For 3QFY11, IDBI Bank reported in-line core earnings, but asset quality slipped qoq and management has lowered business growth targets to improve NIMs and ROAs. The rising interest rate environment poses a challenge going forward but, with valuations remaining attractive, in our view, we reiterate our Buy rating.

3QFY11: Core earnings largely in line but asset quality slips
IDBI Bank's net interest income rose 3% qoq in 3QFY11 (+117% yoy), in line with qoq loan growth of about 3.0% as margins remained largely stable at 2.28% (+69bp yoy). Core fee income remained flat yoy in the quarter (+18% yoy in 9MFY11), partly due to slow asset growth. The loan loss provision charge rose to 40bp in 3Q (26bp in 2Q) as asset quality slipped and the bank raised its provision coverage ratio (75.6% as of December 2010). The tax rate was low at 6% as the bank took a deferred tax credit for provisions. Although gross NPLs rose to 2.2% of loans (as of December), on an aggregate basis (including adjusted restructured loans) asset quality appears largely in line with domestic peers in our coverage.

FY12F: Slower loan growth, focus on liability mix
Loan growth was 21% yoy (+3% qoq) as of December 2010 and management is now guiding for slower growth of about 14% in FY12. On the back of this revised guidance, we have cut our loan growth estimates to 10% for FY11 and 14% for FY12 (from 16% earlier for both years). Given the expected slower loan growth, the bank is aiming to slow deposit growth and thus boost the proportion of low-cost deposits (current and savings accounts, or CASA). The CASA ratio was 15.0% as of December 2010, which the bank is targeting to raise to around 18% by March 2011. Given the rising interest rate environment and the bank's largely wholesale-funded liability mix, we expect margins to be about 2.1% in FY12F (vs 1.9% in FY11F).

Tough times ahead, but valuations appear attractive
On net profit, we cut FY11F by around 8% (largely due to muted other income and higher provisions) and keep FY12F largely unchanged. In the long term, we expect traction in RoA to continue. However, given the current rising interest rate scenario, we think the increase in RoA and ROE could prove slower than we had earlier anticipated. We therefore reduce our sustainable ROE assumption from 17.5% to 16.0%, resulting in our SOTP-based target price falling to Rs181 (from Rs211). The stock trades at 1.2x FY12F adjusted book value and 7.4x earnings, which we believe are attractive valuations. Buy.