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Home , Dhanlaxmi Bank, Lord Krishna Bank

Re-initiating Coverage

FebruaryFebruary 1, 1,2013 2013

Rating Matrix Rating : Buy Dhanlaxmi (DHABAN) Target : | 81 Target Period : 12 months | 64 Potential Upside : 27% Key Financials Gradually moving out of the woods… , one of the old private sector , has started | Crore FY12 FY13E FY14E FY15E exhibiting signs of improvement and stability under the guidance of the NII 247.5 283.7 326.4 447.3 current management (consisting of top veteran personnel of bank), which PPP -99.2 48.3 89.9 194.0 has been active since February 2012. The bank's growth and profitability PAT -116.9 -15.3 39.9 121.5 got impacted in H2FY12 owing to higher opex factored in P/L, conflicts

with employee unions and lack of clarity over future strategy. After a Stock Data strong growth of ~54% CAGR in business during FY09-Q2FY12, which Bloomberg/Reuters Code DHLBK IN/DNBK BO Sensex 19781 resulted in bloated financials, the bank is consolidating with shedding of Average volumes 128788 wholesale corporate loans and relying on stable retail deposits for Market Cap (| crore) 544 funding. We, therefore, believe, after the phase of consolidation in FY13, 52 week H/L 43/79 net profitability will see a surge in FY14 onwards. We estimate the Equity Capital (| crore) 85.14 business will grow at a CAGR of 17% over FY13-15E to | 26270 crore and Face Value (%) 10 PAT for FY14E and FY15E will be at | 40 crore & | 122 crore, respectively. FII Holding (%) 27.8 Operating profits depicting improving trend DII Holding (%) 1.0 The current management since the beginning has focused on pruning Comparable return matrix (%) expenses via rationalisation of employee cost by cutting salaries and Return (%) 1M 3M 6M 12M reducing the head count to the levels necessary to run 280 branches. Dhanlaxmi Bank -3.09 19.0 26.9 14.9 Further, cutting down on wasteful expenditure and giving up excess South 5.9 18.3 14.5 19.9 space at branches in major cities have yielded positive results with bank 8.8 27.0 37.7 67.9 generating operating profits in Q2FY13 after three quarters of losses. -5.6 6.1 24.3 30.0 C/I ratio controls tightened, though still high Owing to efforts of the new management, the C/I ratio is now below 100% Price movement levels compared to unmanageable levels of 140% and 209% in the last two quarters of FY12. The management expects to bring the ratio down 7,000 80 70 to 70% in another three years, mainly a function of growing income. 60 5,000 50 Raising capital to increase CAR 40 The RBI has asked the bank to achieve CAR of ~12% by March 2012 from 3,000 30 10.9% currently. At present, the bank has plans to raise ~| 200 crore via 20 10 QIP, which we believe would be possible considering an improving 1,000 0 topline and stable overall performance, going ahead. Reducing headwinds and trending to stability to underpin valuations Jul-12 Jan-13 Sep-12 Nov-12 Mar-12 May-12 We believe as the bank gradually ushers in to a phase of stability by going Dhanlaxmi (R.H.S) Nifty (L.H.S) for industry in-line business growth, high yielding loan mix and gradual improvement in margins with required frugality towards operating Analyst’s name expenses, its core profitability would continue to improve. We expect the bank to turn in the green from FY14E and expect it to deliver RoA of 0.7% Kajal Gandhi and RoE of 12% by FY15. Considering its private sector status and it [email protected] being in the stage of gradual recovery process, we have valued it at 1x

Vasant Lohiya FY15E to arrive at a target price of | 81/share (average P/ABV at 1.1x). [email protected] Exhibit 1: Key Financials FY11 FY12 FY13E FY14E FY15E Jaymin Trivedi Net Profit (Rs crore) 25.2 -116.9 -15.3 39.9 121.5 [email protected] EPS (|) 3.0 -13.7 -1.4 3.6 10.9 Growth (%) -15.4 NM NM NM 204.5 P/E (x) 21.6 NM NM 17.9 5.9 ABV (|) 96.0 78.6 64.6 68.6 81.1 Price / Book (x) 0.6 0.8 0.8 0.8 0.7 Price / Adj Book (x) 0.7 0.8 1.0 0.9 0.8 GNPA (%) 0.7 1.2 3.6 2.9 2.3 NNPA (%) 0.3 0.7 2.4 1.9 1.5 RoA (%) 0.2 -0.8 -0.1 0.3 0.7 RoE (%) 4.0 -14.7 -1.8 4.4 12.0 Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research Page 1

FII & DII holding trend (%) Company Background

40 35.0 Dhanlaxmi Bank is an old private sector bank incorporated in 1927 in 33.6 33.0 35 29.2 27.8 , that was conferred scheduled status in 30 1977. The bank is primarily active in southern (in Kerala ~40-45% 25 20 business) and currently derives a major share of its business from the (%) 15 retail segment. As on Q2FY13, its business size was | 18383 crore 10 including deposit of | 10842 crore and advances of | 7541 crore. 5 2.1 1.3 0.8 0.8 1.0 0 Exhibit 2: Top five states in terms of customer outlets (branches + ATMs) as on March 2012 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Q2FY13 FIIs DIIs 350 307 Source: Company, ICICIdirect.com Research , 300 *As on September,2012 250 200 Shareholding pattern (%)* 150 114 Promoter - 100 78 Foreign Institutional Investors (FII) 27.8 54 53 50 Domestic Institutional Investors (DII) 1.0 General Public 71.2 0 *As on September, 2012 Kerala Tamil Nadu Maharashtra Andhra Pradesh Karnatka

Source: Company Annual Reports, ICICIdirect.com Research, Total Customer outlets 680 as on March 2012

The current Managing Director & CEO of the bank PG Jayakumar was appointed in February 2012 after the earlier CEO Amitabh Chaturvedi resigned in the same month.

The current management took control in February 2012. In FY09, the bank had revamped its board and top management as a part of its corporate restructuring with renowned industry veterans like GN Bajpai (ex-Chairman of LIC and Sebi) and Amitabh Chaturvedi (ex-Group President of Reliance Capital) heading the bank as the Chairman of the Board and the MD & CEO, respectively. During 2008-11, the bank adopted a strategy of aggressive business growth with a sharp increase in customer outlets (branches + ATMs) and head count. During the 35-40 months, the total business of the bank grew at a breakneck speed from | 7554 crore as on Q3FY09 to | 23945 crore as on Q2FY12. Number of braches increased from 181 as on FY09 to 275 branches by Q3FY11 while the head count increased from ~1400 as on FY09 to 4780 by Q2FY12. Net profit rose from | 16 crore in FY07 to | 57 crore in FY09 and back to | 25 crore in FY11. The bank currently has 280 branches with head count Exhibit 3: Drastic rise in branches & head count number during FY09-Q2FY12 brought down to ~2650 employees as on Q2FY13 4260 4500 4080 3960 4000 3500 3000 2650 2500 2000 1319 1402 1500 1000 500 181 181 273 275 275 280 0 FY08 FY09 FY10 FY11 FY12 Q2FY13

Branches Employees

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research Page 2

However, the above strategy of aggressive growth backfired. Along with the slowdown in the economy, this led to multiple quarters of lower profitability as costs were huge. Eventually, the bank had to face losses in H2FY12. From a profit of | 57.5 crore on a business size of ~| 8,000 crore in FY09, the bank reported a loss of | 36.9 crore as on Q3FY12 on a business of ~| 23,000 crore. Opex, owing to a sharp rise in branches and hiring of a large number of employees (~3380) at higher salaries, increased at a faster pace than the operating income. Margins declined to 1.8-2% as on FY12 from 2.5-2.6% levels earlier owing to dependence on bulk deposit in a rising interest rate scenario, falling CASA ratio and a low yielding corporate book. The C/I ratio touched as high as ~99% as on Q2FY12 and 140% as on Q3 FY12. In the backdrop of the above circumstances, the loss incurred by the bank, dispute with the employee union over pay structure and disagreement with the board over future business strategy and other issues led to the exit of Mr Chaturvedi. Current management, expert bankers, moving towards right path... The current management is focusing on austerity and high The current CEO, Mr PG Jayakumar, has been with the bank for ~35 yielding loans and reverting to a branch centric model years. Since he took over office, the management’s strategy has been compared to the vertical structure followed earlier inclined towards stabilising operations. This involves cost cutting measures such as cutting salaries by ~30-40% for those who joined on a CTC basis, moving to IBA packages, right sizing, getting branches to be more efficient, realigning its focus towards high yielding retail loans (with emphasis on gold loans) and SME loans and reverting to the branch- centric model vs. the vertical structure earlier followed.

ICICI Securities Ltd | Retail Equity Research Page 3

Investment Rationale Operating profits moving north The bank witnessed operating losses of | 113 crore during H2FY12 owing to higher operating expenses, lower other income and subdued net interest income as margins declined to 1.8%. However, we observe that the new management’s strategy of rationalisation of employee costs, cutting down of wasteful expenditure and focus on high yielding advance mix is moving in the right direction.

The bank is gradually witnessing an improvement in The bank returned to operating profitability of | 10.7 crore in Q2FY13 and operating profitability owing to the new management’s maintained it in Q3FY13 with profitability of | 14 crore. Even in Q1FY13, strategy of rationalisation of employee costs, cutting down the operating loss was much lower than the previous two quarters. of wasteful expenditure and focus on high yielding advance Operating expenses went down 38% YoY during Q2FY13 (first time in the mix last 13 quarters) and by 31% YoY in Q3FY13 with employee cost falling by 34% YoY and 38% YoY, respectively. Other operating expenses witnessed a decline of 45% and 20% YoY during the last two quarters. Exhibit 4: Operating profile gradually showing signs of improvement

100 68 73 7374 80 61 54 58 54 57 45 60 49 50 43 44 49 45 35 43 40 28 29 24 12 18 15 11 14 20 1 0 -20 Q2FY11 Q3FY11 Q4FY11 Q1FY12 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Q2FY13 Q3FY13 -9 -40 -36 -60 -80 -77 -100

Staff cost Other operating expenses Operating profit

Source: Company, ICICIdirect.com Research

The employee strength now stands at 2650 vs. 4780 three quarters ago, of which ~1900 employees are on the Indian Bank’s Association (IBA) prescribed pay structure and the ~750 employees are on a CTC basis. Considering 280 braches, the current employee base is reasonable considering management estimate of ideal requirement of ~2500-2800 employees necessary for running 280 branches. Exhibit 5: Employee per branch peer comparison, now brought down

18.0 15.5 16.0 14.9 14.4 14.0 11.8 11.8 11.5 11.1 11.2 With the current employee per branch at 9.5, the bank is 12.0 10.1 9.2 10.0 8.8 on par with its peers 7.3 8.0 6.0 4.0 2.0 0.0 FY10 FY11 FY12

Dhanlaxmi CUB Federal Bank SIB

Source: Company, ICICIdirect.com Research

With the current employee per branch at 9.5 (2650 employees, 280 branches), the bank is on par with its peers.

Further, vacating excess space taken on lease in major cities has also enabled the bank to reduce other operating expenses in the H1FY13.

ICICI Securities Ltd | Retail Equity Research Page 4

C/I ratio declines, though still high The C/I ratio, which had touched 140% and 209% in Q3FY12 and Q4FY12, respectively, has declined considerably to 87% (though still high compared to peers). The management expects to bring the C/I ratio down to 70% in the next three years. Exhibit 6: Opex to average assets ratio expected to be back at FY09 levels by FY15E

3.5

3.4 3.0 3.1 2.8 2.5 2.8 (%) 2.6 2.3 2.4 2.4 2.3 2.0

1.5 FY07 FY08 FY09 FY10 FY11 FY12 FY13E FY14E FY15E

Opex/ avg. total assets

Source: Company, ICICIdirect.com Research

The C/I ratio is now below 100%, though still high Exhibit 7: C/I ratio improvement remains key compared to peers 140 120 100 80

(%) 60 40 20

0 56 38 31 48 83 39 35 47 84 37 37 47 125 40 39 49 87 40 46 46 87 42 40 44 80 42 40 43 FY09 FY10 FY11 FY12 Q2FY13 FY13E FY14E

Dhanlaxmi CUB Federal Bank SIB

Source: Company, ICICIdirect.com Research

Business growth expected to be on track from FY14E The business witnessed a sharp rise under the earlier management and grew at a robust rate of 48% YoY in FY10 and 78% YoY in FY11, which was commendable considering it was in the aftermath of the financial crisis. This was mainly underpinned by a successful capital raising at a high premium and opening of 66 branches during FY10. The loan and deposits book got bloated at 3.2x and 2.8x, respectively, since FY09 until Q2FY12 after which it began to de-grow. For the full year FY12, the business de-grew with loan outstanding declining 3.4% mainly due to inability to raise capital and dispute with the employee union and the board. Going forward, under the current management, we expect the bank’s business to improve gradually and factor in loan and deposit CAGR of 19% and 15% over FY13-15E, respectively.

ICICI Securities Ltd | Retail Equity Research Page 5

Exhibit 8: Business to grow in-line with industry

30000 26270 25000 22263 21594 20562 19308

20000 18383

15000 14859 12717 12529 12104 11804 11411 11270 10842 (| crore) 9546 9065 8758 8165

10000 8038 7541 7098 5710 5006 4969 3608

5000 3196 2102 0 FY08 FY09 FY10 FY11 FY12 Q2FY13 FY13E FY14E FY15E

Loans Deposit Business

Source: Company, ICICIdirect.com Research

Going forward, under the current management, we expect Exhibit 9: Trends in business growth the bank’s business to improve gradually and factor in loan and deposit CAGR of 19% and 15% over FY13-15E, 90 respectively 80 70 60 50 40

(%) 30 20 10 0 -10 FY07 FY08 FY09 FY10 FY11 FY12 FY13E FY14E FY15E -20

Loans Deposit Business

Source: Company, ICICIdirect.com Research

Focus towards high yielding loan mix… The earlier management initially concentrated on corporate loans in order to manage NPAs. As on FY10, corporate loans accounted for 64% of the loan book. However, later, on the back of addition of ~66 branches in FY10 and an improved brand image, the bank increased its focus on secured retail loans, which began to gradually rise in proportion. As on The current management, since inception, has given a FY12, retail loans comprised 60% of the loan book while the corporate thrust to SME and retail loan growth. Going forward, the portfolio dwindled to 23%. During this period, the SME segment was in management has targeted loan mix of 40% retail, 20% the range of 15-20%. corporate, 30% SME and balance 10% agri loans by FY14 The current management, since inception has given a thrust to SME and retail loan growth as these are high-yielding and small ticket loans, which help in diversifying risks. Within the retail category, the bank’s major focus would be on gold loans, which currently amount to ~| 1100 crore. The bank would not renew any low-yielding and unsecured corporate loans. However, it also indicated that it will not miss any opportunity to lend to the right kind of corporate if it suits the bank’s pricing mix. Going forward, the management has targeted a loan mix of 40% retail, 20% corporate, 30% SME and balance 10% agri loans by FY14.

ICICI Securities Ltd | Retail Equity Research Page 6

Exhibit 10: Loan mix tilting towards retail segment

120

100 5.0 4.0 2.0 15.0 16.0 15.0 80 23.0 60 39.0 (%) 64.0 40 60.0 20 41.0 16.0 0 FY10 FY11 FY12

Retail Corporate SME Agriculture

Source: Company, ICICIdirect.com Research

Expect margins to improve to 2.4-2.8% levels by FY14-15E ….to help improve margins gradually We believe calculated margins will gradually improve from 1.8% levels as on FY12 to ~2.1% by FY13E and 2.4-2.8% by FY14E on the back of major focus on high yielding segments and healthy loan growth. Further, in the falling interest scenario, going ahead, having ~50% of total deposits as bulk deposits can turn beneficial for bank’s margins, though the management has indicated towards reducing dependence on such short- term sources of funding. Exhibit 11: Margin to witness improving trend from now on…

12 10.18 9.78 9.79 9.88 8.83 8.89 10 8.20 8.57 8 8.59 6 7.68 7.33 (%) 7.09 6.22 6.56 6.32 6.23 4

2 2.80 2.65 2.83 2.16 2.51 2.13 2.39 0 1.81 FY08 FY09 FY10 FY11 FY12 FY13E FY14E FY15E

NIM (calculated) Avg. Yield on IE* assets Avg. Cost on IB* liabilities

Source: Company, ICICIdirect.com Research, IE=Interest earning, IB= Interest bearing

Capital raising on the cards; to provide much needed succour to growth Under the previous leadership, initially during July 2010 the bank was able to raise | 380 crore capital at a premium of | 171/share, which enabled the bank to achieve accelerated growth. However, one year later the bank could not repeat the same. This was followed by the bank’s financials slipping into the red, leading to net worth erosion and reduction in CAR. Successful raising of capital is crucial to achieve growth in- Currently, the CAR for the bank stands at 10.9%, with Tier I capital at line with the industry and remains the top priority of the 7.8%, which is the lowest amongst its peers. The bank’s board in October new management. 2012 approved raising of ~| 200 crore via QIP. Capital at this point is crucial to achieve growth in-line with the industry as targeted by the management. We have factored in the same in our estimates for FY13E. After the capital raising, the Tier I capital would rise to ~9.9% while total CAR would reach ~13% by FY13E.

ICICI Securities Ltd | Retail Equity Research Page 7

Exhibit 12: Tier I at 7.8% now; will rise to healthy levels post raising Exhibit 13: Lowest CAR & Tier I among peers

20 20 15.815.1 15.4 14.4 13.8 15 12.3 13.312.5 15 13.0 10.8 11.8 10.9 8.8 9.4 9.5 10 7.8 10 7.8 (%) 7.4 4.2 5 3.1 5 3.1 2.1 1.6 2.4 2.1 0.7 0.7 0 0 SIB CUB FB Dhanlaxmi FY09 FY10 FY11 FY12 Q2FY13

CAR Tier I Tier II CAR Tier I Tier II

Source: Company, ICICIdirect.com Research Source: Company, ICICIdirect.com Research

Return ratios - Still time to be increase substantially During the FY09-Q2FY12 phase, accelerated asset growth and lower productivity led to slower PAT growth consequent to which return ratios fell sharply in FY10 and FY11 compared to FY09. The management expects RoA to reach 1.3% in another three years. We expect the bank to gradually improve its return ratios and estimate RoA of 0.7% and RoE of 12% by FY15E. Exhibit 14: Return ratios to improve gradually

25 1.5 17.8 19.1 20 12.0 15 1.2 1.0 10 5.2 3.9 4.3 0.8 0.5 5 -1.9 0.7

(%) 0 (%) 0.3 0.2 0.3 0.0 -5 FY08 FY09 FY10 FY11 FY12 FY13E FY14E FY15E -0.1 -10 -14.9 -0.5 -15

-20 -0.8 -1.0

RoE RoA

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research Page 8

Asset quality managed well in the past; expect to maintain at healthy levels The asset quality of the bank has been relatively healthy in the past until recently wherein the absolute GNPA more than doubled QoQ to | 272.6 crore while the gross NPA ratio stood at 3.57% as on Q2FY13 vs. 1.4% in Q1FY13 owing to fresh slippages of ~| 200 crore in the corporate segment. Even in Q3FY13, | 40 crore was added to the GNPA taking GNPA and NNPA ratio to 4.19% and 2.93%, respectively. However, the management expects recovery of | 100 crore by FY13 from this slippage portfolio. We have factored in GNPA ratio of 3.6% and NNPA ratio of 2.4% for FY13E. Lower PCR at 31.5% is a concern.

Exhibit 15: GNPA ratio peer comparison over the years Exhibit 16: Asset quality decent in the past except in Q2FY13

4.5 6 5.2 5 3.6 3.6 3.5 4 3.0 2.9 3 2.0 2.3 2.5 (%) 1.5 (%) 1.4 2.4 2.0 2 1.2 2.5 1.9 1.8 0.7 1.5 1 1.5 1.5 0.9 0.9 0.8 0.7 0.7 1.2 0 0.3 0.7 0.5 FY07 FY08 FY09 FY10 FY11 FY12

FY09 FY10 FY11 FY12 FY13E FY14E FY15E Q1FY13 Q2FY13

Dhanlaxmi CUB Federal Bank SIB GNPA NNPA

Source: Company, ICICIdirect.com Research Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research Page 9

Takeover candidate?? As the bank went into losses in H2FY12 with reports of a dispute between the then management and the board and with the employee union alleging window dressing by the management, the market expected consolidation of the bank with another major bank. Further, with the passage of the Banking Amendment Bill and with the RBI expected to announce final guidelines for new banking licenses, we believe Dhanlaxmi Bank may be one of the potential takeover candidates among others. However, the current management has on a regular basis denied such talks and conveyed its intention to continue as a standalone bank. With the passage of the Banking Amendment Bill and with In the below exhibit, we have tried to gauge valuations and Mcap to the RBI expected to announce final guidelines for new branch at which some previous takeovers/consolidation in the banking banking licenses, we believe Dhanlaxmi Bank may be one space has taken place and compared it with the relation to Dhanlaxmi of the potential takeover candidates among others Bank. Exhibit 17: Regional banks market cap per branch Banks Mcap Branches Mcap/branch Dhanlaxmi 545 275 2.0 3621 700 5.2 City Union Bank 3159 300 10.5 Federal Bank 8656 950 9.1 DCB 1165 84 13.9 1019 290 3.5 5676 451 12.6 State Bank of Travencore 2954 879 3.4 3122 737 4.2 Source: Capital line, Company, ICICIdirect.com Research, Mcap as on January 31,2013, Branches as on FY12

Exhibit 18: Past transactions (| crore) Acquirer Target Price paid Branches (No.) Price/branch ICICI bank 3056 463 6.6 HDFC Bank (CBoP) 9510 394 24.1 ICICI bank Sangli Bank 300 198 1.5 IDBI bank 150 230 0.7 CBoP 336 112 3.0

Source: News articles, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research Page 10

Financials

NII set to grow at healthy pace of 26% CAGR during FY13-15E After growing negatively during FY12, we expect net interest income (NII) growth to improve gradually and turn positive in FY13. On the back of expected improvement in margins and healthy loan over FY13-15E, we expect NII to clock a CAGR of 26% over FY13-15E. Exhibit 19: NII to pick up pace from FY14E

100 89 80

60

40 (%) 37

20 19 23 16 15 15 0.25 0 FY07 FY08 FY09 FY10 FY11 FY12 FY13E FY14E FY15E -20 -7

NII

Source: Company, ICICIdirect.com Research

Other income picking up gradually Owing to strong focus on corporate loans and upfront payment of | 83 crore received from Bajaj Allianz on insurance tie-up, other income for the bank during FY08-11 was reasonable compared to peers on a non interest income-to-average assets basis. During FY12, however, non-interest income took a setback on account of lower credit disbursements, which led to moderate processing fees. Going forward, the management has its focus on sale of gold coins in which there are high margins and on further leveraging its tie up with Bajaj Allianz and various mutual funds in order to enhance other income. However, due to subdued focus on corporate loans, fee income from this segment would be muted. We expect other income to witness CAGR of 18% over FY13-15E to | 147 crore.

Exhibit 20: Peer comparison of other as a percentage of average assets Exhibit 21: Trend in non interest income

1.8 160 146.8 143.6 147.1 2.0 1.6 140 126.6 1.5 1.6 120 106.3 1.5 1.3 1.3 91.01.3 1.3 1.2 100 79.4 1.1 1.1 80 1.0 1.0 (%) 1.0 (%) 0.9 0.8 0.9 0.8 (| crore) 60 42.0 0.7 0.7 40 0.5 0.6 20 0.3 0 0.0 FY08 FY09 FY10 FY11 FY12 FY13E FY14E FY08 FY09 FY10 FY11 FY12 FY13E FY14E FY15E

FB SIB CUB Dhanlaxmi Other Income Other Income/ avg assets

Source: Company, ICICIdirect.com Research Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research Page 11

Bottomline to turn green from FY14E onwards The PAT of the bank grew very sharply in FY09 by almost 100% YoY to | 57 crore mainly on account of higher NII and non-interest income growth. Later on, under the previous management though business grew at a break-neck speed, rise in income was not commensurate with increase in expenses, which led to lower profits in the next two years and loss of | 117 crore in FY12.

The strategy of the current management will enable the We believe the strategy of the current management of industry in-line bank to return to profitability from FY14E. We expect | 122 business growth, focus on raising capital and improving C/I ratio will crore profits by FY15E enable the bank to report a gradual improvement in profitability. We expect losses of the bank to reduce to | 15 crore in FY13E and turn PAT positive from FY14E onwards.

Further, the bank’s current AFS portfolio stands at | 1156 crore with a duration of 1.95 years. With yields expected to trend downwards, profits would be impacted positively. Exhibit 22: Expect profitability to return in FY14E

150.0 121.5

100.0 56.9 39.9 50.0 28.5 16.1 22.5 25.2 0.0

| crore FY07 FY08 FY09 FY10 FY11 FY12 FY13E FY14E FY15E -50.0 -15.3

-100.0 -116.9 -150.0

PAT

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research Page 12

Risk and concerns

Sustainable improvement in productivity and fund raising key Our main investment theme is based on improvement in operating profits mainly on the back of a reduction in operating expenses and improvement in C/I ratio. Though the bank’s recent performance is in desired direction, any deviation from this strategy could be detrimental to its financial performance. Further, a major delay in raising capital would impact growth and, consequently, its performance.

Deterioration in asset quality As stated earlier, the bank’s lower PCR ratio of 31.5% is a concern. Any severe deterioration in the asset quality would significantly impact its financial health and capitalisation. This is more so when profits are under pressure and capital adequacy is not in excess yet.

Coordination with employee unions In the past, issues with the employee union had impacted the bank’s operations. Any major concerns or issues with the employee union in future may affect the bank’s operations and result into increased downside risks.

ICICI Securities Ltd | Retail Equity Research Page 13

Valuation We believe as the bank gradually ushers in a phase of stability by going for industry in-line business growth, high yielding loan mix and gradual improvement in margins with required frugality towards operating expenses, its core profitability would continue to improve. We expect the bank to turn into the green from FY14E and expect it to deliver RoA of 0.7% and RoE of 12% by FY15. Considering the bank’s private status and it being in the initial stage of gradual recovery process, we have valued it at 1x FY15E to arrive at target price of | 81/ share. (Average P/ABV at 1.1x).

Exhibit 23: One year forward P/ABV band

200 180 160 140 120 100 80 60 40 20 0 Mar-06 Dec-06 Sep-07 Jun-08 Mar-09 Dec-09 Sep-10 Jun-11 Mar-12 Dec-12

Price (|) 2.0x 1.6x 1.2x 0.8x 0.4x

Source: Company, ICICIdirect.com Research

Exhibit 24: Dhanlaxmi bank share price vs. Sensex

25000 200 180 20000 160 140 15000 120 100 10000 80 60 5000 40 20 0 0 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

Sensex Dhanlaxmi

Source: Bloomberg, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research Page 14

Financial Scorecard

Exhibit 25: Profit and Loss (| Crore) (Year-end March) FY11 FY12 FY13E FY14E FY15E Interest Earned 906.4 1393.7 1304.3 1337.6 1564.7 Interest Expended 641.3 1146.1 1020.6 1011.2 1117.5 Net Interest Income 265.1 247.5 283.7 326.4 447.3 growth (%) 88.6 -6.6 14.6 15.0 37.1 Non Interest Income 146.8 143.6 106.3 126.6 147.1 Net Income 411.9 391.2 390.0 452.9 594.4 Staff cost 201.5 274.0 172.0 183.8 202.8 Other Operating expense 143.0 215.1 168.9 178.3 196.9 Operating profit 67.4 -97.9 49.1 90.7 194.7 Provisions 27.7 16.6 63.5 47.9 41.9 Taxes 13.7 1.2 0.0 2.1 30.6 Net Profit 25.2 -116.9 -15.3 39.9 121.5 growth (%) 12.3 NM* NM NM 204.5 EPS (|) 3.0 -13.7 -1.4 3.6 10.9 Source: Company, ICICIdirect.com Research,*NM – Not Meaningful

Exhibit 26: Balance sheet (| Crore) (Year-end March) FY11 FY12 FY13E FY14E FY15E Sources of Funds Capital 85.1 85.1 111.8 111.8 111.8 Reserves and Surplus 759.5 641.1 800.0 840.8 963.0 Networth 844.6 726.2 911.8 952.6 1074.8 Deposits 12529.6 11804.4 11270.4 12717.4 14859.0 Borrowings 626.1 1721.5 1767.7 1845.3 2082.2 Other Liabilities & Provisions 267.8 422.3 375.9 381.0 416.5 Total 14268.2 14674.5 14325.8 15896.2 18432.4

Applications of Funds Fixed Assets 134.4 148.7 170.2 195.9 228.3 Investments 3639.7 4360.2 4157.1 4449.3 5105.7 Advances 9065.2 8758.1 8037.9 9545.6 11411.3 Other Assets 493.8 483.5 1225.7 988.9 926.0 Cash with RBI & call money 935.2 926.1 734.9 716.4 761.1 Total 14268.2 14676.5 14325.8 15896.2 18432.4 Source: Company, ICICIdirect.com Research

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Exhibit 27: Key ratios

(Year-end March) FY11 FY12 FY13E FY14E FY15E Valuation No. of Equity Shares 8.5 8.5 11.2 11.2 11.2 EPS (Rs.) 3.0 -13.7 -1.4 3.6 10.9 BV (Rs.) 99.2 85.3 81.6 85.2 96.1 ABV (Rs.) 96.0 78.6 64.6 68.6 81.1 P/E 21.6 NM NM 17.9 5.9 P/BV 0.6 0.8 0.8 0.8 0.7 P/ABV 0.7 0.8 1.0 0.9 0.8 Yields & Margins (%) Net Interest Margins 2.5 1.8 2.1 2.4 2.8 Yield on assets 8.6 10.2 9.8 9.8 9.9 Avg. cost on funds 6.2 8.6 7.7 7.3 7.1 Yield on average advances 9.9 12.1 12.0 11.9 11.8 Avg. Cost of Deposits 6.0 8.3 7.5 7.1 6.8 Quality and Efficiency (%) Credit/Deposit ratio 72.3 74.2 71.3 75.1 76.8 GNPA 0.7 1.2 3.6 2.9 2.3 NNPA 0.3 0.7 2.4 1.9 1.5 Cost to income ratio 83.6 125.0 87.4 80.0 67.2 RONW 4.0 -14.7 -1.8 4.4 12.0 ROA 0.2 -0.8 -0.1 0.3 0.7 Source: Company, ICICIdirect.com Research

Exhibit 28: Growth ratios (% growth) (Year-end March) FY11 FY12 FY13E FY14E FY15E Total assets 76.4 2.9 -2.4 11.0 16.0 Advances 81.1 -3.4 -8.2 18.8 19.5 Deposit 76.5 -5.8 -4.5 12.8 16.8 Total Income 68.4 46.0 -8.2 3.8 16.9 Net interest income 88.6 -6.6 14.6 15.0 37.1 Operating expenses 78.6 42.0 -30.3 6.3 10.4 Operating profit 76.0 NM NM 86.4 115.7 Net profit 12.3 NM NM NM 204.5 Net worth 91.9 -14.0 25.6 4.5 12.8 EPS -15.4 NM NM NM 204.5 Source: Company, ICICIdirect.com Research

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RATING RATIONALE ICICIdirect.com endeavours to provide objective opinions and recommendations. ICICIdirect.com assigns ratings to its stocks according to their notional target price vs. current market price and then categorises them as Strong Buy, Buy, Hold and Sell. The performance horizon is two years unless specified and the notional target price is defined as the analysts' valuation for a stock.

Strong Buy: >15%/20% for large caps/midcaps, respectively, with high conviction; Buy: >10%/15% for large caps/midcaps, respectively; Hold: Up to +/-10%; Sell: -10% or more;

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ICICIdirect.com Research Desk, ICICI Securities Limited, 1st Floor, Akruti Trade Centre, Road No. 7, MIDC, Andheri (East) Mumbai – 400 093

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