IIFL: Buy State Bank of India - target 3500 Rs

Loan growth momentum to become more broad-based
SBI has witnessed strong loan book expansion of 20% in the past 12
months increasing its market share to 17%. Key drivers have been
robust branch addition in past three years and the new-found
aggressiveness especially with respect to retail loans. SBI has emerged
as the No.1 retail lender in the country with dominant market share in
home, auto and education loans. Going ahead, growth is likely to become
more broad-based with demand picking up from other segments. We
estimate SBI’s advances to grow by 20% in FY11 and 23% in FY12.
NIM to remain firm after improving considerably in recent past
Despite the decline in YoA, SBI’s NIM has recovered by significant 90bps
in the past four quarters aided by 1) material decline in average surplus
liquidity 2) significant improvement (900 bps) in the CASA ratio 3)
reduction in contribution of bulk term deposits and within that high-cost
deposits and 4) sharp improvement in C/D ratio (900 bps). We believe
that NIM would remain stable in the medium term driven by a stronger
credit demand that would revive pricing power of the bank. The recent
deposits and lending rate hike would have a net negligible impact.
Asset quality needs attention; equity issuance to bolster capital base
There has been a material detrioration in bank’s asset quality over the
past five quarters with present NPL levels being higher than most peers.
NPL risk is the highest for SBI with NNPLs comprising 16.5% of networth.
With PCR at 61%, the bank requires additional provisioning of ~Rs28bn
to reach the stipulated 70% by Sept 2011. We estimate SBI’s balance
sheet to witness 18.5% CAGR over FY10-12. The expansion would be
mainly funded by plough backs and a rights issue/follow-on offer. While
RoA is likely to improve, RoE would be depressed by the equity issuance.
Valuation not at historic high; Recommend BUY with TP Rs3,500
Given the bank’s sheer size (commands 1/4th of the industry as a group),
extensive reach (to benefit from semi-urban and rural upswing) and a
well-diversified loan portfolio, SBI is the best proxy on the Indian Banking
story. The bank is currently trading at 2.2x 1-yr fwd rolling P/BV, lower
than 2.6x touched in the previous credit upcycle and market rally.
Despite the recent steep run-up in price, SBI is not trading at a deserving
premium to other PSBs and its discount to some private banks remains
high. Recommend BUY with a SOTP target price of Rs3,500 which has
been arrived after valuing 1) stand-alone bank at Rs2,830 using our
proprietary Bank 20 valuation model 2) ownership in the six associate
banks at Rs460 3) 74% stake in SBI Life at Rs157 4) 63% stake in SBI
MF at Rs19 and 5) SBI Caps at Rs35.