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Ready for growth; well provisioned to manage asset quality risk

* Axis Bank reported a slight miss on PAT at Rs21.6bn (vs. est. Rs22.9bn) in Q1FY22 due to subdued margins and higher opex/provisions. Higher-than-expected gross slippages (84% retail) led to a 15bps rise in GNPA to 3.85%. However, the bank did not utilize the Covid-related buffer in Q1, which remains steady and healthy at 0.8% of loans.

* Credit growth was moderate at 12% yoy/-1% qoq, lagging large peers (14-17%). However, the bank expects a better growth trajectory as the economy opens up, led by retail and SME businesses. As per Axis, the changing portfolio mix toward high-margin retail and the reduction in RIDF should boost margins.

* Axis has significantly revamped its subsidiaries (mainly Axis Cap/Axis Sec/Axis Fin) in past 3 years and made strategic investments in insurance (Maxlife) and fintech (Freecharge) as part of its ‘One Axis’ strategy to become a financial super-store. We believe there is huge scope to scale up subsidiaries in line with peers and drive up value for shareholders.

* The bank has undergone a major transformational journey, fortified the balance sheet and revved up the digital banking platform. We believe it is now ready to accelerate growth and deliver better return ratios (RoA/RoE at 1.5-1.6%/15-16% in FY23-24E). Retain Buy with a TP of Rs960 (valuing core bank at 2x Sep’23E ABV and subs/investment at Rs75).

Stepping-up digi-play; favorable portfolio mix to drive up NIMs:

Within the retail portfolio, Axis will incrementally focus on high-margin products like MFI and expects revival in cards/PL book as the asset quality risk recedes. Axis is also at the forefront of tech transformation, with nearly 50% apps now being on cloud. It is the first bank to launch BNPL (Buy Now Pay Later) product through its subsidiary Freecharge, which was turned around by Axis after takeover. Management believes that it is ready for accelerated growth with clear focus on RARoC (RiskAdjusted Return on Capital)-based lending, mainly driven by margin accretive retail/SME. On the corporate front, the focus will be on building granular working capital and mid-corporate book, which should also accelerate transactional fees.

Asset quality slips due to stress in retail, but Axis remains well covered:

Gross slippages were elevated at Rs65.2bn (4.6% of loans), with retail contributing 84% of slippages (secured: unsecured ratio of 55:45). Higher stress in retail was mainly due to mortgages, where customers delayed payments to preserve cash flow amid Covid-related uncertainty. However, the bank believes recovery rates in the secured portfolio should be strong and should see meaningful reverses. Fund-based BB & below corporate pool inched up qoq to Rs80bn (1.2% of loans), but including non-fund exposure and investment pool, it stood at Rs130bn (2.2% of loans). Restructured loans stood at 0.4% of loans, but Axis carries healthy PCR of 23%. Separately, the bank also carries healthy Covid-related provisions of Rs50bn − 0.8% of loans. We believe the bank will utilize the provisions once it has better visibility on asset quality.

Outlook and valuations:

We expect the bank’s RoA/RoE to improve from a low of 0.7%/7% in FY21 to 1.5-1.6%/16% by FY23-24E, mainly driven by better growth and moderate credit costs. Valuations look attractive at 1.5x FY24E ABV, post stripping-off subs valuation. Retain Buy with a TP of Rs960, valuing the core bank at 2x Sep’23E ABV and subs at Rs75. Key risks to our call include 1) slower growth and higher NPA formation due to Covid-induced disruption, and 2) any sign of management instability, which has moderated a bit recently.

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