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Recommendations India

South Indian Bank Stock Idea

January 20, 2014, Monday, 06:46 GMT | 01:46 EST | 11:16 IST | 13:46 SGT
Contributed by Nirmal Bang


Asset quality shows signs of improvement; lower valuation provides comfort at current levels.
 
South Indian Bank Ltd (SIB) has remained an underperformer in the last three quarters considering the significant asset quality pressures witnessed by the bank. In this quarter, although the operational performance was below expectations; marked improvement in asset quality surprised us. The improvement in asset quality was largely driven by decline in slippages (Rs 103 cr vs 260 cr last quarter) and also by higher up gradation. One large account which slipped into NPA last quarter was upgraded (Rs 100 cr) leading to improvement in asset quality. Moreover, management is comfortable with the recovery efforts of the bank and is hopeful of ending FY14E with Gross NPA below 1.5% and Net NPA below 1% from 1.66% and 1.18% in Q3FY14.
 
Despite lower share of CASA at 21.7%; the bank has been able to maintain margins at ~3% levels. This was due to higher yields on gold loan portfolio. As the bank has not been able to pass on the increase in cost of funds, it witnessed 10 bps decline in margins in this quarter. Management is not targeting aggressive growth in loan book and has moderated its credit growth as part of conscious efforts not to compromise on quality for the sake of growth. SIB aims for 15% advance growth in FY14E and 20% in FY15E.
 
The bank has opened around 24 branches in this quarter, taking the total branch network to 799. The significant increase in branches led to increase in cost to income ratio for the bank. However, management is not targeting any major expansion in the next quarter which will ensure that the cost to income ratio will remain under control driven by better operating leverage. In addition, with enhanced branch network, the bank is targeting an improvement in the CASA ratio which will also drive stable margins in the long term.
 
The bank added Rs 165 cr of restructured accounts taking the total book to 4.5% of total advances. NPA from restructured book stood at 5.6% which is much lower as compared to peer banks.
 
We believe that the improvement efforts taken by the bank to improve its asset quality, CASA ratio and fee income will drive the performance going forward. Return ratios are expected to improve to 16.7% in FY14E; though is not expected to reach at historical levels (~19-20%). Management commentary sounded positive after almost dismal performance in the last three quarters; however timely execution remains a key for re-rating of the stock.
 
Given the current stress visible in the overall macro and increasing interest rate scenario, we believe that the stock will take some time to further re-rate from current levels. Nevertheless, lower valuations provide comfortable entry point for investors as the downside risk from current levels look limited. At CMP, SIB is trading at a PE of 5.06x and 4.5x of FY14E and FY15E EPS and at an adjusted P/BV of 0.86x and 0.73x FY14E and FY15E Adj BV. Assigning a target multiple of 0.9x on FY15E ABV we arrive a target price of Rs 25 indicating an upside of 23.2% from current levels. We recommend BUY rating on the stock.