Core performance is largely steady, but volatility in asset quality remains a key concern. Besides, SA accretion (sub-10% y-o-y) is soft and improvement thereof is key.
The Q1FY20 earnings of Federal Bank show steady growth in its core operating performance (ex-treasury) — up >20% year-on-year. Key highlights: a) Slippages rose a tad to 1.6% (1% in Q4FY19) largely due to higher retail slippages (mainly in Kerala); b) Credit cost contained at 63 bps with FY20 guidance maintained at 55–60 bps, indicating a steady improvement; c) Loan growth of 19% y-o-y along with sustained NIM supported core profitability, up >20% y-o-y. Core performance is largely steady, but volatility in asset quality remains a key concern. Besides, SA accretion (sub-10% y-o-y) is soft and improvement thereof is key. Federal Bank’s limited stress baggage, growth tailwinds and healthy tier 1 (13%) lend comfort. Rolling forward the valuation, we are raising the target price to Rs 134 (from Rs 128). Maintain ‘buy.’
Slippages rose to Rs 4.3 billion (up 1.6% after a solid Q4FY19 with a 1% run rate). The rise is attributable to the retail segment. SME and agri slippages were contained while corporate slippages rose only marginally (including the ones relating to IL&FS entities worth Rs 320 million). The bank maintained strong coverage of 67%, thereby reining in NNPLs to 1.49%, which is commendable. It has guided for credit cost of 55-60 bps, but will keep an eye out for volatility in its asset quality. Exposure to IL&FS worth Rs 2.1 billion (an amber entity, standard) and stressed housing finance (Rs 2.75 billion, standard) could throw in volatility. Loan growth softened to 19% y-o-y (from 25%-plus earlier) dragged by softer corporate growth. Retail growth continues to be strong (25% y-o-y) — a trend the management expects to sustain. A steady NIM (3.15%), improving core fee and controlled opex (up <18% y-o-y) led to steady core operating (ex-treasury) growth of about 20% y-o-y. Federal Bank has delivered on core momentum, but persistent NIM pressure is a key variable.