Bank of Baroda's Q2FY20 results (Neutral) - A soft quarter. Sticky watch list is a negative

Q2FY20 result highlights

• BoB reported PAT of Rs7.3bn in 1Q20 growing 396% yoy and 4% qoq. PAT was better than our estimate of Rs5bn led by higher treasury gains. We view this as a soft result with slippage and watch list remaining elevated, a sequential increase in SMA2 loans, a very high share of treasury gains and weak loan growth. NIM improvement was the key positive highlight.
• Total slippage of Rs72bn was higher than Rs65bn qoq. Fresh slippage was Rs60bn (56bn qoq) while addition to existing NPLs was Rs12bn of which Rs2bn was due to exchange fluctuation. More than 90% of slippage was from the watch list. While slippage rose qoq, reduction to NPLs was higher than slippage resulting in a small decline of 0.4% in NPLs. GNPAs stood at 10.25% versus 10.28% qoq. Key accounts that slipped were Sintex for Rs8bn, Reliance Home and Reliance Commercial for Rs17bn. Suzlon has not slipped and remains part of the watch list. Total corporate slippage at Rs48bn was substantially higher than Rs31bn qoq. The watch list stood at Rs145bn or 2.3% of loans. Despite slippage of Rs31bn from the watch list to NPLs, the watch list remains big compared to Rs165bn in1Q20. While Rs31bn slipped from the watch, Rs11bn was added. Additions to the watch list mainly came from the road sector where four projects were added. SMA-2 loans rose from 1.48% to 1.63% while SMA1 loans rose from 2.1% to 2.2%.
• Loans grew 3% yoy but remained flat qoq. Retail loans grew 16% yoy with home loans growing 13% while auto loans grew 33%. The bank has made incremental sanctions for agri, retail and MSME segments of INR180bn from loan melas organized in October  which will help improve loan growth in the quarters ahead.
• Non-interest income grew 41% yoy led by high trading gains of Rs9.4bn versus Rs1.4bn yoy and Rs3.4bn qoq. Core fee income declined 11% yoy and 2% qoq. Opex grew 11% yoy and 9% qoq.
• Including trading gains, PPOP grew 23% yoy and 25% qoq. But ex trading gains core PPOP was weak growing 4.5% yoy and 11% qoq.
• Credit cost rose 8% qoq to 2% from 1.8% earlier. PCR ex technical write-offs was 64.4% similar to 64.1% qoq
• CET1 improved 135bps qoq to 9.84% due to infusion of Rs70bn by GOI.

Valuation and view

We remain concerned about the bank’s sticky watch list and high level of corporate slippage. Slippage will remain elevated even in 3Q with the likelihood of DHFL and Suzlon slipping. Pending integration post-merger will keep opex high in our view. More importantly, uncertainty around who will be the new CEO is an added negative. There is still no clarity on who the new CEO of the bank will be or whether Mr Jayakumar who stepped down as CEO after his term ended would get an extension. If the bank continues to function without a CEO, major business decisions would be postponed leading to slower growth. With merger integration not fully through, CEO uncertainty and sticky asset quality, we downgrade TP to Rs110 from Rs135 earlier and maintain Neutral.