Stock Update

Federal Bank
Maintains steady growth outlook

Sector: Banks & Finance We interacted with the management of Federal Bank (FEDBK) to get an
update on Kerala floods impact, and a general business update. In 2019
Company Update
too, the monsoons have resulted in floods in Kerala region. However,
this time around the impact for Federal Bank is likely to be less severe.
Change
As per the management, only ~19 (out of the ~600 Kerala branches)
were affected and that too in a limited manner. The management has
Reco: Buy 
indicated that their FY20E loan growth guidance (at 18-20%) remains
CMP: Rs. 87 unchanged which we believe is achievable. Asset quality wise, credit
cost guidance (~60 BPS for FY20E) has also been maintained. However,
Price Target: Rs. 120  possible valuations of its JV, IDBI-Federal Life insurance (IFLI) are
likely to be whittled down as IDBI Bank is unlikely to continue with its
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No change Downgrade bancassurance relationship with IFLI post stake is divested. We believe
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with minimal risks to asset quality due to floods and slowdown, the
Company details recent stock price correction has made risk reward favourable. We thus
maintain our BUY rating on the stock with a revised price target of Rs120.
Market cap: Rs. 17,270 cr
Limited impact of Kerala Floods: Federal Bank (FEDBK) gets considerable
52-week high/low: Rs. 110/67 business from Kerala (~600 branches out of total 1252 are in the state of
Kerala) hence the previous year’s flood posed questions. However, our
NSE volume: (No of interaction with the management indicated that on the credit cost, credit
124.5 lakh
shares) growth and deposit growth wise the impact has been minimal for the bank.
Also, since only ~19 branches were impacted/saw damages, the Cost to
BSE code: 500469 Income (C/I) ratio is also likely to be maintained. The credit cost guidance
(~60 BPS for FY20) has been maintained. The loan growth guidance of
NSE code: FEDERALBNK
18-20% for Federal Bank is expected to be achievable. Though the SME
Sharekhan code: FEDERALBNK business has seen impact, the management believes the environment
is not as yet alarming. Healthy monsoons, the advent of festive season,
Free float: (No of stimulus measures and low interest rates are expected to help demand.
2.9 cr
shares) We also believe as PSU Banks / NBFCs offer little competition, well
capitalised banks like Federal Bank have an opportunity to gain market
share and/or quality clientele.
Shareholding (%)
Promoters 0.0 Our Call
FII 37.2 Valuation: The Federal Bank stock currently trades at 1.2xFY20E Book
Value. The stock has corrected by ~20% (in last two months) over concerns
DII 26.4
over asset quality performance and possible Flood impact on the bank,
Others 36.4 which we believe are now largely factored in. The management has
indicated the flood impact on credit cost and growth is not expected to be
significant. However, the valuation of its stake in IDBI-Federal Life insurance
Price chart (IFLI, FEDBK has 26% stake, EV of Rs~2000 cr) is likely to be whittled down
from earlier expectations. With other things mostly remaining steady, we
150.0
maintain our BUY rating on the stock with a revised price target of Rs120.
125.0

100.0 Key risk

75.0
Dependent on remittances from foreign countries, especially Gulf countries.
50.0
Dec-18
Oct-18
Aug-18

Apr-19
Nov-18

Jan-19
Sep-18

Feb-19

May-19
Jun-19
Jul-18

Jul-19
Mar-19

Valuation Rs cr
Particulars FY18 FY19 FY20E FY21E
Net interest income 3,583.0 4,176.4 4,828.5 5,873.2
Price performance
Net profit 879.0 1,243.9 1,549.1 2,053.5
(%) 1m 3m 6m 12m EPS (Rs) 5.0 6.3 8.0 10.6
PE (x) 17.4 13.9 10.9 8.2
Absolute -2.4 -17.3 -3.8 14.0 Book value (Rs/share) 61.9 65.6 73.0 81.1
Relative to P/BV (x) 1.4 1.3 1.2 1.1
-1.3 -11.9 -3.6 14.4 RoE (%) 8.2% 9.8% 11.2% 13.6%
Sensex
RoA (%) 0.7% 0.8% 0.8% 0.9%
Sharekhan Research, Bloomberg Source: Company; Sharekhan estimates

September 13, 2019 2

 Stock Update
Limited impact on financial parameters due to Floods: Federal Bank has a strong liability business from the
state of Kerala with ~37% of deposits from the state. We don’t envisage a significant change in deposit growth
estimates since the deposits from the state which largely comprises of International repatriation stream,
is largely agnostic to local geographical events like floods etc, its credit exposure to the state is relatively
smaller, at ~35% of total advances, compared to the ~52% branch presence (Of its 1252 branches, ~600 are
in Kerala) in the state. Hence, we don’t envisage a significant business wise impact on Federal Bank due to
the Kerala floods.
Regional business mix
120%

100%
9%

80% 32%
52%
65%
60%
91%
40%
68%
20% 48%
35%

0%
Branches CASA NR Business Advances

Kerala Outside Kerala

Source: Company, Sharekhan Research

The previous year’s flood saw the impact on the asset quality, growth and rise in credit cost impacted
performance. However, this year, the Kerala flood impact is minimal for the bank, with only ~19 of total 600
branches were affected in Kerala and the management expects the incremental stress also stands unchanged.
The credit cost guidance (~60 BPS for FY20) has also been maintained.
Outlook & guidance unchanged: As per our recent management interactions, the outlook on key parameters
has remained the same as the impact of Kerala floods and economic activity is likely to be less severe. Loan
book growth guidance is maintained at 18-20% with focus on retail and SME segment loans, while corporate
advances may remain on lower trajectory indicated by management’s cautious stance in this segment.
Guidance of ROA for FY20 is at ~1.0%, which we believe is optimistic and expect the bank to post ~0.9%
ROA for FY20E. Management guides for ~ 10 BPS additions per anum in ROAs due to improvement in other
parameters like NIMs and Cost-to-income ratio. At present, while banks are gradually paring deposit interest
rates, we have maintained the margins estimate for FEDBK as we believe that the benefits therefrom will be
offset with MCLR cuts as well.
Asset quality to remain largely stable: The bank does not have bulky corporate exposures hence there is
less probability of large asset quality negative surprise. With increasing retail growth and granularity in its
loans, we expect that incremental fresh NPA accretion to normalize over the long term as the balance sheet
grows. The management has indicated that on the SME front, the bank is not seeing a scenario which warrants
alarm, though it is maintaining a cautious stance on mid-corporate segment. That said, we continue to believe
that in the medium term, Federal Bank’s asset quality performance will be a key monitorable. The previous
year’s asset quality was affected due to floods which impacted asset quality performance. However, this time
around the impact is likely to be minimal (in terms of incremental stress addition). Also, the management has
indicated minimal residual impact of end of moratorium for flood-related exposures (total book of Rs. 250
crore) of previous year. Federal Bank has been conspicuously absent from the recently in news troubled
corporate loans which is a positive, and provides confidence that the credit cost guidance (maintained at ~60
BPS for FY20) will be achievable.

Asset quality
Particulars Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20
GNPA 1868 1949 2161 2796 2869 3185 3361 3261 3395
GNPA ratio (%) 2.42% 2.39% 2.52% 3.00% 3.00% 3.11% 3.14% 2.92% 2.99%
Gross Slippages 425 284 412 872 460 477 427 256 415
Net NPA 1061 1066 1157 1552 1620 1796 1873 1626 1673
NNPA ratio (%) 1.39% 1.32% 1.36% 1.69% 1.72% 1.78% 1.72% 1.48% 1.49%
Source: Company; Sharekhan Research

September 13, 2019 3

 Stock Update
Financials in charts

Advances trend Loan Mix

125,000 30.0% 95%

100,000 70%
20.0%
75,000 45%

50,000 10.0% 20%

Q3FY19

Q4FY19

Q1FY20
Q2FY19
Q3FY19
Q4FY19

Q1FY19
Q3FY18
Q4FY18

Q1FY20
Q2FY19
Q2FY18

Q1FY19
Q1FY18

Advances (Rs Cr) Growth YoY (%) Retail Agri BuB CB CIB

Source: Company, Sharekhan Research Source: Company, Sharekhan Research

Deposits trend Asset Quality Movement

25.0% 4.0%
140,000 3200
20.0% 2400 3.0%
15.0% 1600 2.0%
80,000 10.0% 800 1.0%
5.0% 0 0.0%

Q3FY19

Q4FY19
Q3FY18

Q4FY18

Q1FY20
Q2FY19
Q2FY18

Q1FY19
Q1FY18

20,000 0.0%
Q3FY19
Q4FY19
Q3FY18
Q4FY18

Q1FY20
Q2FY19
Q2FY18

Q1FY19
Q1FY18

GNPA (Rs Cr) NNPA (Rs Cr) GNPA (%)

NNPA (%) Credit Cost
Deposits (Rs Cr) Growth YoY (%)

Source: Company, Sharekhan Research Source: Company, Sharekhan Research

NIMs, Yields on Advances, Cost of Funds Return Ratios

4% 17.0% 1.2%
11% 1.0%
13.0%
0.8%
3% 9.0%
8% 0.6%
5.0% 0.4%
1.0% 0.2%
2% 5%
Q3FY19
Q4FY19
Q3FY18
Q4FY18

Q1FY20
Q2FY19
Q2FY18

FY20E
Q1FY19

FY21E
Q1FY18
Q3FY19

Q4FY19
Q3FY18

Q4FY18

Q1FY20
Q2FY19
Q2FY18

Q1FY19
Q1FY18

ROE (%) ROA (%) (RHS)

NIMs (%) COF (%) YOA (%) (RHS)

Source: Company, Sharekhan Research Source: Company, Sharekhan estimate

September 13, 2019 4

 Stock Update
Outlook
FEDBK has been strategically been re-orienting its business portfolio by building incremental book in better-
rated borrowers (on corporate side) and granular and higher-yielding book (CV, cards and PL) on the retail and
business banking side. The bank has held its branch strength steady since the past few years; and we expect
incremental operating leverage benefits to start to manifest. FEDBK’s efforts to diversify its income source by
investments in related businesses, adding new streams to fee and other income are also bearing fruits, and
management’s guidance of ~20 new branches per year will be positive for its retail business growth. We believe
there can be significant long term operational and structural positives for the bank dependent on the successful
implementation of this strategy. However, possible valuations of its JV, IDBI-Federal Life insurance (IFLI) are
likely to be whittled down as IDBI Bank is unlikely to continue with its bancassurance relationship with IFLI post
stake is divested. While the asset quality continues to be a key monitorable, we opine that at present, downside
risks to our earnings estimates appear low. Federal Bank has been conspicuously absent from the recently in
news troubled corporate loans which is a positive, and provides confidence on credit cost being within guidance
Valuation
The Federal Bank stock currently trades at 1.2xFY20E Book Value. The stock has corrected by ~20% (in last two
months) over concerns over asset quality performance and possible Flood impact on the bank, which we believe
are now largely factored in. The management has indicated the flood impact on credit cost and growth is not
expected to be significant. However, the valuation of its stake in IDBI-Federal Life insurance (IFLI, FEDBK has
26% stake, EV of Rs~2000 cr) is likely to be whittled down from earlier expectations. With other things mostly
remaining steady, we maintain our BUY rating on the stock with a revised price target of Rs120.

One year forward P/BV (x) band

3.0

2.5

2.0

1.5

1.0

0.5

-
Sep-13

Sep-14

Sep-15

Sep-16

Sep-17

Sep-18

Sep-19

PBV +1 sd 3-yr Avg -1 sd

Source: Sharekhan Research

Peer Comparison
CMP P/BV(x) P/E(x) RoA (%) RoE (%)
Particulars
Rs/Share FY20E FY21E FY20E FY21E FY20E FY21E FY20E FY21E
Federal Bank 87 1.2 1.1 10.9 8.2 0.8 0.9 11.2 13.6
City Union Bank 199 2.7 2.3 18.9 13.7 1.6 2.0 15.0 18.1
IndusInd Bank 1399 3.1 2.6 18.4 12.8 1.5 1.8 18.1 21.6
Kotak Mahindra Bank 1484 5.7 5.1 50.3 42.1 1.7 1.7 12.2 12.8
Yes Bank 69 0.5 0.5 8.6 10.2 0.8 0.8 10.1 11.1
Source: Company, Sharekhan research

September 13, 2019 5

 Stock Update
About company
Federal Bank Limited is an old generation private sector bank headquartered at Aluva, Kerala. The Bank operates
in four segments: treasury operations, wholesale banking, retail banking and other banking operations. The bank
has 1,251 branches and 1,669 ATMs/Recyclers as on 30 June 2019. The bank also has its Representative Offices
at Abu Dhabi and Dubai and an IFSC Banking Unit (IBU) in Gujarat International Finance Tec-City (GIFT City).
Federal Bank has been building incremental addition in better-rated borrowers; it has also been successful in
bringing down the stressed pool. Federal Bank’s efforts to diversify its income source by investments in related
businesses, adding new streams to fee and other income are also bearing fruits, albeit slowly.

Investment theme
Federal Bank Limited has been able to maintain a consistently stable deposit franchise (helped by the overseas
remittance flow to the state of Kerala) with high proportion of retail (<Rs 10m size) deposits with relatively
lower branch spread. This idiosyncrasy allows it access to low cost funds, crucial to not only maintain its
loan growth but also sustain its margins as well. On the Assets side, with a calibrated approach, the Bank
has been building incremental addition in better-rated corporate borrowers, and thus has brought down the
stressed pool (at 1.96% of total assets, down by 32 BPS since Q4 FY2018), which is a significant positive.
Federal Bank Limited cautious approach to loan growth over the past few years is now beginning to result in
improving risk-adjusted NIMs. Corporate loan book now constitutes 43.5% of overall loan book, which have
better incremental yields (~50bp) which also helps the blended yield for the bank. Strong capitalization levels
and a robust liability franchise, and improved Assets profile, in light of waning competitive pressures enabling
Federal Bank Limited to gain market share in both corporate and retail segments are factors favourably
placed for investors in coming years.

Key Risks
ŠŠ Dependent on remittances from foreign countries, especially Gulf countries
ŠŠ SME segment focus

Additional Data
Key management personnel
Mr. Shyam Srinivasan
Mr. Dilip Gena Sadarangani
Ms. Shalini Warrier
Mr. Sumit Kakkar
Mr. Girish Kumar Ganapathy
Mr. Jose K Mathew
Source: Company Annual Report
Managing Director & CEO
Chairman
Chief Operating Officer
Chief Credit Officer
Company Secretary
Executive Vice Presidentnt

Top 10 shareholders
Sr. No. Holder Name Holding (%)
1 Commonwealth Bank of Australia 3.82
2 HDFC Asset Management Co Ltd 3.79
3 YUSUFFAL MUSALIAM VEETIL 3.77
4 Reliance Capital Trustee Co Ltd 3.64
5 ICICI Prudential Asset Management 2.99
6 Vanguard Group Inc/The 2.47
7 EAST BRIDGE CAPITAL MASTER FUND 2.43
8 Amansa Holdings Pvt Ltd 2.37
9 Franklin Resources Inc 2.34
10 Jhunjhunwala Rakesh 2.25
Source: Bloomberg

Sharekhan Limited, its analyst or dependant(s) of the analyst might be holding or having a position in the companies mentioned in the article.

September 13, 2019 6

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