Accumulate Corporation Bank – 3QFY2011 Result Update - Angel Broking

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Corporation Bank – 3QFY2011 Result Update

Angel Broking recommends an Accumulate on Corporation Bank with a Target Price of Rs. 654.

For 3QFY2011, Corporation Bank reported net profit growth of 25.4% yoy to

`382cr, above our estimate of `324cr mainly on account of higher-than-expected

other interest income and lower tax rate of 21.5% (26.1% in 2QFY2011). We

recommend an Accumulate on the stock.

Moderate operating performance; asset quality pressures: Advances grew by a

moderate 3.1% qoq (26.9% yoy) and deposits by 1.7% qoq (16.7% yoy). Reported

NIMs increased marginally by 7bp to 2.71% in 3QFY2011, leading to a strong

40.5% yoy growth in net interest income (NII), above our estimates, though this

was partly on account of high other interest income. Fresh slippages amounted to

`286cr with the annualised slippage ratio being 1.8% (1.1% in 2QFY2011),

though management attributed this to technical NPAs likely to be upgraded in

4QFY2011. The provision coverage including write-offs declined to 72.8% (78.5%

in 2QFY2011).

Outlook and valuation: The bank’s relatively small, regional and urban-centric

operations temper the outlook on the key competitive parameters of CASA and

fee income. The low CASA ratio (24.3%) is also expected to contribute to higher

margin pressures, given rising interest rates. However, post the recent sharp

correction, the stock is trading at 1.1x FY2012E ABV, which we believe provides

margin of safety from expected margin pressures. Also, the key positive for the

bank is its proactive investment in modern distribution and payment systems that

have led to consistently faster CASA growth than peers. Hence, we value the

bank at 1.2x FY2012E ABV and recommend an Accumulate on the stock with a

Target Price of `654 (`705).

Moderate sequential growth in advances and deposits

During 3QFY2011, Corporation Bank witnessed a slowdown in advances and

deposits growth sequentially, with advances growing by a moderate 3.1% (26.9%

yoy) to `71,934cr and deposits by 1.7% (16.7% yoy) to `98,526cr compared to

industry advances and deposits growth of ~9% and ~4.7%, respectively. The

credit-deposit ratio stood at 73.0%, registering an improvement of 100bp from

2QFY2011. The key drivers for growth in advances were the SME and large

corporate loans, which grew by 37.9% and 34.4% yoy, respectively. Retail loans

recorded a growth of 28.7% yoy.

The bank’s CASA ratio decreased to 24.3% in 3QFY2011 from 25.0% in

2QFY2011. CASA deposits fell by 1.2% qoq (up 22.03% yoy).

Better-than-estimated NII growth

In 3QFY2011, the bank’s NII increased by 40.5% yoy and 17.8% qoq to `842cr

(from `715cr in 2QFY2011), partly due to a 100bp sequential improvement in the

CD ratio to 73.0% and higher-than-expected other interest income of `112cr. The

bank’s reported NIM improved marginally to 2.71% in 3QFY2011 from 2.64% in

2QFY2011. Going forward, the bank is expected to face NIM pressure in a rising

interest rate environment on account of its relatively low CASA, which declined

sequentially to 24.3% from 25.0%.

Moderate non-interest income growth

During 3QFY2011, total non-interest income increased by moderate 17.0% qoq to

`265cr due to robust treasury gains. Non-interest income excluding treasury

increased by 4.7% qoq and 8.2% yoy to `232cr. Profit from exchange transaction

increased by a robust 93.1% qoq and 61.3% yoy to `32cr, while income from

recovery of written-off accounts decreased by 20.7% qoq (up 7.63% yoy) to `24cr.

Asset quality deteriorated

During the quarter, on the asset quality front the bank faced pressure with absolute

Gross NPA rising by 23.4% qoq to `914cr and Net NPA increasing by 53.4% qoq

to `414cr, in spite of much the higher-than-expected provisioning expenses.

Accordingly, Gross and Net NPA ratios deteriorated from 1.1% and 0.4% in

2QFY2011 to 1.3% and 0.6% in 3QFY2011, respectively. Fresh slippages

amounted to `286cr, with the annualised slippage ratio being 1.81% (1.1% in

2QFY2011). Management stated that three borrower accounts amounting to

`204cr slipped into NPAs in 3QFY2011, which are expected to be upgraded by

4QFY2011.

The bank’s provision coverage ratio including technical write-offs came down to

72.8% from 78.5% in 2QFY2011. The bank additionally restructured advances

worth `120cr during the quarter. Restructured advances, as a percentage of total

advances and net worth, stood at 4.2% and 44.4% in 3QFY2011, respectively.

Provisioning expenses were also higher on account of the pension liabilities likely

to be included in this line item, amounting to `55cr. Management indicated that

the overall pension liability had been estimated at `540cr, to be amortised in five

years. Since no provisions were made in 1HFY2011, the bank will provide the

entire `110cr for FY2011 in 2HFY2011, of which `55cr has been provided in

3QFY2011 and the balance `55cr will be provided in 4QFY2011.

With the decline in asset quality, as well as taking into account the pension liability,

we have increased provisioning expenses estimates for FY2011 by `223cr and for

FY2012 by `198cr.

Operating costs under control

Operating costs increased by a marginal 0.6% qoq and by a moderate 23.5% yoy

to `370cr during the quarter. The cost-to-income ratio improved to 33.4%

compared to 39.1% in 2QFY2011, due to faster increase in operating income and

marginal rise in operating costs.

During the quarter, Corporation Bank opened 79 branches, taking its total branch

network to 1,255 branches. The number of ATMs increased to 1,174 in

3QFY2011 compared to 1,159 in 2QFY2011. Management indicated that 100

more branches will opened by 4QFY2011 in tier-1 and 2 cities.

Strong capital adequacy

Corporation Bank is one of the well-capitalised banks among the PSU banks. As

per Basel-II norms, the bank’s capital adequacy ratio (CAR), excluding 9MFY2011

profit stood at a comfortable 14.2% during 3QFY2011, with tier-I ratio of 8.1%.

During the year, the bank raised `550cr of tier II capital.

Investment arguments

Modern, cost-efficient network to support moderate CASA growth

During FY2007-10, growth in average CASA deposits of the bank was robust

relative to peers at 22.4%. We believe the bank’s efficient and expanding network,

supported by a consistent track record in early adoption of emerging technologies,

creates a positive traction in its deposit franchise, which is tempered mainly by

substantial competition from larger banks.

Low operating cost, superior asset quality owing to corporate,

urban-centric business

Large corporates comprise 40% of the bank’s credit book, leading to relatively low

yield on advances, but simultaneously offering superior asset quality to the bank.

Corporation Bank is also amongst the most cost-efficient PSU banks, both in terms

of opex/average assets as well as branch and employee productivity.

Outlook and valuation

The bank’s relatively small, regional and urban-centric operations temper the

outlook on the key competitive parameters of CASA and fee income. The low

CASA ratio (24.3%) is also expected to contribute to higher margin pressures,

given rising interest rates. However, post the recent sharp correction, the stock is

trading at 1.1x FY2012E ABV, which we believe provides margin of safety from

expected margin pressures. Also, the key positive for the bank is its proactive

investment in modern distribution and payment systems that have led to

consistently faster CASA growth than peers. Hence, we value the bank at 1.2x

FY2012E ABV and recommend an Accumulate on the stock, with a Target Price of

`654 (`705).