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Sunday, May 10, 2009
Investors with a two-three-year perspective can consider buying shares of Canara Bank on the back of encouraging results for FY-09, with growth primarily driven by its core business.
High credit growth, improved margins and higher treasury income helped the bank post a net profit growth of 32 per cent for the year ended March-09.
A strong branch network, high proportion of non-interest income (58 per cent of operating profit), an adequately capitalised advance book, significant undiluted government holding and improving profitability ratios are key positives for the bank.
While the Canara Bank share has underperformed most of its public sector peers over the past year, it has gained 32 per cent in the last one month, placing it among the top gainers in the banking space in the current rally.
Investors may, therefore, consider buying the stock on declines linked to the broad market.
At the current market price of Rs 224, the stock trades at a FY-09 price-earning multiple of 4.43 and less than its March-end book value of Rs 244.
Canara Bank posted higher-than-industry-average growth in advances (29 per cent) for 2008-09.
Nevertheless, its position was taken by Bank of Baroda as the third largest public sector bank in terms of business, measured as a sum of advances and deposits.
One of the reasons may be due to Canara Bank’s sluggish rate of growth in business (8.4 per cent) in 2007-08 against 24 per cent growth attained by Bank of Baroda.
In 2008-09, Canara Bank’s business grew by 24 per cent while that of Bank of Baroda’s by 32 per cent.
The sluggish growth in FY-08 was a conscious attempt by the bank to reduce the proportion of bulk deposits and rebalance the advance portfolio to concentrate on productive sectors.
Advances and Deposits
Canara Bank has a diversified loan book with industrial loans forming 37 per cent of net advances, retail loans 14.3 per cent, agriculture 14.5 per cent and MSME 17 per cent. Canara Bank has high exposure to the infrastructure sector with 12.5 per cent of net advances.
The bank’s deposits grew by 21 per cent. Its low-cost deposit proportion has fallen to 30.7 per cent from 32.3 per cent. This decline, coupled with high deposit rates prevailed during the first nine months of the fiscal (which depositors have locked into), led to a marginal increase in cost of deposits from 6.8 per cent to 6.87 per cent.
The bank has improved the credit-deposit ratio to 73.9 per cent from 69.6 per cent, an indication of improving margins what with funds being deployed in high yielding assets.
The net interest margin (NIM) for the bank also improved due to the CRR cut, resulting in better availability of funds. The NIM improved from 2.42 per cent to 2.78 per cent; this is a significant jump.
The bank’s net profit grew at 16 per cent compounded annually over the last five years. It posted a net profit growth of 55 per cent for the March 2009 quarter and 32 per cent for the fiscal year 2008-09. High profit growth for the year was aided by growth in lending activity which, in turn, boosted the net interest income (33 per cent growth).
Non-interest income saw a modest growth of 4.4 per cent due to the fall in dividend income from the various subsidiaries and joint ventures.
The fee income, however, grew at a healthy rate of 18 per cent. The other component of non-interest income — trading income — increased by 55 per cent in a year. The sustainability of this income segment will depend on gilt yields.
Canara Bank managed to contain the increase in its operating expenses to 9 per cent in FY-09. It has improved it cost-income ratio from 48.5 per cent to 43 per cent over a year displaying improved operating efficiency.
Gross NPAs have increased by 70 per cent in absolute terms. After provisions, net NPA ratio has risen from 0.84 per cent to 1.09 per cent.
The rise in NPA was primarily due to the bank’s exposure to Dabhol project (around Rs 400 crore) which was classified as NPA.
Provision coverage is around 30 per cent which continues to be among the lowest and may affect the bank if the current economic scenario persists.
The Bank has restructured 1.5 per cent of its advance which would be treated as standard asset. This restructuring is among the lowest compared to some of its public sector peers.
The Bank is adequately capitalised (14.05 per cent). The Government owns 73 per cent stake leaving more room for raising capital in future.
The return on equity improved to 22.6 per cent from 19.08 per cent and return on assets from 0.92 per cent to 1.06 per cent showing improved profitability for the bank. Credit growth envisaged by the Bank is 26 per cent, but given the current slowdown, meeting such targets may happen at the cost of asset quality slippages.
In a falling interest rate regime, margin contraction is also possible as yield on advances may fall steeper than cost of deposits.
The Bank has cut its prime lending rate by two percentage points while cutting the deposit rates on various maturities by three percentage points.
However, rate cuts from this level may not attract many depositors who may resort to other debt options coupled with tax relief.
While interest income may continue to grow in line with the credit growth, fee income may help improve performance.
Higher branch roll-out (200 branches), large ATM network and successful implementation of Core Banking Solutions (CBS) may help in getting more low-cost deposits and improve fee income but the costs may surge this fiscal due to roll-out of new branches, fresh recruitments and implementation of CBS.
Only 38 per cent of the branches and 77 per cent of the business is under CBS.
Public sector Defence equipment maker, Bharat Electronics (BEL), clocked better revenue and profit growth in the fourth quarter of FY-09, a trend observed in earlier years as well. An order book of Rs 10,000 crore that captures revenues for the next couple of years, tie-ups to capitalise on the Defence offset provisions and the traditionally high proportion of the union budget spent on Defence augur well for BEL’s earnings growth.
The stock of BEL has, however, run up 30 per cent from January this year. Besides, given the sharp rise in the Sensex over a relatively short time-frame, any profit booking could well drag the market in the near term. Investors can, therefore, employ such opportunities to buy the stock of BEL on declines.
A two-three-year investment perspective may be required to benefit from any upside arising from the company’s tie-ups with overseas and local players. At the current market price of Rs 991, the stock trades at 8.3 times its expected per share earnings for FY-10.
After three quarters of lacklustre growth in earnings, Bharat Electronics recorded a 14 per cent increase in net profits while revenue grew by 19 per cent for the quarter ended March 2009, as against a year ago numbers. The company has traditionally recorded lumpiness in revenues and in FY-09 too profits from the fourth quarter ended March alone accounted for 70 per cent of the full year’s profits. The fourth quarter performance is an indicator that execution has not altogether slowed in FY-09.
For the full year, while revenues grew by 12 per cent, profits remained flat, on the back of higher raw material costs as well as hike in employee expenses as a result of provisions made under the wage bill.
The company, however, managed to secure its operating profit margin at 25 per cent, suggesting that profitability was not badly hit by hike in costs.
While BEL’s growth rates on a year-on-year basis have not run at a scorching pace, the company has recorded a 26 per cent compounded annual growth in net profits over the last five years. The averages have not been skewed by a single year’s performance and have instead seen a steady growth rate.
Cash-rich companies such as BEL also provide better comfort during downturns. The company has had a consistent dividend payout ratio of over 20 per cent with dividends of over 100-200 per cent (on face value of Rs 10) declared in each of the last five years. Return on equity too has remained over 25 per cent during this period.
Bharat Electronics continues its dominant position as the largest Defence play in the listed space.
The company, with an estimated market share of 25 per cent of the domestic industry, had 86 per cent of its revenues coming directly from the Defence space, while the rest came from sectors such as broadcasting and communications for the year-ended March 2009.
The company has been consistently adding new products every year; it has in recent times attempted to diversify into areas such as solar photovoltaic business, microwave components and electronic warfare programmes through tie-ups with other corporates. Revenue flows from these tie-ups may, however, be visible only after a couple of years.
With Defence spending in India increasing by at least 15-25 per cent every year and about 15 per cent of the total interim budget spending announced in February 2009 being allocated for Defence, business opportunities in the sector have been steady and non-cyclical.
While this business pie remains, the next driving force for Defence equipment orders could be in the form of offset provisions.
To encourage transfer of technology and protect the domestic industry at the same time, offset provisions call for foreign suppliers who are awarded contracts in India, to source 30 per cent of the contract value from India.
This could be in the form of the foreign player sourcing equipment from local players or facilitating the export of domestic production or investing in R&D facilities in India. Currently, bulk of India’s Defence supplies is from foreign suppliers.
This essentially means that the offset provision would emerge as a significant source of order flow for domestic companies. BEL has quickly made good this opportunity with at least six tie-ups with foreign players for off-set arrangements.
However, the Defence offset provision also means that foreign players are free to tie-up with private players. Companies such as Larsen & Toubro have already made headway in this area. This, in turn, suggests that BEL will no longer be devoid of competition.
Nevertheless, high upfront costs, tight licensing norms and Government policies in Defence are likely to slow the growth of private sector for at least a couple of years. Slowdown in execution, as a result of Government policies, nevertheless remains a perennial threat for BEL’s revenue growth.
Investors with a two-three year perspective can consider buying the stock of IRB Infrastructure Developers. The company’s lucrative portfolio of 11 operational toll roads render superior earnings visibility compared with some of the infrastructure companies struggling to achieve financial closure or are strapped for funds to meet working capital requirements. Over the last quarter, the company has demonstrated its ability to not only achieve financial closure of its Surat-Dahisar project but also roped in private equity to contribute part of the equity capital for its special purpose vehicle. IRB also managed to bargain interest reset clause in loans for the above SPV to benefit from any decline in interest rates.
At the current market price of Rs 103, the stock trades at 9 times its consolidated per share earnings expected for FY10. Given the volatility witnessed in the company’s stock, investor can consider buying the stock on declines linked to broad markets.
As an early entrant in toll road operation, IRB has enjoyed certain privileges that include retaining the full share of revenues from toll roads, unlike recent public private partnership projects which come with a revenue sharing clause. This has resulted in the company enjoying operating profit margins of over 40 per cent, way beyond the infrastructure industry average of 10-12 per cent. However, going forward, as the company bids for more projects under the new concession agreement, it may witness lower profit margins, what with revenue sharing agreements with the government taking effect. The company’s margins may nevertheless remain superior to most other players, given its well-integrated business.
IRB has a well-rounded business model of construction as well as toll assets. Order book of Rs 3,300 crore on the construction side, provide strong earnings visibility for the next couple of years. At the same time, high density traffic in Western highways such as the Mumbai Pune Expressway is likely to provide regular toll revenues. While volumes could be muted in periods of economic slowdown, IRB is likely to be supported by the periodic toll hikes built in to the agreements in some of the projects.
Raw material costs and high interest costs were key reasons for the muted performance in the quarter ended December. With declines witnessed in both these parameters, the company may see improved profitability from FY10.
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OnMobile Global: Hold
Caller ringback tones and IVR-based solutions, where OnMobile’s key presence lies, are set to dominate non-voice revenues, hitherto dominated by messaging alone.
Benefitting from ringtone downloads.
Investors can continue to hold the shares of OnMobile Global, primarily a mobile value-added services (VAS) player, given the growth prospects for such services in India and other emerging markets. At Rs 325, the stock trades at 19 times its likely 2009-10 per share earnings, a premium to the broad market. In the absence of listed peers and increasingly successful relationships in the form of strong deal wins with most Indian mobile operators and select international ones, there may yet be scope for capital appreciation in the stock.
The company has won a large multi-country, multi-year deal with Vodafone to deploy its VAS products in many emerging markets such as Eastern Europe, Africa and Latin America. OnMobile’s ability to mine existing client base and synergies from overseas acquisitions (such as Telsima and Vox Mobili) that it made over the last couple of years may support earnings growth over the medium term.
In FY-09, OnMobile revenues grew by 55.2 per cent to Rs 406.3 crore, while net profits grew by 41.3 per cent to Rs 85.2 crore over FY-08.
OnMobile works with mobile operators for providing services such as caller ring-back tones, ringtone downloads and IVR-based services. Top Indian mobile operators such as Vodafone Essar, BSNL, Bharti Airtel, Reliance Communications and Idea Cellular feature among its clients. The revenue share for any VAS product ranges between 20 per cent and 25 per cent of the revenues that an operator normally generates from delivering such services to customers. Most of these operators are witnessing rapid subscriber additions and looking to augment non-voice revenues. OnMobile appears well-placed to benefit from the opportunity. Caller ringback tones and IVR-based solutions, where the company’s key presence lies, are set to dominate non-voice revenues, hitherto dominated by messaging alone.
In fact, Bharti Airtel and Reliance Communications have seen SMS revenues (till recently a major portion of VAS revenues) as a percentage of non-voice revenues fall, indicating subscriber interest in other services. A study by IMRB shows that VAS revenues for Indian operators are expected to grow at 70 per cent yearly to Rs 16,520 crore by 2010, with the proportion of SMS revenues coming down and other VAS products enhancing contributions. The IVR-based solutions cater to a rural audience (where a bulk of subscriber additions are happening), wherein cumbersome dialling of codes may be overcome by the local language voice-based prompts for their VAS requirements.
Vodafone deal rings revenue visibility
Vodafone India had been working with OnMobile for the past eight years. According to the company, Vodafone generates Rs 1,000 crore per year from delivering VAS services powered by OnMobile. Vodafone has now awarded its emerging markets VAS delivery responsibility to OnMobile. This deal is significant on several counts. Over the next three years, revenues from this deal are expected to contribute 25-30 per cent of OnMobile’s overall revenues.
It is important to note that Vodafone in Eastern Europe and African countries generates ARPUs in the range of $7.5-13.3, much higher than the $6 that the Indian subscribers generate. This means that the scope of generating VAS revenues is that much higher.
The other key aspect is that the software development expenses for delivering these services from a platform have already been incurred. This means that this deal will be a margin enhancing one for OnMobile.
Improving International performance
OnMobile, through a series of acquisitions, has managed to upsell and cross-sell services to operators in Europe. International revenues account for 23 per cent of the company’s revenues, up from 15 per cent in 2007-08. It has managed to win customers in Asia-Pacific and Latin America as well. This creates a healthy geographic mix for the company, which after the Vodafone deal is set to become even more enhanced.
Client concentration, with top five clients contributing 70 per cent of revenues, though still high has come down substantially from 77 per cent in FY-08.
One critical aspect that gives OnMobile the edge in winning deals is that it is technology-agnostic and has the capability to delivers all its services from a single platform. This becomes relevant as rollouts can happen quickly in overseas geographies and integration can happen seamlessly.
A recent TRAI order that requires prior subscriber permission through SMS, email or fax, may delay offtake for VAS services. Competition from other VAS players such as Bharti Telesoft, IMI Mobile and One 97 may pose pricing pressure.