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PNB: Seeing red… - Views on News from Equitymaster
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PNB: Seeing red…
Nov 1, 2007

Performance summary
  • Interest income grows by 29% YoY on the back of 23% YoY growth in advances.
  • Other income grows 26% YoY due to higher fee income contribution.

  • Net interest margins drop to 3.5% in 1HFY08 due to write off of amortisation expenses on investment.

  • Operating costs move up to 58% of total income from 51% of total income.

  • NPAs scale up at the gross as well as net level.

Rs (m) 2QFY07 2QFY08 Change 1HFY07 1HFY08 Change
Interest income 26,882 34,630 28.8% 52,473 67,491 28.6%
Interest Expense 14,015 21,716 54.9% 27,491 41,566 51.2%
Net Interest Income 12,867 12,914 0.4% 24,982 25,925 3.8%
Net interest margin (%)       3.9% 3.5%  
Other Income 3,709 4,678 26.1% 3,483 4,792 37.6%
Other Expense 7,580 9,043 19.3% 14,548 17,813 22.4%
Provisions and contingencies 1,938 779 -59.8% 2,047 (1,126) -155.0%
Profit before tax 7,058 7,770 10.1% 11,870 14,030 18.2%
Tax 2,008 2,386 18.8% 3,145 4,395 39.7%
Profit after tax / (loss) 5,050 5,384 6.6% 8,725 9,635 10.4%
Net profit margin (%) 18.8% 15.5%   16.6% 14.3%  
No. of shares (m) 315.3 315.3   315.3 315.3  
Book value per share (Rs)*         361  
P/BV (x)         1.5  

Company background
Punjab National Bank is the fourth largest banking entity in the country (in terms of asset size) with 4.2% share of the total credit disbursals at the end of FY07. Given its geographic concentration in the northern regions, the bank was a laggard in terms of credit growth until FY04, which led to it barely sustaining its share of non-food credit at 4.5%. However, not able to keep up with its private sector peers in incremental credit disbursements and low retail credit exposure resulted in a loss of market share (from 4.5% in FY04 to 4% in FY06). Nevertheless, an operating overhaul in terms of asset quality and retention of high margins has helped the bank position itself favourably amongst its peers and marginally enhance its share in FY07. Adequate capital, high NPA coverage and interest rate insulation pegs the bank amongst the frontrunners in the public sector banking space.

What has driven performance in 2QFY08?
Growth in line with the sector: In line with the sector growth, PNB has completed the first half of this fiscal with 23% YoY growth in advances and 17% YoY growth in deposits. The same fell in line with our estimates. We have taken a conservative stance on the bank’s asset growth estimates due to its non-aggressive approach. However, backed by a comfortable CAR position (12.6% in 1HFY08), the bank, until last quarter, was able to sustain its net interest margins (average of 4%) above the industry average so far. This was primarily by reducing the bulk and term deposit rates ahead of its peers. The same (as was the case with its peers) impacted by the amortisation expenses for shift of investments to the held to maturity basket.

PNB has historically maintained one of the highest proportions of low cost current and savings account deposits in the PSU banking sector (last 5-year average is 47%), which has partially hedged its net interest margins (NIMs). This has been due to its diversified presence in the rural and semi urban areas. While the bank has set for itself a target of sustaining the CASA at 46% of total deposits, the same have dropped to 44% in 1HFY08.

In line with industry…
(Rs m) 1HFY07 % of total 1HFY08 % of total Change
Advances 823,396   1,014,943   23.3%
Retail 197,865 24.0% 241,000 23.7% 21.8%
Corporate 625,531 76.0% 773,943 76.3% 23.7%
Deposits 1,284,150   1,499,800   16.8%
CASA 590,709 46.0% 658,412 43.9% 11.5%
Term deposits 693,441 54.0% 841,388 56.1% 21.3%
Credit deposit ratio 64.1%   67.7%    

Other income – Fee cushion: The 26% growth in other income can be primarily attributed to higher contribution from fee income which improved from 16% of total income in 1HFY07 to 18% of total income in 1HFY08. This has been a significant improvement from 14.8% of total income in FY07. While the investment book of the bank is no more a concern, a drop in the fee income will endanger the sustainability of net margins, as the core banking business gets commoditised and more competitive private sector and foreign players cannibalise on its market share.

NPA blushes: The bank’s loan loss provisions stood at 9% of total income in FY07. Although the overall coverage ratio (provision to gross NPAs) is above 78%, given the past experiences, with an aggressive stance on mortgage loans (growth in 1HFY08 not divulged), the possibility of high slippages remains a concern. More so, with the bank writing back its provisions to cushion the bottomline. The overall delinquency rate for the bank has increased with gross and net NPAs having increased from 3.5% and 0.8% of advances in 1HFY07 to 4.6% and 1.9% respectively in 1HFY08.

Costs erode margins: While most PSU banks are paring their operational overheads by franchise and employee rationalisation, PNB has witnessed a spurt in its cost to income ratio from 51% in 1HFY07 to 58% in 1HFY08.

PNB has clarified that it has been providing for pension related expenses on actuarial basis, thus taking care of future liabilities in its books. The bank made an additional provision of Rs 3 bn in FY07 for AS-15 (pension provisions) and expects the additional impact of AS-15 to be minimal going forward. Further, in the next 5 years, around 1,500 employees of the bank will be retiring per year, thus considerably lightening its wage burden (as most of these employees are in the high salary bracket). While the bank does not intend to refill the vacancies as it is rationalising its franchise and employee base, it will be recruiting only technical staff, at relatively lower salary levels as compared to the retirees. We expect this cost advantage to rationalise the bank’s cost efficiency and bring down its cost to income ratio at par with that of its peers in the sector.

What to expect?
At the current price of Rs 534, the stock is attractively valued at 1.1 times our estimated FY10 adjusted book value. Sustenance of a healthy current and savings account mix reiterates the operating efficiency of the bank. Going forward, with technological upgradation and ability to sustain attractive margins, the growth prospects of the bank appear enthusing. Having said that, excessive reliance on treasury income and inability to grow its fee income base along with the recurrence of treasury blushes are our lingering concerns with regard to the bank.

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