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IDBI: In line with expectations - Views on News from Equitymaster

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IDBI: In line with expectations
Oct 16, 2007

Performance summary
  • Interest income grows by 31% YoY despite slower 15% YoY growth in advances.

  • Deposit growth buoyant at 61% YoY aided by UWB franchise.

  • Net interest margins languish below 1%.

  • Higher other income due to profit on sale of investments.

  • Net profit margin dips to 8.2% due to higher provisioning and tax incidence.

Standalone numbers
Rs (m) 2QFY07 2QFY08 Change 1HFY07 1HFY08 Change
             
Interest income 14,486 19,011 31% 28,337 36,939 30%
Interest expense 13,137 17,564 34% 26,003 34,863 34%
Net Interest Income 1,349 1,447 7% 2,334 2,076 -11%
Net interest margin (%)       0.6% 0.4%  
Other Income 1,926 4,627 140% 4,759 8,629 81%
Other Expense 1,944 2,291 18% 3,843 4,348 13%
Provisions and contingencies (164) 2,018   128 2,875 2153%
Profit before tax 1,496 1,766 18% 3,123 3,482 12%
Tax 102 210 106% 223 395 77%
Effective tax rate 6.8% 11.9%   7.1% 11.3%  
Profit after tax/ (loss) 1,394 1,556 12% 2,900 3,087 6%
Net profit margin (%) 9.6% 8.2%   10.2% 8.4%  
No. of shares (m) 724.1 724.8   724.1 724.8  
Book value per share (Rs)*         85.6  
P/BV (x)         1.6  
* (Book value as on 30th September 2007)

Sleeping giant
Merger of IDBI and IDBI Bank was largely anticipated to be a win-win situation for both the entities. The erstwhile IDBI Bank, given its clean assets and impressive fundamentals, has offered valuable growth prospects, access to low cost deposits and extended reach, which in future will enable the consolidated entity to seek a better spread on its infrastructure funding. Post the merger with IDBI Bank, the government holding in IDBI stands at 58%. The bank is currently functioning with two SBUs handling the development finance and banking businesses separately. It currently has two subsidiaries namely IDBI Housing Finance and IDBI Capital Services. Although the merged entity is in the league of the largest banks in the country in terms of asset size, its lackadaisical rate of growth leaves it way behind its peers in terms of performance.

What has driven performance in 2QFY08?
Flagging NIMs: IDBI seems to be doing little to offer some positive surprise to its investors. After the integration with the United Western Bank (UWB) in FY07, which had a positive impact on IDBI’s flagging margins and operational efficiencies, the latter does not seem to be doing much to sustain or improve the same. IDBI managed to grow its advance book merely by 15% this quarter, in line with our FY08 estimates, albeit much lower than the sector average. Retail credit, which has been the focus of IDBI, ever since it converted into a banking entity, however, has been showing signs of slowdown since the last quarter itself with the rise in interest rates and comprised only 15.7% of the bank’s advance book in 1HFY08.

While the deposit growth continues to be healthy (62% YoY), albeit on a lower base, it must be noted that there has been a fall in the proportion of CASA from 31% in 1HFY07 to 21% in 1HFY08, suggesting that the bank is targeting growth at the cost of margins. The incremental deposits garnered by the bank this quarter were largely high-cost term deposits. While IDBI had managed to improve its net interest margins to 0.8% in FY07 due to the better NIMs of UWB and by retiring the high cost debts, the same have dropped to 0.4% due to the higher cost of funds. We do not see the same being improved in this fiscal due to its lack of cost consciousness. The failure to improve margins is despite the fact that the bank’s average yields have moved up by 2% (9.7% in 1HFY08) and average cost of funds have moved up by 1% (7.7% in 1HFY08) in the past 12 months. We have estimated the bank’s NIMs to remain below 1% until FY10E.

Assets…chugging ahead
(Rs m) 1HFY07 % of total 1HFY08 % of total Change
Advances 543,090   623,530   14.8%
Retail 86,894 16.0% 97,894 15.7% 12.7%
Corporate 456,196 84.0% 525,636 84.3% 15.2%
           
Deposits 309,530   500,020   61.5%
CASA 96,573 31.2% 105,004 21.0% 8.7%
Tem deposits 212,957 68.8% 395,016 79.0% 85.5%
Credit deposit ratio 175.5%   124.7%    

The bank has divulged no further details with regard to the recoveries from the Rs 90 bn SASF, suggesting little effort on this aspect as well.

Fees yet to catch up: IDBI’s fee income (18% of total income in FY07) shows little signs of growth. The bank has entered into a life insurance venture with Federal Bank and Fortis Insurance International, in which IDBI will have 48% stake. Also, it is contemplating to start an asset management company. IDBI and India Infrastructure Finance Company (IIFCL) have recently entered into a Memorandum of Understanding (MoU) for pooling in their resources and expertise to assist infrastructure projects, which typically have elongated payback periods, with funds on competitive terms. These initiatives will, however, contribute meaningfully only in the longer term. IDBI has sold 0.9 m equity shares of NSE, constituting 2% of the latter’s issued and paid up capital to MS Strategic (Mauritius) for an aggregate sum of US$ 50 m (Rs 2 bn) in 1QFY08. The profit from the same has been booked under other income.

Low cost advantage: Thanks to UWB’s relatively lower cost operations, the lowering of the blended cost to income ratio from 59% in 2QFY07 to 38% in 2QFY08 has aided the bank’s operating margins. Given the fact that the branch franchise of UWB is largely present in the rural and semi urban areas, the same has not had an adverse impact on the bank’s cost ratio.

Although at less than 10% of IDBI’s balance sheet size, UWB offered an extensive franchise and a strong presence in the rural and semi-urban areas of Maharashtra. The benefit of the deal to IDBI is further underlined by the fact that while the net compensation payable by IDBI to UWB shareholders (at Rs 28 per share against book value of Rs 21) was Rs 359 m, the cost of setting up UWB’s franchise (branches and ATMs) would have come to around Rs 534 m.

Wake up call on provisioning: After successfully reducing its net NPAs that had gone up to 1.6% in 9mFY07 due to the loss assets of UWB (Rs 49 bn) taken into IDBI’s books, to 1.1% in FY07, the same have remained stable at 1.1% in 1HFY08. IDBI’s provision coverage, despite rising from 35% in FY05 to 42% in FY07, lies way below that of its peers. However, the higher provisioning booked this quarter seems to be a wake up call in this regard for the bank and augurs well for the sustenance of its asset quality in future.

What to expect?
At the current price of Rs 141, the stock is valued at 1.0 time our estimated FY10 adjusted book value. The bank will float a US$ 1.5 bn Tier II borrowing programme in FY08 for funding international banking business. It also plans to open two offshore banking units in Singapore and Bahrain. With a comfortable CAR of 14.1%, while the downsides risks to the bank’s future prospects are almost negligible, the recovery process will be largely dependant on the bank’s efforts to accelerate growth and improve margins at the same time. Having said that, the current valuations of the bank factor in most of the near term upsides.

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