After 18% year to date gains, Axis Bank stock may pause for a breather

With 18% year to date gains, valuations are at its peak of 2.3x FY20 earnings, leaving little upside potential

Generally, when new management steps in, some amount of kitchen-sinking is anticipated. It happened with State Bank of India and more recently with YES Bank. Whereas with Axis Bank, the experience has been different. Ever since Amitabh Chaudhry formally took charge in January as MD and CEO of Axis Bank, the stock has gained over 18 per cent — the highest among private sector banks.  

This has prompted investors to question if the stock has reacted too much and too fast. Though key issues such as asset quality, the share of well-rated corporates to the overall loan book and sustaining the momentum in retail business now in a comfortable position, what's next for Axis Bank to justify its premium valuations is the concern. The bank’s March quarter (Q4) results also threw up some points to take note of. 

Despite a tight cost structure, pre-provisioning profit saw a sequential 9 per cent decline in Q4, largely because of a mere 2 per cent sequential increase in net interest income (NII). While on a year-on-year basis, the two numbers posted 37 per cent and 21 per cent increase, these indicate that sustaining the momentum on loan growth and fee income will be critical. Also, as deposit growth outpaced loan growth, it flattened the net interest margin (NIM, or profitability) at 3.4 per cent. Deposits grew by 21 per cent year-on-year, led by the costlier term deposits as against low-cost current account savings account (CASA) deposits. CASA ratio fell from about 54 per cent a year ago to 44 per cent in Q4. This also lifted the cost of funds by 30 basis points, thereby restricting NIMs (see chart). Therefore, as analysts at PhillipCapital say, low-cost liability will be a challenge for Axis Bank.

Likewise, 12.5 per cent year-on-year growth in total loans was led by 19 per cent growth in its retail book. The share of retail loans to overall loans stands at 50 per cent. However, the rising share of the unsecured book needs monitoring. Personal loans and credit cards, which accounted for 4 per cent and 10 per cent of Axis Bank’s retail loan composition in FY18, increased to 5 per cent and 12 per cent, respectively. A slowdown in consumption trend could pinch the bank given their relevance to non-interest income. The share of loan against property also rose to 9 per cent, up 100 basis points in FY19.  

The third monitorable remains the bank’s asset quality. Undoubtedly, there has been a sharp improvement on this front with gross non-performing assets (NPA) falling from 6.8 per cent a year ago to 5.3 per cent in Q4. Yet, a lot needs to be done to settle below the pre-asset quality review days of sub-2 per cent. Meanwhile, whether provisioning costs will witness a material softening in FY20 needs to be seen as the Reserve Bank of India has asked the bank to make 100 per cent provisioning over four quarters against land received from an NPA account, which analysts say is as part of the Jaypee Group exposure. The bank had provided Rs 530 crore in Q4 through its profit and loss (P&L) statement and debited the remaining Rs 1,600 to its reserves, according to brokerage reports. This will have to be credited back to reserves and amortized over the next three quarters. The bank also carries Rs 2,900 of security receipts (SRs) from the sale to Asset Reconstruction Company, against which it provided Rs 220 crore in Q4. “How much more impairment these SRs will see is monitorable,” says Suresh Ganapthy of Macquarie Capital. Further, how Rs 920 crore of below-investment-grade loan additions to stressed assets in Q4 will play out needs to be seen. 

With these concerns likely to play out in the coming quarters, the sharp rally in the Axis Bank stock caps the upside potential for investors. “Current liquidity tightness and flat NIM guidance for FY20 will further delay management’s target of achieving 18 per cent return in equity,” says Ganapathy.