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Private Banks: The onus is onů - Views on News from Equitymaster
 
 
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  • Mar 18, 2005

    Private Banks: The onus is onů

    It is not just the foreign interest or RBI's roadmap for investment in private banking stocks that is enticing investors to this sector. It should also be acknowledged that given the need to consolidate operations and optimize on the synergies, it is the larger players in the private banking sector that hold the key to moulding the sector's dynamics. RBI's roadmap is indicative of the fact that the government has given a four-year interlude (till 2009) for the players to 'prepare' themselves for the competition. However, the onus rests with the larger players to bank on this opportunity and consolidate their market share before the foreign entities set their eyes on them.

    Here, we take a look at their performance in the last quarter (3QFY05) for leading private banks.

    Consolidated performance*...
    Rs (m) 3QFY04 3QFY05 Change 9mFY04 9mFY05 Change
    Income from operations 33,060 36,401 10.1% 98,244 104,406 6.3%
    Other Income 10,556 12,203 15.6% 30,865 30,536 -1.1%
    Interest Expense 22,846 22,686 -0.7% 69,945 65,494 -6.4%
    Net Interest Income 10,214 13,715 34.3% 28,299 38,912 37.5%
    Other Expense 37,639 46,018 22.3% 29,064 36,146 24.4%
    Operating profit / (loss) (27,425) (32,303) -15.1% (765) 2,766 461.6%
    Operating profit margin (%) -83.0% -88.7%   -0.8% 2.6%  
    Provisions and contingencies 3,289 2,345 -28.7% 5,538 6,632 19.8%
    Profit before tax (20,158) (22,445) -10.2% 24,562 26,670 8.6%
    Tax 1,863 3,018 62.0% 5,019 7,428 48.0%
    Profit after tax/ (loss) (22,021) (25,463) -13.5% 19,543 19,242 -1.5%
    Net profit margin (%) -66.6% -70.0%   19.9% 18.4%  
    * includes ICICI Bank, HDFC Bank, UTI Bank and IDBI Bank

    The sector posted a 10% YoY growth in 3QFY05 topline thereby aiding a robust 34% YoY growth in 'net interest income'. The operating and net profit margins however continued to be a cause for concern in the third quarter with the non-interest expense growth showing no signs of abating. Although the nine-month picture is relatively comforting, let us not ignore the fact the growth is on a 'negligible' base.

    What has driven performance in 3QFY05?

    Earnings:  While the average growth in the asset book of the private banks was around 32%, the same was led by a robust credit offtake both in the retail and corporate segments. ICICI, thanks to the volume benefits has continued to outgrow its peers. Most of the entities have tried to prune their interest costs by increasing the share of low cost deposits in their portfolio. UTI Bank particularly deserves a mention in this respect for having amplified its low cost deposits by 82% YoY in the third quarter. However, the pressure on yields (both in advances and investments) has constrained net interest income expansion for most of the entities. Going forward, in a rising interest rate regime, the sluggishness in asset book growth is likely to darken the picture further.

    In line with their foreign contemporaries, entities in the private banking sector have succeeded in leveraging on technology to augment the contribution of fee income to their bottomline. Banks like HDFC Bank and ICICI Bank also capitalised on the cross selling of their products (mutual funds, insurance etc.) to insulate the other income growth. UTI Bank, despite being the laggard in terms of other income growth (due to treasury losses), has exhibited a 135% YoY growth in fee income during 3QFY05.

    What brings a certain degree of comfort is the fact that most of these banks have transferred assets to the HTM category, thereby providing some resilience to the 'other income' book.

    Margins:  The sector's operating margins continue to bear the brunt of spurt in non-interest expenses. This is particularly true in case of IDBI Bank and ICICI Bank, which have had an increment in non-interest expenses to the tune of 39% and 32% respectively. Salary books (constituting approximately 60% of total operating expenses) is particularly high for these banks and the need to bring in more professionals to charter their future growth trajectory will continue to dent the operating margins going forward.

    Asset quality:  Conventionally more quality conscious than their PSU counterparts, private banks have always had a better quality of asset book. This can be primarily attributed to the fact that besides being prudent at the initial stages, these banks have also been diligent in terms of provisioning for incremental slippages. However, the fact that some of these banks have substantially pruned their incremental provisioning to enhance their bottomlines spells concern for the future.

    Our view

    Riding high on the consolidation and foreign investment optimisms, private banks have been accorded valuations which are disproportionately higher than those deserved by them. Even the fact that most of these are going in for capital raising plans to sustain the scorching growth rate, offers little to substantiate such 'hypes', as back of the hand calculations suggest that the current valuations have more than factored in all the potential upsides.

    Investors therefore need to exercise caution about the price that they are willing to pay. The risk reward ratio from hereon is more skewed towards risk for the investor.

     

     

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