NPA pain nearing end, beaten-down valuations boost Axis Bank stock over 12%

Illustration by Binay Sinha
A nearly fourfold sequential jump in slippages owing to an acceleration in non-performing asset (NPA) recognition saw Axis Bank report its first-ever net loss of Rs 21.8 billion in the January-March quarter (Q4), after market hours of Thursday, Yet, the stock soared over 12 per cent on Friday, before closing with 9 per cent gains. What turned investors’ sentiment positive was an expectation of earnings recovery as the NPA recognition or credit cycle was nearing its end. Also, the stock had been under pressure, down over 21 per cent from its 52-week high of Rs 627.50 in January, till Thursday. So, a relief rally also helped.

It was also observed that some of the deteriorating parameters may be bottoming out. For instance, the share of sub-investment grade (BB & below rated) loan book came down to 1.8 per cent in Q4 from 3.4 per cent in Q3 and 4.7 per cent in the year-ago period; at peak level it was 7.3 per cent. The restructured book as of March 2018, too, stood at just 0.4 per cent of the advances.

 
Many brokerages, thus, expect the credit cost (provisions as a per cent of advances) to start normalising from October 2018-March 2019 onward, which would provide an upward thrust to net interest margin — a profitability indicator of lenders — and earnings. “With most stressed assets recognised as NPAs, the second half of FY19 (as indicated by the management) would be much better from the point of view of margin, loan-loss provisions and earnings,” analysts at IIFL Institutional Equities said in a note. 

 
An improvement in credit cost and earnings, supported by satisfactory capital position, should improve the return on equity (RoE) to the earlier levels of 12-16 per cent by FY20. While FY19 could see this number at 7-10 per cent, the management has a medium-term RoE target of 18 per cent.

 
Having said that, analysts have been quick to factor in the poor Q4 performance, and point to near-term risks. Most analysts lowered their earnings estimates by 24-25 per cent for FY19 and 10-11 per cent FY20, and the near-term target price for the stock by 5-10 per cent. According to analysts at Edelweiss, FY18 performance has rattled investors’ confidence. This, along with uncertainty at the top management level, will cap valuations in the near- to medium-term. 

 
Since normalisation of credit cost will be seen in the latter half of FY19, the first two quarters are likely to see some more slippages as the bank still has stressed assets of more than two per cent of its FY18 advances and sub-investment grade loan book, which accounted for 90 per cent of its corporate slippages in Q4. And these will weigh on its FY19 earnings.

 
Thus, patient investors with appetite for volatility could consider the stock on declines, say analysts. “Given that earnings and RoE should improve hereon, and that valuation multiple is depressed, we believe the risk-reward balance is favourable at this point,” analysts at IIFL said. Bloomberg data of analysts polled after results indicate an upside of just 8 per cent over a year.