>Corporation Bank (CITI)

Sell: 4Q09 Results – Quantity, Not Quality

■ Profits up 26%, above estimates; but qualitatively not so sound — Prima facie Corp Bank's results were good – up 26%yoy, 37% ahead of estimates – driven by bond gains, core fee momentum and moderation in costs. However, beneath the surface there are clear signs of pressure - declining margins, sharp rise in restructured loans and lower loan loss charges, despite the large trading gains.

■ Asset quality: Restructuring stress — Reported NPLs still look good (1.15% NPLs, 75% coverage); however, it masks underlying stress - 2% of loans restructured, another 3% pending. This is ahead of peers and management has missed an opportunity to provide more (utilizing the large bond gains). We expect higher lapses to NPLs given its mid-scale and mid-market franchise.

■ Growth: Accelerating but appears unsustainable — 4Q09 has seen growth accelerating (8% QoQ loan growth; 20% deposits), but comes at a cost (NIMs down 40bps QoQ). Sharp improvement in CASA ratio (31% vs. 25% in 3Q09) results from 100% QoQ rise in current account balances, suggesting it could be temporary; and possible unwind will pressure growth.

■ P&L: Trading boost and fee momentum; but margins disappoint — Bond gains, (5x rise, likely profit taking on HTM book), cost moderation (-20% QoQ) and healthy rise in core fees (+28% YoY) were key profit drivers. Core operating profits were up a more modest 7% YoY. NIMs were the key disappointment (down 40bps QoQ) and are now among the lowest in the industry.

■ Risks remain high, maintain sell — We adjust earnings (+3-4% for FY10-11E) to factor in above estimates FY09 earnings; retain Sell (3H) due to Corp Bank's rising profile with our EVA-based Rs175 target price.

To see full report: CORPORATION BANK

>United Spirits (IDFC SSKI)

Tracking the market momentum, recovering from the knee jerk reaction post the poor financial performance in Q3FY09 and triggered by the ongoing talks with Diageo for stake sale in United Spirits (USL), USL’s stock is up by ~70% from the bottom. However, at the CMP of Rs730 and trading at a valuation of 16x (net of treasury stock), we see a strong trading ‘short’ opportunity given the pressure on near term profitability (rising prices of molasses) and continued uncertainty over the ‘stake sale’ transaction. While USL’s growth momentum remains robust (sold 90m cases - 88.5m cases in USL and 1.5m cases of W&M in FY09 – 20% growth), we see increasing pressure on the near term profitability as molasses prices are set to stay over Rs5200/ ton (25% higher yoy), less likelihood of material price hikes (given the election period) and limited scope for portfolio uptrade (first line brands account for 93% of the business now). We see continued gross margin erosion in USL’s domestic business in FY10 (expect 200bp). Globally too prices of Scotch whisky could see correction as economic recession hits consumption, thereby limiting the upside gains for W&M as and when the contracts come for renegotiation. Besides operationally, there could be likely GBP5-10m risk on numbers on account of pension scheme provisioning in FY09. All these factors pose a risk to our earnings estimates in FY10. Also, while USL is in talks with Diageo and various private equity players for stake sale, there could be likely delay in the completion of the transaction. Citing all these risks, maintain our Neutral stance on the stock with a near term trading ‘short’ opportunity. Global liquor majors – Diageo and Pernod Ricard have seen 20-25% correction in their stock price since December 2008 (while broader markets have moved up) and are trading at PER of 11x.

USL – 70% up from the bottom
After the dismal performance in Q3FY09 (860bp of margin contraction), USL’s stock had corrected to Rs425 in January 2009. However the stock has since then seen 70% uptick to current market price of Rs730. This was driven on three counts – the fall, we believe, was sharper than expected and was a knee jerk reaction to the dismal performance (margins below 12% after a span of 7 quarters) and hence the recovery, secondly on account of strong market momentum (25% from the bottom) as indeed the ongoing talks of stake sale to Diageo and deleveraged the company balance sheet (net debt of Rs61bn).

While Q4FY09 numbers expected to be better than Q3FY09…
In Q3FY09, United Spirits saw the sharpest of the margin contraction for the past many years – EBITDA margin contraction of 860bp and gross margin contraction of 940bp. This was primarily on account of sharp increase in molasses and ENA prices (accounting for 40% of material cost) and glass prices. Effective molasses prices had increased from Rs290/quintal in Q3FY08 and Rs460/quintal in Q2FY09 to Rs525/quintal in Q4FY09 (80% higher yoy and 14% higher qoq). ENA prices too were higher by 50% yoy at Rs31/ltr. With cut down in sugarcane cultivation, molasses and ENA prices have remained higher. However, the scenario improved in Q4FY09 (effective molasses prices were down to Rs480/quintal and ENA prices were at Rs28/ltr in Jan-Feb 2009), with slow down in economy resulting in slow down in ENA and molasses consumption for industrial purpose. This, we believe would help improve upon the margins in Q4FY09 over Q3FY09. While the sales growth remains robust (expect 17% growth yoy), EBITDA margins are expected at 14.4% (310bp higher qoq, but 340bp lower yoy).

To see full report: UNITED SPIRITS

>HDFC Bank (CITI)

Buy: 4Q Results – Cannot Pick a Hole in the Quarter

■ Profits up 34% yoy; qualitative reinforcement — Qualitatively, the quarter was ahead, while quantitatively (i.e. net profit), it was just a little behind. The key takeaway is that HDBK continues to stand out in the troubled crowd with its asset book holding comfortably, profitability remaining stable and outlook good enough for it to maintain 20%+ loan growth. We believe HDBK is making significant franchise (and market share) gains in these relatively uncertain times – and doing so profitably.

■ Asset quality: Continues to defy and widens the gap — The pace of deterioration remains stable (comfortably covered by operating profitability). The restructuring phenomenon appears to have passed it by (0.1% of loans), and 20-25% loan growth looks achievable. Mgmt has a cautiously optimistic growth and quality outlook (consistent through Oct-Nov 2008 lows), and its track record for working through the cycle builds. The risks are the economy and the now-rising expectation that HDBK is immune to asset quality issues.

■ P&L: Fees and costs impress, while trading one-offs provide provisioning cushion — The P&L is fundamentally the upside surprise – fees have accelerated (bolstered by a strong bounce-back in derivative revs), costs are showing signs of moderating (almost a first among peers), and margins continue to hold at 4%+ levels – significant stability in varying interest rate environments. A surprise trading gain (second quarter running now, though) provides the cushion for a provisioning boost, which is otherwise too high for a normal earnings cycle.

■ Maintain Buy (1L) — While HDBK becomes even more expensive, we find that we cannot pick a hole in its quarter or business strategy, and until that happens, valuations will likely remain high

To see full report: HDFC BANK

>Bharti Airtel (HSBC)

Retain OW (V); Focussing on the last mile

■ Bharti may be considering outsourcing the last-mile connectivity as per news reports

■ We would view such a move positively, as it should allow Bharti to leverage its investment in fibre assets

■ We retain our Overweight (V) rating and INR786 target price; we expect Q4 (March) results to be lacklustre

News reports suggest that Bharti may consider outsourcing its last-mile connectivity of its broadband operations and enterprise operations. The reports, by the Business Standard, among others, suggest that this will help the company focus on its core competencies, beyond reducing costs of operations. Outsourcing has been a key part of Bharti’s overall strategy; its mobile network has been outsourced to Nokia Siemens and Ericsson and its IT operations to IBM.

Frost & Sullivan, a business research and consulting firm, estimates the Indian enterprise data services market at INR51bn and expects a CAGR of 25.1% for this segment to INR154bn by FY13e. Large enterprise contributes c70% of the total market, and growth of the data market is driven by MPLS/VPN, which is expected to have a market share of nearly 50% in FY12-13.

While there is no official confirmation of the news item, we believe that an outsourcing deal would allow Bharti to boost its capabilities in network integration. In our view, network integrators have assumed significance recently on the back of complications involving sourcing equipment from multiple vendors and equipment interoperability.

We expect Q4 FY09e (March) results will be lacklustre for Bharti as a result of pricing pressures following the RCOM GSM rollout. We estimate Q4 revenues will decline 2% q-o-q. We estimate the EBITDA margin at 40%, compared to 41% in Q3 FY09. Similarly, we expect net income for Q4 to decline 2% sequentially. We retain our Overweight (V) rating on Bharti shares and our INR786 target price.

To see full report: BHARTI AIRTEL