An investment can be considered in the initial public offering of Indian Bank at the cut-off price. We would, however, be more comfortable with the valuations at the lower end of the price band. Strong brand value, high business concentration in the South, good scope for loan growth and its shaking off the demons of the past, strong capital adequacy, besides a fairly priced offer, are good reasons to subscribe.
Chequered past
For a bank that had the embarrassment of having made the largest losses in banking history just a decade ago, its return to profitability and standing now at the threshold of the capital market, are noteworthy. The history in the prospectus glosses over it rather euphemistically — "the bank experienced some financial setbacks in the 1990s consequent upon the introduction of prudential norms by the RBI and other factors and incurred losses in 1994 and during the period between1996 to 2001."
To term the bank's performance as a turnaround would be a slight exaggeration, considering that the government has pumped in capital (through re-capitalisation bonds) in several tranches of Rs 4,565 crore. Further, the government has also allowed the bank to write-off losses of about Rs 3,830 crore against its contribution. Other circumstances too helped — lower interest rates that helped the bank make treasury profits, a successful voluntary retirement scheme, a boom in housing loans that saw the loan book grow after the disaster in mid-1990s, and a determined upgrading of technology infrastructure. All these factors staved off what might have been a possible closure or merger with another bank. Of course, sovereign backing saved the bank despite being classified as a "weak bank" by some committees — which ought to be allowed only to perform narrow banking; just receive deposits and lend the money to the government.
Restructured capital base
The bank has restructured its capital base recently. It split its paid-up capital of about Rs 743 crore (after the write-off of losses) into Rs 400 crore of preference share capital and Rs 343 crore of equity capital. The bank is now making an offer of 8.59 crore shares that will see the government holding come down to 80 per cent from 100 per cent currently. The quantum of dilution is still moderate and leaves room for further capital issues as and when the bank's expansion plans requires them. In the current context of many banks being forced to go for hybrid capital instruments to ensure that government stake does not go below 51 per cent, Indian Bank's cushion for further expansion is to be seen as a huge positive.
Valuation
The offer is to be priced in a band of Rs 77-91 per share. At the lower end of the band, the price earnings multiple is about six times, while it is about 7.3 times at the higher end of the band. Those banks in the peer set of comparable size public sector banks, such as Andhra Bank, Allahabad Bank, Oriental Bank, IOB, Corporation Bank, etc., are traded at a P-E multiple of between six and 10. Again, the price-to-book value ratio of 1.2 at the lower end of the price band is competitive.
Performance indicators
Although the bank has posted some impressive numbers during the last two years, (it registered a profit of Rs 334 crore in the six months ended September 2006), some factors need to be taken into account.
A bulk of the profits in the preceding four years before 2005-06 has come from treasury gains, made from selling off government securities. Most banks benefited from the fall in interest rates and consequent inflation of the value of their government portfolio. Indian Bank was no exception. Its true mettle and ability to withstand competition in lending profitably will be seen now, as interest rates start moving up.
The cloud of a huge bad loan portfolio that hung on the bank for some years has lifted. As on September 30, 2006, the bank's gross non-performing assets were Rs 625 crore (2.34 per cent of its loans) and net non-performing assets were about Rs 176 crore (0.45 per cent). An improved climate for debt recovery and institutional changes in the system (SARFAESI Act, asset reconstruction companies, credit information bureau), besides the fast pace of economic growth, has helped public sector banks face up to the challenges posed by recalcitrant borrowers. Most banks have brought their net non-performing assets ratio to 1 per cent or below.
The level of computerisation and business covered by its core banking solutions (85 per cent) is on a par with industry standards. Its regional concentration, with bulk of branches and business in south, is currently rated as a positive attribute.
The bank's net interest margin at about 3.6 per cent compares favourably with industry. However, the bank's current accounts and savings bank accounts (CASA) ratio at 35 per cent leaves scope for improvement. Its dependence on term deposits will put a strain in the near-to-medium term, when interest rates are on the rise.
Recently, the bank entered into a strategic alliance with Oriental Bank of Commerce and Corporation Bank. While the stated aims of this alliance — achieving synergies, economies of scale, geographical spread, cross-selling and cost savings — have to be still seen in practice, there has been speculation that this is a prelude to the eventual merger between the three banks. Although consolidation among public sector banks is the eventual goal, the absence of industry-wide consensus will keep the idea on the boil for some more time. Weak banks (those with less capital) will be forced to merge with those with extra capital — and here Indian Bank seems relatively well-placed.