ICICI Bank

While ICICI Bank’s moves to improve its financials are working, it will take 2-3 quarters before the benefits will be felt
Even as the June 2009 quarter performance of ICICI Bank was among its worst in terms of operational numbers, the bank’s medium-term strategy of focusing on the four ‘Cs’ seems to be working. This strategy centers around capital conservation, CASA improvement, cost control and credit monitoring. However, it may take two-three quarters before the benefits of these changes could be fully felt. While the performance of its life insurance subsidiary has also been muted, the pace is expected to pick up in the remaining part of the year. And, if economic growth picks up as anticipated by the second half of the current fiscal, it should help clear the clouds surrounding the bank’s medium-term growth prospects and asset quality.

Core income down Consequent to the economic slump that hit the world including India in 2008, ICICI Bank consciously decided to cut its exposure to unsecured retail segments like credit cards and personal loans. Not surprisingly, the share of its retail loans to total loans has been on a decline for some time now and stood at 48.5 per cent for June 2009 quarter. This is also partly responsible for the reduction in the bank’s total domestic loans and hence, has also meant lower deposit growth. For the quarter ended June 2009, the bank’s net interest income (interest income minus expended) was down five per cent on a year-on-year (y-o-y) basis. The decline in its loan portfolio, slowdown in business activity and lower volumes in retail savings and investment products led to a 32.6 per cent decline in the bank’s fee income to Rs 1,319 crore for the June quarter.

Over the last few quarters, ICICI Bank’s profits have received some support from gains on the treasury front. For June 2009 quarter, treasury gains stood at Rs 714 crore as against a loss of Rs 594 crore in June 2008 quarter, thus operating profit was up 47.5 per cent y-o-y at Rs 2,529 crore; adjusting for treasury gains, profit was lower by 21 per cent.

Problem loans still high While the bank fights hard to clear the legacies of the economic slump, its non-performing assets (NPAs) have also been high. Nonetheless, the bank has been aggressive in making provisions; total provisions were up 31 per cent at Rs 3,808 crore in 2008-09 and up 67 per cent at Rs 1,324 crore in June 2009 quarter. To a large extent, the RBI’s policy allowing banks to not classify restructured assets (providing relief till December 2009) as NPA has helped banks contain any sharp rise in NPA levels. For ICICI Bank, the combined figure for net NPA and restructured loans work out to 4.14 per cent (including 1.95 per cent for restructured loans) as compared to the 1.74 per cent net NPA reported for June 2008 quarter. Notably, even as the bank upgraded Rs 3,200 crore worth of loans as standard assets (as repayment track-record improved) during June quarter, it expects to restructure some more corporate assets (Rs 1,500-2,000 crore estimate analysts) during the next two quarters, both in its domestic and overseas books. However, it believes that the corporateside NPA levels will not rise. Analysts believe that the bank’s absolute provisioning figures should decline from the third quarter of 2009-10, as the share of unsecured retail loans to total loans shrinks further from 7-8 per cent currently – this category accounts for about 66 per cent of the bank’s NPAs.

Margins to rise As its deposit base has declined over the last few quarters, the bank has allowed the high-cost deposits to contract while maintaining the low-cost current and savings account (CASA) deposits base. Thus, the share of CASA in total domestic deposits has risen to 30.4 per cent in June 2009 quarter from 26.1 per cent in March 2008 quarter, which in turn has partly helped improve its net interest margins (NIMs) on a y-o-y basis. Although the margins were lower on a sequential basis, it is largely due to the low yield priority (agri) sector loans that the bank undertakes in the March quarter every year, wherein the impact on margins is felt in the June quarter.

ICICI Bank has licenses to open 580 new branches, which it aims to do so by the end of March 2010. This should help improve the bank’s CASA ratio, which the bank aims to take it closer to 33 per cent levels by March. Also, 50-55 per cent of its total borrowings are wholesale in nature, part of which was raised at high rates of 11-12 per cent during September-November 2008 for a period of 12 months. As they come up for renewal, the bank hopes to refinance these at lower levels; analysts expect a reduction of about 300-400 basis points (bps) in interest costs for such borrowings. Overall, even as the share of high-yielding retail loans declines (or stays flat), the bank’s NIMs should expand driven by increase in CASA deposits and re-pricing of wholesale deposits says a bank’s spokesperson.

The other aspect is the bank’s success in containing costs. For 2008-09, operating expenses were down by 14 per cent – for June 2009 quarter these have declined by 19.2 per cent to Rs 1,546 crore – mainly due to focus on cutting employee costs, direct marketing expenses and collection charges. Going ahead, even as it aims to expand its branch network, the bank hopes to curtail the absolute operating expenses at 2008-09 levels, which should help keep its cost-to-income ratio low.

Outlook While the tough times don’t appear to be over yet, the worst seems behind. With focus shifting away from non-secured loans, the bank’s asset portfolio quality should hopefully improve.

Given the expectations of an upward bias in interest rates, analysts don’t expect the trend in high treasury gains to continue in the ensuing 2-3 quarters. Assuming an economic recovery as well as pick-up in credit growth from the second half of 2009-10, the bank is seen clocking a topline growth of about 5 per cent led by enhanced focus on project and corporate financing and home loans. This, along with an increase in NIMs and lower costs, the bank’s core profit growth (excluding treasury gains) should be relatively better. Among its key subsidiaries, the turnaround of ICICI Prudential Life Insurance Company is expected in 2010-11; any move to list this subsidiary should unlock value. Analysts value the worth of all subsidiaries (AMC, securities trading, general and life insurance) at Rs 180 per share of ICICI Bank. At Rs 759, the stock is trading a price-to adjusted-book value (only for the core business) of 1.4 times and leaves room for 15-20 per cent gains over 12 months. Investors may consider on dips.

HDFCBank - Consistent performer

An economic slowdown may not be new for HDFC Bank that grew consistently at 30 per cent during various cycles in the last ten years. To weather the present slowdown, the bank has sought to adopt a conservative approach, resulting in a subdued growth in its core business of lending– its credit growth has remained flat in the last few quarters. In these trying times, seeking to maintain asset quality and stable margins could mean a loss on volumes, but it has also helped in maintaining profitable growth. The merger of Centurion Bank of Punjab (CBOP) with HDFC Bank last year extended its branch network in the near-term, however the real operational synergies from the merger are expected to flow in 12-18 months.

Unexciting loan growth HDFC Bank’s loan book grew by just 7.2 per cent y-o-y in June 2009 quarter, which reflects the weak demand environment and the bank’s conservative appetite for growth. In the last fiscal, too, the trend in absolute advances (sequentially) from the September 2008 to March 2009 quarter was largely flat. For June 2009 quarter, its net interest income and fee income grew at a slower pace of 8 per cent and 27 per cent year-on-year (y-o-y), respectively from around 30-40 per cent levels in 2008-09. The lower growth is also due to the base effect–due to the merger of CBOP with HDFC Bank in May last year.

On the whole, HDFC Bank observed a modest loan growth due to a moderation in both retail and corporate books. Retail loans may have grown year-on-year, but sequentially it has not. With concerns over the retail segment, the bank is persisting with a cautious approach, especially in the unsecured space (personal loans, credit cards) where the bank has introduced stricter underwriting standards.

A demand slowdown and a cut-back of new investments in the corporate advances during 200809 was evident in the slowdown of credit to this sector, however things seem to be stabilising, which is a positive. Regarding the credit growth for 2009-10, Paresh Sukthankar, executive director, HDFC Bank, says “If we project a systematic growth of around 17-19 per cent for the year, we would hope to grow faster than the system as we have done it in the past.”
Profitability intact It is a foregone conclusion that HDFC Bank’s net profit would grow at about 30 per cent, which is what the bank delivered in the June quarter also. However, there has been a change in the profit contributors. As the growth in core income slipped, trading profits grew at robust rates thereby boosting profitability in the recent quarters. Unlike during 2007-08 and the first two quarters of 2008-09, the share of trading profits in net profit has averaged at around 40 per cent in the last three quarters. Going ahead, with yields expected to harden (from second half of 2009-10) the gains in treasury (trading) income may not be sustainable feel experts.

The pressure from a slowdown in the credit growth might have got accentuated on the earnings, had it not been for the best -in-the industry net interest margins (NIM) of over 4 per cent that the bank enjoys. What is remarkable is that the bank has maintained these margins in the last 17 quarters. With over 1,400 branches and an expected increase of 200-250 branches in 2009-10, low-cost deposits would boost margins in the future also. In the second half of the current year, some high-cost deposits would also get re-priced and would further cushion the margins. The management expects NIMs to average between 3.9 per cent and 4.2 per cent.

Asset quality holds up During any downturn, non-performing assets (NPA) are bound to rise. Nevertheless, HDFC Bank has been doing a good job of holding on to asset quality without major slippages in the recent quarters even as CBOP books have deteriorated faster than its standalone book in the present downturn. Of the total NPAs, around 40-42 per cent is estimated to have originated from CBOP is the extent of let-up in the tough macro conditions, given that CBOP’s share in total loan book is pegged at less than 20 per cent.

While there has been increase in the quantum of restructured assets in case of several banks, HDFC Bank’s restructured assets are among the lowest in the industry. Restructured loans account just 0.55 per cent of its loan book, around a fourth of the gross NPA of 2.05 per cent, which seems to be manageable, going ahead. With most of the restructured loans given for working capital requirements to corporates, analysts say that these should remain under check.
Outlook Higher treasury gains over the last few quarters have been used to provide for bad loans. Consequently, the provision coverage rose by 130 bps to around 70 per cent in the June quarter. Absence of gains from the treasury in the future could put pressure on earnings or ability to maintain high provision covers. Analysts estimate HDFC Bank’s net profit to grow at an average of 25 per cent in the next two years. Thus, the banks’ ability to extract synergies from the CBOP merger assumes importance for future growth. Superior NIMs, a high proportion of low-cost deposits driven by extensive branch network and robust risk management systems will help drive profitable growth and maintain asset quality.

HDFC Bank is adequately capitalised and would be able to sustain the lending momentum as and when the credit cycle picks up. Even though HDFC Bank trades at a premium vis-a-vis its peers–the stock is trading at 3.5 times its 2010-11 adjusted book value and looks fully valued–it could considered on dips with a long-term perspective.

Angel Broking views on Banking Stocks Part II - HDFC Bank, Axis Bank, Indian Overseas Bank

HDFC Bank - Target of Rs 1361

Angel Broking has maintained its buy rating on HDFC Bank with a 12-month target price of Rs 1361 in its November 21, 2008 research report. "We believe HDFC Bank is among the most competitive banks in the sector and is poised to maintain its profitable growth over the long term. We believe the bank's competitive advantages, driving gains in CASA market share and traction in multiple fee revenue streams, can support upto 5% higher core sustainable RoEs vis-à-vis sectoral averages over the long term, creating a material margin of safety in our target valuation multiples. At Rs 857, the stock is trading at 13.0x FY2010E EPS of Rs66 and 1.9x FY2010E ABV of Rs 453.6. We value the stock at 3.0x FY2010E ABV to arrive at a 12-month target price of Rs 1361, implying an upside of 59%. We maintain Buy on the stock," says Angel's research report.

IOB, target of Rs 96

Angel Broking has maintained its buy rating on Indian Overseas Bank (IOB) with a 12-month target price of Rs 96 in its November 21, 2008 research report. "Given the bank's progressive decline in NIMs that has eroded sustainable RoEs as well as further downside risks to NIMs and asset quality, we have valued the stock at 0.9x FY2010E ABV below the median one-year forward P/ABV multiple of 1.2x that it has traded at since April 2002. Nonetheless, at Rs 62, the stock is trading at cheap valuiations of 2.6x FY2010E EPS of Rs 24.2 and 0.6x FY2010E ABV of Rs113.2. Hence, we maintain Buy on the stock, with a 12-month Target Price of Rs 96, translating into an upside of 54%," says Angel Broking's research report.

Axis Bank, target of Rs 748

Angel Broking has maintained its buy rating on Axis Bank with a target price of Rs 748 in its November 21, 2008 research report. "Over the past five years, Axis Bank has transformed itself into a strong private bank with a growing market share in Corporate and Retail banking. During this period, the bank has rapidly expanded its network and gained traction in segments such as transaction banking, wealth management and cards. We expect the bank's RoE to improve to 19% by FY2010E and expect the bank to deliver amongst the highest PAT growth in our coverage universe at 38% CAGR over FY2008-10E. We value the stock at 2.4x FY2010E ABV (20% discount to HDFC Bank, given higher asset quality concerns) to arrive at a revised 12-month target price of Rs 748 (Rs 929), implying an upside of 82%. We maintain a Buy on the stock," says Angel's research report.