Oriental Bank of Commerce

Company Update

Oriental Bank of Commerce (OBC) is one of the oldest banks in India with the government holding 51%. OBC merged GTB with itself in December 2004. At the time of the merger, GTB's accumulated losses stood at Rs1,225cr and OBC was saddled with higher amount of NPAs. We believe that concerns regards OBC's Asset quality are overdone. OBC is expected to increase its Fee- based revenue significantly and it’s Cost to Income ratio is expected to remain the best in the industry due to the technological initiatives taken by the Bank. NIMs of the Bank are likely to remain stable with an upward bias.OBC trades at the lowest end of the PSU Banks' valuation, which ranges at 1.0x-2.0x FY2009E Book Value. Based on OBC’s FY2009E RoAA and RoANW of 1.1% and 15.8% respectively, we believe that OBC should re-rate to 1.2x FY2009E Book Value.

IT initiative on track, to support growth in Fee Income: OBC has beefed up its IT initiative with the computerisation of all its branches and ATMs and implementation of its core banking solution (CBS) at all major branches. Around 99% of the Bank's total business is attributed to its CBS. This has helped OBC extend reach of its products and services, which has in turn boosted its Fee-based Income. The Bank’s core Fee-based Income has grown at a CAGR of 38.7% during FY2004-07 and is expected to grow at a CAGR of 21.2% over FY2007-09E.

Low Operating costs among PSBs: OBC's establishment cost is one of the lowest in the public sector banking (PSB) space with a Cost/Income ratio of 43.5% as against the industry average of over 50%. OBC's lower operating cost is attributed to lower Employee cost and strong growth in Fee Income. Pertinently, low Operating costs is expected to boost the Bank's Earnings going ahead. It is on account of this that OBC is comparatively a superior bet over other PSBs as against the backdrop of a rising Employee costs scenario.

NIMs under pressure but expected stabilise at current levels: Post the merger with GTB, the Bank's NIMs have been under pressure. NIMs have fallen from 4.0% in FY2004 to 2.4% in 1HFY2008. Currently, 29% of the Bank’s Total Deposits constituted Bulk Deposits apart from the Bank having a comparatively low CASA ratio of 27%. Going ahead, in its bid to improve NIMs, OBC has been focusing on reducing its Bulk Deposits, enhance its CASA ratio and increase its exposure to the high-yielding Retail Advances segment. NIMs are also expected to get boost in 2HFY2008 on the back of a favourable liquidity situation as Bulk deposits will come up for re-pricing. We expect the Bank's NIMs to stabilise at 2.5% by FY2009E.

Total business growth to remain healthy: Going ahead, we expect OBC's business to grow at a healthy CAGR of 19.1% (on a higher base) over FY2007-09E, with Advances and Deposits growing at a CAGR of 20.7% and 18.0% respectively, in the above-mentioned period. Over FY2004-07, the Bank's Total business grew at a healthy CAGR of 25%.

Outlook and Valuation

At Rs251, the stock trades at a P/ABV 1.0x and P/E of 6.2x FY2009E ABV of Rs 253 and EPS of Rs40.2, respectively. The Bank could witness a bounce back in core Earning in 2HFY2008 on the back of stable NIMs, impressive core Fee-based Earnings and contained cost of operations. Healthy recoveries could also provide a positive surprise at the Bottomline. A favourable risk-return trade off increases our confidence in OBC. We re-iterate a Buy on the stock, with a revised Target Price of Rs315 (Rs270).

----- With due apologies and full credits to Angel Broking Limited