Market Outlook: Future of Credit Cards in India

In the current scenario, almost all banks which issue Credit Cards are bleeding financially and are not able to sustain themselves. A simple generic model of the Profit & Loss Account of the

Credit Cards Business is given below.

For every Rs.100 lent to customers by the Bank the following are the income and expenses

Revenue Streams

(1) Rs.20 is the Interest Income earned by the Bank on an annual basis (average across portfolio)
(2) Rs.2 is the other income earned through transaction & merchandising revenue

Costs

(1) Rs.9 is the Cost of Funds
(2) Rs.5 is the Acquisition Cost of sourcing the Card
(3) Rs.3 is the Operational Cost
(4) Rs.3 is the Bad Debts (Customers not paying back money and going delinquent)

So if you calculate for every Rs.100 lent out you have revenue of Rs.22 and a cost of Rs.20, which gives you marginal profit of Rs.2 for every Rs.100 lent out. However this was the case about 3 years back when the Bad Debts were restricted to 3%.

Last year the bad debts have soared to as much as 12% which is Rs.12 for every Rs.100 which have been spent and hence the costs go to Rs.29 which the revenue still remains at Rs.22, so as a result the banks make a loss of Rs.7 for every rs.100 lent out. This loss cannot be sustained and as a result the banks have taken the following steps

(1) Cards issued to customers who have a flawless Credit History and who will definitely pay back on time and hence reduce the percentage bad debts and make the business more profitable
(2) Tighten Credit Policy to issue Cards to reduce Bad Debts. Not to issue cards to customers who do not have a proven Credit Record

The way I see it, the Credit Cards Business in India will be profitable in India only under the following scenarios. If these scenarios are not met then I do not see the sense in banks issuing Credit Cards at all – a view which is echoed by many in the Financial Services space and is disputed by an equal number of people as well

(1) The Acquisition Cost has to come down from Rs.5 to Rs.2. This will happen when the banks move away from the current model of DSA Agent Based sourcing and move to Internet Sourcing with no face to face visit with the customers. However there are Technical and Regulatory hurdles preventing this from happening right now
(2) The Bad Debts should not exceed 2% to 3%. This needs to be managed through effective Credit Policy which ensures only those customers get Cards who have an ability to pay back. This restricts the number of Cards issued by the bank as most customers who can afford to pay back have already got a Credit Card. New entrants will get all the sub-prime customers where if you issue cards, the losses will also rise
(3) Banks need to increase revenue by cross sell effectively on the Credit Cards base. This means that they will need to start doing merchandising activity on the Credit Cards Base and use the Credit Cards Base to sell Loan products, Bank Accounts, Investments and Insurance to beef up the Non Interest Income and increase the same from rs.2 to Rs.5

Until the banks develop a strategy on the above mentioned lines, it will be very difficult for the Credit Cards Business to be profitable at all. The financial model used above as an example is indicative and does not represent any specific bank profit and loss account.

If you have any queries or suggestions, you can write to me at Ask.Pranav@Gmail.Com and I will try to write back to you as soon as possible.