Shareholding Pattern. Key Financials. Research Analyst

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1 Industry Banking Stock Metrics BSE Group A BSE Code Bloomberg Code ANDB IN Face Value 10 Market Data Market Cap (` Crs) week High/Low 190/110 Average Volume CMP ` 147 Shareholding Pattern Andhra Bank Andhra Bank is one of the fastest growing mid-sized stateowned bank. Founded in 1923, the bank is a south India based bank with over 65% of the branches located in Andhra Pradesh. The bank has over 1,587 branches and 954 ATMs and had a balance-sheet size of Rs903bn as on March 2010 with RoA of close to 1.3%. With a CAGR of 24% in total business for the last five financial years and a consistent track record of excellent asset quality and attractive dividend yield, the bank has established itself as a premier quality bank in the Indian Banking System. Andhra Bank has a consistent trend of relatively low NPAs with Gross NPAs of ~1% against industry average of ~2%. It also has a higher RoE of 26% as compared to the industry average of 21-22%. Valuation: We expect strong growth in profitability given the healthy margins and robust business growth. Andhra Bank has outperformed in last couple of years driven by strong core profit growth, healthy asset quality, improving margins and impressive returns. We expect the bank will continue to maintain growth momentum on the back of 22% CAGR growth in loans, with increased thrust on high yielding assets. Stock trades at just 1.2x and 0.95x of estimated FY12E & FY13E adjusted book value of ` 129/- and ` 154/- respectively. Hence, we recommend BUY on Andhra Bank with a target price of ` 215/- with potential upside of 45%. Source: Company Research Analyst Anshuman Jain anshuman.jain@inventuregrowth.com Ph: Extn: 562 Divya Kant divya.kant@inventuregrowth.com Ph: Extn: 562 Date: April 15, 2011 Key Financials Year Ended March FY10 FY11E FY12E FY13E NII Other Income Net Profit EPS(`) P/E(x) P/BV ROE (%) ROA (%) ABV per share (`)

2 Company Description: Andhra Bank, a Hyderabad headquartered state owned bank is a mid-sized bank with a network of 1,587 branches, 954 ATMs and 14,472 employees. The government ownership is at 58%. Recently GOI infused Rs 6.18 billion by way of preferential allotment of equity shares in the Government`s favor to increase its holding in the public sector bank. Andhra Bank has been growing its business at a CAGR of 24% for the last five financial years and is expected to continue its growth momentum and reach total business size of close to Rs. 2 trn by FY12. Andhra bank has maintained strong NIMs of around 3% over last couple of years and has consistently improved NIMs by focusing on MSME and Retail segment. Furthermore, the bank maintains one of the best asset qualities in the sector with net NPA to advances of 0.49% as on Dec-10. The banks effective monitoring of stressed assets and creation of high quality new assets would ensure that the NPAs do not go up significantly in future. In order to boost its fee income, the bank has entered into an insurance joint venture with Bank of Baroda and Legal & General Plc of UK which commenced its business from January The Bank holds 30% stake in this joint venture while BoB holds 44%. It is also planning to form a banking joint venture with BoB and IOB in Malaysia for which it has got the necessary approval from the RBI. In a bid to redress concerns of its customers, the bank launched customer-friendly initiative involving complaint redressal mechanism through mobile phones called 'UPSET'. 2

3 Investment Rationale Strong credit growth outlook above industry average Despite challenging environment and increased competition, Andhra Bank reported an impressive growth of 26.2% (CAGR) over FY06-10 against 21.3% systemic growth. During FY10, the bank registered advances growth of 27.1% against 17.0% of systemic growth. On the other hand, deposits grew at 30.8% against 22% at the system level. Source: Company, IGSL Research Furthermore, management is confident about 3-5% above industry average credit growth in FY11 and FY12. We expect the bank to grow its advances by ~22% CAGR over FY10-13E driven by credit demand from infrastructure, MSME and Retail segments. Consistent trend in margin expansion stable NIMs around 3% level Andhra bank has been constantly showing an uptick in terms of its NIM. The net interest margins have improved by ~20 bps over the last couple of years. Andhra Bank has consistently improved its margins and maintained it over 2.9% in the last few years. This constant improvement in NIMs has been possible due to very good yield on advances (especially on gold loans on which the bank earns a handsome yield of ~14-15%) and a comparatively lesser increase in cost of deposits. Moreover, increased focus on improving margins by increasing the proportion of core retail deposits (reducing bulk deposits) and incremental disbursement mix shifting in favor of high yielding SME and retail segment would help maintain NIM at 3.4% over FY Robust Asset quality Andhra bank has been maintaining a very good asset quality despite growing its total business, so rapidly. Gross NPAs have improved from 1.07 in FY08 to 0.86 in FY10. The net NPA% for the same period have also been 3

4 very modest. During 3QFY11, gross NPAs increased 13.3% sequentially to Rs8.7 bn. The gross NPA ratio increased to 1.33% from 1.26% in Q2FY11, while Net NPA ratio declined 2 bps sequentially to 0.47%. Restructured book stood at ~3.4% of advances. Adequately capitalized to tap future growth Andhra Bank is well capitalized with 13% capital adequacy ratio (CAR) under Basel-II. Including 9MFY11 profit, Capital Adequacy comes at 13.4%. In addition to this, capital infusion of ` 6.18 billion from the GoI by way of preferential allotment of equity shares in the Government`s favour to increase its holding in the public sector bank close to 58% will improve the capital adequacy further. Low proportion of AFS portfolio to reduce M2M losses Investments less vulnerable to bond yields. The investment portfolio of Andhra Bank is well balanced with the AFS portfolio forming only a very small investment portfolio (~13% of the Total investment portfolio as on 3QFY11). Historically, the bank has been maintaining very low proportion of its total investment portfolio in AFS, thereby restricting the losses arising from the adverse impact of interest rate movements. We expect a very efficient investment portfolio management from the bank in line with its past record, in the near future. Expansion in branch network to boost business From being perceived as a regional bank with presence mostly in the Southern India especially Andhra Pradesh, it has come a long way to be recognized as a tech-savvy bank with a pan-india presence. The Bank is rendering services through its network of 1587 branches and 954 ATMs. Andhra Bank has around 66% of its branch network in South India and is now working to extend its reach in other regions of the country. Furthermore, the bank has a well diversified branch mix with 29% of branches in urban areas. 4

5 The bank plans to aggressively expand its branch network by adding 500 more branches in the next couple of years to increase its total branch network to over 2000 by FY13. Increased branch network would accelerate improvement in CASA and thereby protect its margins. Superior return ratios coupled with industry best asset quality commands premium Andhra Bank reported RoE of 26% with Net NPA of 0.2% for FY10. We expect the asset quality to remain strong with Gross NPA below 1.5% and net NPAs below 0.5%. Given such impressive RoE and NPA numbers, we believe the bank is undervalued at 1.2x FY12 ABV and 0.95x FY13 ABV. Cost efficiency to boost profitability Andhra Bank has improved its operating efficiency by keeping operating costs low, while expanding the core operating revenue. Cost to Income Ratio has improved from 50.1% in FY06 to 42.7% in FY10 on the back of efficient operations coupled with higher income. Hereon, we expect the trend to persist, and Cost to Income Ratio is expected to improve further to 40% in FY12/13E. Source: Company, IGSL Research Attractive dividend yield Andhra Bank has a strong track record of paying dividends. It has been consistently increasing the rate of dividend since the last five financial years. Dividend rate increased from 35% in FY06 to 50% in FY10. JV into life insurance business to aid fee income Recently Andhra Bank forayed into life insurance business, by setting up a life insurance company, IndiaFirst Life insurance Company, through a 30% joint venture with Bank of Baroda (44% stake) and London based Legal and 5

6 General (26% stake). It is also planning to form a banking joint venture with BoB and IOB in Malaysia for which it has got the necessary approval from the RBI. Favorable asset-liability duration about 80% of loan book on floating rate Andhra Bank has ~80% of their loan portfolio directly linked to either the BPLR or the base rate. Hence, every lending rate hike effected by Andhra Bank tends to re-set about 80% of the portfolio. Hence, when rates inch higher, advances get re-priced sooner, thereby protecting the net interest margin, which remained stable in the range of 3-3.4%. Investment Concerns Expect a marginal moderation in NIMs The management has indicated about a potential decline in NIMs in the coming quarters given the expected interest rate tightening cycle. We consider the current NIMs and Loans & Advances growth to be at an intermediate peak and expect a slight contraction in both in the coming quarters given the general business challenges in terms of credit growth as well as interest rate tightening. Capital constraints For FY10, Andhra Bank reported Capital Adequacy Ratio at 13%. Andhra bank has targeted above industry growth rate of 23-24% in the coming years. In that case, the bank has to shore up its Tier I capital to achieve its targets. Any delay on part of the government in recapitalizing the bank will hamper the growth plans of the bank. Asset quality During 3QFY11, gross NPAs increased 13.3% sequentially to ` 8.7 bn. The gross NPA ratio increased to 1.33% from 1.26% in Q2FY11, while Net NPA ratio declined 2 bps sequentially to 0.47%. Restructured book stood at ~3.4% of advances. Hence any negative surprise arising from higher slippages would lead to increasing provisions and impact overall profitability. 6

7 Political disruption may hamper growth Any major political disruption in Andhra Pradesh could lead to slowdown in lending, since ~50-52% of Andhra Bank s business comes from Andhra Pradesh. Valuation We believe, Andhra bank will continue its outperformance and experience about industry growth rates. We expect Andhra Bank to report EPS of ` 31 in FY12 and ` 38 in FY13. Moreover, the bank will post superior RoE of 25%+ and RoA of 1.3% over FY Furthermore, the capital infusion from the government will improve bank s capital adequacy ratio and is expected that the bank would continue to grow at a healthy pace and provide impressive return ratio. At CMP, the stock quotes at 1.6x adjusted book value and dividend yield of 5.5%. We initiate coverage on Andhra bank with a target price of ` 215 (1.4x FY13EAdj. BV of ` 154.4) and recommend a BUY rating on the stock. Sector view: We expect the banking sector to be amongst the strongest performer over the next couple of years, with at least 20% credit growth for the sector as a whole, driven by strong GDP prospects, reasonable (although rising) domestic interest rates and increasing capital inflows from abroad. Loan growth is expected to be strong but rising inflation and increasing interest rates are near-term headwinds for the sector. With the economic growth picking up pace and the investment cycle on the way to recovery, we believe that growth opportunities for Indian banks are immense. In this increasing interest rate scenario, we believe margins will compress gradually. However with strong loan growth and high CD ratio banks would have higher pricing power. We expect banks with high CASA deposits and a low proportion of bulk deposits to be safe bets. 7

8 Profit and Loss Statement ` Crs Particulars (Year end March) FY09 FY10 FY11E FY12E FY13E Interest Earned 5, , , , ,611.4 Interest Expended 3, , , , ,032.1 Net interest income 1, , , , ,579.2 Other Income Net total income 2, , , , , Payments to/provisions for Employees , , Other Expenses Total Operating Expenses 1, , , , ,198.6 Operating Profit before prov. & Cont. 1, , , , ,478.2 Total Provisions Profit before Tax , , , ,707.2 Provisions for Tax Tax Rate (%) 27.3% 27.2% 30.0% 30.0% 32.0% Net Profit , , , ,840.9 Balance Sheet Data ` Crs Particulars Year end - March FY09 FY10 FY11E FY12E FY13E Share Capital Reserves and surplus Net-worth Deposits Borrowings Other Liabilities and Provisions Total Liabilities Balances with RBI and banks Investments 16, , , , , Advances Fixed and other assets Total Assets

9 Financial Valuation and Ratios Operating Ratios FY09 FY10 FY11E FY12E FY13E Book Value (`) P/BV Adjusted BV P/ABV EPS PE(x) Net Interest Margin 2.9% 3.1% 3.5% 3.4% 3.5% Profitability ratios (%) FY09 FY10 FY11E FY12E FY13E ROAE ROA Other income/net income Interest Expended/Interest Earned Cost to Income Ratio (%) Asset Liability Profile (%) FY09 FY10 FY11E FY12E FY13E Advances/Deposit ratio Investment/Deposit ratio Gross NPA to Advances Net NPA to Advances CASA Ratio Provision Coverage Ratio (calc) Capital Adequacy Ratios (%) FY09 FY10 FY11E FY12E FY13E Tier I Tier II CAR (%) Growth ratios (%) FY09 FY10 FY11E FY12E FY13E Net interest income Advances Growth Deposits Growth Operating Expenses Net Profit

10 Peer Comparison Andhra bank is a midsized PSB with a business size of `1.3 trillion. The stock currently trades at 1x FY13E ABV and 3.9x FY13E EPS. We believe that the bank will continue to trade at a premium given its ability to consistently deliver strong earnings growth, robust asset quality, and superior return ratios with 25%+ ROE and 1.3%+ RoA. Andhra Bk Allahabad Bk Central Bk Corporation Bk I O B Oriental Bk Profit and Loss Interest Earned Interest Expended Payments to/prov for Employees PAT Balance Sheet Capital Reserves Total Deposits Borrowings Investments Advances Fixed Assets Total Assets Financial Ratios Credit-Deposit (%) Inv. / Deposit (%) Int Exp / Int Earn (%) Total CAR (%) Other Inc/Tot Inc % of NNPA RoE (%) RoA (%) Tier I Capital (%) EPS (`) Book Value (`) Profit per Emp (`)

11 For Any Queries please feel free to contact our Institutional Team Names Designation Id. Contact Number Nagji Rita CMD - - SALES Ravinder Kasliwal Head Institutional Sales ravinder.kasliwal@inveturegrowth.com /66 Dealing Shiv Damani Institutional Dealer shiv.damani@inventuregrowth.com Vinit Rita Institutional Dealer vinit.rita@inventuregrowth.com /66 Rashda Ainapore Institutional Dealer rashda.ainapore@inventuregrowth.com /66 Research Anshuman Jain Research Analyst anshuman.jain@inventuregrowth.com * 562 Divya Kant Research Analyst divya.kant@inventuregrowth.com * 562 Pankti Shah Research Analyst pankti.shah@inventuregrowth.com Sheetal Nirmal Research Analyst sheetal.nirmal@inventuregrowth.com Denil Savla Research Analyst denil.savla@inventuregrowth.com Sanjeev Haria Research Analyst sanjeev.haria@inventuregrowth.com Sibayan Banerjee Technical Analyst sibayan.banerjee@inventuregrowth.com Ashok Patel Technical Analyst ashok.patel@inventuregrowth.com Madhu Patel Technical Analyst madhu.patel@inventuregrowth.com Disclaimer Inventure Growth & Securities Ltd has prepared this Document. The information, analysis and estimates contained herein are based on Inventure s assessment and have been obtained from sources believed to be reliable. Neither Inventure Growth & Securities Ltd nor any of its employees or associates accepts any liability whatsoever direct or indirect that may arise from the use of information herein and shall not be responsible for its completeness and accuracy. It is not an offer to sell or a solicitation to buy securities. This document is for circulation only Visit us at Please send your Feed Back to igslresearch@inventuregrowth.com Inventure Growth & Securities Ltd Corporate Office: - Viraj Tower, 2 nd Floor, Near Landmark, Western Express Highway, Andheri East, Mumbai Tel.: , Fax: