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ICICI Bank
Investor issues appear
overdone; Reiterate Buy
„Risk return stacked in its favor; Reiterate Buy, PO Rs1200
We reiterate our Buy on ICICI Bank (PO of Rs1200) as we believe it may still
deliver earnings growth of 22/24% in FY12/13 factoring in a credit cycle and
moderation in loan growth. It is amongst the best capitalized banks. ROE of core
biz. forecast at +16% by FY13; ROA at +1.6%. Hence, stock, at 1.3x FY13 adj.
BV can re-rate back to levels prior to recent correction 2.0x FY13 adj. BV. Key
risks: MSCI’s proposal to reduce ICICI Bk’s weight in the index.
Investor issues overplayed; priced in
The stock has corrected by ~20% (~6 weeks), U/p markets by ~7% on rising
investor concerns that appear overdone. Key investor issues are 1) Asset quality
may deteriorate sharply. We expect net NPL’s to be <1.3%; 2) Overseas invst. will
hurt earnings. These constitute <4-5% of its consol. O/s assets. Minimal earnings
hit; 3) Growth may stall. While assuming lower loan growth at 16%, we think
margins may surprise. Earnings to still grow 22/24% in FY12/13E. Earnings
growth at 18-19% even in stress case; and 4) Insurance profitability may not
sustain. While insurance profits may be volatile over next 3 years, may see huge
jump in FY12/13. Moreover, valuations still reasonable at 1.1x FY13E EV.
Asset quality very manageable; minimal earnings impact
We believe ICICI bank is well positioned to mange the next credit cycle (SME led)
with <5% SME exposure and 38% retail loans, a sector that is unlikely to be
impacted much. Even assuming a 100% jump in NPL’s in stressed sectors (18-
20% of loans) and 40% of power loans and 20% of all loans for projects under
implementation being restructured, net NPL’s at 1.3%. Factored in earnings.
Our investment case
We reiterate our Buy on ICICI Bank and believe it remains well positioned to
manage the next credit cycle. As detailed in our sector report “Stress Testing
Indian Banks”, dated August 22, 2011 (see Banks-Retail, 22 August 2011), ICICI
Bank offered the best risk return trade. The upside is estimated at +40%; while
the downside is likely to be ~15% providing the best risk return trade.
Moreover, even after factoring in a credit cycle (at sector level) and moderation in
sector loan growth to 17% / 15% for Fy12/13, we expect ICICI bank to deliver
earnings growth of 22% /24% through Fy12/13 – amongst the higher growth in he
sector.
Risk return stacked in its favor
We believe ICICI Bank can still trade upto 2.0x FY13E adj. book (banking biz.),
which is equivalent to its average multiple through the cycle. This is based on:
„ Earnings growth forecast at +22/24% for FY12/13 (base case), with
consolidated earnings rising to +30% by FY13. ROE is likely to rise to +16%
by FY13 (consol.). More importantly, even under our “stress case” scenario,
we estimate earnings to grow by +18/19% during FY12/13 (bank) and ROE’s
to be still at +15% by FY13.
„ We believe ICICI Bank is amongst the better positioned banks to manage the
forthcoming credit cycle owing to its high share of retail loans (38%) that is
likely to be less impacted. In contrast, it has lower exposure to SME that may
have a bigger impact from the credit cycle. It does, however, have exposure
to power, infra and real estate, as discussed. But, our earnings and NPL
forecast capture this – and we think investor issues relating to these are
overdone.
„ We expect the bank to manage volume (loan) growth of +17/16% through
FY12/13 (base case) factoring in the moderation in sector loan growth. It may
grow marginally ahead of the sector owing to its overseas and mortgage
book.
„ Margins may still surprise on the upside. We estimate margins to expand
through FY12/13 on the changing loan mix and absence of the drag from
securitization on its topline. Margins expected to rise by +20bps through
FY11-13.
„ While, opex is likely to rise, given its expanding distribution and staffing, we
expect overall C-I ratio to be still <40% as it benefits from a better top line.
We reckon many of its branches may begin to break even by FY13. Almost
+45-50% of the 2500 branches have yet to break even.
Key investor issues
The stock has, however, fallen by 20% in the past 6 weeks and underperformed
by the sector by ~7%, on rising investor concerns ranging from asset quality, to its
international operations and ability to sustain earnings and loan growth in an
environment where we see greater macro headwinds. Finally, there is also
greater debate on the profitability of its insurance venture.
While the concerns do pose a challenge, we think they are getting priced in and
appear somewhat overdone. We discuss the key issues impacting the stock.
# 1: Asset quality may deteriorate; We still
expect Net NPL’s to be ~1.3%
We begin with asset quality, the most challenging issue for all banks, currently.
Markets appear apprehensive about ICICI Bank’s ability to manage the next
credit cycle given its rising exposure to infra, real estate and projects under
implementation. We believe the ICICI Bank’s asset quality is very manageable in
regard to both its impact on the bank’s earnings and balance sheet.
Credit cycle (sector) to be SME led; by end of FY12
As discussed, in our sector report, we believe the next (4
th
) credit cycle could
become visible over the next few quarters – and is likely to be a combination of
the 1
st
credit cycle (large projects) and the more recent one (3
rd
) in 2008 that was
SME led. In our view, SME sectors may be more vulnerable leading into the next
credit cycle because the current slowdown is, in part, being driven by a) lower
external demand that could weaken much more if US and Europe cuts spending
and b) rising rates that is already beginning to hurt company cash flows,
especially for many of the smaller companies.
Loan mix positioning good; loans that may be more
impacted by credit cycle est. at <20% of loans
We believe the banks’ overall loan mix still puts it in a good position with regard to
managing the next credit cycle. We show below the NPL and loan mix in the table
below. The rise in NPL’s / segment and changing loan mix helps provide an idea
of the vulnerability of the sectors and the stress becoming visible already.
65-70% of loans provide higher comfort including retail
One way to look at this is to look at the overall level of loans that are not likely to
be very materially impacted by the credit cycle, as discussed later (and also in our
sector report). This constitutes almost 65-70% of the total loans for ICICI Bank
owing to the high share of retail loans (38%) which in our view is less impacted by
the credit cycle. Additionally, services, automobiles and the services (nonfinance) also appear to be doing fairly satisfactorily, as also shown by the lower
NPL’s through the past few years.
Most stressed sectors ~ < 18-20% of loans; MSME est. at <10%
Our key concerns stem from exposure to wholesale trade (partly reflective of
SME), the textile segments and parts of commercial real estate. These in
aggregate account for < 15% of its total loans spread across the manufacturing
sectors. Moreover, even if we were to club the MSME part, we estimate the total
MSME loan exposure to be <10% of total loans (v/s 25-30% for many banks).
Currently, > 65% of NPL’s still from retail sector
Currently, almost 67% of its NPL’s are from the retail sector that is showing signs
of marked improvement which should sustain. We est. > 25% of the retail NPL’s
were still from unsecured retail loans that have since been run down and
comprised <10% of total loans.
Assuming NPL’s double in stress sectors; total NPL’s may rise <50%
Hence, in aggregate, even if we assume NPL’s in the more stressed sectors were
to double over the next 2 years, it is less than the overall expectations built in by
us for the bank. We estimate total gross NPL’s to rise by almost 50% to Rs150bn.
Comfortable with retail segment
We are still relatively more comfortable on the retail sector. We may see a
sharper slowdown in growth as rates rise but we think the underlying
delinquencies in this sector are likely to be much lower. This is also because
>60% of its retail loans comprise mortgages where we still have the maximum
asset quality comfort given LTV’s of <65% and more genuine individual demand.
Also, banks’, especially ICICI Bank, have refrained from extending unsecured
retail loans and have also been more cautious on credit cards etc. These were
the segments that had seen a sharp spike in NPL’s during the retail credit cycle.
Valuations
As discussed in our sector report, we have done a risk reward scenario analysis
for all our banks’ under coverage. This was part of the stress testing that we had
done on the banks’. As shown in that report too, ICICI Bank offers the best risk
return with an upside of +40% and downside at ~15%. We believe banks that
may be better positioned to mange the new credit cycle could trade at close to
their average trading multiples seen in the past 5-7 years, under the base case
scenario. Under the stress test, we have assumed that the bank could trade to 2
SD (standard deviation) below the average multiple trading band in the past 5-7
year cycle. The average multiple for ICICI Bank (assigning no value to its subs) is
around 1.9-2.0x through the cycle. The SD is around 0.4x
SOTP valued at Rs247/shr (base case)
We value ICICI Bank on SOTP basis and the biggest driver, as highlighted
earlier, is the life insurance business that contributes almost 45% to our SOTP.
We remain positive on ICICI Bank’s life insurance biz. prospects as we believe
players like ICICI Bk are in a very strong position on economies of scale, already
reporting profits, and adopting a bancassurance model, which will give itself an
edge vis-à-vis other players in this uncertain scenario.
PO at Rs1200; Stock is at can trade at +2.0x, 1 yr fwd
As discussed earlier, we believe the bank, trading at just 1.3x FY13 adj. book,
can rerate to 2.0x FY13 adj. BV, in sync with its average multiples traded through
the cycle given its forecast earnings growth of +20% after factoring in a credit
cycle; being amongst the best capitalized banks (Tier I forecast at ~10% in FY13),
ROA rising to 1.6% by FY13 and being relatively better positioned to mange the
credit cycle. As discussed in the report, we think investor issues are overplayed.
Hence, we reiterate our PO of Rs1200. Moreover, on a PE basis, the stock is
trading at 11x FY12 earnings and after adjusting for its subs value. Our PO
implies that the bank can re-rate to multiples of 14x, one year forward.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
ICICI Bank
Investor issues appear
overdone; Reiterate Buy
„Risk return stacked in its favor; Reiterate Buy, PO Rs1200
We reiterate our Buy on ICICI Bank (PO of Rs1200) as we believe it may still
deliver earnings growth of 22/24% in FY12/13 factoring in a credit cycle and
moderation in loan growth. It is amongst the best capitalized banks. ROE of core
biz. forecast at +16% by FY13; ROA at +1.6%. Hence, stock, at 1.3x FY13 adj.
BV can re-rate back to levels prior to recent correction 2.0x FY13 adj. BV. Key
risks: MSCI’s proposal to reduce ICICI Bk’s weight in the index.
Investor issues overplayed; priced in
The stock has corrected by ~20% (~6 weeks), U/p markets by ~7% on rising
investor concerns that appear overdone. Key investor issues are 1) Asset quality
may deteriorate sharply. We expect net NPL’s to be <1.3%; 2) Overseas invst. will
hurt earnings. These constitute <4-5% of its consol. O/s assets. Minimal earnings
hit; 3) Growth may stall. While assuming lower loan growth at 16%, we think
margins may surprise. Earnings to still grow 22/24% in FY12/13E. Earnings
growth at 18-19% even in stress case; and 4) Insurance profitability may not
sustain. While insurance profits may be volatile over next 3 years, may see huge
jump in FY12/13. Moreover, valuations still reasonable at 1.1x FY13E EV.
Asset quality very manageable; minimal earnings impact
We believe ICICI bank is well positioned to mange the next credit cycle (SME led)
with <5% SME exposure and 38% retail loans, a sector that is unlikely to be
impacted much. Even assuming a 100% jump in NPL’s in stressed sectors (18-
20% of loans) and 40% of power loans and 20% of all loans for projects under
implementation being restructured, net NPL’s at 1.3%. Factored in earnings.
Our investment case
We reiterate our Buy on ICICI Bank and believe it remains well positioned to
manage the next credit cycle. As detailed in our sector report “Stress Testing
Indian Banks”, dated August 22, 2011 (see Banks-Retail, 22 August 2011), ICICI
Bank offered the best risk return trade. The upside is estimated at +40%; while
the downside is likely to be ~15% providing the best risk return trade.
Moreover, even after factoring in a credit cycle (at sector level) and moderation in
sector loan growth to 17% / 15% for Fy12/13, we expect ICICI bank to deliver
earnings growth of 22% /24% through Fy12/13 – amongst the higher growth in he
sector.
Risk return stacked in its favor
We believe ICICI Bank can still trade upto 2.0x FY13E adj. book (banking biz.),
which is equivalent to its average multiple through the cycle. This is based on:
„ Earnings growth forecast at +22/24% for FY12/13 (base case), with
consolidated earnings rising to +30% by FY13. ROE is likely to rise to +16%
by FY13 (consol.). More importantly, even under our “stress case” scenario,
we estimate earnings to grow by +18/19% during FY12/13 (bank) and ROE’s
to be still at +15% by FY13.
„ We believe ICICI Bank is amongst the better positioned banks to manage the
forthcoming credit cycle owing to its high share of retail loans (38%) that is
likely to be less impacted. In contrast, it has lower exposure to SME that may
have a bigger impact from the credit cycle. It does, however, have exposure
to power, infra and real estate, as discussed. But, our earnings and NPL
forecast capture this – and we think investor issues relating to these are
overdone.
„ We expect the bank to manage volume (loan) growth of +17/16% through
FY12/13 (base case) factoring in the moderation in sector loan growth. It may
grow marginally ahead of the sector owing to its overseas and mortgage
book.
„ Margins may still surprise on the upside. We estimate margins to expand
through FY12/13 on the changing loan mix and absence of the drag from
securitization on its topline. Margins expected to rise by +20bps through
FY11-13.
„ While, opex is likely to rise, given its expanding distribution and staffing, we
expect overall C-I ratio to be still <40% as it benefits from a better top line.
We reckon many of its branches may begin to break even by FY13. Almost
+45-50% of the 2500 branches have yet to break even.
Key investor issues
The stock has, however, fallen by 20% in the past 6 weeks and underperformed
by the sector by ~7%, on rising investor concerns ranging from asset quality, to its
international operations and ability to sustain earnings and loan growth in an
environment where we see greater macro headwinds. Finally, there is also
greater debate on the profitability of its insurance venture.
While the concerns do pose a challenge, we think they are getting priced in and
appear somewhat overdone. We discuss the key issues impacting the stock.
# 1: Asset quality may deteriorate; We still
expect Net NPL’s to be ~1.3%
We begin with asset quality, the most challenging issue for all banks, currently.
Markets appear apprehensive about ICICI Bank’s ability to manage the next
credit cycle given its rising exposure to infra, real estate and projects under
implementation. We believe the ICICI Bank’s asset quality is very manageable in
regard to both its impact on the bank’s earnings and balance sheet.
Credit cycle (sector) to be SME led; by end of FY12
As discussed, in our sector report, we believe the next (4
th
) credit cycle could
become visible over the next few quarters – and is likely to be a combination of
the 1
st
credit cycle (large projects) and the more recent one (3
rd
) in 2008 that was
SME led. In our view, SME sectors may be more vulnerable leading into the next
credit cycle because the current slowdown is, in part, being driven by a) lower
external demand that could weaken much more if US and Europe cuts spending
and b) rising rates that is already beginning to hurt company cash flows,
especially for many of the smaller companies.
Loan mix positioning good; loans that may be more
impacted by credit cycle est. at <20% of loans
We believe the banks’ overall loan mix still puts it in a good position with regard to
managing the next credit cycle. We show below the NPL and loan mix in the table
below. The rise in NPL’s / segment and changing loan mix helps provide an idea
of the vulnerability of the sectors and the stress becoming visible already.
65-70% of loans provide higher comfort including retail
One way to look at this is to look at the overall level of loans that are not likely to
be very materially impacted by the credit cycle, as discussed later (and also in our
sector report). This constitutes almost 65-70% of the total loans for ICICI Bank
owing to the high share of retail loans (38%) which in our view is less impacted by
the credit cycle. Additionally, services, automobiles and the services (nonfinance) also appear to be doing fairly satisfactorily, as also shown by the lower
NPL’s through the past few years.
Most stressed sectors ~ < 18-20% of loans; MSME est. at <10%
Our key concerns stem from exposure to wholesale trade (partly reflective of
SME), the textile segments and parts of commercial real estate. These in
aggregate account for < 15% of its total loans spread across the manufacturing
sectors. Moreover, even if we were to club the MSME part, we estimate the total
MSME loan exposure to be <10% of total loans (v/s 25-30% for many banks).
Currently, > 65% of NPL’s still from retail sector
Currently, almost 67% of its NPL’s are from the retail sector that is showing signs
of marked improvement which should sustain. We est. > 25% of the retail NPL’s
were still from unsecured retail loans that have since been run down and
comprised <10% of total loans.
Assuming NPL’s double in stress sectors; total NPL’s may rise <50%
Hence, in aggregate, even if we assume NPL’s in the more stressed sectors were
to double over the next 2 years, it is less than the overall expectations built in by
us for the bank. We estimate total gross NPL’s to rise by almost 50% to Rs150bn.
Comfortable with retail segment
We are still relatively more comfortable on the retail sector. We may see a
sharper slowdown in growth as rates rise but we think the underlying
delinquencies in this sector are likely to be much lower. This is also because
>60% of its retail loans comprise mortgages where we still have the maximum
asset quality comfort given LTV’s of <65% and more genuine individual demand.
Also, banks’, especially ICICI Bank, have refrained from extending unsecured
retail loans and have also been more cautious on credit cards etc. These were
the segments that had seen a sharp spike in NPL’s during the retail credit cycle.
Valuations
As discussed in our sector report, we have done a risk reward scenario analysis
for all our banks’ under coverage. This was part of the stress testing that we had
done on the banks’. As shown in that report too, ICICI Bank offers the best risk
return with an upside of +40% and downside at ~15%. We believe banks that
may be better positioned to mange the new credit cycle could trade at close to
their average trading multiples seen in the past 5-7 years, under the base case
scenario. Under the stress test, we have assumed that the bank could trade to 2
SD (standard deviation) below the average multiple trading band in the past 5-7
year cycle. The average multiple for ICICI Bank (assigning no value to its subs) is
around 1.9-2.0x through the cycle. The SD is around 0.4x
SOTP valued at Rs247/shr (base case)
We value ICICI Bank on SOTP basis and the biggest driver, as highlighted
earlier, is the life insurance business that contributes almost 45% to our SOTP.
We remain positive on ICICI Bank’s life insurance biz. prospects as we believe
players like ICICI Bk are in a very strong position on economies of scale, already
reporting profits, and adopting a bancassurance model, which will give itself an
edge vis-à-vis other players in this uncertain scenario.
PO at Rs1200; Stock is at can trade at +2.0x, 1 yr fwd
As discussed earlier, we believe the bank, trading at just 1.3x FY13 adj. book,
can rerate to 2.0x FY13 adj. BV, in sync with its average multiples traded through
the cycle given its forecast earnings growth of +20% after factoring in a credit
cycle; being amongst the best capitalized banks (Tier I forecast at ~10% in FY13),
ROA rising to 1.6% by FY13 and being relatively better positioned to mange the
credit cycle. As discussed in the report, we think investor issues are overplayed.
Hence, we reiterate our PO of Rs1200. Moreover, on a PE basis, the stock is
trading at 11x FY12 earnings and after adjusting for its subs value. Our PO
implies that the bank can re-rate to multiples of 14x, one year forward.
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