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Canara Bank (CBK)
OW: 4QFY11 results; slippages accentuate
4QFY11 PAT was below our expectations – dragged down by
lower-than-expected margins and higher credit costs
We are building in further margin compression for FY12 and
higher slippages with earnings surprise likely on the upside
Cutting target price to INR719 (from INR878), implying a
potential return of 30%; reiterate OW rating, though nearterm underperformance may continue
4QFY11 earnings grew 79% YoY to INR8.99bn, and were c15% below ours and
consensus estimates. Margin decline of ~30 bps QoQ and higher credit cost dented profit
growth, but was cushioned partially by higher recoveries. The stock ended down 3% on
concerns of significantly higher slippages and margin decline.
Operational review: Loan growth came in higher than expected at 25% YoY, driven by
retail and priority sector advances. 4Q NIM came off ~30bps QoQ to 2.99% due to higher
funding costs as has been the case with other banks. The key disappointment was significantly
higher slippages in 4Q, partially due to shifting to CBS-based NPL recognition. However, the
bank also made substantial recoveries from written-off accounts (~INR 8bn in 4Q), which
helped it cushion its bottom-line growth. The bank recognised a second pension liability of
INR 23.7bn and gratuity liability of INR 6.8bn, amortised over five years. INR10.28bn has
been amortised this year, while cINR5bn will be amortised each year over the next four years.
Earnings outlook: Given the continued high interest rate scenario, we expect margin
pressures to continue. For FY12, we are building in a loan growth of 21% along with a 20bps
decline in margins. While the bank has been aggressive in recognising NPLs and also does
aggressive write-offs, we are conservative on asset quality and are building in higher slippages
at 2%. Against this, CBK is likely to see a lower cost ratio, helping offset some losses. Overall,
we are cutting our earnings estimates by 8.8% for FY12 and 10.6% for FY13.
Valuations and target price: CBK is currently trading at 5.5x and 1.1x 12-month rolling
PE and PB, trading at a 28% PE and 10% PB discount to peers. For FY12, we are building in
more conservative assumptions in our earnings with the likelihood of earnings surprise more
on the upside. We, therefore, continue to value the stock at 7x and 1.2x 12-month forward PE
and PB target multiple. Based on our new PE, PB, and DCF weights of 50%, 20% and 30%,
respectively, we are cutting our target price by 18% to INR719, implying a potential return of
30.5%. We maintain our Overweight rating, though we recognise that the stock may
underperform due to near-term macro concerns. Key risks: 1) Higher slippages and lower
margins, which may dampen earnings growth, 2) Management change in 2HFY13.
Valuation and risks
Overweight rating; target price INR719
We continue to value Canara Bank using a weighted average combination of PE, PB, and economic profit
model (EPM) methodologies. We are changing our weights for PE, PB and EPM from 75%, 15% and
10%, respectively, to 50%, 20% and 30%, due to the following reasons:
PE weight falls from 75% to 50% as near-term risks to earnings growth increase for the sector led by
higher inflation and crude prices;
PB weight increases marginally from 15% to 20% as although risk to book from asset quality and
profitability deterioration is not yet evident, some potential increase in riskiness has materialised
from the macro overhangs of higher inflation and crude prices; and
DCF (EPM) weight increases from 10% to 30% as investors refocus on medium-term profitability
and growth outlook versus near-term prospects.
The three-stage EPM uses explicit forecasts until FY13, followed by 10 years of semi-explicit forecasts.
The final stage of 12 years (fade period) assumes convergence of ROE and COE. EPM is based on the
assumptions in the following table:
Canara Bank: EPM assumptions
Semi-explicit forecasts for 10 years
Loan CAGR 8%
Dividend payout 15%
Fade period of 12 years
Risk free rate 8%
Beta 1.0
Equity risk premium 6%
Cost of equity 14%
EPM value 626
Source: HSBC estimates
We are reducing our 12-month target price to INR719 from INR878; see also the tables below.
Under our research model, for stocks without a volatility indicator, the Neutral band is 5ppt above and
below our hurdle rate for Indian stocks of 11%, or 6-16% around the current share price. Our new target
price of INR719 suggests a potential return, including dividend yield, of 30.5%, which is above the
Neutral band. We therefore reiterate our Overweight rating on the stock.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Canara Bank (CBK)
OW: 4QFY11 results; slippages accentuate
4QFY11 PAT was below our expectations – dragged down by
lower-than-expected margins and higher credit costs
We are building in further margin compression for FY12 and
higher slippages with earnings surprise likely on the upside
Cutting target price to INR719 (from INR878), implying a
potential return of 30%; reiterate OW rating, though nearterm underperformance may continue
4QFY11 earnings grew 79% YoY to INR8.99bn, and were c15% below ours and
consensus estimates. Margin decline of ~30 bps QoQ and higher credit cost dented profit
growth, but was cushioned partially by higher recoveries. The stock ended down 3% on
concerns of significantly higher slippages and margin decline.
Operational review: Loan growth came in higher than expected at 25% YoY, driven by
retail and priority sector advances. 4Q NIM came off ~30bps QoQ to 2.99% due to higher
funding costs as has been the case with other banks. The key disappointment was significantly
higher slippages in 4Q, partially due to shifting to CBS-based NPL recognition. However, the
bank also made substantial recoveries from written-off accounts (~INR 8bn in 4Q), which
helped it cushion its bottom-line growth. The bank recognised a second pension liability of
INR 23.7bn and gratuity liability of INR 6.8bn, amortised over five years. INR10.28bn has
been amortised this year, while cINR5bn will be amortised each year over the next four years.
Earnings outlook: Given the continued high interest rate scenario, we expect margin
pressures to continue. For FY12, we are building in a loan growth of 21% along with a 20bps
decline in margins. While the bank has been aggressive in recognising NPLs and also does
aggressive write-offs, we are conservative on asset quality and are building in higher slippages
at 2%. Against this, CBK is likely to see a lower cost ratio, helping offset some losses. Overall,
we are cutting our earnings estimates by 8.8% for FY12 and 10.6% for FY13.
Valuations and target price: CBK is currently trading at 5.5x and 1.1x 12-month rolling
PE and PB, trading at a 28% PE and 10% PB discount to peers. For FY12, we are building in
more conservative assumptions in our earnings with the likelihood of earnings surprise more
on the upside. We, therefore, continue to value the stock at 7x and 1.2x 12-month forward PE
and PB target multiple. Based on our new PE, PB, and DCF weights of 50%, 20% and 30%,
respectively, we are cutting our target price by 18% to INR719, implying a potential return of
30.5%. We maintain our Overweight rating, though we recognise that the stock may
underperform due to near-term macro concerns. Key risks: 1) Higher slippages and lower
margins, which may dampen earnings growth, 2) Management change in 2HFY13.
Valuation and risks
Overweight rating; target price INR719
We continue to value Canara Bank using a weighted average combination of PE, PB, and economic profit
model (EPM) methodologies. We are changing our weights for PE, PB and EPM from 75%, 15% and
10%, respectively, to 50%, 20% and 30%, due to the following reasons:
PE weight falls from 75% to 50% as near-term risks to earnings growth increase for the sector led by
higher inflation and crude prices;
PB weight increases marginally from 15% to 20% as although risk to book from asset quality and
profitability deterioration is not yet evident, some potential increase in riskiness has materialised
from the macro overhangs of higher inflation and crude prices; and
DCF (EPM) weight increases from 10% to 30% as investors refocus on medium-term profitability
and growth outlook versus near-term prospects.
The three-stage EPM uses explicit forecasts until FY13, followed by 10 years of semi-explicit forecasts.
The final stage of 12 years (fade period) assumes convergence of ROE and COE. EPM is based on the
assumptions in the following table:
Canara Bank: EPM assumptions
Semi-explicit forecasts for 10 years
Loan CAGR 8%
Dividend payout 15%
Fade period of 12 years
Risk free rate 8%
Beta 1.0
Equity risk premium 6%
Cost of equity 14%
EPM value 626
Source: HSBC estimates
We are reducing our 12-month target price to INR719 from INR878; see also the tables below.
Under our research model, for stocks without a volatility indicator, the Neutral band is 5ppt above and
below our hurdle rate for Indian stocks of 11%, or 6-16% around the current share price. Our new target
price of INR719 suggests a potential return, including dividend yield, of 30.5%, which is above the
Neutral band. We therefore reiterate our Overweight rating on the stock.
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