Punjab National Bank

India’s third largest bank in terms of assets and second largest in terms of number of branches Punjab National Bank (PNB) is coming out with its second initial public offer (IPO). The issue is of eight crore equity shares of face value Rs 10 each, at a price to be determined through book-building process. The issue opens for subscription on March 7, 2005 and closes on March 11, 2005. The price band has been fixed at Rs 350 – 390. It must be noted that earlier in March 2002 the bank has come with its first issue of 5,30,60,700 equity shares of Rs 10 each at a premium of Rs 21 per share aggregating Rs 164.49 crore through the fixed price route.

Unlike past IPOs through book building, wherein 25% of the net issue to the public was available for allocation on a proportionate basis to Retail Individual Bidders, this time the same has been increased to 35%. Also the amount of bid for retail investors has been raised from Rs 50000 to Rs 1 lakh per application. While the allocation of Non-Institutional Bidders has been reduced to 15% from 25%, allocation for Qualified Institutional Bidders has been maintained at 50%.

Further the government has worked out a novel mechanism to earn a premium on its holdings in public sector banks. An explicit understanding has been worked out, post-issue the bank shall return three crore shares out of the eight crore shares to Government of India at the issue price by March 2005. Earlier, the bank had planned an issue of five crore-equity shares only. Thus the post issue equity capital of the bank will be Rs 315.30 crore and the government holding in the bank will be reduced to 57.8% from the existing 80%.

Presently, most banks are in need of capital due to increased credit off take and to implement Basel II risk norms. RBI has suggested a phased implementation of these norms by 2007. It has already directed banks to provide capital for market risk by March 2006. Inline with the industry, current object of the issue is aimed at augmenting the capital base of the bank and as preparatory to the implementation of the Basel II accord which calls for better capital adequacy. As on December 2004, PNB’s capital adequacy ratio (CAR) stood at 13.1% as against the Reserve Bank of India (RBI)-stipulated 9%. Post-IPO, CAR will go up further.

As on September 2004, bank has around 4,034 branches (north - 1571; central - 1121; east - 776; south - 336 and west - 230), 452 extension counters and 467 ATMs in over 150 cities throughout India servicing 35 million customers. On the technology front it has interconnected electronically 694 branches by implementing Core Banking Solution (CBS) in all of these branches. Their plan is to extend this interconnectivity in the range of 1,500 to 2,000 branches by March 31, 2006.

For the nine-month period ended Dec. 2004, net interest income of the bank recorded a growth of 13% to Rs 2934.66 crore in comparison to the same period previous year. A fall in provision of 32% for contingencies and 25% for taxation helped the net profit to grow by 29% to Rs 1049.49 crore. The operating expenses during the nine months increased by massive 23% to Rs 2052.76 crore, as the bank provided for additional provision of Rs 246 crore against pension & gratuity and Rs 265 crore towards arrears of salary payable to employees, pending settlement on wage revision, under industry level negotiations. Further consequent upon transfer of certain government securities from 'Available for Sale' category to 'Held to Maturity' category in accordance with the guidelines issued by the Reserve Bank of India, depreciation amounting to Rs 207.70 crore was charged to profit and loss account. Despite the negative implication of the above adjustments on the bank’s profit, the bank reported growth of 29% in net profit during nine months ended Dec. 2004

Aggregate business (Deposits and Advances) of the bank registered a growth of 19% to Rs 147162 crore as on December 2004. The bank’s deposits increased 17% to Rs 95922 crore. Low cost deposits constituted 44% of total deposits. Cost of deposits reduced to 4.5% from 5.2% as on December 2003. Advances of the bank stood at Rs 51240 crore, registering a growth of 23%. Yield on advances reduced to 8.3% from 9.3% as on December 2003.

The bank has managed priority sector lending properly without affecting asset quality and profitability. Priority sector credit at Rs 24199 crore constituted 46.4% of net bank credit, much above the national goal of 40%. Lending to agriculture increased to Rs 10378 crore, registering a growth of 29.5%. Agricultural lending constituted 18.9% of net bank credit against the national goal of 18%. Moreover in the recent period, the retail segment has been one of the major growth drivers and the bank has been focussing on this segment closely. Retail loan outstanding increased by 32% to Rs 10116 crore as on Dec. 2004, constituting around 19% of advances of the bank.

With the management of various risks having become imperative in a deregulated environment, PNB has been moving towards establishing a robust risk management system to address the market, credit and operational risks. The asset-liability management in place, the bank has established a separate Integrated Risk Management Division and a Credit Audit and Review Division. As a result of this, the bank's asset quality has improved significantly. Gross NPA and net NPA of the bank in amount terms decreased by 19% and 84% to Rs 4188.20 crore and Rs 137.30 crore respectively. Also in terms of %, the gross NPA and net NPA reduced to 7.8% and 0.3% from 11.6% and 2.2% respectively as on December 2003, due to higher recovery and NPA provisioning done by the bank. NPA provision coverage increased to 96.7% from 82.9% in the corresponding previous nine month ended December 2003.

The NPA problem seems to have been adequately provided for, now the problem that hinders its growth seems to be its vast branch network and staff strength. When compared with other major public sector banks (PSB) of similar size, such as Bank of Baroda (BoB), Canara bank (CB) and Bank of India (BoI), one would find that PNB is better in terms of size, asset quality and valuation parameters. However, in terms of profitability and productivity, it does not score much. In terms of profitability, PNB’s return on average net worth is 26.9% as against 20.3%, 28% and 29.2% for BoB, BoI and CB respectively. Return on average net assets shows a similar outcome. On productivity parameters, its business per employee as on March 2004 ranked second last among all major PSBs having a value of Rs 2.28 crore as against Rs 2.53 crore, Rs. 2.63 crore and Rs 2.98 crore of BoB, BoI and CB respectively. This is mainly due to a vast number of branches and a large employee force.

However, the bank enjoys one of the best asset qualities in the banking sector. Its net NPA% of 0.3% as on December 2004 is lowest amongst the peer group banks. Moreover if one excludes State Bank of India (SBI), PNB stands highest in all the valuation parameters i.e. earnings per share (EPS), book value (BV) and adjusted book value (BV-Adj.).

On the basis of March 2004 financials, considering fully diluted equity and highest bid price of Rs 390, PNB is available at highest P/E and P/BV of 11.2x and 1.9x, which is higher than even SBI, the largest bank of the country. But if one compares it with private sector banks, they are significantly lower. ICICI Bank enjoys the P/E of 18.6x and P/BV of 3.6x. However given the low net NPA levels, PNB’s P/adj.BV works out to just 2x, which is one of the lowest when compared to other banks. The above figures speak about the better control and efficiency shown by PNB in managing its NPA figures. Thus the issue price looks attractive on this ground.

Foreign holding in the bank is 14.2% as on December 2004. Foreign holding in the bank is allowed up to maximum of 20%.

In February 2003, PNB was forced to take over Nedungadi Bank. Currently the issue of merger of IFCI with PNB is the subject of animated discussion. Reports on the merger have been floating in the industry for a while, however no final decision has yet been taken on the above proposal. PNB has agreed to consider the proposal, subject to several conditions, which it has conveyed, to the government. If IFCI is merged without considering PNB’s conditions, it can lead to adverse impact on the bank’s financials as IFCI has huge NPAs (Gross: Rs 11960 crore) and losses. This could limit the price upside of the stock in medium-term.

However due to strong credit off-take and favourable government policies, banks are expected to post reasonable earning growth from core banking operations. PNB is well positioned to capitalize on these opportunities on the back of vast branch network and better risk management. Also it has undertaken various initiatives for increasing its fee-based income.

The scrip had touched a recent low of Rs 350 on 19^th January 2005 and since then risen to the current level of Rs 475 and touched a life time high of Rs 485 today (4^th March 2005, the last trading day ahead of IPO). The offer price range is Rs 350 to Rs 390. In view of the favourable business environment and supportive government policies, the banking sector and PNB will outperform the market.