Thursday, May 20, 2010


Kotak Mahindra Bank (KMB) reported consolidated PAT (excluding life insurance) of INR 3.7 bn (against our expectation of INR 3.5 bn) in Q4FY10, 119% Y-o-Y growth and up 20% Q-o-Q. Profitability of the banking and auto financing businesses surprised positively; trend in earnings for securities and investment banking was on the expected lines, while earnings of asset management was below our expectation.

Contribution from the financing business (banking and auto finance) increased to ~60% for FY10 (70% in Q4FY10) compared with 40% in FY08. Profits were buoyed by recoveries from stressed assets (carrying value of stressed assets now at INR 2.5 bn). Employee cost/operating expenses were higher across business segments, indicating that full year provisioning was largely skewed towards the last quarter. Asset under management (particularly for domestic MF and PMS)
came off significantly, much below expectations.

Consolidated gross NPLs (excluding stressed assets) declined to 2.16% in Q4FY10 from 2.81% due to aggressive write-offs and lower NPL formation. Provisioning coverage (including technical write-off) improved to 58% and net NPLs dipped to 1.14% (from 1.46% in Q3FY10).

• Profits in banking almost doubled Y-o-Y (42% growth Q-o-Q), to INR 2 bn, driven by stressed assets recovery, sustained NIMs, strong fee income (partially offset by higher employee cost).

• Kotak Securities’ earnings declined 14% Q-o-Q, to INR 508 mn, as trading volumes declined 7-8% Q-o-Q, to INR 36 bn. Profitability of the investment banking business improved to INR 134 mn in Q4FY10 (INR 105 mn in 9MFY10).

• Profit of asset management businesses declined >30% due to dip in AUMs.

• Life insurance reported a profit of INR 444 mn (ending this fiscal with profits of INR 692 mn against INR 247 mn in FY09).

Outlook and valuations: financing businesses to drive earnings; ‘BUY’
In FY10, KMB stepped up the pace of loan growth (32%), and management expects to grow at 2x nominal GDP on a sustainable basis. Stressed asset portfolio provides a huge option value as recoverability is a significant multiple of the carrying value. The bank’s earnings and auto financing business are likely to move towards 20% RoE trajectory over the next 2-3 years. While we believe that banking and auto financing deserve premium multiple, we are revising our estimates downwards for the asset management and securities businesses (to factor in Q4FY10 trends). The stock is currently trading at 2.2x FY12E book and 14.0x FY12E earnings (excluding life insurance). Our SOTP fair value for the stock stands at INR 879 per share for FY12E. We maintain ‘BUY’ on the stock and rate it ‘Sector Performer’ on relative returns.

To read the full report: KOTAK MAHINDRA BANK