One of the turnaround stories in the banking industry, IndusInd Bank continues to be a good investment opportunity for investors with a penchant for risk. We expect the return on equity (ROE) of the bank to improve from 10 per cent in 2008-09 to 17.5 per cent this fiscal, helped by improved net interest margins, better credit growth and operating efficiencies. ROEs even in the current year would have been better but for the equity dilution.
The bank's operating parameters have improved sharply over the past two years with a new management taking over. Consider this. IndusInd Bank's credit-deposit ratio has improved from 67 per cent to 77 per cent in the 21 months since the new management took over. This has aided improvement in the net interest margin to 2.94 per cent for the quarter ended December 31, 2009 from 1.37 per cent in the March quarter of 2008. The cost-income ratio too improved from 67 per cent in March 2008 to 50 per cent in December 2009, even as the net NPA ratio fell from 2.27 per cent to 0.67 per cent during the same time. However, the bank has still a long way to go before it can be comparable with the best in the industry.
While the bank consistently managed more than 90 per cent net profit growth over the last four quarters, this rate of growth may moderate, going forward. An increasing base and treasury losses from hardening interest rates may temper profit growth compared with historical rates.
At the current market price of Rs 149, the stock trades at a price-to-estimated FY11 earnings multiple of 13 and at a price-to-FY11 adjusted book value of 2.6 times. This is at a discount to Yes Bank, Kotak Mahindra Bank and HDFC Bank. High earnings growth may provide justification for this valuation.
IndusInd Bank raised Rs 480 core through a QIP issue this fiscal thereby witnessing a 15 per cent equity dilution, giving the bank much needed capital to fund high rate of loan growth.
The capital adequacy of the bank improved to 14.91 per cent in September 30, 2009 from 13.14 per cent on June 30, 2009. The capital adequacy ratio of the bank stood at 13.84 per cent at December 2009. Given the current levels, capital adequacy could be maintained above 12 per cent even if the bank's loan book grows by 30 per cent over the next one year, with the aid of internal accruals. IndusInd Bank also has significant headroom in terms of Tier-II capital raising to support loan book growth. However, the cost of Tier-II capital is expensive. Further equity dilution in 2011-12 cannot be ruled out.
The loan book of the bank grew by 15 per cent compounded annually during the period 2004-09 and 32 per cent as of December 31, 2009. However, the loan book growth over the period 2009-11 may improve to 30 per cent annually, helped by better credit offtake, its commercial vehicle portfolio and retail lending. Around 32 per cent of IndusInd Bank's loans are auto loans with commercial vehicles forming a significant proportion. However, the proportion of these loans has come down from 44 per cent at the end of March 2009. However, with the revival in the auto industry, these loans, coupled with retail loans that have better yields, may form a significant portion of the loan book thereby helping the bank maintain its margins.
For the first nine months of the current fiscal (2009-10), the net profit of the bank grew by 158 per cent. Improving margins due to improving credit-deposit ratio, high rate of loan book growth (32 per cent as of December 31, 2009) and re-pricing of the advances led to high levels of profit growth. Helped by branch expansion, the proportion of low cost deposits has also improved to 22.5 per cent from 15 per cent as of March 31, 2008, also reducing the cost of deposits.
With the bank starting to meet most of its priority sector lending targets, it may not be required to invest in low-yielding bonds, which further help improve the margins. NIMs can be maintained at current levels even as the rates rise if the bank manages to improve its CASA and re-prices its loans. The lower proportion of treasury income compared with its peers would also help it survive rising interest rates efficiently. Fee income continues to support profit growth. The ‘other income' component to total net revenues stood at 40 per cent for the nine months of this fiscal.
Asset quality improved
Sequentially, even over the last quarter, the bank improved its provision coverage ratio from 35 per cent to 50 per cent. The bank is positive on improving its provision coverage to 70 per cent by the mandated period. Lower NPAs coupled with high provisions would improve the coverage and also shield the bank against any credit losses going forward. IndusInd Bank's restructured assets are one of the lowest in the banking industry with only 0.36 per cent of the total advances book restructured. While a high proportion of the current NPA is from the two-wheeler and the cars industry; this may fall as the revival in economy improves the credit worthiness of these borrowers.
Around 52 per cent of the loans in the book are fixed, which may expose it to interest rate risk. The impact of the base rate implementation could be a bit higher for the bank due to a higher cost of funds and moderate profitability margins.