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Our Take:

Post the amalgamation with Syndicate Bank, Canara Bank has become third largest public sector bank in terms of total business. With over a century of banking operations in the India, it has become an established player in the south region. Apart from banking, it also has presence across various financial services via Subsidiaries and JVs. The bank has well-balanced asset mix and it has started focusing on retail, agriculture and MSME (“RAM”) sectors which will lead to better risk diversification, increased revenue and improved margins. Canara bank has raised money via QIP in two tranches in the past one year; still it lags behind the peers.

The CASA ratio, which remained below the industry average level, has started to improve with the amalgamation and management’s increased focus. The earning profile of the bank was modest in past few years due to high credit cost, which has started to improve from FY21. It has built up strong provision buffer (PCR at 81.2% as of Q1FY22), which otherwise was cause of worry earlier. We believe that worst in terms of asset quality deterioration is over and now the positive steps by the Government over past several years like consolidation of various PSU banks, capital infusion, formation of ‘bad bank’ etc. have improved the environment for growth.

Recent announcement of the Union Cabinet’s approval of Central Government guarantee of up to Rs. 30,600 Cr to National Asset Reconstruction Company Limited for five years will be positive for large PSU banks. Canara Bank will be the lead sponsor and biggest shareholder of National Asset Reconstruction Company Ltd (NARCL), contributing up to 12% equity to comply with new rules after the Reserve Bank of India (RBI) amended its capital structure.

Faster resolution by the IBC could also help in recoveries and bring down slippages in future. Privatization buzz has kept the PSU bank sector in limelight. Acquisition of some PSB by any prestigious corporates/Institutions – local or foreign - at a good valuation may rerate the sector. We remain cautious on the asset quality front due to high corporate book. It has high BB & below rated book and has high exposure to sectors like Infrastructure, NBFC etc.

Valuation & Recommendation:

The earnings profile of Canara Bank was severely impacted over the last few years primarily because of high credit costs; the same has seen an improvement in since FY21. The bank reported profit after tax (PAT) of Rs 2558Cr during FY21, as compared to substantial losses incurred over the last couple of years (loss of Rs 2236Cr reported for FY20).

Going forward, we expect Canara Bank to grow its loan book at 8.5% CAGR while NII and Net profit are expected to grow at 10.9% and 72.1% (due to lower base) CAGR respectively over FY21-23E. ROAA is estimated to improve to 0.6% in FY23E from current 0.3% in FY21 and RoE could rise to 10.8% in FY23 from 5.2% in FY21. For the overall industry, with the arrival of the festive season, the credit growth is likely to improve in coming months, driven by retail and agriculture while industry and services continue to be slow.

We expect healthy recoveries and upgrades in next two years. Asset quality trend of corporate and MSME would be the crucial monitorables. Most of the concerns arising out of pending writeoffs out of restructured/SMA accounts are already in the price. We have assumed higher recoveries and lower slippages going forward. The bank expects both credit cost and slippages to be in the range of ~2.1-2.3% for FY22. NIMs may also start stabilizing around 2.5% level.

Inexpensive valuation gives us comfort for the long term. We have positive stance for the public sector banks as a whole. We are not separately ascribing any value to the subsidiaries/associates of Canara Bank while valuing the stock. We feel investors can buy Canara bank at LTP of Rs.193.6 (0.8xFY23E ABV) and add more at Rs.169 (0.7xFY23E ABV) for the base case fair value of Rs.216.5 (0.9xFY23E ABV) and for the bull case fair value of Rs.228.5 (0.95xFY23E ABV) over the next two quarters.

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