Rationale

The ratings continue to factor in Karnataka Bank Limited's (KBL) established retail deposit franchise in southern India, which imparts stability and granularity to its deposit profile with the share of the top 20 deposits in total deposits remaining the lowest among peers. Further, KBL has a strong liquidity profile with positive cumulative mismatches across all the maturity buckets in the less-than-one-year category and a high liquidity coverage ratio (LCR) of ~288% in Q3 FY2022. The ratings are also supported by the bank's adequate capitalisation with Tier I of 11.74% as on December 31, 2021. The ratings remain constrained by the increasing asset quality pressure indicated by the high overall stressed loan book {overdue loan accounts, i.e. SMA1 1 and 2 books, standard restructured advances and net non-performing advances (NNPAs)} in relation to the core capital compared with peer banks. The bank's ability to reduce its stressed loan book will be critical for an improvement in its solvency2 profile. The ratings are also constrained by the high regional concentration of KBL's operations as well as the high share of the top exposures in relation to the core capital compared to peer banks. Given the high level of net stressed assets, the credit provisions are expected to remain high in the near term and the internal capital generation is unlikely to improve in the next couple of years. The equity valuation has constrained KBL's capital raising in the past, but it has proposed a capital raise over the next few quarters in tranches. ICRA expects the same to be critical for an improvement in KBL's loss-absorption cushions and solvency levels. The Stable outlook on the long-term rating reflects ICRA's expectations that the bank will continue to maintain its strong deposit profile and reduce its level of stressed assets while improving the loss-absorption cushion through a capital raise in the near term. Inability to do so could result in a change in the outlook or a ratings downgrade.