Rationale

The ratings factor in Utkarsh Small Finance Bank Limited's (USFB) experienced management team, strong investor base and adequate systems and processes, which have helped it scale up its operations. As on March 31, 2020, USFB was catering to more than 25 lakh borrowers through a network of 510 banking outlets spread 11 states while managing a portfolio of Rs. 6,660 crore. The bank's profitability improved in FY2020 with an increase in the scale of operations, an improvement in the net interest margin and the comfortable asset quality. USFB reported a net profit of Rs. 186.75 crore in FY2020 translating into a return of 2.39% on the average managed assets (AMA) and 20.84% on the average net worth (Rs. 93.89 crore, 1.73% and 15.85% respectively in FY2019). Further, USFB has been able to maintain adequate capitalisation with CRAR reported at 22.19% (Tier I: 19.41%) as on March 31, 2020, though the leverage increased as the bank focused on increasing its on-book liquidity. ICRA takes note of the bank's plans to raise equity capital in FY2021, which would help maintain capitalisation and cushion the possible credit losses in the aftermath of the Covid-19 pandemic while supporting the bank's growth plans. USFB's ability to raise equity capital in a timely manner would be important from a growth and credit perspective. In addition, the bank has been successfully diversifying its borrowing profile while increasing the share of funds raised from financial institutions (FIs) through long term refinance lines and deposits. The total deposits increased by 38% in FY2020 to Rs. 5,235 crore as on March 31, 2020 (Rs. 5,262 crore as on April 30, 2020). The ratings also factor in USFB's comfortable liquidity profile and the availability of funding lines from FIs and other banks. The ratings, however, factor in the limited share of the non-microfinance portfolio (10% as on March 31, 2020; 13% as on March 31, 2019) and the geographically concentrated microfinance operations. Share of microfinance portfolio in Bihar and Uttar Pradesh remained high at 47% and 28% respectively as on March 31, 2020 (48% and 29%, respectively as on March 31, 2019). Further, there is scope for improvement in the district-level portfolio diversification as the top 10 and top 20 districts comprised 29% and 47%, respectively, of the microfinance portfolio and 171% and 275%, respectively, of the net worth as on March 31, 2020. Further, the ratings take into consideration USFB's high reliance on bulk1 (48% of total term deposits as on April 30, 2020) though these are largely non-callable (~95%) in nature. The ratings also factor in the risks associated with unsecured lending to marginal borrowers with limited ability to absorb income shocks. USFB's ability to onboard borrowers with a good credit history, recruit and retain employees and improve the geographical diversity of its operations would be key for managing high growth rates. The microfinance industry is facing many challenges following the spread of Covid-19 throughout the country. These include the continuity of business operations on the field and the possible adverse impact on the asset quality. The bank's ability to manage the adverse impact of the pandemic on its asset quality and profitability as well as to maintain prudent capitalisation and raise capital in a timely manner to absorb expected credit losses and support growth will be important from a credit perspective. The Stable outlook on the [ICRA]A rating reflects ICRA's opinion that USFB will continue to benefit from its experienced management team, strong investor base, diversified borrowing profile and financial flexibility.