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INDIAN OVERSEAS BANK
Beat on margins and slippages
Indian Overseas Bank (IOB) reported strong operating performance in Q3FY11,
buoyed by 25bps margin expansion and 16% Q-o-Q growth in advances. Key positive
surprise during the quarter was slippage run-rate sliding below 1% (that was running
as high as 3% on an average over the past six quarters) and gross NPLs coming off
to 3.26% (from 3.76% in Q2FY11). However, LLP continued to be higher as the bank
increased provisioning coverage by 5% points to 65% (on course to reach RBI
mandate of 70% by March 2011). PAT grew 12% Q-o-Q (more than double Y-o-Y),
led by 18% Q-o-Q growth in NII (42% Y-o-Y). The bank has been providing INR 360
mn per month towards retirement benefits, which is sufficient to take care of its
overall pension and gratuity liabilities.
Slippages slide down: A key positive
Asset quality has been an area of concern for the bank since the past few
quarters, with slippages running as high as 3%, primarily because of NPLs in
agri, slippages from the restructured pool and few chunky accounts. However, in
Q3FY11, slippage run-rate has surprised positively, coming off below 1%.
Recoveries and up-gradations have also seen traction - INR 10.5 bn of
upgradations/recoveries till date and management targets at INR 15-18 bn for
FY11. The bank has merely INR 4.0 bn exposure to microfinance companies and
has not provided any funding for 2G licensing to any of new players (except for
Videocon at the group level). Management targets to bring down gross NPL
below 3% by end of FY11. Restructured book stands at INR 76 bn (7.6% of the
loan book) and slippages.
Outlook and valuations: Turnaround underway; maintain ‘HOLD’
The bank has surprised positively on asset quality and margins in Q3FY11.
Whether slippages (net of recoveries/upgradations) can bring down gross NPLs
below 3% targeted level will be a key monitorable. Moreover, arresting decline in
margins will be key. While we are revising our core operating profits estimate
upwards, return ratios continue to be relatively lower against peers (RoAs of
0.7% and RoEs of 15% in FY12). The stock is currently trading at 1x FY12E
adjusted book and 5.9x FY12E earnings. We maintain ‘HOLD’ recommendation
on the stock and rate it ‘Sector Performer’ on relative return basis.
Strong business momentum; NIMs up 25bps Q-o-Q
Bucking the trend of muted credit growth since the past five quarters, loan book grew
16% Q-o-Q (26% Y-o-Y), to INR 1 tn. Deposits, however, grew 6% Q-o-Q and
consequently, CD ratio expanded to 80% (from 73% in Q2FY11). This, coupled with
16bps decline in deposit cost, led to 25bps expansion in margins to 3.27%. It benefitted
from repricing of some of the high cost deposits (raised at 11% and now getting repriced
at 8-9%). Management has guided for 5% plus industry average loan growth and 2-3%
plus industry average deposit growth. While we expect NIMs to sustain above 3% for
FY11, we are building in a decline of 20bps for FY12.
Fee income growth stable
Core fee income (ex-treasury) grew 19% Y-o-Y (stable Q-o-Q on a high base in
Q2FY11). Other income included recovery from written off accounts of INR 770 mn and
other fee income (including forex trading, gold coin sales and third party distribution)
was sustained near INR 900 mn. Treasury gains booked during the quarter were INR 230
mn.
Pension and gratuity not to be drag on earnings
Staff expenses, after coming off 11% Q-o-Q in Q2FY11, once again returned to
normalised level of INR 4.8 bn (up 3% Y-o-Y). Other operating expenses remained flat
during the quarter. As regards to the second option pension, management indicated that
~11k employees (including 1.4k retirees) have opted for second option and incremental
liability for bank has been crystalised at INR 10 bn (gross obligation near INR 40 bn;
already provided INR 30 bn over past few years). The bank has estimated gratuity
liability of INR 8.4 bn, of which, it has already provided INR 7.9 bn.
The bank has been providing INR 360 mn per month over the past 10 quarters for
retirement benefit, and second option pension/gratuity provisioning is unlikely to drag
earnings.
Other highlights
• AFS formed 32% of investment book; duration of AFS book stands at 3.5 years
• Tier I ratio stands at 7.25%
Company Description
IOB is a mid-sized PSU bank with a balance sheet size of ~INR 1.4 tn and market cap of
INR 92 bn. It has 1,807 domestic branches and over 300 ATMs. It is dominant player in
the four southern states of Tamil Nadu, Kerala, Andhra Pradesh, and Karnataka. The
bank has six overseas branches and aims to grow its share in the trade finance and
remittance market through Bharat Overseas Bank. The bank’s focus traditionally has
been on SME lending (40% of total credit), which explains its high yields. Government
holding is 61% and maximum permissible foreign holding is at 20%.
Investment Theme
We maintain our Neutral view on IOB; however we believe due to slippage on asset
quality overhang on the stock will remain. We believe due to higher credit costs going
forward, RoA and RoE will witness pressure.
Key Risks
Aggressive credit growth may lead to higher-than-estimated deterioration of asset
quality.
Higher-than-expected compression in net interest margin.
Maintaining CASA levels.
India Equity Research Reports, IPO and Stock News Visit http://indiaer.blogspot.com/ for complete details �� ��
INDIAN OVERSEAS BANK
Beat on margins and slippages
Indian Overseas Bank (IOB) reported strong operating performance in Q3FY11,
buoyed by 25bps margin expansion and 16% Q-o-Q growth in advances. Key positive
surprise during the quarter was slippage run-rate sliding below 1% (that was running
as high as 3% on an average over the past six quarters) and gross NPLs coming off
to 3.26% (from 3.76% in Q2FY11). However, LLP continued to be higher as the bank
increased provisioning coverage by 5% points to 65% (on course to reach RBI
mandate of 70% by March 2011). PAT grew 12% Q-o-Q (more than double Y-o-Y),
led by 18% Q-o-Q growth in NII (42% Y-o-Y). The bank has been providing INR 360
mn per month towards retirement benefits, which is sufficient to take care of its
overall pension and gratuity liabilities.
Slippages slide down: A key positive
Asset quality has been an area of concern for the bank since the past few
quarters, with slippages running as high as 3%, primarily because of NPLs in
agri, slippages from the restructured pool and few chunky accounts. However, in
Q3FY11, slippage run-rate has surprised positively, coming off below 1%.
Recoveries and up-gradations have also seen traction - INR 10.5 bn of
upgradations/recoveries till date and management targets at INR 15-18 bn for
FY11. The bank has merely INR 4.0 bn exposure to microfinance companies and
has not provided any funding for 2G licensing to any of new players (except for
Videocon at the group level). Management targets to bring down gross NPL
below 3% by end of FY11. Restructured book stands at INR 76 bn (7.6% of the
loan book) and slippages.
Outlook and valuations: Turnaround underway; maintain ‘HOLD’
The bank has surprised positively on asset quality and margins in Q3FY11.
Whether slippages (net of recoveries/upgradations) can bring down gross NPLs
below 3% targeted level will be a key monitorable. Moreover, arresting decline in
margins will be key. While we are revising our core operating profits estimate
upwards, return ratios continue to be relatively lower against peers (RoAs of
0.7% and RoEs of 15% in FY12). The stock is currently trading at 1x FY12E
adjusted book and 5.9x FY12E earnings. We maintain ‘HOLD’ recommendation
on the stock and rate it ‘Sector Performer’ on relative return basis.
Strong business momentum; NIMs up 25bps Q-o-Q
Bucking the trend of muted credit growth since the past five quarters, loan book grew
16% Q-o-Q (26% Y-o-Y), to INR 1 tn. Deposits, however, grew 6% Q-o-Q and
consequently, CD ratio expanded to 80% (from 73% in Q2FY11). This, coupled with
16bps decline in deposit cost, led to 25bps expansion in margins to 3.27%. It benefitted
from repricing of some of the high cost deposits (raised at 11% and now getting repriced
at 8-9%). Management has guided for 5% plus industry average loan growth and 2-3%
plus industry average deposit growth. While we expect NIMs to sustain above 3% for
FY11, we are building in a decline of 20bps for FY12.
Fee income growth stable
Core fee income (ex-treasury) grew 19% Y-o-Y (stable Q-o-Q on a high base in
Q2FY11). Other income included recovery from written off accounts of INR 770 mn and
other fee income (including forex trading, gold coin sales and third party distribution)
was sustained near INR 900 mn. Treasury gains booked during the quarter were INR 230
mn.
Pension and gratuity not to be drag on earnings
Staff expenses, after coming off 11% Q-o-Q in Q2FY11, once again returned to
normalised level of INR 4.8 bn (up 3% Y-o-Y). Other operating expenses remained flat
during the quarter. As regards to the second option pension, management indicated that
~11k employees (including 1.4k retirees) have opted for second option and incremental
liability for bank has been crystalised at INR 10 bn (gross obligation near INR 40 bn;
already provided INR 30 bn over past few years). The bank has estimated gratuity
liability of INR 8.4 bn, of which, it has already provided INR 7.9 bn.
The bank has been providing INR 360 mn per month over the past 10 quarters for
retirement benefit, and second option pension/gratuity provisioning is unlikely to drag
earnings.
Other highlights
• AFS formed 32% of investment book; duration of AFS book stands at 3.5 years
• Tier I ratio stands at 7.25%
Company Description
IOB is a mid-sized PSU bank with a balance sheet size of ~INR 1.4 tn and market cap of
INR 92 bn. It has 1,807 domestic branches and over 300 ATMs. It is dominant player in
the four southern states of Tamil Nadu, Kerala, Andhra Pradesh, and Karnataka. The
bank has six overseas branches and aims to grow its share in the trade finance and
remittance market through Bharat Overseas Bank. The bank’s focus traditionally has
been on SME lending (40% of total credit), which explains its high yields. Government
holding is 61% and maximum permissible foreign holding is at 20%.
Investment Theme
We maintain our Neutral view on IOB; however we believe due to slippage on asset
quality overhang on the stock will remain. We believe due to higher credit costs going
forward, RoA and RoE will witness pressure.
Key Risks
Aggressive credit growth may lead to higher-than-estimated deterioration of asset
quality.
Higher-than-expected compression in net interest margin.
Maintaining CASA levels.
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