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Suresh Krishnamurthy

FRESH investments in the initial public offer of Indian Overseas Bank can be considered. The offer is priced attractively considering the financial position of the bank, the probable dividend yield offered by the stock and the progress made by the bank on the technology front. The rate of growth in IOB's advances and deposits in the last few years have also been above that of the industry average.

Suitability: A major negative factor for the bank is the presence of large non-performing assets (NPAs). At Rs 912 crore, it would be about 60 per cent of the net worth after the equity issue. If the current situation of large spreads changes for the worse, then the intractable NPA problem will hurt profitability. This would lead to under performance of the stock.

Still, the risk involved in this investment needs to be considered as only moderately higher relative to stocks such as State Bank of India, as the valuation is attractive.

Similar progress

IOB's progress in the past few years has been similar to that of most public sector banks. The twin impact of improving spreads and rising value of investment portfolio at a time when the volume of operations has been growing at 15 per cent has had a salutary effect on the financial position of the bank.

In the past three years, return on average assets has more than doubled. In fact, return on net worth of the Bank has improved from 16.7 per cent at the end of March 2001 to 41.9 per cent at the end of March 2003. Importantly, IOB utilised all the profit on sale of securities to make provisions for non-performing assets in the last couple of years. The high return on net worth is therefore impressive.

IOB's showing has been comparable to its peers on parameters such as deposit and advances growth and on the technology front. The bank's advances growth has been on a par with that of the industry. In terms of growth in low-cost deposits, IOB's performance has been better than that of its peers. On the technology front, all IOB's branches have been computerised and about 100 ATMs have been installed. These factors augur well.

Larger potential

The potential for further improvement in profitability also exists. The cost of term deposits of the bank at the end of March 2003 was more than 8 per cent. Now, with the bank mobilising long-term funds at below 6 per cent, the scope for maintaining spreads at above 3 per cent is strong.

In addition, the bank is still sitting on a sizeable proportion of unrealised profits. The offer document indicates that the bank is sitting on about Rs 2,000 crore of unrealised profits on its investments. This is more than the net worth of the bank. With interest rates sliding, a substantial segment of the profits are protected.

IOB has also been able to sustain the sequence of growing profits. In the first quarter of 2003-04, IOB's profits have risen 90 per cent on the back of notable 12 per cent increase in interest income. The only concern is with regard to NPAs. The progress of IOB on the NPA front has been below par. If additions to NPAs are as large as it was during 2001-02 and 2002-03 then profit growth could be muted.

Attractively valued

The shares are being offered to the public at Rs 24 per share. IOB recorded a profit of Rs 482 crore in the 12-month period ended June 2003. On the post-issue equity of Rs 544.80 crore, the earnings per share works out to Rs 8.80. The price to earnings multiple works out to less than three.

The dividend yield of more than 6 per cent, based on the dividend declared in 2002-03, is attractive too. With dividend payout ratio at less than 20 per cent, the possibility of growth in dividends also exists. If this materialises, share price appreciation could be significant.

Importantly, the potential for share price appreciation is without considering the return on capital contemplated by the bank. If the bank returns capital of about Rs 75 crore as contemplated, then valuation would improve even more. In this context, investors can consider investing in the offer.

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