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IndusInd Bank investors were in for a sharp and shocking blow on March 11, 2025, one that would see their holdings shrink by over a quarter in just a single day. What caused this dramatic fall was an accounting error, one that wiped out nearly Rs 1,600 crore of the bank's net worth, roughly 2.35 per cent of its equity. This had to do with how the bank accounted for certain foreign currency derivative transactions.
The crisis, however, is not due to the financial hiccup alone. After all, the bank isn't facing a liquidity crisis and the financials will likely stabilise once the discrepancy is cleared in Q4 FY25.
The problem is deeper. It's more about the bank's credibility and governance practices. This incident is just the latest in a long series of issues that have plagued the bank's reputation over the years. And this, more than the numbers themselves, might just be what investors need to pay attention to. But first, let's understand how the accounting lapse came about.
What went wrong?
IndusInd Bank has been using derivatives to hedge foreign currency risk. The error arose from using two different ways to account for these derivatives:
- The external method: The bank's trading desk with external counterparties (like foreign banks) recorded derivatives based on their real-time market value. This meant any change in the value, whether a gain or a loss, was immediately reflected in the bank's balance sheet.
- The internal method: Another part of the bank, managing internal currency risk, recorded derivatives at the original purchase price, ignoring daily market changes. So, if the value of a derivative dropped from Rs 2,000 crore to Rs 1,000 crore, this department would still list it as Rs 2,000 crore on the books, delaying the recognition of losses.
The rationale behind this was to reduce short-term volatility and present more stable financials. But it meant the bank's real financial position was obscured.
In 2023, the RBI stepped in with new rules to ensure greater transparency. All derivatives now had to be revalued at their market prices, eliminating the internal method. As IndusInd Bank revalued these trades, it had to reveal its unrealised losses. While this one-time hit is expected to be resolved soon, it has left investors asking serious questions about the integrity of the bank's financial reporting.
The CEO turmoil
That's not all. The crisis is accompanied by a shorter than expected reappointment of CEO Sumant Kathpalia. With his tenure up for renewal, the board had recommended a three-year extension. However, the RBI approved only one year. Kathpalia himself acknowledged that the RBI was informed about the accounting discrepancies before they went public. This further raises the question: Is the RBI's decision to cut short Kathpalia's reappointment linked to this latest financial mishap?
A long history of credibility issues
This isn't the first time IndusInd Bank has faced a credibility crisis. Back in 2018, the bank had exposure to IL&FS, whose default sparked a wider banking crisis. Then in 2021, it was accused of evergreening loans, offering new loans to customers who were unable to repay their existing debts. Each of these episodes has left a mark on the bank's reputation, which is why the latest accounting problem has caused such alarm. Despite its strong financial performance over the years—its return on equity (ROE) averaged 13 per cent over the past decade and annual net profit grew 20 per cent—these recurring issues have kept the stock's long-term returns subdued.
What should investors do?
Now comes the tempting part for investors: the stock's valuation. Trading at a P/B ratio of 0.8 and a P/E ratio of just 7, IndusInd's shares look undervalued, almost like a bargain compared to other private banks. But here's the catch: market perception is often driven by more than just financials. In this case, there's the spectre of a bank with governance issues, a history of credibility problems, and 50 per cent of the promoter's shares pledged. Should the stock price fall further, it could trigger a margin call, forcing the promoters to either sell shares or pledge more, which could create even more volatility.
While the current issue is likely temporary, it's a stark reminder of the long-standing trust problems IndusInd has faced. The financials may look strong now, but a cloud of doubt continues to hang over the bank. For investors looking to jump in at these lower prices, it's important to remember that the risk here isn't just about the immediate financial hit, it's about whether the bank can ever truly regain investor confidence.
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Disclaimer: This content is for information only and should not be considered investment advice or a recommendation.
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