PNB: High margins – A big cushion :: Macquarie

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Punjab National Bank
High margins – A big cushion
Event
 Earnings 7% above our estimates: PNB reported net profit of Rs10.7bn –
7% higher than our estimates, mainly on account of higher margins.
 Raise TP by 3% to Rs1,340, maintain Neutral: Our modest increase in TP
to Rs1,340 (from Rs1,300) is mainly due to higher FY12E book value arising
out of earnings upgrade of 4–12%.
Impact
 Asset quality pains continue: PNB continues to witness NPL increases, and
the slippage ratio at 1.9%, though lower than 2.7% in 1Q FY11, is still high.
The bank has one of the largest restructured assets portfolios at 6.5% of total
advances, higher than the industry average of 5%. In this quarter, the bank
classified its additional exposure of Rs2.2bn to Zoom Developers (unlisted),
taking the total exposure classified as NPL to Rs4.15bn.
 Cushion of high margins – the biggest positive: In an environment where
there are continued pressures on asset quality and opex due to pensions, a
high-margin structure is very essential to maintain profitability, and we think
PNB has done a commendable job in further increasing NIMs by 12bp QoQ to
4.06%. However, NIMs are unlikely to sustain at these levels due to deposit
repricing catching up in 3Q FY11.
 Gap between loan growth and deposit growth unsustainable: The gap
between loan growth at 28% YoY and deposit growth at 18% YoY is
unsustainable. The bank had resorted to CDs and borrowed from the repo
window to lend. The bank expects loan growth to come down to 22% levels
going forward.
 One of the best return ratios amongst PSU banks: The bank consistently
has maintained RoAs of 1.3–1.4% and RoEs above 20% for several quarters,
which is quite encouraging and, hence, deserves premium valuations, in our
view.
Earnings and target price revision
 We raise FY11–13E earnings by 4–12% on account of higher margins. We
increase TP by 3% to Rs1,340 (from Rs 1,300) on account of higher book
value arising out of earnings upgrade.
Price catalyst
 12-month price target: Rs1,340.00 based on a Gordon Growth Model
methodology.
 Catalyst: Higher levels of NIMs and stable return ratios.
Action and recommendation
 Maintain Neutral, one of our favourites amongst PSU banks: The ability of
PNB to maintain its margins consistently at high levels gives us the
confidence that its impressive return ratios are here to stay. PNB remains one
of our favourites in PSU banks. We recommend that investors add the stock
on corrections. Our Neutral rating is mainly on account of its rich valuations
and ongoing asset quality issues.