South Indian Bank Sector: Banks/Midcap Reinitiating Coverage October 5, 2012 Sensex Nifty Price: INR 23.2 Target Price: INR 27.3 18,938 5,747 BUY Background : South Indian Bank (SIB), among the mid-sized banks in the private sector space, operates a network of about 700 branches and about 700 ATMs. With about half of its branches located in Kerala the bank’s business is largely skewed towards the Southern state. SIB has established a strong brand recall among the Keralite-NRI diaspora. With no identifiable promoters SIB is run by a team of professionals. A slew of FII’s hold a 46.27% stake in the bank. As of June 30, 2012 the bank had deposits of ~INR 372bn and a loan book of ~INR 273bn. The bank is among the better capitalised banks in the industry with a Total CAR of 13.2%. Gross NPAs were reported at 1.08% with provision coverage ratio (PCR calc) of ~68%. 52 Week High/Low INR 28.3/19.9 Sturdy business growth Bloomberg code SIB IN Branch additions, regional advantages augur well for business growth Reuters code SIBK.BO South Indian Bank (SIB) has pegged a business target of INR 1,250bn by March 2016 (a growth of 25.1% Issued Equity CAGR over FY12-15). Branch expansion (plans to open 50 branches in FY13), regional advantages and a 1335.5 (shares in mn) historical growth of 25% CAGR over FY07-12 lend confidence to our loan book growth estimates of 20.1% Mkt. Cap in mn INR 30,984 CAGR over FY12-14. Mkt. Cap in mn USD $ 596 Bottom-line to be driven by business growth Net Interest Margins (NIMs) are likely to hover at 3%. Moderation in interest rates, coupled with lower credit Avg. Daily Vol. (‘000) 1613.31 offtake is a dampener. Higher cost of funds is likely to compress margins. Net interest income (NII) is Avg. Daily Vol. (mn) INR37.43/$0.72 expected to register a 25.8% CAGR growth over FY12-14, on the back of a healthy credit growth and flat margins. Other income is expected to be a drag on topline growth (23% CAGR). PAT is expected to grow at Shareholding Jun11 Mar11 Jun12 24.1% CAGR. Capital ratios comfortable Promoters(%) 0.00 0.00 0.00 SIB has set a reasonable business target of INR 1,250bn by March 2015 translating into a 25.1% CAGR over FII (%) 48.38 46.15 46.09 FY12-15. The bank is well poised to meet its capital fund requirements as it enjoys a return on equity of DII (%) 9.59 7.64 7.64 ~20%, a high retention ratio of 80%+ and current capital ratios at comfortable levels. Besides, with bulk of its Others (%) 51.62 46.21 46.27 total capital coming from Tier -1 capital the bank is on course to meet its capital adequacy norms in the next Pledge (% of couple of years though internal accruals. promoter 0.00 0.00 0.00 Diverse loan book; low exposure to any specific industry The bank has a relatively diverse loan book exposure on the industry front. As of March 2012, exposure to holding) stressed sectors is relatively lower; electricity and power together constituted ~5% of the loan book while infrastructure (excluding power) constituted ~7%, textiles ~3% and iron and steel ~1%. Gross NPAs and net Performance% 1M 3M 12M NPAs are expected to trend higher on the back of a slip in asset quality in stressed sectors that have seen SIB 5.5 -3.7 7.7 relatively low slippages. The gold loan book (excluding priority ~20% and including priority ~1/4ths of the loan book), provides cushion to downside risks in asset quality. Sensex 8.5 8.6 19.3 Valuation The stock trades at 1.0 X FY14 P/Adj BV and 5.0X P/E FY14. Asset quality concerns in the banking sector 30 120 have overshadowed earnings growth leading to a correction in valuation multiples. Backed by traction in business growth and steady NIMs, we expect earnings growth to continue. We value the stock at INR 27.3 25 100 per share, implying a FY13 P/Adj B of 1.4X and FY14 P/Adj BV of 1.2X. We rate the stock a BUY. 20 80 Risks Further deterioration in the power, infrastructure and textiles sector would hamper asset quality and earnings. 15 60 With NII contributing to bulk of topline, a dip in margins and / or a slowdown in credit growth would be a negative. 10 40 Valuation Summary 5 20 Y/E March ( INR mn) FY11 FY12 FY13E FY14E 0 0 Net Interest Income 7,911 10,217 13,028 16,164 Other Income 1,967 2,471 2,670 3,028 11 12 12 12 12 12 12 12 11 12 12 11 - - - - - - - - - - - - Pre Provisioning Profit 5,252 6,515 8,660 10,951 Jul Jan Oct Jun Apr Feb Mar Dec Sep Aug Nov May PAT 2,876 4,017 4,630 6,183 EPS 2.5 3.5 3.5 4.6 SIB Relative to SENSEX (RHS) EPS growth (%) 23.0 33.1 18.7 21.5 PE 9.1 6.5 6.7 5.0 P /BV * 1.6 1.4 1.2 1.0 Dividend Yield (%) 2.2 2.6 2.6 3.0 GNPA (%) 1.1 1.0 1.3 1.4 Alagappan.Ar +91-44-30007363 NNPA (%) 0.3 0.3 0.5 0.5 [email protected] PCR (calc) (%) 93.9 75.5 75.0 75.0 ROA (%) 1.1 1.2 1.0 1.1 ROE (%) 22.4 24.6 18.0 18.5 CAR – Tier I 11.3 11.5 12.4 12.2 ROE/PBV 15.8 20.3 17.2 20.5 * adjusted for uncovered loan losses, unearned reserves and intangible assets 1 Traction in business growth; better than industry During the years (FY07-12), SIB with a business growth of 26%CAGR outpaced the industry’s business growth of 19%CAGR. With the exception of FY 09, in the wake of the 2008 global financial crisis, business growth was lower than that of the system. Despite the fast pace of growth, management has kept a check on credit quality and C/D ratio has prevailed at a comfortable range of 65-76%. This has been backed by ramping up of footprint and regional spread. Chart 1:FY07-12avg business growth higher by 7pps Chart 2: Business growth in line with peers YoY% 5 year CAGR June 2012 Business Growth - SIB Business Growth - Industry 30% 30% 26% 20% 10% 19% 20% 20% 0% 15% DCB CUB 10% FY 08 FY 09 FY 10 FY 11 FY 12 5 Year Jun-12 Bank Federal IndusInd Bank IndusInd ING Vysya Bank Vysya ING CAGR Bank Karnataka Karur Vysya Bank Vysya Karur South Indian Bank Indian South Source: RBI, Bloomberg, Company, CSEC Research Source: RBI, Company, CSEC Research Strong regional presence in Kerala Kerala and Tamil Nadu account for 72% of SIB’s branches with ~40% of its business coming from Kerala. Over the past five years (December 06-11) the two states have exhibited superior credit growth as compared to the rest of the country. A strong regional presence in Kerala and a visible presence in Tamil Nadu have augured well for growth prospects. As of December 2011, the two states (aggregate basis) recorded credit growth of 19.4% YoY (~346 bps higher than pan-India growth). Chart 3: ~70% of SIB’s branches spread over Kerala and TN Branches South India Branches as on March 2012 358 IndusInd Bank 527 46 ING Vysya Bank 400 17 DCB 86 599 South Indian Bank 706 Karnataka Bank 388 503 Karur Vysya Bank 368 451 706 Federal Bank 950 300 CUB 263 0 200 400 600 800 1,000 Source: Company, CSEC Research 2 Chart 4: Kerala, TN among the better states in growth Chart 5: Kerala, TN’s credit growth better than India y-o-y TN - Net State DP Growth Kerala - Net State DP Growth TN Kerala India y-o-y India GDP Growth 25.00% 20.8% 10.0% 20.2% 16.6% 8.3% 20.00% 18.3% 9.0% 7.9% 7.9% 8.0% 15.00% 7.0% 6.5% 6.0% 10.00% 5.0% 4.0% 5.00% 3.0% 2.0% 0.00% 1.0% 0.0% Credit Deposit Credit Deposit Growth 5 Growth 5 Growth Dec Growth Dec 5 year CAGR FY 12 Growth year CAGR year CAGR 2011/Dec 2011/Dec 2010 2010 Source: RBI, CSO, CSEC Research Source: RBI, Bloomberg, Company, CSEC Research CASA component lower than that of peers SIB’s CASA (current and savings account deposits) component in deposits is lower as compared to peers. CASA ratio (current and savings account deposits/aggregate deposits) hovers at about the 20% mark CASA for most south based old private sector banks hover below the 25% mark. The bank appears to have a low penchant for savings accounts. Backed by its brand recall among the NRI-Keralite diaspora SIB has access to low cost NRE deposits. NRE deposits constitute about 5% of deposits. Chart 6: CASA traditionally low Chart 7: CASA in line with that of south based peers 40% 30% CASA CASA - FY 2012 CASA - June 2012 Qtr 30% 21% 25% 21% 20% 20% 20% 10% 15% 0% 10% DCB CUB 5% Federal Bank Federal 0% Bank IndusInd Karnataka Bank Karnataka Bank Vysya ING Karur Vysya Bank Vysya Karur South Indian Bank Indian South FY 07 FY 08 FY 09 FY 10 FY 11 FY 12 Jun-12 Source: Company, CSEC Research Source: Company, CSEC Research 3 Driven by high yields margins are healthy SIB’s margins have been healthy and have hovered about the 3% mark; better off than quite a few larger PSU banks.