Federal Bank—surprise performance makes it a stock to buy

Publish Date: October 17, 2018

Federal Bank’s better-than-expected performance has come as a pleasant surprise. Federal Bank has a strong presence in Kerala, which is why the recent floods were expected to have a major impact on its performance. But, fortunately, loans needed less restructuring and provisions made by the bank were for other assets. This reduced the profit despite strong interest income growth.

Increased provisions prevent profit growth

Provisions grew 67% from last year thus helping the bank deal with non-performing loans and lowering the exposure to IL&FS. This implies better chances of higher profits in the future. The bank has shown sustained growth in loans and deposits, which again is a healthy sign. If this trend continues, earnings are likely to improve in future.

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Hold on expanding the branch network

The bank has not opened new branches in the last few months. The intention is to possibly reduce costs and also focus on business within its own network. This can prove important in improving its profits in the next few quarters.

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Asset quality remains stable

There has been no major increase in the provisions for non-performing loans (NPLs). Thus, a good outlook could mean that the bank can continue to keep provisions low in the next few months. This will also help it meet its profit expectations.

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Kerala floods and IL&FS

The devastating Kerala floods were expected to reduce earnings and increase the need for provisions. The losses were limited to a small region, affecting only 1.5% of the loans of the bank, of which some were eligible for restructuring. This limited the need for provisions in this quarter. But, at the same time, some provisions will need to be made in the future.
IL&FS has not affected the bank much as Federal Bank only had limited exposure to the group. These loans are being repaid in the expected manner. The bank has, at the same time, made provisions acting in a cautious and prudent manner. As a result, profits only increased a little, compared to the previous quarter.

Outlook for Federal Bank

Strong loan and deposit growth would lead to a stable or growing market share. This would help the bank grow without having to increase the branch network. If the bank continues to perform the way it is, it should be of reasonable value for most investors.

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Investors should also note that among the risks and concerns highlighted by us there are major revisions in licensing terms of foreign brands, lower export incentives, and raw material or forex volatility.

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