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OBC: Nothing extraordinary! - Views on News from Equitymaster
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OBC: Nothing extraordinary!
Jul 28, 2006

Performance summary
Oriental Bank of Commerce (OBC) declared its results for the first quarter of FY07 late last Saturday, posting a strong 48% YoY growth in bottomline. However, the adjusted bottomline (less of GTB write-offs) has grown by a strong 166% YoY. While the marginal growth in net interest income clearly signifies the pressure on net interest margins, higher other income growth, higher operating leverage and lower tax incidence have aided the growth in bottomline.

Rs (m) 1QFY06 1QFY07 Change
Income from operations 9,876 11,353 15.0%
Other Income 955 1,687 76.6%
Interest Expense 5,846 7,244 23.9%
Net Interest Income 4,030 4,109 2.0%
Net interest margin (%)      
Other Expense 2,136 2,287 7.1%
Provisions and contingencies 1,028 1,477 43.7%
Profit before tax 1,821 2,032 11.6%
Tax 775 481 -37.9%
Profit after tax/ (loss) 1,046 1,551 48.3%
Extraordinary item** 612 612 0.0%
Net profit 434 939 116.4%
Net profit margin (%) 4.4% 8.3%  
No. of shares (m) 250.5 250.5  
Diluted earnings per share (Rs)* 6.9 15.0  
P/E (x)   11.8  

Getting the best out of the worst
OBC has the repute of being one of the most efficient public sector banks in the country. The bank’s credit portfolio is skewed towards corporate segment (81%). Of the retail portfolio (19%), housing loans comprise 75%. As against most of its peers, OBC has not been able to capitalise on the credit boom during FY05 primarily on account of having lower CAR post Global Trust Bank (GTB) acquisition. The bank, which was also the first public sector bank to have zero net NPAs, no longer has the tag to its credit. At the time of amalgamation, erstwhile GTB had 104 branches with 1 m customers and 1,209 employees. It had a negative networth of Rs 8.1 bn, a negative capital adequacy ratio and cumulative losses of Rs 10.8 bn. However, OBC has done its best in using GTB to its advantage and has reduced the effective cost of ‘acquisition’.

What has driven performance in 1QFY07?
Asset growth – On track: Retaining the mix of retail and corporate assets in its advance portfolio in the ratio of 19:81, OBC achieved a healthy growth in both the segments in 1QFY07. In fact, its asset growth of 32.5% YoY is exactly in line with the sector average. Also, mortgage loans, which continued to comprise 75% of its retail portfolio also grew by 30% YoY. Low cost deposits (comprising 31% of total deposits) grew by 25% YoY, although the deposit book as a whole grew by only 22% YoY. Nevertheless, the net interest margins of the bank witnessed further compression (2.6% in 1QFY07 against 2.8% in 4QFY06) as the cost of funds expanded by 25 basis points while the yield on assets expanded by only 10 basis points. We expect the pressure on NIMs to continue unless the bank opts for hybrid capital to prop up its capital adequacy ratio (12% in 1QFY07) for funding its future growth.

(Rs m) 1QFY06 % of total 1QFY07 % of total Change
Advances 275,075   364,494   32.5%
Retail 51,223 18.6% 67,388 18.5% 31.6%
Corporate 223,852 81.4% 297,107 81.5% 32.7%
Deposits 447,976   545,063   21.7%
Credit deposit ratio 61.4%   66.9%    

Fees aid other income: While the bank’s non interest growth has grown at a strong 77% YoY, its initiatives of offering cash management services and tie-up with insurance companies for vending third part party products have helped improve its fee income by 34% YoY. The potential risk on the treasury side, however, cannot be ignored. The bank continues to have over 70% of its investment portfolio in the AFS (available for sale) basket and may lead to treasury losses in the wake of spurt in interest rates. Having said this, it may be recalled that the bank had made provisions for rise in bond yields upto 7.8% and the same are currently falling short for interest risk coverage (10 year G Sec yield having risen to 8.2%).

Rationalising costs: The bank seems to have successfully re-aligned the costs of the erstwhile GTB’s branches with itself, as is evident in the marginal decline in operating expenses in this quarter after several quarters of exponential growth. The employee costs, however, firmed up due to the rise in cost per employee. The cost to income ratio has reduced from 43% in 1QFY06 to 39% in this quarter.

Breakup of operating expenses
(Rs m) 1Q06 % of total 1Q07 % of total Change
Employee expenses 1,088 50.9% 1,331 58.2% 22.3%
Other operating expenses 1,048 49.1% 956 41.8% -8.8%
Total operating expenses 2,136   2,287   7.1%

Strong on recoveries: OBC has lived up to its commitment of improving its asset quality and has pared its net NPAs further (0.5% in 1QFY07 from 1.1% in 1QFY06). This has been aided by recoveries to the tune of Rs 2 bn made in this quarter out of the GTB delinquencies.

What to expect?
At the current price of Rs 180, the stock is trading at 0.8 times our estimated FY08 adjusted book value. We maintain our positive view on the stock, as we believe that the bank’s ability to capitalise on its pan-India presence coupled with good quality appraisal will enable it harness higher asset growth and good asset quality. While the treasury risk lingers as a matter of concern, a higher composition of fee income and better provisioning in this regard will hedge the risks to some extent. While our long term projections for the bank remain consistent with our earlier estimates, we have revisited our numbers based on our assessment of the bank’s performance in FY06.

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