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SBI: Taxing times!

Oct 28, 2006

Performance summary:
Banking behemoth SBI’s results for the second quarter and half year ended September 2006 have been marred by a couple of occasional and seasonal factors. The bank, despite having sustained an appreciable rate of growth in its advance book (21% YoY) and decent expansion in net interest margins, has been hit by a higher tax incidence. An attempt to curtail provisions and operating overheads has also failed to thwart the fall in bottomline for both the periods under review. Taking out the extraordinary impact of tax refunds in 1H06, the bottomline for the quarter has grown by 11% YoY.

Rs (m) 2QFY06 2QFY07 Change 1HFY06 1HFY07 Change
Income from operations 85,614 93,774 9.5% 177,277 182,136 2.7%
Other Income 12,946 14337 10.7% 28,712 31963 11.3%
Interest Expense 49,534 54,788 10.6% 98,665 104,308 5.7%
Net Interest Income 36,080 38,986 8.1% 78,612 77,828 -1.0%
NIM (%)       3.4% 3.3%  
Other Expense 29,196 28,598 -2.0% 53,098 56,700 6.8%
Provisions and contingencies 8,175 6,813 -16.7% 25,841 19,633 -24.0%
Profit before tax 11,655 17,912 53.7% 28,385 33,458 17.9%
Tax (499) 6,067   4,004 13,627 240.3%
Profit after tax/ (loss) 12,154 11,845 -2.5% 24,381 19,832 -18.7%
Net profit margin (%) 13.0% 13.8%   13.4% 11.2%  
No. of shares (m) 526.3 526.3   526.3 526.3  
Diluted earnings per share (Rs)*       92.7 75.4  
P/E (x)         14.5  
* (12 months trailing)

The country’s largest banking entity
SBI is India's largest financial entity with an asset size of over Rs 4 trillion (Rs 4,000 bn). Although the bank's loan book is largely skewed towards corporate (63% of non-food advances), the retail side is also fast catching up. The bank has been a major beneficiary of the current upturn in investment cycle and has continued to witness substantial growth in both retail and corporate segments. It is also an active trader in forex and is the leader in cash management services. SBI has a network of over 9,000 branches and 5,590 ATMs across the country.

What has driven performance in 2QFY07?
Asset growth – Size matters! Despite having an advance book close to Rs 3 trillion (15% market share), SBI continued to leverage its extended franchise to clock an appreciable 21% YoY growth in advances in 1HFY06. While the bank’s domestic advances grew at 24% YoY, the retail book led the growth at 26% YoY. SBI’s market share has, however, fallen from 16.4% in 1HFY05, after having witnessed an extraordinary growth in incremental credit offtakes in FY05 and FY06, of 28% YoY and 29% YoY respectively. This was substantially higher than the average growth of 14.5% between FY00 to FY04. This trend of exponential growth now seems to have moderated and the early signs of the same are evident in the first half of FY07. Home loans (grew 22% YoY) comprising 50% of the bank’s retail advance book, constituted one-third of the incremental retail offtakes in the first half of this fiscal. The bank’s well-penetrated franchise also helped it grow the agricultural advances at 29% YoY. More importantly, the benign low cost deposits (CASA) that comprised a higher 43% total deposits at the end of 1HFY07, enabled the bank to lower its deposit costs by 15 basis points over that of 1HFY06. The deposit growth of 10% YoY (although not comparable due to the presence of IMDs in 1HFY06) is not commensurate with the growth in advances. While the net interest margins (ex-IMDs) have expanded by 20 basis points over that of 1HFY06, the same considering the IMDs have shown a marginal decline of 10 basis points (3.3% in 1HFY07). We have estimated NIMs at 3.1% in FY07E.

Retail led asset growth…
(Rs m) 1HFY06 % of total 1HFY07 % of total Change
Advances 2,383,510   2,888,400   21.2%
Retail 589,442 24.7% 743,763 25.8% 26.2%
Corporate 1,794,068 75.3% 2,144,637 74.3% 19.5%
Deposits 3,544,420   3,926,150   10.8%
CASA 1,399,337 39.5% 1,674,110 42.6% 19.6%
Credit/Deposit 67.2%   73.6%    

Other income – Treasury hit evaded: The change in the computation of commission on the government business (from value to volume based) has led to fall in fee income from the same by 13% YoY. While government business (collection of taxes) comprises 12% of SBI’s other income, total fee income comprise 15% of the bank’s total income. The impact of higher provisions on mark to market losses on investments in 1HFY07 has muted the numbers in this quarter. Since the bank has now shifted a considerable proportion of GSecs to the HTM basket (held to maturity - approximately 69%), risks on the treasury side are lower.

Costs - Gradual scale down: SBI’s staff costs registered a growth of 7% YoY after the wage revision done in the corresponding period of FY06. As per the bank’s estimates, if the higher contribution to pension fund (decision pending in court) were to be written off in a single fiscal (as against being deferred), it would erode a year’s profits for the bank (approximately Rs 40 bn). The cost to income ratio that currently stands at 52% will reduce going forward as 38,000 employees retire from the bank’s payrolls by 2010.

NPAs - No surprises: The bank, however, saw no negative surprises emanating on the NPAs side with both gross and net NPAs reducing to 3.6% and 1.7% of advances respectively in 2QFY07, from 5.3% and 2.3% respectively in 2QFY06. It may also be noted that once the bank gets the approval to treat the stressed ‘Dabhol assets’ as standard assets (which is likely sometime later in FY06 or FY07), it may see the net NPAs come down to 1.5% of advances. The bank, however, has an inadequate coverage ratio of 54% for NPAs, which is a matter of concern.

What to expect?
At the current price of Rs 1,090, the stock is trading 1.9 times our estimated FY08 adjusted book value. The bank had embarked upon inorganic growth initiatives in FY06, wherein its acquired stakes in 3 overseas banks, in Mauritius, Kenya and Indonesia. The bank had also cited that it will continue to pursue the inorganic growth route in the overseas markets to grow it international business and the benefits of that will filter in, in the longer term. The capital adequacy ratio of 12.6% may get enhanced once the government opts to dilute stake in the bank (post takeover by the RBI in June 2007). While we anticipate lower growth and muted margins for the bank in the near term, the bank, given its balance sheet size, penetration and the possibility of merger with associates remains a preferred play for the long term.

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