Banks, specifically public sector banks (PSBs), are in the radar of investors seeking value. The Nifty PSU Bank Index has corrected 19 per cent from its all-time high of 8,053.3 in early-June. The index’s price to book value (P/B) has contracted 32 per cent from 1.9 times in early June to 1.3 times now. Though this is partially due to the price correction, there is also the impact of robust earnings flowing through to the book values of PSBs.
Of the PSBs, Bank of Baroda (BoB) is next to SBI with its steady earnings, balance-sheet growth and asset quality. In our bl.portfolio edition dated January 8, 2023, we had given an ‘Accumulate’ call on the stock when it was trading at ₹183.25 with a P/B of 0.92 times. Since then, it has gained 32 per cent and trades at the same multiple even today.
Since Q2 FY23 results, the bank has grown stronger with the asset-quality figures standing out. The gross NPA (GNPA) ratio has seen a massive improvement from 5.3 per cent to 2.5 per cent as of Q2 FY25. The annualised return on assets (RoA) has stayed above 1 per cent in the intervening quarters and the return on equity (RoE) has risen from 16.2 per cent as of H1 FY23 to 18.3 per cent (FY23) to 19 per cent (FY24) to 19.2 per cent (Q2 FY25).
The stock of SBI trades at a consolidated P/B multiple of 1.5 times. As of Q2 FY25, SBI’s RoE was 21.8 per cent, net interest margin (NIM) was 3.1 per cent, credit cost was 0.4 per cent and net NPA ratio was 0.6 per cent. BoB trails closely with an RoE of 19.2 per cent, NIM of 3.1 per cent, credit cost of 0.7 per cent and NNPA ratio of 0.6 per cent. Sure, SBI enjoys a premium for its scale, higher market share and rapidly-growing subsidiaries that operate at a scale larger than BoB’s. However, even if a conservative P/B multiple of 1.1-1.2 times is ascribed to BoB’s current consolidated book value, the target price can be anywhere between ₹290 and ₹320, indicating a margin of safety range between 21 per cent and 33 per cent. Also, the stock did trade at a P/B of 1.24 times in mid-June before going through a correction. At current price, the rewards outweigh the risks, and long-term investors can continue accumulating the stock.
What works?
Since H1 FY23, the bank’s balance sheet has grown largely in line with the banking system (all scheduled banks combined). The bank’s deposits have grown at a CAGR of 12 per cent and advances at 14 per cent. This compares closely with a system-level deposit growth of 13 per cent and advances growth of 16 per cent. During this two-year period, the bank has showcased healthy growth figures vis-à-vis net interest income (NII), operating profit and net profit. These metrics have grown at CAGRs of 11 per cent, 26 per cent and 33 per cent respectively.
Quality has not been compromised in favour of growth though. The GNPA ratio has declined from 5.3 per cent to 2.5 per cent and the NNPA ratio from 1.16 per cent to 0.6 per cent. Delinquencies have been contained well and the slippage ratio has receded from 1.53 per cent as of H1 FY23 to 0.9 per cent as of H1 FY25. Credit cost, too, has seen an improvement from 0.8 per cent to 0.55 per cent.
The bank is adequately capitalised with a CRAR (Capital to Risk-weighted Assets Ratio) of 16.3 per cent. The current CD ratio (credit-deposit ratio) of 84 per cent is comfortable.
Outlook for FY25
The NIM as of Q2 FY25 stands at 3.1 per cent having fallen from FY24’s 3.18 per cent. This is partially due to a 20-basis point (bp) rise in cost of deposits to 5.12 per cent and the impact of the change in treatment of penal interest (earlier, part of interest income, now part of other income) to the effect of 5 bps. This situation is not specific to the bank and is an industry-wide phenomenon. The management has guided for a stable NIM of about 3.15 per cent for the whole of FY25, bolstered by an MCLR-linked loan book of 47 per cent. MCLR, which stands for marginal cost of funds-based lending rate, provides a bank with the flexibility to price loans based on the cost of funds (largely deposit rates), thereby passing on the rise in cost of funds to the borrower. The bank hiked MCLR rates by 5 bps across tenors on November 11.
There is stress observed in the personal loan portfolio. The portfolio’s GNPA ratio stands at 3.2 per cent versus overall retail book GNPA ratio of 1.5 per cent. The bank has tightened loans to non-salaried borrowers and has completely stopped the digital small-ticket personal loan product. The personal loan book constitutes about 3 per cent of total advances (The loan book composition stands as: Retail 20%, Agri 13%, MSME 11%, Corporate 34%, Other domestic 4% and Overseas 18%).
The government this week has cautioned PSBs on ‘fine pricing’, meaning PSBs are not adequately pricing big-ticket project loans relative to the cost of bulk deposits. The management is taking steps to realign the corporate loan book by reducing exposure to the ‘fine price book’.
Further, to shift away from the relatively high-cost bulk deposits (currently at 32 per cent of domestic term deposits), the bank is striving to raise retail deposits. The management has expressed difficulties in mobilising retail deposits, citing the shift in the preference of depositors to market-linked savings products. It has even taken initiatives to mobilise retail deposits such as special-tenure deposits at attractive rates.
However, given the benefits of such initiatives are yet to fully play out, the management has downgraded the deposit growth (year-on-year) guidance from 10 per cent to 12 per cent earlier to 9 per cent to 11 per cent now. To keep the CD ratio stable, advances growth is also pegged downward to 11-13 per cent from 12-14 per cent earlier. So far in FY25, the system-level advances growth and deposit growth have been 13 per cent and 12 per cent respectively. Further, the company has guided for an RoA of over 1 per cent. On the costs front, credit cost has been guided at 0.75 per cent.