Tuesday, May 24, 2011

The SBI Triplets - will their value be discovered?

A big hello to all!
State Bank of India (SBI) has 3 listed subsidiaries; State Bank of Mysore (SBM, 92% holding), State Bank of Bikaner and Jaipur (SBBJ, 75% holding) and State Bank of Travancore (SBT, 75% holding).
In this post, I am not analysing them as 'banks' per say. I am analysing them more from a special situation point of view. In case you would like to know more about analysing banks, do refer to two very good posts by Rohit here and here.

The basic funda
SBI has 5 subsidiaries at present, 3 listed, 2 unlisted and wholly-owned (another 2 have already been merged). These subsidiaries are growing very well, with consistent high increase in book value over the years.
In the recent past, SBI management as well as the Government have been making announcements indicating their seriousness in merging all its subsidiaries with itself. linklinklink and link. For people who are not 'linky', what these articles and announcements broadly state is that over the next 18-24 months, SBI intends to merge all the 5 subsidiaries with itself, starting with the wholly owned ones and then the listed ones.

The opportunity (?)
There is a mismatch between the valuations of SBI and its listed subsidiaries. The possible opportunity lies during the merger of SBI's listed subsidiaries with itself. Let us see if this opportunity exists.

A basic snapshot of SBI and its 3 listed subsidiaries reveals the relatively low valuation of the subsidiaries when compared with SBI itself. Of course, the triplets should be valued lower than SBI, considering their smaller size and reach. Also, I have not taken SBI's book value, adjusted for its various investments. The subsidiaries are being made a bit bigger through rights issues, before they are merged with SBI. SBM and SBBJ rights issues are over and SBT rights issue is in the pipeline.

The big question - is there money to be earned during this merger? At what valuations will the merger happen?
Well, let us see what happened in the merger of State Bank of Indore (SBIndore), just for reference.

The merger of SBIndore happened in the second half of 2010. The swap ratio was fixed at 34 shares of SBI for every 100 shares of SBIndore.
I managed to get my hands on SBIndore 2010 AR. At the time of the merger, the book value of SBIndore was approximately Rs.1100, while that of SBI was Rs.1191 per share. The stock price of SBI at that time was Rs.2100.
So, on a book value basis, SBIndore shares were valued at Rs.405, a discount of 63% to book value!!!
On a stock price basis (not really useful, since only SBI is listed), SBIndore was valued at Rs.714, a discount of 35% to book value!!
Now, SBIndore was wholly owned, so this is not really representative of what the listed subsidiaries will be valued at. But to me, it gives a clue that one should not assume an extremely attractive valuation when the merger happens. The current cheap valuation of the listed subsidiaries correctly reflects this perception, imho. So, at present price, I do not see a very attractive opportunity arising from the merger, which is still some time away.

What would I do?

  • Though these banks are valued cheap, I expect them to remain cheap till clarity emerges from SBI as to the time and valuation of the mergers.
  • I would prefer to commence buying into these subsidiaries at 25-30% discount to their book values at least. I expect them to valued at least at book value during the merger process.
  • I would view SBT differently, purely from the rights issue perspective. My experience in SBBJ rights issue has been good and possibility of higher-than-eligible allotment exists.

The risks
  • Delay in merger proceedings: Till now, there is no 'commitment' from SBI as to the timing of the merger. All announcements are purely indicative.
  • Erosion of the subsidiaries' book value themselves: Primarily due to pension and gratuity liabilities. The notes to the recent results do give indication of the same.
  • Erosion in SBI's performance and book value: As we have seen in the recent results, this is quite a risk. If SBI's own book value is impacted, leading to a derating in the stock and slide in the stock price, the merger would not give high returns for subsidiaries' shareholders.
  • Opposition from employees: This is quite a black-swan type event! However, there was no opposition during the SBIndore merger, where 90% employees consented to the same.

To conclude, I do not find the SBI triplets to be really attractive investment opportunities at present. However, I would keep them in my watch-list and wait for proper opportunities, if they come by..

Cheers and happy investing!!


Anonymous said...

imho, sbi is sbi...it'll always be valued differently and better than any other bank, even its subsdiary.
Are the chota sbi banks good opportunities by themselves?

Neeraj Marathe said...

Hi Anonymous,
I completely agree with u. Thats why i wont rush to buy the chota banks even though they r at lower valuations (coz they deserve to b at lower valuations!)
By themselves, i do not think they are gr8 opportunities at present market cap.

oruaann said...

Hi Neeraj,
I have been looking for some material on the potential swap ratio if and when the triplets are merged.
Found yours and read it with interest.
What is your view now, 2nd Dec 2011, where the SBBJ is quoted at 340 against 2011 BV of 570 and 2012 expected BV of 630-650!
Also the dividend yield at 5% is attractive!
Any thoughts?

Neeraj Marathe said...

Hi Oruaann,
Totally agree with your observation. SBM is infact at 0.5 times book.
There could be additional NPAs coming due to power and infra sector exposure, hence dividend may be hit, lets see. Still, the valuations are very low. I have bought a bit of SBM recently.

KKR said...

Dear Prof.NM ji,
Kindly detail your stand on banking sector. Especially PSU.
Triplets are showing enormous margin of safety with P/Bv of 0.5 with 5% div Yield. What is your view presently.

PS: i hold KVB and PSB.

Neeraj Marathe said...

Hello Karthik,
I do not track banks, neither do i trust or understand the numbers much. I do not have a single bank in my portfolio, other than special situations.
So cant comment much on it really..

Anonymous said...

Hi Neeraj,Where do you stand on this now that merger is announced?

Neeraj Marathe said...

Merger is not announced..intention to merge is announced!!! Long way to go before the actual merger..so no stand as such