State Bank of India - Big is no longer better ::Macquarie Research,

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State Bank of India
Big is no longer better
Event
 Downgrade to Underperform with TP of Rs1,700; doesn’t deserve
premium valuations: We downgrade State Bank of India (SBI) to
Underperform from Neutral and cut EPS for the parent sharply, by 16% for
FY13E and 25%for FY14E, driven by higher credit costs and opex. We do not
expect asset quality pains to abate, and pensions should also be a recurring
bane for SBI. We cut our TP by 30% to Rs1,700 on account of sharply
reducing our TP multiple due to lower ROE and earnings growth.
Impact
 Asset quality – the biggest thorn in the bush: SBI’s 1Q12 slippages, at 3%
of advances, was surprising to us, to say the least. We highlight that SBI is
reporting such slippages at a time when the power sector and other
infrastructure sectors are yet to show NPLs. The full impact of elevated rates
on the SME sector is yet to be felt. We now expect a sharp pick-up in NPLs as
well as restructured assets booked and expect stressed assets as a
percentage of net worth to increase from 70% in FY11 to 93% FY13E.
 Woefully inadequate capital position: The Tier-1 ratio is at 7.7% – the
lowest amongst large banks – and with the government’s fiscal position in a
precarious state, capital infusion looks to us like a remote possibility in
FY12E. We have seen several instances of the government delaying capital
infusion decisions. In the past, the government’s injected capital in SBI was
significantly delayed (by nearly two years).
 Margin improvement is encouraging – that’s the only saving grace: SBI
continues to have a very strong liabilities franchise, with CASA at 48%, and
has managed to report a very good 1Q NIM of 3.6% – much higher than street
expectations. Management’s guidance of achieving a 3.5% NIM for FY12E
now looks more likely, in our view.
 Structurally inferior return ratios: SBI’s ROA is structurally lower than its
peers by 10–20bp, at around 80-90bp, owing to its higher opex ratio emanating
out of pensions and other employee benefit provisioning. We note that SBI is
the only PSU bank in India from which employees get both defined benefits as
well as defined contribution benefits. Any actuarial revaluation therefore hurts
SBI the most, owing to its large employee base dependent on pensions.
Earnings and target price revision
 We are cutting FY13E and FY14E EPS by 16% and 25%, respectively, on
account of increased credit costs and opex. We are reducing our TP by 30%
to Rs1,700 from Rs2,450 as a result of lowering our target multiple from 1.4x
to 1.05x on lower ROE and earnings growth.
Price catalyst
 12-month price target: Rs1,700.00 based on a Sum of parts methodology.
 Catalyst: Continued increase in slippages, negative surprises on opex.
Action and recommendation
 Premium valuations unwarranted: SBI trades at a ~10% premium to its
large-cap peers despite having inferior return ratios. Downgrade to
Underperform with a TP of Rs1,700.

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