Federal Bank - Slow and steady wins the race - Centrum

We met up with Mr. Abraham Chacko, Executive Director and in charge of Wholesale Banking at Federal Bank to take stock of broader business dynamics and asset quality trends in particular.

- Stressed asset pipeline of ~Rs4bn: The operating environment continues to remain challenging with increased focus on proactive recognition of stress and rigorous monitoring of such stressed assets. Current pipeline of stressed assets stands at around Rs4bn. Incremental pain is likely to take the form of restructuring rather than big ticket slippages. NAFED exposure remains a sore point as bankers continue to seek 70% recovery (against 60% proposed by NAFED). The bank has been cutting down its exposure to stressed sectors with power reduced by Rs1bn and telecom being narrowed down to nil. The quality of new loan book (after change in management) continues to remain robust. Despite the challenging environment, the management said the bank was well placed to ride through FY14 without major negative asset shocks.

- Localised approach for branch expansion: Unlike many of its south based peers, FED has opted for localising staff to suit new territories being added to its branch reach. The bank has been recruiting new employees with local business requirements in mind. FED plans to add another 100 branches to its current 1,067 branches across the country during CY2013. A major part of the 300 branches added during the past 20 months has been towards expanding the NRI and SME businesses in Mumbai, Gujarat, Tamil Nadu, and Punjab. The experience from new branches is a mixed bag with CASA, NRI and SME products doing well while fee income stream continuing to remain relatively tepid.

- Banking on SMEs: Following the change in management, the bank has gradually increased its large corporate loan book (from ~33% in FY10 to 42% by FY12) with a view to reduce asset quality risks. With re-balancing largely done and corporate book continuing to be the main source of asset stress, the bank has begun reducing its focus on large corporates and is again focussing on the SME segment. The share of corporate segment has come down by 300bps while that of SME has gone up by 100bps and retail by 300bps to 31% share each.

- Slow and steady wins the race: Given the challenging operating environment FY2014 is likely to see FED continuing with its conservative approach in growing its loan book. From asset quality trends as well, the management said the current fiscal should see the resolution of stressed assets in pipeline. Resolution of the stressed assets, according to the management, should imply that large part of the pain would be recognised in FY14 with benefits of the conservative loan book build up and operational restructuring over last two years likely to be visible from FY15 onwards.

- Reiterate bullish stance: Adverse operating environment and lagged benefit of radical transformation under the new management have contained improvement in return ratios so far. However, with a large part of aggressive branch expansion behind us, the ramp-up of business in newer territories should ease cost-income ratio over the next two years. Moreover, the overhaul of loan book and credit processes over the last two years should bring in material benefits in asset quality matrix going forward. We expect RoE to expand from 14.7% in FY13E to ~16% in FY15. In this context, current valuations (1.2x Sep'13E ABV) are undemanding and offer a lucrative entry point for long term investors. We reiterate BUY rating with a fair value estimate of Rs600 - an upside of 22%.

Source : Equity Bulls

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