KOTAK MAHINDRA BANK Financing business going strong; : Edelweiss

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Kotak Mahindra Bank (KMB) reported consolidated PAT (excluding life insurance) of
INR 3.5 bn in Q2FY11 - growth of 19% Y-o-Y and 5% Q-o-Q. Profits were lower than
our expectation, primarily due to MTM hit on liquid funds (accounting change
proposed by regulator in AMC), higher provisioning (on commercial real estate) in
Kotak Mahindra Prime and muted profits in investment banking. Key positives during
the quarter have been robust advance growth and NPLs coming off significantly;
these were, however, partially offset by marginal decline in NIMs. Consolidated
advances grew 40% Y-o-Y (14% Q-o-Q) to INR 375 bn, with growth broad-based
across segments. NIMs (consolidated) came off 10bps Q-o-Q to 5.6% (over and
above 50bps decline in Q1FY11). Consolidated gross NPLs (excluding stressed assets)
declined to 1.69% (from 2.02% in Q1FY11). While provisioning coverage was inched
up 5% points to meet RBI’s 70% diktat, credit cost was lower.
• Banking business profits grew 55% Y-o-Y (4% Q-o-Q) to INR 1.95 bn, driven
by strong advance growth of 35% and decline in LLP of 41% Y-o-Y.
• Kotak Mahindra Prime reported 19% Q-o-Q decline in PAT, to INR 613 mn,
due to higher provisions of INR 80 mn (on commercial real estate). Advances
continued to be strong and were up 10% Q-o-Q (46% Y-o-Y) at INR 100 bn.
• Kotak Securities reported 9% Q-o-Q growth in profits, at INR 517 mn. Average
daily trading volume inched up 15% Q-o-Q and market share was sustained at
3.7%. Profitability of investment banking remained subdued at INR 73 mn.
• Domestic AMC business reported loss of INR 39 mn as it has taken a one-time
MTM hit on liquid funds due to accounting change proposed by the regulator. The
company has witnessed some strong flows in offshore funds (AUMs rose to
USD 2 bn); however, upfront cost in raising these funds hit profitability.
􀂃 Outlook and valuations: Positive; maintain ‘BUY’
The bank has surprised positively in terms of advance growth and asset quality
in H1FY11. We are revising our advance growth estimate upwards to 35-40% for
FY11-12. NIMs in the immediate term will be supported by equity infusion from
Sumitomo. We, however, believe structural shift in portfolio mix and increased
funding cost could pressurize NIMs. The macro environment for KMB is becoming
more conducive with buoyant capital market activities and favourable credit
cycle. The stock is currently trading at 2.7x FY12E book and 18.4x FY12E
earnings (excluding life insurance). Our SOTP fair value stands at INR 540 per
share for FY12E. We believe upsides to our fair value could flow from securities
and investment banking related earnings. Stressed asset portfolio also carries a
huge embedded value. We maintain ‘BUY/Sector Performer’ on the stock.