Union Bank of India - Weak PPOP more than offsets steady asset quality - Prabhudas Lilladher

Union Bank reported robust asset quality trends with low incremental slippages and restructuring. However, operational performance was very weak despite high B/S growth reported. We expect ROAs of just 0.8% in FY14 despite assuming 25bps lower credit costs due to the operational weakness and this will likely cap multiples <1x. Steady asset quality underpins our 'BUY' rating but an upside to our PT seems limited (Rs265/share, 0.9x Sep-14 book).

- Operationally weak quarter: Operating metrics for Union Bank continued to weaken, with core PPOP contracting 2% YoY. Key Metrics: (1) Loan growth at 17% YoY was better than most peers but high growth in weak environment will have credit implications (2) NIMs dropped ~10bps QoQ and we expect some more pressure in a falling rate cycle (3) Core fee income, which was holding up relatively better, also seen weakening despite robust B/S growth. Like most PSU banks, we expect FY14 to be operationally challenging with just ~9% PPOP growth.

- Asset quality momentum fine: Gross slippages <2% remains encouraging and with ~1% of recoveries/upgrades, net slippage of 1% was well within guidance. Gross NPAs inched down to ~3% and management intends to control NPA % at <3% which we believe will be difficult in the current environment. Incremental restructuring of Rs14bn (2.7% annualized) was also lower than restructuring done by peers.

- Low ROAs to cap upside; Capital constraints also remains: With potential NIM challenges and slowing fee income, we expect ROA of just 80bps despite assuming ~100bps of credit costs in FY14 and this will likely cap multiples at <1x book. Also at 8.2% Tier-1, capital constraints remain and increase the risk of book dilutions. We retain a 'BUY' as asset quality remains stable but our PT of Rs265/share (0.9x Sep-14 book) implies just 10% upside from current levels.

Source : Equity Bulls

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