SBI - The feeling of déjà-vu -> asset quality pain lingers; maintain Add - BRICS

SBIN disappointed in Q2FY13 with weak core revenue (NII up merely 5.3% yoy and fee income down 5.8% yoy) and its bad run continuing on the asset quality front, with slippage ratio at 4.3% vs. our expectation of 3.6%. PPoP was down 1.6% yoy and 16% below expectation. Lower NPA provisions (down 37% yoy, resulting in PCR declining further by 2% qoq to 62.8%) and MTM gains on bonds, helped SBIN post a PAT growth of 30% yoy. Mid-corporate and SME continue to be the trouble areas for SBIN. We expect NIM to fall, going forward, as the interest rate cycle turns (SBIN generally leads in cutting rates) and pressure on asset quality to persist, offset by treasury gains to some extent, which will exert pressure on earnings, as well as keep it volatile. Retain Add, but cut target price to Rs2,020 (from Rs2,070 earlier).

What to do with the stock? SBIN presents a classic binary option, in our view. At one extreme, falling asset quality and lack of growth could continue to exert pressure on earnings and depress the stock's performance for a considerable period. On the other hand, there could be a quick upside once the pace in loan growth picks up, resulting in strong NII and fee income that SBIN could use to generously build up provision cover and/or write down bad assets. Loan growth will also help NPA ratios appear optically lower. High CASA and strong retail deposit accretion, which have kept cost of funds at a benign level, will continue to benefit SBIN either way. Having said that, we are not that hopeful of an immediate turnaround in the system loan growth and with valuations at a generous level (1.43x forward consolidated book), a short-term correction in the stock is highly probable.

Valuation - not cheap: Stock trades at 1.43x consolidated book (2.4x standalone) and 9.1x consolidated earnings, on a one-year forward basis. We value SBIN at Rs2,020 (1.34x consolidated book and 8.5x earnings), which is lower than its CMP, as we expect a near term correction in the stock price. Our Add rating, however, reflects the stock's long-term potential. Nevertheless, among PSU banks under our coverage, we prefer BOB first and then SBIN.

Cutting earnings estimates due to lower NIM & fee income and higher expenses, offset by lower provisioning

We reduce NIM by 11bps each to 3.5% and 3.4% for FY13 and FY14, while marginally lowering loan growth to 16% and 18% respectively. Other than the waivers that SBIN has offered to its customers, we see the possibility of a further decline in fee income, due to a negligible loan growth in the corporate sector, while retail assets are likely to witness extreme competition, resulting in undercutting fee/price over the next several quarters. This brings net interest revenue down by4% each for FY13 and FY14. We also increase our expense assumptions owing to the overdue wage agreement (SBIN is likely to start creating a buffer from Q4FY13). This lowers our PPoP assumption by 10-11% for FY13-14. We, however, lower provision expenses, as we believe SBIN is unlikely to strengthen its provision coverage ratio (PCR) and allow it to slip to 60% in FY13. Note: Our credit cost estimate is based on provision assumption of 2.75% for fresh restructured assets and a further increase here will increase the downside to earnings.

The worry lines - rising stressed assets vs. falling credit cost

Over the last six quarters, SBIN's credit cost has been witnessing a downward trend in sharp contrast to the rising trend in slippages and stressed assets (fresh slippages and new restructuring), both in absolute terms, and as a percentage of 12m prior loans. This remains a cause for concern, should slippages from restructured assets surge higher in the coming quarters.

Source : Equity Bulls

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