Dented silverware or broken clay pots - what lies ahead for Kotak?

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Yesterday afternoon the RBI came out with a notification on the posterboy of Indian Banking - Kotak Mahindra Bank, that restricted adding new credit card clients and onboarding clients via digital or mobile banking. The primary driver of this action was lapses on the IT management side. (From the press release - 'IT inventory management, patch, and change management, user access management, vendor risk management, data security, and data leak prevention strategy, business continuity, and disaster recovery rigour and drill - RBI Press release 2024-2025/172)

The stock fell 11% in trade today.

In the markets, good news and good prices rarely come together. Hence days like these can appear as an opportunity for some looking to add the business. At the same time, if the damage is more permanent, businesses can continue to fall and destroy value.

It helps to answer three questions to know if we are dealing with broken clay pots (where the damage is permanent and which you should avoid) or dented silverware (which retain its value but appears unattractive).

+ The business you're buying is high-quality: There is very little doubt on this. Kotak has a phenomenal liability franchise with CASA in the high 40s even as peers struggle for deposits, asset quality has remained stellar through market and economic cycles, and there is substantial leadership depth in the business even after Mr. Kotak has left, with the likes of KVS Manian and Shanti Ekambaram leading the helm. Even the current RBI action is on a 'non-core' function, and not on any lending or governance practice at the bank.

+ The pain it is going through is temporary and non-fatal: While something on the lines of a flaw in the lending practices or framework, or governance of a bank would certainly be a red flag, a lapse in the IT platform, while certainly a matter of concern is non-fatal. Credit card and personal loans, the two segments hit by this action the most are less than 10% of Kotak's book, and even here, only incremental growth via new digital clients gets hit. Kotak does north of 10000cr of PAT a year, even a fraction of this can be channelized to audit & fix the issue at hand. The leading banks have for long put IT development and data security on the back burner. This is a timely call from the regulator to fix that.

+ You have visibility on recovery: The RBI presser clearly states that the restrictions can be removed after the bank actions on the deficiencies to RBI's satisfaction. Similar actions have been resolved in 6-9 months with banks of a larger scale facing a similar challenge. (The restrictions now being imposed will be reviewed upon completion of a comprehensive external audit to be commissioned by the bank with the prior approval of RBI, and remediation of all deficiencies that may be pointed out in the external audit as well as the observations contained in the RBI Inspections, to the satisfaction of the Reserve Bank-RBI Press release 2024-2025/172). While the visibility on recovery is not precise, we can hazard a reasonable guess when things will normalize.

So that is where we stand today. A rocky 6-9 months ahead, but nothing too alarming. Whether this is a case of broken clay pots or dented silverware will only be known in hindsight, but the evidence seems to point to the latter.

Disc: This is a purely educational piece, and is not intended as investment advice. Please consult a SEBI Registered professional before taking any investment decision.