J&K Bank: Buy: Business Line

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M. V. S. Santosh Kumar

Fresh investments can be considered in the stock of J&K Bank, which is promoted by the Government of Jammu and Kashmir but has characteristics of a private bank. J&K Bank is a development finance institution in Jammu and Kashmir and banker of the State. Even amidst political turmoil in J&K, the bank has managed to contain the asset quality slippages. The bank also provides various cash management services to the State.

At the current price of Rs 825, the stock trades at around one time its FY-12 estimated book value and discounts its estimated earnings (FY12) by 5.8 times. Given its historically slow rate of growth, some discount is warranted, but the discount is currently very high compared with public sector banks (which are trading at an average of two times their price-to-book value).

Apart from development programmes taken up by the State, over Rs 30,800 crore is expected to be spent as a part of the Prime Minister's reconstruction programme in the Eleventh Plan and J&K Bank, being a DFI in J&K, will benefit the most. The bank has 536 branches with 71 per cent in the state of J&K. The “looking inward” strategy of J&K Bank has resulted in more than 51 per cent of its loan book now arising in Jammu and Kashmir as against 34 per cent in 2004.

With an end to this transition now, the bank's advances book beyond FY-10 is expected to grow at a higher than industry pace. The management targets a business (advances and deposits) of Rs 1 lakh crore by end-March 2012. However, persisting political instability in the State is a risk to this target.

 

Despite historically anaemic growth in credit, J&K Bank scores well on the operating parameters given its strong return on assets ratio (1.4 per cent as of March 2010) and low cost-income ratio (37 per cent). The return on equity is slightly depressed for the given return on assets as the bank has higher core equity (Tier-1 capital ratio of 14.6 per cent) compared with less than 9 per cent in most other cases. This Tier-1 ratio will enable it maintain strong credit growth without diluting equity for quite sometime.

Improving margins

Apart from containing the asset quality slippages which other banks failed to do, the bank has one of the highest provision coverage (95 per cent as of September 2010) ratios in the system. This may protect the loan book to some extent. Additionally around 84 per cent of the total assets are secured in nature. The restructured asset proportion of 1.8 per cent of the total loan book is also among the lowest in the banking industry. Even with lower credit growth and low credit-deposit ratio, the bank managed to improve its margins significantly not only due to better liability management (shifting from high-cost to low-cost deposits) but owing to increased focus on high yielding loan segments both in J&K and outside.

The bank is concentrating on SME lending and retail lending within J&K while adding giving more weight to large and mid-corporate lending in the rest of India. It has also re-priced its existing corporate loans upwards, thereby protecting its margins. J&K state's low credit deposit ratio (48 per cent as of March 2010) also reflected in the overall CD ratio.

J&K Bank over the last two quarters has witnessed drop in credit deposit ratio from 61.9 per cent to 58 per cent which continues to be a concern. While this ratio has to improve in the long-term, it is in a sweet spot in short-term given that other banks are suffering from liquidity pressure while J&K Bank has huge investment book (Rs 17,000 crore or 43 per cent of the total deposits). The profits from sale of these can be used to fund incremental loan growth. The bank has high proportion of low-cost deposits with 41.14 per cent of the CASA as of September 2010 up from 34 per cent in 2004-05.

Financials

Loan book growth over the period FY06-FY10 grew at a compounded annual growth rate of 10 per cent, while the net profit during the same period grew at 23 per cent. The investment book is not skewed towards government securities but high yielding corporate securities. In addition, it has a strategic stake in Metlife Insurance which provides steady fee income for the bank. The net interest margins of J&K Bank for the half year ended September 2010 stood at 3.7 per cent. This can be maintained above 3.5 per cent even if the interest rates go up given the scope for improvement in the Credit-deposit ratio of the bank.

Around one-fourth of the network is yet to be CBS-enabled, which enable more fee-income generating windows for the bank. The gross NPA ratio, as of September 2010, stood at 2.17 per cent which, despite being lower on a year-on-year basis, grew by 10.2 per cent since March 2010. The net NPA ratio stood at 0.13 per cent.