Six facts about PNB shares

There's something about Punjab National Bank and the month of March.

The first time it came out with an initial public offering was on March 21, 2002. Three years later, it hit the IPO trail again in the month of March.

This time, the issue opened on March 7 to March 11.

Well, the issue is already oversubscribed. But even if you miss the IPO, should you still invest in the PNB stock?

What's good about the PNB stock?

1. Profits on the rise

What you need to understand: Deposits refers to the money that people have put in the bank via fixed deposits, savings accounts and current accounts; advances refers to the loans the bank has extended to its customers.

From the time it hit the market with its first IPO in 2002, PNB registered a robust deposit growth of 17% (compounded annual growth rate), against the advance rate of 24%.

At this rate, the bank expects to grow twice as much by 2010.

Any bank runs its business by borrowing money from depositors at a rate of interest and lending them to businesses (corporates, farmers, housing loans etc), at a higher rate of interest. The difference makes their bread and butter. This interest income is a good indicator of any bank's profitability.

For the year ended March 2004, PNB's average cost of funds (rate at which it borrows money), stood at 5.1% and further dropped to 4.6% for the period ending December 31, 2004. This means PNB is borrowing cheap and lending at higher rates, thereby increasing its net income earned through interest. Ultimately, this results in higher net profits.

PNB expects to make a net profit of Rs 1,300 crore (Rs 13 billion) for the year ending March 31, 2005. This seems plausible given its net profit of Rs 850 crore (Rs 8.5 billion) as on September 31, 2004.

2. NPAs on the fall

What you need to understand: Non-Performing Assets refer to loans given by the bank where the repayment is delayed or doubtful and the chances of the borrower defaulting are high.

The NPAs have decreased from 5.5% in March 2002 to a miniscule 0.98% in March 2004.

3. Share price has risen

What you need to understand: The IPO price is what the bank issued when coming out with the initial public offering. The market price is the current price for which you can buy and sell the share.

When it came out with an IPO in March 2002, the price was Rs 31.

It rose to Rs 475 as on March 4, 2005. That is, the stock has appreciated by a whopping 1,432% in the last three years. That means an annual return of 477%.

On March 7, 2005, it reached an all time high of Rs 519. This means a return of 1,574%. That translates into annual returns of 524%.

Those buying the shares via the IPO will get it for much less than the current market rate (the upper limit is Rs 390).

What's not good about the PNB stock?

1. IFCI: An albatross around PNB's neck

What you need to understand: The Red Herring prospectus is a preliminary prospectus filed by the bank with the Securities and Exchange Board of India. This takes place when a company/bank wants to come out with an IPO.

All the above positives notwithstanding, PNB's profitability and business might suffer if the government succeeds in merging the Industrial Finance Corporation of India with PNB.

The Red Herring prospectus says: 'If IFCI is merged with us without our conditions being accepted, our business and financial condition would be adversely affected.'

As on March 31, 2004, IFCI had gross NPAs of Rs 11,960 crore (Rs 119 billion), while its assets stood at Rs 15,920 crore (Rs 159 billion).

2. Increase in floating stock

What you need to understand: Floating stock refers to the shares listed on the stock exchange. The balance shares held by the promoters or government will not be available for trading and do not comprise the floating stock.

Another negative that might impact PNB's stock post IPO is the increase in the floating stock.

As on December 31, 2004, Foreign Institutional Investors hold 3,75,28,972 shares that constitute 14.15% of the floating stock.

The Indian public holds a total of 95,87,953 (3.61%) of the floating stock.

As per Reserve Bank of India guidelines, FIIs together cannot own more than 20% shareholding in PNB's stock. The current holding of 14.15% being pretty close to the maximum cap allowed by the RBI, new long-term investors, like mutual funds and high net worth individuals, need to come in to absorb the nearly 150% rise in the floating stock post issue.

If this does not happen, the supply of the stock will increase, thereby dragging down the price (remember your economics, demand less than supply will cause the price to fall).

3. Valuations are a bit stretched

What you need to understand: The Earnings Per Share (EPS) is arrived at by taking the bank's net profit and dividing it by the total number of shares.

EPS = Net Profits/Total Number of Shares.

The price to earnings ratio is the market price of the share (here, we take the issue price of Rs 115 to Rs 130), divided by the EPS.

P/E ratio = Market Price/EPS.

PNB expects to make a net profit of Rs 1,300 (Rs 13 billion) crore for the year ending March 31, 2005. This seems plausible given its net profit of Rs 850 crore as on September 31, 2004.

As of today, the total number of shares issued by PNB stands at 26.53 crore (260 million). Post IPO, this number will be 31.53 crore (310 million), considering the fact that out of total issue of 8 crore (80 million) shares, 3 crore shares will be extinguished (PNB will repay an amount worth 3 crore shares to the government).

This works out to an EPS of Rs 41.23 (Rs 1300 crore (expected net profit for FY 2004-05)/31.53 crore (total number of shares post IPO).

At the market price of Rs 519 touched by the stock on March 7, 2005, and an annualised EPS of Rs 41.23, the PE ratio works out to around 12.58 times. Generally, a lower PE ratio stock is much sought after, indicating that there is room for growth (the State Bank of India's PE ratio is around 10).

Even though the valuations look a bit stretched at the market price of Rs 519, there should be no cause for concern as markets are re-rating the entire banking sector in the light of banking reforms proposed by Finance Minister P Chidambaram.

By and large, PNB is all set to become the next SBI of the Indian markets. And all those who are patient enough to wait till the India growth story reaches a matured level will benefit from this investment.

If you fail to get shares in this IPO, you can consider purchasing the stock at the current level. The best strategy then would be to accumulate the stock gradually, especially at times when its price declines temporarily.

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Excellent work! You have done good research and set the real facts so clearly. Looking forward to similar research on other stocks. What is your take on TISCO and Lumax industries for the medium to long term.


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