Bank of India - Gone case : Macquarie Research

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Bank of India
Gone case
Event
 Reiterate Underperform: We expect BOI’s ROE to come down from 16% in
FY11 to 12% by FY14E driven by lower ROA and leverage. Maintain
Underperform with a revised TP of Rs255.
Impact
 Asset quality pains to come over again: Although asset quality has shown
some improvement in 3Q12, several concerns still remain. BOI’s exposure to
the power sector (SEB and private power projects 5% each) and Aviation
(mainly Kingfisher, which has already restructured once and is having
difficulty servicing interest); chances of it slipping into an NPL are increasing
(BOI has ~Rs6bn exposure). In addition, slippages could increase in coming
quarters from stressed sectors like SME, iron & steel, construction and sugar.
 Stressed assets to net-worth to cross 100% by FY13E. Restructuring
picked up considerably in 3Q12 and has already reached 6% of overall loans.
We expect the trend to continue, as indicated by the management in looking
at the pipeline of applications for restructuring and stress in the economy. We
estimate stressed assets to net-worth to shoot up and cross the alarming level
of 100% by FY13.
 Loans and fees growth to slow: Overall advances grew by 20.9% YoY in
Dec’11; however, domestic advances performed dismally with 8.2% growth.
We expect loan growth to moderate considerably for the remainder of FY12
and estimate a 17% CAGR in loans over FY12-14E. This is likely to put
pressure on fees as well.
 Poor NPA coverage to drag earnings: The reported provision coverage
ratio as of Dec’11 stood at 36% (61% including technical write-offs), one of
the poorest in the sector. The average slippage ratio over the past three years
(FY09-YTDFY12) has remained above 2.5%. An increase in slippages with a
slowing economy going forward would compel the bank to stiffen credit costs
as there is little room available to reduce PCR. This in turn would drag ROA.
Earnings and target price revision
 We have reduced our FY13E and FY14E earnings by 17% and 20% on
account of the increase in credit cost. We reduce our TP by 7% to Rs255 on
account of lower ROA and lower adjusted book value
Price catalyst
 12-month price target: Rs255.00 based on a Gordon growth methodology.
 Catalyst: Increase in NPLs and restructured assets
Action and recommendation
 Maintain Underperform, Management change in the near term adds to
uncertainty: The current CMD Mr. Misra retires in August 2012. Management
changes at PSU banks have been quite disruptive at times and we remain
cautious on the stock. Reiterate Underperform with TP of Rs255.
Valuations and TP
We value BOI on a two stage Gordon growth model using
P/BV = RoE * {(p(1+g) * (1- (1+g)n/(1+r)n)) + (pn(1+g)n(1+gn))/((r-gn)(1+r)n)} where g=growth rate
for the first n (high-growth period) years, p=payout ratio in the first n years, gn=perpetual growth rate,
pn=perpetual payout ratio.
Fig 1 BOI – sum-of-parts methodology
Cost of equity 13.0%
RoE 12.4%
g (initial growth) 10%
n(initial growth period) 5
Steady growth 4%
Theoretical P/BV – using two stage Gordon growth model 0.95x
FY13E adjusted book value (INR) – Adjusted for Net NPLs 324
Assumed restructuring hit at 20% to gross book value 54
Book value used in calculation of fair value 269
Target Price (Rounded off) 255
Source: Macquarie Research, March 2012