J.P. Morgan - Axis Bank Ltd

Axis Bank Ltd (AXSB IN) 4Q14: Strong NIMs on better funding; stable asset quality		Overweight Price: Rs1,519.80 23 Apr 2014 Price Target: Rs1,600.00 PT End Date: 31 Mar 2015

Axis Bank reported 4Q14 PAT of Rs18.4bn, up 19% y/y and 6%>JPMe. They key surprise was a sharp spike in margins – most other metrics were largely in line. We think the stock should continue to re-rate given the improving balance sheet quality with a larger share of retail. This offsets the growth and asset quality stresses from the wholesale loan book. Despite the recent rally, the stock is barely at -1sd and still offers value, in our view.

Table 1: 4Q14 result table

	4Q13	3Q14	4Q14	YoY	QoQ	Comments
NII	26,647	29,840	31,658	18.8%	6.1%
Non-int inc	20,072	16,444	22,134	10.3%	34.6%	Includes Rs1.4bn of repatriation of profit from overseas branches
Opex	18,721	20,134	21,314	13.9%	5.9%
PPOP	27,998	26,150	32,477	16.0%	24.2%
Provisions	5,954	2,025	5,052	-15.1%	149.5%	Higher contingency provision of Rs2.55bn led to increase in provisions
PBT	22,044	24,125	27,425	24.4%	13.7%
Tax	6,492	8,084	9,002	38.7%	11.3%
PAT	15,552	16,041	18,423	18.5%	14.8%
NIM	3.70%	3.71%	3.89%	0.19%	0.18%	Lower funding costs led to improvement in margins
ROA	1.70%	1.70%	1.78%	0.08%	0.08%
Cost to Income	40.1%	43.5%	39.6%	-0.4%	-3.9%
Tax rate	29.5%	33.5%	32.8%	3.4%	-0.7%
Balance sheet data
Loans (Rs bn)	1,970	2,115	2,301	16.8%	8.8%	Loan growth driven by strong retail loan growth
Deposits (Rs bn)	2,526	2,624	2,809	11.2%	7.1%
Credit to Deposit	78.0%	80.6%	81.9%	3.9%	1.3%
CASA Ratio	44.4%	42.6%	45.0%	0.6%	2.4%	Higher Savings balances led to improvement in CASA
Asset Quality
Gross NPA	23,934	30,082	31,464	31.5%	4.6%
Net NPA	7,041	10,034	10,246	45.5%	2.1%
NPA coverage (%)	70.6%	66.6%	67.4%	-3.1%	0.8%
Gross NPA (%)	1.06	1.25	1.22	0.16	-0.03
Net NPA(%)	0.32	0.42	0.40	0.08	-0.02
Non-interest income
Fees	16,182	14,560	17,800	10.0%	22.3%
Trading profits	2,378	350	2,170	-8.7%	520.0%
Misc	1,513	1,540	2,160	42.8%	40.3%
Total Advances	1,969,660	2,114,673	2,300,668	16.8%	8.8%
Large Corporates	977,038	1,024,373	1,022,378	4.6%	-0.2%
SME	295,449	315,940	355,020	20.2%	12.4%
Agri	157,573	133,100	178,360	13.2%	34.0%
Retail	539,600	641,260	744,910	38.0%	16.2%

Source: J.P. Morgan estimates, Company data.

· Margin spike. Margins rose 18bp q/q to 3.89%, ahead of expectations. Management attributed it largely to lower funding costs – improving CASA ratios (savings balances surged 12% q/q), FCNR deposits and increased share of retail in the TD portfolio. Management also mentioned that their FY15 margins are likely to stay above the bank’s traditional margin target of 3.25%-3.5%. Margins could stay strong through FY15 if rates stay elevated, given Axis’ gathering strength of the retail deposit franchise.

· Asset quality stable. Headline asset quality improved with NPL delinquency at 0.6% v/s 1.17% in the previous quarter. However, restructuring spiked at Rs11bn, 2.6% of loans. Management guided restructuring+slippages of Rs65bn (vs Rs57bn in F14); credit costs are expected to be flat next year. The stress continues to be focused on the large and mid-corporate segments: retail and SME asset quality has stayed very robust and show no signs of weakening.

· Strong retail growth. Retail assets grew 38% y/y and are now 32% of the loan book. Management sees strong growth in the segment driven by both strong demand and deepening distribution – retail assets are now sold out of 1700 branches. Internal origination is now ~33% of new retail loans. Incremental focus will be on non-mortgage segments such as LAP, auto loans and unsecured – this should be yield and margin enhancing over the next 1-2 years.

Table 2: Dupont table

	1Q12	2Q12	3Q12	4Q12	1Q13	2Q13	3Q13	4Q13	1Q14	2Q14	3Q14	4Q14
NIM	2.95%	3.42%	3.13%	2.82%	3.06%	3.23%	2.98%	2.91%	3.52%	3.56%	3.16%	3.06%
Fees/Assets	1.88%	2.06%	1.92%	1.90%	1.66%	1.92%	1.74%	1.93%	1.65%	2.13%	1.71%	1.93%
Opex /Assets	-2.28%	-2.50%	-2.21%	-2.23%	-2.18%	-2.42%	-2.09%	-2.05%	-2.21%	-2.37%	-2.13%	-2.06%
Provisions/Assets	-0.30%	-0.69%	-0.62%	-0.18%	-0.36%	-0.71%	-0.46%	-0.65%	-0.87%	-0.83%	-0.21%	-0.49%
ROA	1.61%	1.57%	1.61%	1.68%	1.62%	1.56%	1.61%	1.70%	1.73%	1.65%	1.70%	1.78%

Source: J.P. Morgan estimates, Company data.

Figure 1: Lower funding costs led to improvement in margins

Source: Company data.

Figure 2: Strong growth in savings balances led to improvement in CASA

Source: Company data.

Figure 3: Retail loans mainly comprises of secured housing loan portfolio

Source: Company data.

 

 

Investment Thesis

We are OW on the stock, as:

· The bank has significantly de-risked the balance sheet over the last year. The focus of the bank has been on low-risk retail loans, which we believe is a good strategy in the current weak macro environment. Retail loans now comprise ~32% of the loan book vs. 26% in 2Q14.

· The bank has focused on building a very strong retail franchise, and the aggressive branch push has started to yield results. The low-cost deposit for the bank has remained stable despite competition and the high rate environment, which has resulted in lower COF for the bank.

· We believe current valuations are attractive in the context of improving return ratios and hence expect the stock to re-rate further.

Valuation

Our Mar-15 PT of Rs 1,600 is based on a two-stage Gordon growth model implying 1.7x Mar-15E book. Our valuations factor in cost of equity at 16.4%, normalized ROE of ~19% and terminal growth of 5%.

Risks to Rating and Price Target

The key risks include: (1) The bank’s high exposure to large infrastructure projects could result in lumpy asset quality shocks in the medium term; and (2) Retail assets are the main growth driver for the bank, so any slowdown or increasing competitive scenario in retail loans could impact loan demand in the near term.

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