Maintain SELL on IOB - Worst not yet over; Stock to Continue to Trade at Discount to Peers - Karvy

Indian Overseas Bank (IOB) is currently trading at 30% discount to its five year average valuation, while the stock has underperformed the Bankex by 35% over last one year reflecting poor margins and continued pressure on asset quality. As we do not expect asset quality to turn around soon, we expect the stock to continue to trade at a discount to peers.

Increased Slippage Ratio; No Significant Improvement in Asset Quality Expected soon: The slippage ratio of Indian Overseas Bank has increased significantly in H1FY13, while we expect similar pressure to continue further even in H2FY13 too. The Bank's Gross NPA & Net NPA ratios are currently at two years high, with provision coverage ratio declining to 58.5%. We do not expect any significant asset quality improvement before H2FY14. At the same time, the Bank's restructured loan book continues to remain elevated at 10%, providing further downside risks to asset quality.

Marginal Improvement in Margins: Indian Overseas Bank's NIM continues to remain depressed owing to rise in cost of deposits and decline in yield on advances. We expect the Bank's NIM to witness marginal improvement in H2FY13E (on lower base) on the back of reduction in cost of funds.

Lower RoE to Suppress Valuation: We expect the Bank's RoE to remain below 12% throughout FY14 compared to the average of 18% in FY08-12 period, owing to poor NIM and higher credit costs. Thus we believe that lower RoE would keep the Bank's valuations below its historical average.

Outlook & Valuation

At the CMP, the stock trades at 5.4x & 4.4x FY14E & FY15E earnings, and at 0.7x & 0.65x P/ABV FY14E & FY15E, respectively. Based on 30% discount to its historical mean valuation implying 0.7x P/ABV FY15E, we reiterate our "SELL" recommendation on Indian Overseas Bank with upwardly revised target price of Rs. 96 per share (from Rs. 70 earlier).

Source : Equity Bulls

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