Maintain ‘EW’ on Bank of Baroda; bad loans likely to moderate by April

Underlying trends in asset quality were good, with lower impaired loans and higher coverage – bank guided to watch list of 2.2% of loans. Core PPoP, ex one-offs, however, was 13% below MSe, driven by lower net interest income. Stay EW; we see better risk-reward at peer lenders. Slippages increased sharply QoQ, driven by change in RBI guidelines. Total impaired loans,however, moved lower to 14.6% of loans vs. 15.7% last quarter. Credit costs were 6.9% vs.3.3% (on annualized basis) and drove coverage up from 44% to 50% on total impaired loans. For F19, the bank guided to watch list of Rs 10,000 crore and expects credit cost of <100bps.

While the loan to deposit ratio continues to improve, lower loan yields owing to higher slippages and continued shift to relatively better quality loans affected margins. Loan book growth moderated to 12% YoY vs 14% YoY last quarter with domestic book growth broadly stable. Within domestic loans, key driver was retail, led by mortgages and accelerating growth in autos.

Domestic CASA grew 11% YoY and CASA ratio improved to 41.2% vs 40.6% last quarter and 39.4% as of F4Q17. Fee income grew 13% YoY. Reported cost grew 19% YoY, mainly driven by a sharp rise in non-staff costs. This was mainly due to change in accounting policy on depreciation; adjusted for this, cost growth was 5% YoY, and non-staff cost growth was 7% YoY.

We continue to expect moderation in bad loans, gradual improvement in PPoP, and IFRS implementation by April 2019 to drive double-digit RoE in F20. The stock should do well in the near term. We maintain our EW rating,as the not so cheap valuation (0.9xF19e book) offers less upside compared with peer corporate lenders. Key risks are potential consolidation with weaker PSU banks and potential change in top management.

Bank Of Baroda