IPO Analysis- Central Bank of India

Slow off the blocks
Sandeep Singh
Posted online: Monday , July 23, 2007

As investments go, Central Bank of India makes a good first impression. With the economic engines hurtling along, the banking business is poised to go places. The bank itself has the third-largest branch network in the country and is selling its shares at a relatively modest PE of 6.9-8.3. It has received an IPO Grade of 4 (the highest being 5) from credit rating agency CARE, signifying “above-average fundamentals”. But dig deeper, the subsequent impressions are, at best, average. They show a bank that is late off the blocks in reorienting itself to the new economic and business order, in the process under-utilising many of its strengths.


Below parIts biggest strength is reach. With 3,194 branches (1,094 urban, 759 semi-urban and 1,341 rural), Central Bank of India is ranked third, but productivity from these branches is woefully low. In terms of assets and revenues, the bank slips to number eight, and a distant 22 in net profit (one slot behind State Bank of Travancore, which has 694 branches).One of the reasons for this slippage in performance is its tardiness in embracing technology. At a time when full linkages are the norm for private banks, and the leading public sector banks are getting there, only 51 per cent of Central Bank of India branches are computerised. Worse, only 324 of its branches — or less than 10 per cent — offer centralised banking solutions. The bank plans to increase this number to 1,000 by March 2008. It trails most banks in ATM count also. As on March 31, 2007, it had 261 ATMs. That’s an ATM-to-branch ratio of 8 per cent, which compares dismally to the 25 per cent average of public sector banks.The one positive off its widespread branch network is the high percentage of current account and savings account (CASA), 42 per cent, in its total deposit base. A bank wants to have as much of these deposits as possible, as it pays zero interest on a current account and just 3.5 per cent on a savings account. A 42 per cent CASA reduces the cost of funds for Central Bank of India, helping it earn a spread of an impressive 3.2 per cent.However, once it starts accounting for its other expenses and bad debts, it doesn’t end up with as much surplus as it could end up with. The biggest of these outgoes is salaries. In 2006-07, 19 per cent of its income went in paying its employees across its 3,194 branches. Since those branches do not have as many loan assets, and are not generating as much in revenues and profits, as other banks of its size, its profitability is low.
The second biggest outgo for Central Bank of India is provisioning for bad loans. As on 31 March 2007, the bank had gross NPAs (non-performing assets) of Rs 2,571.9 crore, or 4.8 per cent of gross advances. On a net level (gross NPAs minus provisions made that year) stood at Rs 878.4 crore, or 1.7 per cent of its net advances. It was primarily because of provisioning of this level that the bank’s net profit got pared down from Rs 1,269.6 crore to Rs 498.2 crore in 2006-07.
Peer pressureThat’s what’s bogged it down in the past. Question is, what does the bank need to do to change this? And more importantly, is it doing enough to bring about that change? To start with, the bank needs to increase productivity. It can do that by investing more in linking its branches and setting up ATMs. The other front is lending more — and lending profitably.A rough calculation shows that even if every branch increases its revenues by Rs 50 lakh, the bank’s total revenues will increase by about 25 per cent. Since many of its branches are in semi-urban and rural areas, where industrial lending is low, it’s retail that can make an across-the-board difference. However, Central Bank of India has been weak in retail. In 2006-07, retail loans accounted for just 11 per cent of all its loans. By comparison, Bank of India was doing 22 per cent, PNB 24 per cent, even SBI 22 per cent.
The other challenge is to lend profitably. In the last two years, credit has grown at a compounded annualised rate of 35.4 per cent, while deposits have grown at 16.7 per cent. That shows that it is not able to mobilise as much deposits as it needs. If its dependence on CASA reduces and that on FDs increases, its cost of funds will increase — and put pressure on margins. Clearly, a lot of work lies ahead of Central Bank of India, and the management needs to show more intent and speed in transforming the bank into a nimble, modern, profitable business.
The banking sector should grow well, as should Central Bank of India. But why would you want to invest in a bank that is still doing the hard work when you can invest in public sector banks that have done more of that hard work, at the same or marginally higher valuations? Three such banks are Canara Bank, Punjab National Bank and Bank of India, and each one is significantly ahead in efficiency, technology, profitability and business sense (See table: ). Rather than invest in the Central Bank of India IPO, you should buy shares of these three banks from the stock market.