Muted corporate performances in FY2016, combined with emerging global uncertainties have stifled outbound M&A transactions during the year. However, given India’s envisaged growth trajectory, outbound deal activity is also expected to pick-up in FY2017. Kotak Mahindra Old Mutual Life Insurance Limited (KLI)
KLI is a 74:26 joint venture partnership between Kotak Mahindra Group and Old Mutual Plc, an international savings, wealth management and insurance company based in UK.
KLI is in the business of life insurance, annuity, and providing employee benefit products to its individual and group clientele. The Company has developed a multi-channel distribution network to cater to its customers and markets through tied, alternate, group, direct marketing and online channels on a pan-India basis.
Private insurance industry as a whole registered a growth of 14% on a Total New Business Premium -APE terms (Single 1/10th), whereas the Company registered a growth of 54%. On a Total New Business brmium - APE terms, KLI market share stood at 5.97% of private Industry. On individual APE
Basis (Single 1/10th) KLI has posted 5th rank with in private industry, an improvement from 9th position last year. The financial performance of KLI for the current and brvious financial year is given below
Bancassurance Channel and Agency channels both have grown imbrssively, posting a growth of 86% and 45%, respectively over the brvious year at regular brmium, Bancassurance channel growth was mainly fueled by the merger. The Company Product Mix has moved towards traditional products, from 40.9% in FY2012 to 70.2% in FY2016 of total Individual brmium.
Profits and Solvency
The networth of the Company increased by 17.8% to Rs. 1,521.4 crore as on 31st March, 2016 from Rs. 1,291.0 crore as on 31st March, 2015. The Company has a solvency ratio (including Funds Not Required for Solvency Margin (FNRSM)) of 3.11 against requirement of 1.50.
Further, conservation ratio is 83.9% in FY2016 compared to 79.9% in FY2015. The Company has set up a dedicated retention team to further improve the retention of the brmiums of the Company.
Operating expense ratio (excluding service tax) has decreased to 20.0% as against 22.0% in brvious year. The Company is putting in efforts to bring in variabalisation of cost so as to bring down the overall cost ratio down.
Assets Under Management:
AUM (including shareholders’ AUM) of the Company increased by 11.2%, to Rs. 16,935.9 crore in FY2016.
Claims Settlement Ratio:
Claims settlement ratio in FY2016 stood at 98.8% (FY2015 – 98.3%), which is one of the best in the industry.
The Company has a network of 227 branches across 169 locations. The Company has 86,303 life advisors, 23 corporate agents and network of 165 empanelled brokers.
Social and Rural Obligations:
The Company has written 56,247 rural policies (FY2015– 40,861) rebrsenting 21.6% of total policies against regulatory requirement of 20.0%.
Further, the Company has covered 594,683 social lives against the regulatory requirement of 55,000. The Company takes the social sector target not as an obligation, but with a sense of duty to the community as a life insurance company.
Kotak Mahindra General Insurance Company Limited (KGI)
KGI was incorporated in December 2014 under Companies Act, 2013 as a 100% subsidiary of Kotak Mahindra Bank Limited. Subsequently, it applied to Insurance Regulatory and Development Authority of India (IRDAI) to act as a General Insurance Company under the provisions of Insurance Act, 1938. The Company received certificate of registration from IRDAI on November 18, 2015 and subsequently commenced operations on December 17, 2015.
KGI is in the business of underwriting general insurance policies and has launched general insurance products in Motor and Health. The Company has also applied to IRDAI for approval for other lines of business. Currently, Kotak Mahindra Bank Limited and Kotak Mahindra Prime Limited are Corporate Agents of KGI for sourcing of Insurance policies. The Company has also tied up with brokers for sourcing of Insurance Policies
The Company issued 3,178 numbers of policies amounting to a gross written brmium of Rs. 3.7 crore.
The Assets Under Management of the Company as on 31st March, 2016 stood at Rs. 114.4 crore.
KGI has a network of 8 branches catering to around 250 locations. The Company has 2 Corporate Agents and 12 brokers.
Kotak Mahindra Asset Management Company Limited (KMAMC)
Kotak Mahindra Trustee Company Limited (KMTCL)
KMAMC is the asset manager of Kotak Mahindra Mutual Fund (‘KMMF’) and KMTCL is the trustee company.
AUM of KMAMC has increased over the years as shown in the chart below:
KMAMC achieved a market share of 5.2% on the net equity inflows during the year, largely due to a significantly better performance of some of its funds. Resultantly, the equity market share increased from 1.8% in March’15 to 2.4% in March’16.
Increase in revenues and profit of KMTCL is on account of increase in the AUM during the year as compared to the brvious year.
The overall industry average AUM increased from Rs. 1,091,500 crore for FY2015 to Rs. 1,315,348 crore for FY2016, a growth of 20.5%. During the same period, average AUM with KMAMC increased from Rs. 38,587 crore to Rs. 54,745crore, a growth of 41.9%.
The total industry folios as on 31st March, 2016 were at 47.7 million up from 41.7 million as on 31st March, 2015. KMAMC also saw its total live folio count increased to 0.9 million as on 31st March, 2016 from 0.8 million as on 31st March, 2015
Kotak International subsidiaries consist of following entities:-
1. Kotak Mahindra (UK) Limited
2. Kotak Mahindra (International) Limited
3. Kotak Mahindra, Inc.
4. Kotak Mahindra Financials Services Limited
5. Kotak Mahindra Asset Management (Singapore) Pte. Limited
The overseas subsidiaries have offices in Mauritius, London, Dubai, Abu Dhabi, Singapore and New York.
The international subsidiaries are mainly engaged in investment management, advisory services, dealing in securities and broker dealer activities and investments in its own accounts.
FY2016 was marked by India continuing to benefit from benign commodity prices (it being a br-dominant importer) even as the global scenario continued to be volatile. India continued to see dividends from lower crude prices with the Government using the surplus towards capital expenditure.
India’s macroeconomic fundamentals continued to strengthen and RBI continued to ease monetary policy by affecting cuts in policy rates during the current financial year. Amid global volatility, foreign institutional investors sold US$ 81 billion in the Indian debt market and US$ 1.5 billion in the equity market during the current financial year. The equity benchmark index tracking the large cap companies, the broader stock exchange index in India
(“NIFTY”) reported loss of 9% in USD terms for the financial year. The asset management arm of the international subsidiaries, however, continued its focus on consistent fund performance and generated returns in excess of its respective benchmarks. Also, it continued consolidating its relationships with institutional investors and expanded its global distribution network during the year.
Assets managed / advised by the international subsidiaries were at Rs. 27,999.4 crore (US$ 4.2 billion) as on 31st March, 2016 compared to Rs. 21,187.5 crore (US$ 3.4 billion) of the brvious year.
Backed by the growth in investment management revenue, the total income earned by international subsidiaries increased from Rs. 191.8 crore during FY2015 to Rs. 238.6 crore during FY2016. The operating expenses of the Company fell from Rs. 137.2 crore in FY2015 to Rs. 124.6 crore in FY2016, primarily due to reduction in staff costs.
Resultantly, the profit after tax for the current year stood at Rs. 105.0 crore compared to a profit of Rs. 51.3 crore in FY2015.
The Bank had set-up a subsidiary in Singapore in March 2014 namely, Kotak Mahindra Asset Management (Singapore) Pte. Ltd to exclusively undertake asset management activities. The Company obtained Capital Market Services License for fund management under the Securities and Futures Act (Chapter 289) from the Monetary Authority of Singapore (MAS) on 14th March, 2016. However, it had not commenced operations during the year ended 31st March, 2016.
Kotak Investment Advisors Limited (Alternate asset management & advisory)
Kotak Investment Advisors Limited (KIAL) is in the business of managing and advising funds across various asset classes namely (a) Private Equity (b)
Real Estate (c) Infrastructure (d) Special Situations and (e) Listed Strategies.
During the year, the Company raised two new domestic funds, ‘The India Whizdom Fund’ (IWF) and Kotak India Real Estate Fund VIII (KIREF VIII).
IWF will adopt a long term approach and combine its private equity and public market experience to invest in Indian listed equities.
KIREF - VIII was also launched during the year with a commitment of ~US$ 250 million (Rs. 1,656.8 crore) from offshore institutional investors to primarily make equity investments in residential projects in Tier 1 cities in India.
The Group has successfully raised commitment of US$ 1 billion across asset classes in FY2016 through Indian and international investors
IVY Product Intermediaries Ltd (IVYPIL) (formerly known as ING Vysya Financial Services Limited)
IVYPIL was a subsidiary of eIVBL and became subsidiary of the Bank on account of merger. IVYPIL is engaged in marketing and distribution of various financial products / services of the Bank.
IVY Product Intermediaries Ltd (IVYPIL) (formerly known as ING Vysya Financial Services Limited)
IVYPIL was a subsidiary of eIVBL and became subsidiary of the Bank on account of merger. IVYPIL is engaged in marketing and distribution of various financial products / services of the Bank.
The profit in the brvious year was lower on account of one-time provision on a strategic investment of the Company. In current year, the increase in profit was also on account of trading in equities.
Phoenix ARC Private Limited
Phoenix ARC Private Limited, an associate of KMIL, is in the asset reconstruction business and provides recovery service to banks and NBFCs.
The net profit has increased by 12.2%. The limited growth is due to higher borrowing costs and provision for diminution in value of investments.
During the year, CRISIL has assigned ‘AA / stable’ rating to Phoenix ARC Private Limited which signifies high credit quality and is the highest amongst any ARC in the country.
Matrix Business Services India Private Limited
Matrix Business Services India Private Limited is into verification and risk mitigation business where it verifies people and products under two major domains:
i. People: Employee Background Check – Verification and validation of the credentials of employees coming on board like residence, academic, prior employment, drug, court, database, etc.
ii. Products: Audit and Assurance – Verification and validation of the products right from the Depot level to the Retailer level. It also does claim processing and distributor due diligence under this domain
The income of the Company has remained flat during the year as compared to brvious year. The Company lost some revenue on account of mandatory cool off period of six months once in two years during which the customers stop referring any fresh cases which was offset by addition of new customers during the year.
The Company also paid a dividend of Rs. 28.7 per share during FY2016.
ACE Derivatives and Commodity Exchange Limited
ACE Derivatives and Commodity Exchange Limited provides a trading platform to the commodity market. Further, it also provides clearing and settlement infrastructure that supports the complete process of trade intermediation – including registration of trades, settlement of contracts and mitigation of counter-party risk.
A. Risk Management
Managing risk is fundamental to financial services industry and key to sustained profitability and stability. While Risks are assumed after appropriate consideration, some risks may arise due to unintended consequences of internal actions or external events. The Group views risk management as a core competency and tries to ensure that risks are identified, assessed and managed well in time. The Group believes in taking measured risks, built on a culture of doing what’s right. The Group manages Risk under an Enterprise wide Risk Management (ERM) framework that aligns risk and capital management to business strategy, protects its financial strength, reputation and ensures support to business activities for adding value to customers while creating sustainable shareholder value. The Group believes that all employees must play their part in risk management, regardless of position, function or location.
The ERM framework lays down the following components for effective Risk Management across the Group
• An Independent Risk organization structure with a clear common framework of risk ownership and accountability
• Governance standards and controls to identify, measure, monitor and manage risks
• Policies to support and guide risk taking activities across the Group
The Bank has the three lines of defence model towards risk management. Responsibilities for risk management at each line of defence are defined, thereby providing clarity in the roles and responsibilities towards risk management function.
At the first line of defence are the various business lines who assume risk taking positions on a day to day basis within approved framework and boundaries. The business lines are supported by appropriate policies, rules and decision-making structure.
The second line of defence is made up of Risk Management, Finance and Compliance functions. The second line of defence is independent from business activities and is responsible for frameworks to identify, measure, monitor and control risk. The independent compliance function assists the businesses in ensuring compliance with legal and regulatory requirements. This line provides challenge and oversight of the activities conducted by the first line and provides periodic reporting to the Board.
The third line of defence is the audit function that provides an independent assurance and assessment of the first and second line of defence to the Board and Executive Management.
The risk unit works closely with the business teams within each division while maintaining its independence as part of the CRO Function. The Risk function provides an independent and integrated assessment of risks across various business lines. The independent Risk function is headed by the Group Chief Risk Officer (CRO) who reports directly to the Vice Chairman and Managing Director of the Group. The Risk function also participates in activities that support business development such as new product approvals and post implementation reviews.
The risk management process is the responsibility of the Board of Directors which approves risk policies and the delegation matrix. The Board is supported by various management committees as part of the Risk Governance framework. These committees include Risk Management Committee (RMC), Asset Liability Committee (ALCO), Credit Committee, Audit Committee etc. The Bank and every legal entity in the Group, operates within overall limits set by the Board and Committees to whom powers are delegated by the Board.
Every quarter, the Group CRO reports to the Board, on the risk appetite levels and the risk profile. Besides this, formal updates on various portfolios are provided to the Board periodically. Such regular reporting enables the Board to monitor the development of risk exposure and whether risk is managed within the overall risk policies.
The Bank and the major entities of the Group maintained their “AAA” rating during the year, reflecting the group’s strong financial risk profile, sound asset quality and strong capital adequacy.
B. Capital Adequacy
The Group’s approach to capital adequacy is driven by strategic and organisational requirements while taking into account the regulatory and macro-economic environment. Capital management practices are built on an assessment of all identified risks and consider the risk reward balance. The objective is to maintain a strong capital base to support the risks inherent in various businesses. The Group’s approach to capital management ensures that businesses are adequately capitalized to meet their short- and long-term business plans, while holding adequate capital buffers to absorb the impact of stress events.
The Group manages its capital position to maintain strong and efficient capital ratios well in excess of regulatory and Board Approved minimum capital adequacy at all times. The strong Tier I capital position of the Group is a source of competitive advantage and provides assurance to regulators and credit rating agencies, while protecting the interests of depositors, creditors and shareholders. The Group maintained a strong capital position with capital adequacy above internal and regulatory minimum requirements, at all times during the year.
In accordance with the RBI guidelines on NCAF (New capital adequacy framework under Basel norms), the Bank adopts the standardized approach for credit risk, basic indicator approach for operational risk and standardised duration approach for market risk.
Each legal entity within the group, manages its capital base to support planned business growth and meet regulatory capital requirements. The Bank and each legal entity in the Group are adequately capitalised above regulatory requirements.
C. Risk Appetite
The Group faces a variety of risks across businesses. Defining acceptable levels of risk is fundamental to delivering consistent and sustainable performance over the long term. The success of the Group is dependent on its ability to manage the broad range of interrelated risks.
The Risk appetite is an exbrssion of the risks, the Group is willing to take in pursuit of its financial and strategic objectives. Appetite for risk is influenced by a range of factors, including whether a risk is considered consistent with core strategy. The Risk appetite thus sets the outer boundaries for risk taking. The guiding principle is to practice sound risk management, supported by strong capital and funding position. The risk appetite is a top-down process and consists of specific risk appetite statements, which are approved by the Board and reviewed quarterly.
Risk Appetite forms a key input to the business and capital planning process by linking risk strategy to the business strategy, through a set of combrhensive indicators. The financial plans for the forthcoming year are tested against the Risk Appetite to ensure business strategy and plans are within approved Risk Appetite.
The Risk appetite is defined both quantitatively and qualitatively, covering key risk parameters.
The framework is operational at the consolidated level as well as for key legal entities thereby ensuring that the Bank’s aggregate risk exposure is within its desired risk bearing capacity.
D. Credit Risk
Of the various types of risks which the Bank assumes, credit risk contributes to the largest regulatory capital requirement. Credit risk arises as a result of failure or unwillingness on part of customer or counter parties’ to fulfil their contractual obligations. These obligations arise from wholesale, retail advances and off balance sheet items. Credit risks also emanate from investment and trading portfolio by way of issuer risk in debt paper, counter party risk on derivative transactions and downgrade risk on non SLR investments and OTC contracts.
The Bank has framed Credit policies & Standards that sets out the principles and control requirements under which the Bank is brpared to assume credit risk in various business divisions to ensure smooth & timely flow of credit to the Bank’s customers while ensuring prudent credit growth. Formal credit standards apply to all credit risks, with specific standards in major lending areas. These standards set the minimum requirements in assessing the ability of borrowers / counter parties to meet their commitments for repayment, acceptable forms of collateral and security and the frequency of credit reviews.
The policies and standards cover all stages of the credit cycle and cover the following elements: Origination, client ratings, risk assessment, credit approval, risk mitigation, documentation, administration, monitoring and recovery. The Bank has credit approving authorities and committee structures and a set of formal limits for the extension of credit, linked to the risk levels of the borrower and transaction. The Credit Policy and delegation of authority are linked to customer ratings. The delegation of authority is reviewed at least annually. Appropriate credit appraisal standards are enforced consistently across business lines. These include mandatory internal credit ratings for customers above a certain threshold, standardized content in credit risk assessment notes and consistent assessment criteria. The Bank recognises the importance of the risk of adverse fluctuation of foreign exchange rates on the profitability and financial position of borrowers who are exposed to currency risk. The Bank has a board approved policy on managing credit risk on account of Unhedged Foreign Exchange Exposures of borrowers and Management of foreign exchange risk is considered as part of the internal rating of borrowers.
The Credit philosophy in the Bank mandates that lending is based on credit analysis, with full understanding of the purpose of the loan and is commensurate to customer financials and ability to repay.
Wholesale and retail portfolios are managed separately owing to difference in the risk profile of the assets. Wholesale lending tends to be larger and is managed on a name-by-name basis for each type of counterparty. Credit rating models provide a consistent and structured assessment, which, supplemented with expert judgement determines Credit Approval.
Retail advances being mainly schematic lending (for e.g. vehicle loans, mortgage loans etc) within br-approved parameters for small value loans, are managed on a portfolio basis. In retail and schematic lending, credit assessment is typically done using a combination of client scoring, product policy, external credit reporting information where available and is also supplemented by Credit officer’s judgement. Parameters like loan to value, borrower demographics, income, loan tenor etc determine the credit. Retail clients are monitored on a portfolio basis. Business-specific credit risk policies and procedures including client acceptance criteria, approving authorities, frequency of reviews, as well as portfolio monitoring frameworks and robust collections and recovery processes are in place.
The Bank’s credit process is divided into three stages - br-sanction, sanction and post-sanction.
At the br-sanction stage, the independent credit function within respective businesses conduct credit appraisal and assign a borrower credit rating based on internal rating model. The credit rating takes into consideration the borrowers current and anticipated financial position and other relevant risk factors like Business risk of the borrower, Industry in which the borrower operates and its prospects and Management quality.
The Bank has operationalized various rating models depending upon the borrower size and segment. Each credit rating assigned maps into a borrower’s probability of default. Currently, there are 18 obligor grades in the internal credit rating model.
The borrower rating is supplemented by the facility rating system, which considers mitigants, such as collateral and guarantees. At a minimum, two independent credit officers are involved in the rating decisions and the ratings are finalized by a senior credit officer. Based on the independent credit risk assessment, appropriate credit decisions are taken by the sanctioning authorities. The Bank has a tiered credit sanction process where credit approvals are reported to the next higher level. Client accounts and ratings are reviewed atleast once a year.
As part of the post sanction process, the Credit Administration team processes documentation, on the completion of which, credit is disbursed.
In accordance with credit policies, the borrowers are subject to an annual review with updated information on financial position, market position, industry and economic condition and account conduct.
Borrowers are monitored regularly, commensurate with their level of risk. Credit managers use a variety of measures to conduct follow-up on accounts. An independent loan review team conducts reviews of credit exposures. The Bank has implemented an enterprise wide Early Warning Signal (EWS) framework that helps identify signs of credit weakness at an early stage for the Bank.
In case of loans where there is significant deterioration, the Bank employs various recovery mechanisms, including transferring the account to an internal unit specialized in managing problem accounts, to maximize collection from these accounts.
There is regular reporting on portfolio distribution by risk grades, monitoring of covenants brscribed as part of sanction and pending documentation, if any.
Besides the credit rating system, the Bank has a central database that covers substantially all direct client exposures across the Group and is linked to the transaction and risk rating systems. This system aims at accurate classification of customers, timely registration of collateral and values, details about credit facilities and a single view of customer exposure across all segments.
E. Collateral and Credit Risk Mitigation
Mitigating risks is a key element of internal credit policies. Risk mitigation in the Bank, begins with proper customer selection through assessment of the borrower, along financial and non-financial parameters, to meet commitments. The Bank uses a number of methods to mitigate risk in its credit portfolio, depending on suitability of the mitigant for the credit, legal enforceability, type of customer and the Bank’s experience to manage the particular risk mitigation technique. Common credit risk mitigation techniques are facility structuring, obtaining security / collateral, guarantees and lending covenants. The credit policies lay down parameters for acceptable level of credit risk. When granting credit facilities, the sanctioning authorities base their decision on credit standing of the borrower, source of repayment, debt servicing ability, and character of the borrower. Based on the risk profile of the borrower while unsecured facilities may be provided, within the Board approved limits for unsecured lending, collateral is taken wherever needed, depending upon the level of borrower risk and the type of loan granted. The extent of risk mitigation provided by collateral depends on the amount, type and quality of the collateral.
The Bank has an approved Collateral management policy that sets out the acceptable types of collateral and the hair cut applicable on their valuation for lending. The haircut applied depends on collateral type and reflects the risk that the Bank will not be able to sell collateral at a price equal to the expected market value due to price volatility, time taken to liquidate the asset and realisation costs. The main types of collateral / security taken include cash & cash equivalents, immovable property, movable fixed assets, inventory and receivables. Guarantees from higher rated entities are also obtained in cases where credit worthiness of the standalone borrower is not sufficient to extend credit.
Framework for valuation and review of collaterals are specified as part of the collateral management policy. The control process for various credit risk mitigation techniques includes credit review and approval requirements, specific credit product policies, credit risk monitoring and control.
The value of exposure and the mitigating collateral are monitored periodically depending on the type of counter party, transaction structure and collateral type.
Legal enforceability of any collateral obtained is critical in risk mitigation. The Bank has specific requirements in its internal policies with regards to appropriate legal documentation The Credit Administration and Legal function ensure that there is adequate legal documentation, in line with internal policies, to establish its recourse to any collateral, security or other credit enhancements.
F. Credit Risk Concentration
Risk concentrations arise in the credit portfolio as a consequence of the business strategy. To avoid undue concentration in credit exposures and maintain diversification, the Bank operates within Board approved limits or operational controls in its loan portfolio. Concentration limits rebrsent the maximum exposure levels the Bank will hold on its books.
Some of the key portfolio limits to mitigate concentration risk include:
• Single borrower limits
• Exposure to borrower groups
• Substantial exposure limits
• Sector and Industry limits
• Exposure limits on below investment grade accounts
• Country / Bank exposure limits
Exposures are monitored against approved limits to guard against unacceptable risk concentrations, and appropriate actions are taken in case of any excess. The risk appetite of the Bank mandates a diversified portfolio and has suitable metrics for avoiding excessive concentration of credit risk.
G. Market Risk in Trading Book
Market Risk is the risk that earnings or capital will be adversely affected by adverse changes in market factors such as interest rates, foreign exchange rates, volatilities, credit sbrads, commodity and equity prices. The Bank’s positions in debt, foreign exchange, derivatives, and equity are subject to Market Risk.
The Board Approved Investment Policy sets out the Investment Philosophy of the Bank and approach to Market Risk Management. The Asset Liability Management Committee (ALCO) of the Bank oversees the Market Risks in the Trading Book and the Banking Book. This committee approves the market risk & limit framework, allocation of limits to countries, counterparties, banks and desks and reviews the risk monitoring systems and risk control procedures. Additionally, the Bank has a Senior Management Committee for derivatives that is responsible for approval of product structures and its oversight.
Risk limits are monitored and utilisations are reported by the Market Risk Management unit. Market Risk Management unit is independent of the dealing function and the settlements function and reports directly to the Group Chief Risk Officer. This unit ensures that all market risks are identified, assessed, monitored and reported for management decision making. The unit is responsible for identifying and escalating any risks, including limit breaches on a timely basis.
The Bank’s limit-framework is combrhensive and effectively controls market risk. Limits on sensitivity measures like PV01, Duration, Delta, Gamma, Vega etc. and other limits like loss-limits, value-limits, gap-limits, deal-size limits, holding-period limits constitute the Bank’s limit framework.
The Bank has a Policy for Submission of Financial Benchmarks, which provides a framework and guidelines for contributing to the Benchmark administrator (FEDAI / FIMMDA). All Benchmark submissions are verified independently by the Market Risk department.
Valuation of the portfolio is done on a conservative basis at the bid / offer rate, as appropriate, reflecting the direction of the trade. Market Liquidity of the trading portfolio is also periodically assessed and an appropriate deduction is made from Tier 1 capital towards illiquidity, if any.
The Bank uses Value-at-Risk (VaR) to quantify the potential price risk in the portfolio. Value at risk (VaR) is a statistical measure that estimates, at a certain confidence level, the potential decline in the value of a position or a portfolio under normal market conditions assuming a holding period.
The Bank’s VaR model is based on historical simulation and a confidence level of 99%. Additionally, to assess the tail risk, the Bank computes Expected Shortfall. Value-at-Risk limits have been set on all trading portfolios. The VaR model of the Bank has been independently validated by an external agency. The VaR model is periodically validated through a process of back testing.
The Bank also uses metrics like Stressed Value-at-Risk and periodically performs Stress testing & Scenario Analysis to measure the exposure of the Bank to extreme, but plausible market movements. The Bank computes Credit Valuation Adjustment, which captures the risk of mark to market losses due to deterioration in the credit worthiness of the counterparty.
H. Interest Rate Risk in Banking Book (IRRBB)
In the Bank, interest rate risk results from both trading book and banking book. Interest rate risk in banking book (IRRBB) mainly arises through mismatches in re-pricing of interest rate sensitive assets (RSA), rate sensitive liabilities (RSL) and rate sensitive off-balance sheet items in the banking book. Bank assesses and manages interest rate risk in its banking book as well as including trading book. Interest rate risk is a part of the Bank risk appetite statements.
ALCO is the guiding body for management of IRRBB in the bank and sets the overall policy and risk limits. Balance Sheet Management Unit
(BMU), which is part of the treasury, is entrusted with the responsibility of managing IRRBB. BMU uses Funds Transfer Pricing (FTP) to transfer risk from business units to centralised treasury. As a policy, no interest rate risk is retained within any business other than treasury.
Bank manages and controls the interest rate risk from two different perspectives, namely the earnings perspective and the economic value perspective. It uses earnings at risk (EaR) as a short term risk indicator to assess the sensitivity of NII and NIM to change in interest rates. From an economic perspective, which is a long term risk indicator, it uses duration approach to determine the sensitivity of economic value of equity (EVE) to changes in interest rates.
I. Liquidity Risk
Liquidity risk is the risk that the Group is unable to meet its obligations when they fall due without adversely affecting its financial condition.
Liquidity is also the capacity to fund increase in assets and has the potential to constrain growth through depletion of resources available for lending and investment. Efficient management of liquidity is essential to the Group in ensuring a sustainable business. Liquidity is managed through the Group Liquidity policy, which is designed to maintain liquidity resources that are sufficient in amount and quality while maintaining a diversified funding profile.
Asset Liability Management Committee (ALCO) of the Bank defines its liquidity risk management strategy and risk tolerances. Balance Sheet Management Unit (BMU) of the bank is responsible for managing liquidity under the liquidity risk management framework. Bank actively manages its liquidity risk covering both funding risk and market liquidity risk. Liquidity management strategies aim to maintain sufficient liquid assets and diversified funding sources to fund balance sheet and contingent obligations, while maintaining operations under normal as well as stressed conditions.
The Bank maintains a diversified funding profile with emphasis on building retail franchise to increase stable deposits. The Bank also ensures that there is sufficient liquidity headroom available, including stock of liquid assets, at all times to manage any contingency.
Liquidity risk is assessed in the Bank from both structural and dynamic perspective and the bank uses various approaches like Stock approach, cash flow approach & stress test approach to assess liquidity risk. Bank has also set prudential internal limits in addition to regulatory limits on liquidity gaps, call borrowing, interbank liabilities, etc. Cash flow management is critical for liquidity risk management and the Bank has developed models for brdicting cash flows for products with indeterminate maturity, products with embedded options, contingents, etc. The outcome of the models are periodically back tested to test their effectiveness.
The Bank also manages its intra-day liquidity positions so that payments and settlement obligations are met on a timely basis. The Bank dynamically manages the queue of payments, forecasts the quantum and timing of cash flows, prioritizing critical payment transactions, assessing the drawing power of intraday liquidity facilities, etc.
Bank follows scenario based approach for liquidity stress testing wherein hypothetical but plausible scenarios are employed to evaluate the impact of stress on the liquidity position. The Liquidity Coverage Ratio (LCR) measures the extent to which a Banking Group’s High-quality liquid assets are sufficient to cover short-term cash outflows in a stressed scenario, over the next 30 calendar days, as defined by the regulator. The Group monitors and manages the composition of liquid assets to ensure diversification by asset class, counterparty and tenor. The LCR guidelines provide phased timelines for compliance, starting with a minimum of 60% coverage by January 2015 and increasing by 10% annually to 100% in 2019.
The Group is currently well above the minimum regulatory requirement for the LCR. The Bank factors liquidity risk as part of its ICAAP & stress testing.
Besides LCR, the Basel III liquidity framework also envisage the Net Stable Funding Ratio (NSFR), which measures the ratio between available stable funding (>1 year) and the required stable funding (> 1 year) to support long-term lending and other long term assets. The BIS, in October 2014, released the final guidelines for NSFR and aims for an NSFR of at least 100% as of 2018. The Bank is on track to meet the NSFR requirements as per final Basel III framework. For banks in India, RBI released the draft guidelines on NSFR in May 2015 and the final guidelines are awaited. Bank’s contingency liquidity plan (CLP) approved by ALCO and the Board plays an important role in its liquidity risk management framework.
It incorporates early warning indicators (EWIs) to forewarn emerging stressful liquidity conditions. The plan also defines actions to respond to liquidity stresses of varying severity to minimise adverse impact on the Bank.
J. Operational Risk
Operational risk is the risk of loss resulting from inadequate or failed internal processes, people, systems and external events. This definition includes legal risk but excludes reputational risk. Therefore, in line with the Basel III risk management framework and best practices, operational risk in the Bank; is composed of the following risk types: people, process, technology, legal, compliance, outsourcing and mis-selling.
The objective of operational risk management at the Bank is to manage and control operational risk in a cost effective manner within targeted levels of operational risk as defined in the risk appetite. The centralized and independent operational risk management function manages this risk as guided by the Board approved operational risk management policy.
The Board of Directors, Risk Management Committee and the Operational Risk Executive Council (OREC) (Bank wide and in the business units) have overall oversight function for operational risk management. The Group level IT Security Committee provides direction for mitigating the operational risk in IT security. There is a group wide IT security programme (ARISTI) to ensure complete data security and integrity. There is also a Committee on Frauds, which reviews all frauds above a threshold amount.
The Business Units and support functions, own, manage and are accountable for the operational risks and controls in their respective areas. The independent Operational Risk Management function lays down the operational risk management policies, standards, processes, procedures; and operational risk management framework under which the business units and support functions operate. Internal Audit and Internal Control teams provide oversight over business control activities and assurance that activities are conducted as per laid down guidelines.
The operational risk management function assists businesses by defining standardized tools and techniques such Risk and control self-assessment (RCSA) to identify and assess operational risks and the controls in place to manage those risks. Key Risk Indicators (KRIs) are also defined and tracked to monitor trends of operational risk parameters. Further, in accordance with Bank policy, for new products, the operational risk management function does an assessment of the risks generated by the new product and required measures are taken to mitigate the risks.
The Bank has an internal framework for reporting and capturing operational risk incidents, which also includes ‘near misses’. Significant incidents reported are investigated to assess weaknesses in controls and identify areas for improvement. External operational events are also collated to identify potential risks and high impact events are analysed as this helps in strengthening the systems. The Bank also has a Whistle blower policy and platform, which is open to employees and vendors for raising their concerns, with full confidentiality, on any fraud, malpractice or any other untoward activity or event.
The operational risk strategy of the Bank, aims to reduce the likelihood of occurrence of unexpected events and related cost by managing the risk factors and implementing loss brvention or reduction techniques. Disaster recovery and Business Continuity Plans (BCP) have been established for significant businesses to ensure continuity of operations and minimal disruption to customer services. These plans are periodically tested and reviewed to ensure their effectiveness to mitigate unforeseen risks arising out of disruptions.
Risk transfer via insurance is a key strategy to mitigate operational risk exposure at the Bank. The Operational Risk team helps assess the quantum of insurance cover required and aligns it to the Bank’s current and projected operational risk exposures.
K. Internal Capital Adequacy Assessment Process (‘ICAAP’)
The ICAAP encompasses internal views on material risks and their development as well as risk measurement models, risk governance and risk mitigants. It is linked to overall business planning and establishes a strategy for maintaining appropriate capital levels. ICAAP is an assessment of all significant risks (Pillar II), other than Pillar I risks, to which the Bank is exposed. As part of this process, the Group identifies risks to which it is exposed, in order to assess its risk profile. Once the risks are identified, the Group determines the method and extent of risk mitigation. Risk mitigation takes place through strengthening policies, procedures, improving risk controls and having suitable contingency plans. Finally, the Group determines the risks that will be covered by capital and the level of capital sufficient to cover those risks. The Bank has methodologies that help in capital allocation towards quantifiable Pillar II risks. The capital required thus identified are additive and rebrsent a conservative assessment.
Capital planning under ICAAP takes into account the demand for capital from businesses for their growth plans and ensures that the Group is adequately capitalised for the period ahead and holds sufficient buffers to withstand stress conditions. The ICAAP framework thus assists in aligning capital levels with the risks inherent in the business and growth plans.
The business growth plans factor in the need to maintain the target credit rating, threshold return ratio and other key parameters specified in the Risk Appetite. The budgeting process under ICAAP thus ensures that the overall risk and rewards are aligned with Risk Appetite.
During the year, the annual Group ICAAP outcome was approved by the Board and submitted to the regulator. Based on the ICAAP outcome, the Group was adequately capitalized to cover Pillar I & Pillar II risks.
L. Stress Testing
Effective risk management depends, among other things, on the ability through stress testing and other techniques to brpare for adverse economic events. Stress testing is a key element of the ICAAP and an integral tool in the Risk Management framework as it provides management
a better understanding of how portfolios perform under adverse economic conditions. Stress testing is an important tool for analyzing the risk profile. Stress-testing provides senior management with an assessment of the financial impact of identified extreme events. Stress testing is integral to strengthening the brdictive approach to risk management and is a key component in managing risks. The stress tests determine the level of capital needed to absorb losses that may be experienced during stress conditions.
The Bank supplements capital adequacy computation by performing stress tests, across key risk factors, guided by a combrhensive Board approved stress testing policy, which is aligned to regulatory guidelines. The Bank tests its portfolio across a range of historical and hypothetical stress scenarios that provide for severe shocks to various risk parameters. Impact of the stress scenarios is then assessed on profit and loss and capital levels to determine the level of capital that will be needed to absorb losses experienced during a stress condition. Liquidity stress tests are also part of this framework and aim to ascertain whether the Bank has recourse to adequate liquidity to withstand the impact of approved stress scenarios. The Bank performs Reverse Stress testing across key risk areas to test the stress levels at which capital falls below the internal capital threshold. Results of stress tests are reported to management and the Board.
The stress testing exercise provides an opportunity to the Bank to develop suitable mitigating response prior to onset of actual conditions exhibiting the stress scenarios. During the year, the Bank was above regulatory and internal target capital ratios under all approved stress scenarios.
An independent and combrhensive compliance structure addresses the Bank’s compliance and reputation risks. All key subsidiaries of the Bank have an independent compliance function. The Compliance officials across the Group interact on various issues including the best practices followed by the respective companies.
The current year has been phenomenon year for the Bank due to the merger of eIVBL with the Bank. As a first step towards the merger, Compliance teams of both the Banks were integrated, and have been functioning as an integrated team right from day one. Post-merger, Compliance Department immediately initiated various steps to integrate the key functioning of various businesses taking into account of adherence to various regulatory aspects. In addition all the Board approved policies of the Bank were reviewed and they have been harmonized post integration and Board approvals obtained on the revised policies. Fresh processes in respect of KYC / AML / CFT requirements were also harmonized to be followed uniformly across the Bank and eIVBL branches.
The compliance framework, approved by the Board, broadly sets out the compliance risk management processes and tools to be used by businesses, management and compliance officers for managing its compliance risks. Apart from the Bank’s compliance framework, the Bank and all the subsidiaries have their own compliance manuals.
To meet with the changes in the regulatory environment, the Compliance will be rolling out shortly a new tool, which helps in obtaining confirmation from each of the business about its adherence to the various regulatory requirements. This tool would assist the management in determining the compliance risk of the Bank.
The compliance function is responsible for all aspects of regulatory compliance across the Bank. There are dedicated resources deployed to focus on areas like KYC / AML, review and monitoring and advice on regulatory issues.
The Compliance team supports top management and manages and supervises the compliance framework alongwith providing compliance assistance to various businesses / support functions. The Bank has a new product / process approval policy and all new products / processes or modifications to the existing product/processes are approved by the Compliance so as to satisfy that these products are compliant with the RBI regulations.
The Compliance division works with business units to develop procedures to implement the requirements of the various regulations and policies.
It also works closely with other support functions including the legal department and outside counsels.
The Bank uses the knowledge management tools for monitoring new and changes in existing regulations. The Bank also looks at regulatory websites and participates in industry working groups that discuss evolving regulatory requirements. In-house compliance newsletter keeps the employees abreast of the key regulatory updates affecting the businesses of the Bank and its subsidiaries. Compliance also disseminates the changes in the regulations by way of compliance alerts to all the employees. Training on compliance matters is imparted to employees on an ongoing basis both online and classroom. The Compliance department keeps the management / Board informed about important compliance related matters through monthly, quarterly and annual compliance reviews.
The Bank’s internal audit department assesses business and control risks of all branches and businesses to formulate a risk-based internal audit plan, as recommended by the RBI. The audit process followed is as below:
An annual risk-based internal audit plan is drawn upon the basis of risk profiling of the Bank’s branches and businesses / departments which is approved by the audit committee.
The audit plan is prioritised based on areas and branches which pose a higher risk to the Bank and such areas and branches are targeted for more frequent audits. The Internal Audit policy includes the risk assessment methodology which provides for coverage of all auditable areas once in three years.
After assessing the overall risk of a branch or business or department, the Bank takes corrective measures to minimize the risk. Most businesses have an internal Risk Containment Unit or Internal Controls Cell to assess the efficacy of the controls put in place to mitigate identified risks and to identify new risks. Senior officers also assess and evaluate the mitigating measures taken by the branch during their visits Post issue of audit reports there is a detailed process for monitoring of progress on implementation of action plans. Status of resolution tracking as well as pending issues is reported to senior management and audit committee of the board on a regular basis and
a formal report on pending issues is issued once every half-year.
The Bank has laid down internal financial controls and that such internal financial controls are adequate and were operating. To this effect, the Bank has laid down a framework, which has been approved by the Audit Committee of the Board, which broadly comprises of four elements viz Entity Level Controls, General Computer Controls, Fraud Risk Management and Policies and Procedures. These four elements are then further broken up into various components. For each of the components various checklists / risk control matrix are brpared with linkages to the financial statements which have a material bearing. These controls are then tested for their operating effectiveness.
The Bank takes corrective actions to minimise the design risk, should there be any. Senior officers of the Bank are involved in taking corrective actions. Results of the management testing and corrective action plan are placed before the Audit Committee for their information, guidance and monitoring.
As on 31st March, 2016, the employee strength of the Bank along with its subsidiaries was over 46,000 as compared to around 31,400 employees a year ago. The Bank standalone had over 31,000 employees as on 31st March 2016. The average age of the employees is around 31 years. Average gender diversity is 19% women to 81% male employees.
The Bank had embarked on a journey of culture integration with merger with eIVBL. The values and culture alignment workshops were the key focus for the team post the merger. Product & Process training and system training was the next critical agenda for the team. Culture sensitization workshops post integrations of the businesses were rolled out with the agenda of seamless integration of the team to operate optimally as one team.
To enhance the active engagement, development and productivity of front line sales force, structured engagement interventions are done along with line managers in branch banking and acquisition. Pulse, a quarterly survey was launched to measure engagement levels of employees in retail businesses. There has also been a major thrust on building sales and functional competencies and over 11,000+ employees have gone through training interventions for the same in the last one year.
The Bank continues to leverage the br-trained manpower channels through tie ups with educational institutions for good quality manpower at frontline roles in branch banking.
In the digital era, the Bank has entered a new age with technological change to shape the sociological change impacting every facet of life and work. Anticipating digital being a significant transformation opportunity, the Bank is on the journey to leverage digital technology to enable greater engagement, interaction and flexibility.
This year there has been a focused leadership mindshare on the gender diversity agenda to attract, nurture and grow women employees amongst
fresh hires, provide a nurturing and enabling environment and develop women leaders across all management levels.
The Bank and its subsidiaries continued to provide a framework that enables learning, skill-building and growth to a pool of highly committed employees aligned to the firm’s vision and engaged in delivering best in class products and services in the Bank’s next phase of growth.
Opportunities and Threats
• Being part of the India’s growth story. Being part of the “Make in India” opportunities
• Participate in growth in non-urban India – “The Bharat”
• Digitalization in the economy
• Financial inclusion
• Realising the synergies envisaged in the merger with eIVBL
• Volatile external and global environment
• Competition from the newer models of banks
• Handling post integration challenges
• Attracting and retaining talent and training them for the right culture
Macro economy outlook for FY2017 remains positive
Clearly globally there is a subdued / modest outlook on growth while it does differ across regions. Risks of a much weaker global growth have also risen. Further, Geo-political issues have put a downward brssure on the growth trajectory. However, India continues to be in an advantageous position due to favourable demographics, moderate inflation level and low commodity prices, which is a significant benefit to India’s current account on the import side. Ongoing policy reforms are supplementing growth. However, there are some constraints like ongoing cleansing process of banks’ balance sheet and high corporate debt - which may hinder conduciveness of robust growth in the short-term. However, after two consecutive years of deficient rains, this year monsoon is expected to be favourable.
Outlook for Kotak Group
Kotak Mahindra Group’s results for the financial year demonstrate the strong fundamental growth in the India and ‘Bharat’ story. However, concerns remain on the global economic scenario’s impact on the Indian economy. The Group believes that with sound risk management and strong capital adequacy ratio, India of the future offers opportunities for growth.
The merger of ING Vysya Bank with Kotak Mahindra Bank effective from 1st April, 2015 gives the combined entity over 1300 branches with a good balance between the west, north and south. The combined entity has a wider suite of products. The merger would help in rationalisation of the operational cost base and result in savings for the combined entity. The combined entity will also have to deal with challenges on talent retention and combined operations post the full systems integration. Leveraging world-class infrastructure and technology to drive costefficiencies will be the key focus. Given the declining interest rate environment, the Bank could see a bit of brssure on NIMs. However, once the merger benefits flow in and credit costs are normalized, profitability is expected to improve.
This document contains certain forward-looking statements based on current expectations of Kotak Mahindra management. Actual results may vary significantly from the forward-looking statements contained in this document due to various risks and uncertainties. These risks and uncertainties include the effect of economic and political conditions in India and outside India, volatility in interest rates and in the securities market, new regulations and government policies that may impact the businesses of Kotak Mahindra Group as well as its ability to implement the strategy. Kotak Mahindra does not undertake to update these statements.
This document does not constitute an offer or recommendation to buy or sell any securities of Kotak Mahindra Bank or any of its subsidiaries and associate companies. This document also does not constitute an offer or recommendation to buy or sell any financial products offered by Kotak Mahindra, including but not limited to units of its mutual fund and life insurance policies.
All investments in mutual funds and securities are subject to market risks and the NAV of the schemes may go up or down depending upon the factors and forces affecting the securities market. The performance of the sponsor, Kotak Mahindra Bank Limited, has no bearing on the expected performance of Kotak Mahindra Mutual Fund or any other schemes there under. Figures for brvious year have been regrouped wherever necessary to conform to current year’s brsentation