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Bank of Baroda
Cautious aggression; initiate with OUTPERFORM
We initiate coverage with OUTPERFORM and price
target of Rs1,120 based on target P/BV of 1.9x.
BoB trades at a significant premium to peers, which we
believe is well-deserved given the solid improvement in
earnings and asset quality.
Over FY08-10, BoB reported earnings growth of 47%,
raised RoA from 0.8% to 1.2% and decreased slippages
to 1.28% from the 5-year average of 1.92%.
BoB now has among the highest RoAs and lowest
slippages amongst state-owned banks.
Strong growth under new leadership, likely to sustain –
Following the loan book clean up, rebranding and
technology thrust under M.D.Mallya’s leadership, BoB’s
financials have turned around with substantial improvement
in profitability and asset quality. We expect BoB to continue
with its above-average performance over FY12-13E. We
expect net profit to grow 17% over FY11-13E, RoA to
remain healthy at 1.3%, higher than 1.2% in FY10. Despite
significant equity dilution, we expect RoE to remain high at
23% in FY12E.
Deserves to trade at a premium – With a strong
turnaround in earnings and asset quality, which is likely to
sustain through our forecast period, we believe BoB
deserves to trade at a premium to its five-year average
multiple and to its peers. We value BoB on P/BV of 1.9x,
substantially higher than its average multiple of 1.1x and the
current multiple of 1.7x FY12E.
Superior asset quality – Gross NPLs have declined to
1.3% of loans in Dec ’10 from 2.5% in FY07. Slippage was
1.1% for 9M FY11, the lowest among state-owned banks.
Slippage for BoB has been consistently lower than other
banks for the past three years due to its well-diversified loan
portfolio with no major concentration in any one segment.
Risks – BoB’s pension liability is lower than for other similar
sized banks, which is an investor concern. Investors are
also concerned that the bank’s performance may suffer
once Mallya retires in Nov ’12. Faster-than-expected rise in
rates is a key risk to our earnings forecasts.
Investment argument and valuation
Improving fundamentals under new leadership
Mr Mallya, who took over as CMD in May 2008, has transformed the bank into a high-growth,
profitable bank with good asset quality. During his tenure, the bank has focussed on improving
technology, diversifying risks in the loan portfolio and re-branding to improve market share of
retail deposits. The makeover has shown impressive results. Over FY08-10, CASA grew 23%
p.a., loans grew 32% p.a, domestic NIMs improved from 2.9% to 3.8% and earnings grew 45%
p.a.
BoB’s gross NPLs at 1.2% of loans is one the lowest among state-owned banks we track and
slippages have been consistently lower than the sector over the past two years. BoB’s slippages
were a low 1.1% for 9M FY11, substantially lower than the sector average of ~2%. Over FY08-10,
RoA improved from 0.9% to 1.2% and RoE improved from 15.8% to 23.8%. Cost to average
assets declined from 1.9% in FY08 to 1.1% in FY10, amongst the lowest in the sector.
We believe BoB’s strong fundamentals are sustainable given its diversified loan book and
potential upside from core fees, which currently lag the sector and are likely to improve as BoB
fully leverages its technology platform to grab a higher share of fees from retail liability customers.
Fees to assets at 0.8% for BoB is similar to other similar sized state-owned banks but lower than
SBI’s 1.5% and significantly lower than private banks’.
We expect BoB to grow net profit by 17% p.a. over FY11-13E. We expect RoA to remain strong
at 1.3% over FY11-13E and RoE to remain above 20% (23.4% in FY12E and 21.6% in FY13E).
We expect BoB to maintain strong profitability on the back of its large domestic branch network,
strong corporate clientele, strong brand and low risk asset book, which is more diversified than
other players.
Recent capital infusion leading to a 10% dilution
The government has recently infused capital into the bank. BoB issued 36.3m shares on a
preferential basis to the government, which has increased shares in issue by 10%. Post issue,
government holding in BoB has risen to 57% from 54%. BoB’s Tier I ratio will improve from a predilution
level of 8.22% as at end Dec ’10 to 11% post issue.
Valuation
Our price target of Rs1,120 for Bank of Baroda is based on 1.9x FY12E P/BV. We have used
sustainable RoE of 18%, cost of equity of 13% and sustainable growth rate of 7%. BoB currently
trades at 1.7x FY12E. The five-year average P/BV for BoB is 1.1x. The stock has re-rated
substantially over the past two years on the back of its improving financial performance. It now
trades at a premium to its peers. We believe BoB is likely to maintain its premium valuations as
we see earnings growth and profitability remaining strong through our forecast period.
Key investor concerns
Pension cost lower than for other banks
BoB announced gross pension liability of Rs25.6bn and net pension liability of Rs20.6bn after
adjusting for earlier surplus provisions. Other similar sized banks have announced much higher
pension liabilities. Bank of India, which has a comparable employee base, has estimated its
pension liability to be Rs40bn. BoB’s management’s response to this concern is that it has
announced the figure after a thorough actuarial valuation and does not see the risks of higherthan-
peer shortfalls when interest rates fall.
We believe it is not possible to do a like to like comparison of pension liabilities of banks even if
they have the same employee base. The composition of employees – clerks, officers, substaff –
is a key cause of the difference between pension liabilities of banks. In addition, it is likely that
there may be shortfalls in provisions of existing pensioners and some banks may have added that
shortfall while announcing the pension liability for new pension optees under the second pension
option.
Asset quality – too good to be true?
Some investors wonder how BoB has managed to keep slippages at a low 1.1% for 9M FY11
when other peer banks have reported huge slippages. PNB reported slippages of 2.5% for 9M
FY11, SBI 2.8%, BoI 1.6% and Union 2.9%. We believe BoB’s lower-than-sector NPLs is
because the bank’s loan book is more diversified than peers’. Exposures to vulnerable sectors
are lower than peers’. Restructured loans account for 2.9% of total loans, the lowest among peer
state-owned banks.
After Mallya what?
Mallya’s term ends only in Nov ’12, so he has a good 1.5 years with the bank. The risk of change
in leadership applies to all state-owned banks as the new chairman may take a different view on
provisioning policies and areas of growth. For banks like BoB, the risk is lower due to strong
systems and processes built over the past few years.
Asset quality – Slippages likely to remain low
We expect asset quality to remain robust with low gross NPLs of 1.2% over FY11-13E against
1.3% in FY10. We expect slippage to decline to 0.9% in FY12-13E from 1.1% in 9M FY11.
Company profile
Bank of Baroda is a leading public sector bank with assets in excess of Rs3trn. The government
of India’s stake in BoB has increased from 54% to 58% following the recent infusion of equity.
Bank of Baroda has 3,259 branches and 1,521 ATMs in the country. It also has a large
international network of 78 offices. The bank has made forays into non-banking activities through
subsidiaries and joint ventures, including BOB Capital Markets, BOBCARDS, Baroda Pioneer
Asset Management and IndiaFirst Life Insurance.
Management team
Chairman & Managing Director - M.D. Mallya
Took over as CMD on 7 May ’08, prior to which he was the Chairman & Managing Director of
Bank of Maharashtra. He has also previously worked with Oriental Bank of Commerce as
Executive Director. He has served on various committees of Indian Banks' Association and
National Institute of Bank Management (NIBM). He has a Bachelor of Engineering with Distinction
from Karnataka Regional Engineering College, Suratkal and has completed his post-graduation
Diploma in Management from the Indian Institute of Science, Bangalore with Distinction.
Executive Director - Rajiv Kumar Bakshi
Rajiv Bakshi started his career with Bank of India in 1975, as a Probationary Officer. He is a Post-
Graduate in Science and also holds a Diploma in Bank Management as well as CAIIB. He has
served earlier as General Manager of Bank of India.
Executive Director - N.S. Srinath
N.S. Srinath joined the bank as ED on 7 Dec ’09 from Canara Bank where he was General
Manager (HR) at its corporate office. He is a Science Graduate with a Law degree and a
professionally qualified banker with CAIIB
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Bank of Baroda
Cautious aggression; initiate with OUTPERFORM
We initiate coverage with OUTPERFORM and price
target of Rs1,120 based on target P/BV of 1.9x.
BoB trades at a significant premium to peers, which we
believe is well-deserved given the solid improvement in
earnings and asset quality.
Over FY08-10, BoB reported earnings growth of 47%,
raised RoA from 0.8% to 1.2% and decreased slippages
to 1.28% from the 5-year average of 1.92%.
BoB now has among the highest RoAs and lowest
slippages amongst state-owned banks.
Strong growth under new leadership, likely to sustain –
Following the loan book clean up, rebranding and
technology thrust under M.D.Mallya’s leadership, BoB’s
financials have turned around with substantial improvement
in profitability and asset quality. We expect BoB to continue
with its above-average performance over FY12-13E. We
expect net profit to grow 17% over FY11-13E, RoA to
remain healthy at 1.3%, higher than 1.2% in FY10. Despite
significant equity dilution, we expect RoE to remain high at
23% in FY12E.
Deserves to trade at a premium – With a strong
turnaround in earnings and asset quality, which is likely to
sustain through our forecast period, we believe BoB
deserves to trade at a premium to its five-year average
multiple and to its peers. We value BoB on P/BV of 1.9x,
substantially higher than its average multiple of 1.1x and the
current multiple of 1.7x FY12E.
Superior asset quality – Gross NPLs have declined to
1.3% of loans in Dec ’10 from 2.5% in FY07. Slippage was
1.1% for 9M FY11, the lowest among state-owned banks.
Slippage for BoB has been consistently lower than other
banks for the past three years due to its well-diversified loan
portfolio with no major concentration in any one segment.
Risks – BoB’s pension liability is lower than for other similar
sized banks, which is an investor concern. Investors are
also concerned that the bank’s performance may suffer
once Mallya retires in Nov ’12. Faster-than-expected rise in
rates is a key risk to our earnings forecasts.
Investment argument and valuation
Improving fundamentals under new leadership
Mr Mallya, who took over as CMD in May 2008, has transformed the bank into a high-growth,
profitable bank with good asset quality. During his tenure, the bank has focussed on improving
technology, diversifying risks in the loan portfolio and re-branding to improve market share of
retail deposits. The makeover has shown impressive results. Over FY08-10, CASA grew 23%
p.a., loans grew 32% p.a, domestic NIMs improved from 2.9% to 3.8% and earnings grew 45%
p.a.
BoB’s gross NPLs at 1.2% of loans is one the lowest among state-owned banks we track and
slippages have been consistently lower than the sector over the past two years. BoB’s slippages
were a low 1.1% for 9M FY11, substantially lower than the sector average of ~2%. Over FY08-10,
RoA improved from 0.9% to 1.2% and RoE improved from 15.8% to 23.8%. Cost to average
assets declined from 1.9% in FY08 to 1.1% in FY10, amongst the lowest in the sector.
We believe BoB’s strong fundamentals are sustainable given its diversified loan book and
potential upside from core fees, which currently lag the sector and are likely to improve as BoB
fully leverages its technology platform to grab a higher share of fees from retail liability customers.
Fees to assets at 0.8% for BoB is similar to other similar sized state-owned banks but lower than
SBI’s 1.5% and significantly lower than private banks’.
We expect BoB to grow net profit by 17% p.a. over FY11-13E. We expect RoA to remain strong
at 1.3% over FY11-13E and RoE to remain above 20% (23.4% in FY12E and 21.6% in FY13E).
We expect BoB to maintain strong profitability on the back of its large domestic branch network,
strong corporate clientele, strong brand and low risk asset book, which is more diversified than
other players.
Recent capital infusion leading to a 10% dilution
The government has recently infused capital into the bank. BoB issued 36.3m shares on a
preferential basis to the government, which has increased shares in issue by 10%. Post issue,
government holding in BoB has risen to 57% from 54%. BoB’s Tier I ratio will improve from a predilution
level of 8.22% as at end Dec ’10 to 11% post issue.
Valuation
Our price target of Rs1,120 for Bank of Baroda is based on 1.9x FY12E P/BV. We have used
sustainable RoE of 18%, cost of equity of 13% and sustainable growth rate of 7%. BoB currently
trades at 1.7x FY12E. The five-year average P/BV for BoB is 1.1x. The stock has re-rated
substantially over the past two years on the back of its improving financial performance. It now
trades at a premium to its peers. We believe BoB is likely to maintain its premium valuations as
we see earnings growth and profitability remaining strong through our forecast period.
Key investor concerns
Pension cost lower than for other banks
BoB announced gross pension liability of Rs25.6bn and net pension liability of Rs20.6bn after
adjusting for earlier surplus provisions. Other similar sized banks have announced much higher
pension liabilities. Bank of India, which has a comparable employee base, has estimated its
pension liability to be Rs40bn. BoB’s management’s response to this concern is that it has
announced the figure after a thorough actuarial valuation and does not see the risks of higherthan-
peer shortfalls when interest rates fall.
We believe it is not possible to do a like to like comparison of pension liabilities of banks even if
they have the same employee base. The composition of employees – clerks, officers, substaff –
is a key cause of the difference between pension liabilities of banks. In addition, it is likely that
there may be shortfalls in provisions of existing pensioners and some banks may have added that
shortfall while announcing the pension liability for new pension optees under the second pension
option.
Asset quality – too good to be true?
Some investors wonder how BoB has managed to keep slippages at a low 1.1% for 9M FY11
when other peer banks have reported huge slippages. PNB reported slippages of 2.5% for 9M
FY11, SBI 2.8%, BoI 1.6% and Union 2.9%. We believe BoB’s lower-than-sector NPLs is
because the bank’s loan book is more diversified than peers’. Exposures to vulnerable sectors
are lower than peers’. Restructured loans account for 2.9% of total loans, the lowest among peer
state-owned banks.
After Mallya what?
Mallya’s term ends only in Nov ’12, so he has a good 1.5 years with the bank. The risk of change
in leadership applies to all state-owned banks as the new chairman may take a different view on
provisioning policies and areas of growth. For banks like BoB, the risk is lower due to strong
systems and processes built over the past few years.
Asset quality – Slippages likely to remain low
We expect asset quality to remain robust with low gross NPLs of 1.2% over FY11-13E against
1.3% in FY10. We expect slippage to decline to 0.9% in FY12-13E from 1.1% in 9M FY11.
Company profile
Bank of Baroda is a leading public sector bank with assets in excess of Rs3trn. The government
of India’s stake in BoB has increased from 54% to 58% following the recent infusion of equity.
Bank of Baroda has 3,259 branches and 1,521 ATMs in the country. It also has a large
international network of 78 offices. The bank has made forays into non-banking activities through
subsidiaries and joint ventures, including BOB Capital Markets, BOBCARDS, Baroda Pioneer
Asset Management and IndiaFirst Life Insurance.
Management team
Chairman & Managing Director - M.D. Mallya
Took over as CMD on 7 May ’08, prior to which he was the Chairman & Managing Director of
Bank of Maharashtra. He has also previously worked with Oriental Bank of Commerce as
Executive Director. He has served on various committees of Indian Banks' Association and
National Institute of Bank Management (NIBM). He has a Bachelor of Engineering with Distinction
from Karnataka Regional Engineering College, Suratkal and has completed his post-graduation
Diploma in Management from the Indian Institute of Science, Bangalore with Distinction.
Executive Director - Rajiv Kumar Bakshi
Rajiv Bakshi started his career with Bank of India in 1975, as a Probationary Officer. He is a Post-
Graduate in Science and also holds a Diploma in Bank Management as well as CAIIB. He has
served earlier as General Manager of Bank of India.
Executive Director - N.S. Srinath
N.S. Srinath joined the bank as ED on 7 Dec ’09 from Canara Bank where he was General
Manager (HR) at its corporate office. He is a Science Graduate with a Law degree and a
professionally qualified banker with CAIIB
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