Sunday, January 1, 2012


 Lower slippages despite economic down-cycle. 
Our recent interaction with the management indicates that SBI’s slippages will likely decline due to significant strengthening of its monitoring systems even as the economic cycle trends otherwise. However, overall revenue growth is likely to be subdued despite healthy NIM as loan growth and fees remain weak. We expect the bank to raise capital by 4QFY12E though the quantum is not yet clear. Stability in slippages will be the key stock driver over the next few quarters, in our view. Maintain BUY with TP of `2,300 from `2,600.

■ Slippages to remain above normal though pace is likely to decelerate from current levels
SBI’s recent initiatives in HR and technology are likely to result in decline in slippages and reduce the incidence of NPLs from extraneous factors such as the migration exercise, incomplete documentation etc. The bank is comfortable with the early warning signals that are in place across most product verticals and branches. In the near term, we expect a healthy harvest season to reduce slippages and improve recovery in this portfolio. However, weak macro environment will keep slippages at higher-than-average levels. We expect slippages at 2.8% levels and loan-loss provisions at 1.4% levels for FY2011-13E.

■ Subdued revenue outlook on the back of lower fee and loan growth; NIM outlook comfortable
We expect revenue growth to remain subdued at 13% CAGR for FY2011-13E as loan growth is likely to be below industry average while fee and forex income will remain weak. Weak macro, focus on slippages over growth and capital conservation is likely to moderate loan growth. We expect muted fee income performance but contribution from treasury to increase on the back of decline in interest rates in FY2013E. RBI’s move to curb foreign exchange activities is likely to impact forex income from the next quarter.

■ Discussion continues on capital infusion; we don’t see an immediate requirement
The bank is in active dialogue with the GoI for capital and expects the exercise to be completed by 4QFY12. The timing, quantum and nature of infusion are yet to be finalized. Tier-1 is at 7.5% with overall capital adequacy ratio at 11.4% for 2QFY12 but this excludes 1HFY12 profits. 

We believe that SBI does not have any immediate requirement for capital. (1) Growth has definitely slowed over the past few quarters and we are building 14% CAGR for FY2011-13E, (2) Internal accruals are reasonably strong with RoEs (pre-dilution) at 17% levels and payout ratios of 20%—reasonably sufficient for underlying loan growth trends, (3) management shifting focus on capital conservation through loan guarantees and is likely to release capital, especially in segments like export and SME credit. However, some of these benefits are likely to be countered by deterioration in ratings of its loan portfolio resulting in increase of risk-weighted assets.

■ Valuations attractive for a strong franchise.
 We maintain a favorable outlook on SBI valuing the bank at Rs2,300/share. We are valuing the core bank at 1.4X book and its banking subsidiaries at 1.2X FY2013E book. Valuations are attractive at 0.8X book and 5X FY2013E EPS for RoEs in the range of 17-18% levels and earnings growth of 30% CAGR for FY2011-13E. Valuation multiples are moving closer to the bottom levels witnessed in FY2009.

On the back of subdued outlook, we are revising our earnings downwards by 14% for FY2013-14E to factor (1) lower revenue growth on the back of lower loan growth and fee income and (2) higher loan-loss provisions on the back of weak macro trends. Our NIM assumptions are conservative as we factor compression in the next few quarters as pricing power shifts to borrowers. Sharp reduction in interest rates is likely to result in lower provisions for retirement benefits and higher treasury gains which would result in an improvement in cost-income ratios; but we are factoring cost-income ratio to increase to 49% from 45% levels witnessed currently.