Market unaffected despite nominal interest rate hike

The market remained up for yet another week running, with both indices rising to new highs on Friday. The indexes remained relatively flat for most part of the week, amid profit taking by investors however, gained substantially during Friday.

The ASPI peaked, breaking the 1900 point barrier on Friday, closing the week at 1918.6 points, up by 1.35% or 25.5 points compared to the previous weeks closing levels. The MPI peaked at 2688.8 points on Friday, up by 1.07% or 28.4 points.

Renewed interest was seen in Nawaloka, LIOC and SLT counters. Nawloka saw a sizable 14.3 million shares trading, making it the highest traded stock.

The counter contributed Rs.69.6 million towards turnover, trading at a high of Rs.5.25 and a low of Rs.4.50 per share. The week saw LIOC share price appreciate by 4.3%, before closing at Rs.55. The interest in LIOC share comes amid the counter being included in the internationally renowned Morgan Stanley Standard Index for emerging markets.

LIOC counters became the highest contributor towards the weekly turnover, contributing a thumping Rs.307 million. The counter was seen trading at a high of Rs.55.25 and a low of Rs.52.50, with approximately 5.7 million shares trading. Renewed interest on SLT led to around 3.4 million of its shares trading. The share price remained unchanged, closing at Rs.18. SLT managed to contribute Rs.83 million towards weekly turnover.

The total turnover stood at Rs.3.38 billion, resulting in an average turnover level of Rs.675.9 million. Comparing average turnover levels week on week, the daily average showed a notable reduction of Rs.181.9 million or 21.2%. JKH and Aitken Spence were also among the major contributors. While the JKH counter contributed around Rs.263 million towards turnover, the share price adjusted favourably (to Rs.132 per share) to the 1 for 5 bonus issue, which became ex-bonus last Wednesday. Aitken Spence saw its share price appreciating by 2.4% closing at Rs.409 per share.

A comparatively meager 516,800 shares of Aitken Spence traded contributing a sizable Rs. 206.8 million towards turnover. Blue Diamonds, saw its non voting and voting shares trade in drastically lower volumes of 4.4 million and 2.8 million, compared to 30 million and 35 million shares traded the week before.

The week saw foreign investors becoming net sellers standing at Rs.112.9 million. Foreign purchases stood at Rs.432.6 million, while foreign sale was Rs.319.7 million.

Foreign participation was at 11.1% of total activity. Among the most traded stock for the week was Nawaloka, Dankotuwa Porcelain, Grain Elevators, LIOC and Ceylon Leather.

Short-term view on trading counters

Market remained active despite concerns of overheating from selected parties. However, increased commitment from the government towards the peace process and the real negative returns in the economy is likely to attract more investors to the market, thus technically the positive trend is expected to continue in the near term. Over the last few weeks, the index has been continuously correcting itself within the same days trading and therefore we feel that another faster correction is unlikely in the short run.

We advise the investors to take a short term view on trading counters and book profits wherever possible, but insist to stick to the fundamentally sound counters when investing for medium to longer term.

National Development Bank (NDB) is gradually implementing its five year growth plan to be among the leading financial powerhouses in the country.

Management expressed their strong commitment towards improving quality of services and steady expansion, while maximising the synergies.

NDB's business model focuses on five main areas namely; Small & Medium Enterprises (SME) banking, Corporate banking, Consumer banking, Investment banking and Insurance.

At a recent company visit, management noted that the merger of NDB and the NDB Bank would probably take place in August 2005 after the parliament approved the consolidation in December 2004. However, the merger requires obtaining further approvals from the Monetary Board, Finance ministry and shareholders of both banks.

The merger between the NDB Bank and NDB is likely to take place in August; the required Parliamentary approval took a much longer time than Originally anticipated. However, according to the management the merger could take another 2-3 months before becoming a reality since NDB has to take further approval from the Monetary Board, Finance Ministry and shareholders of both banks. The merged entity will operate under the name NDB Bank, and we believe that the share swap would be structured based on an asset-based valuation.

The NDB Bank had a Tier 1 capital of only Rs.1.1 billion at the end of FY2004, below the required minimum capital requirement of Rs.2.5 billion.

However this will not become an issue for the merged entity as the Tier 1 capital of NDB stood at Rs.8.38 billion at the end of FY2004, well above the Rs.2.5 billion capital requirement.

NDB Bank has expanded slowly but steadily over the past three years and now possess 20 branches (including 13 NDB branches), with each branch comprising a workforce of 8 on average. Management expects to increase the branch network of the merged entity to 40 by mid 2006, enabling the bank to reach to its expanding SME and consumer customer base. NDB and NDB Bank both operate under the same information technology platform "Flex Cube" which enables the two entities to provide an enhanced service to the customers. (NDB's project lending business is operating on a "Globus" platform).

Management pointed out that the Bank has invested heavily on training staff and on core IT platform issues during the past 3 years. However, the management is targeting a ROE in excess of 20% in the medium term. Furthermore, Company believes that an optimal level for the groups' cost to income ratio is around 40%- 45% after three years from now.

We believe that NDB has a good chance of achieving this target as the benefits of investments under the current 3-5 year plan is expected to materialise in the medium term. However, we feel that the success story would be highly sensitive towards both the macro economic environment and the market conditions, which are exposed to considerable level of uncertainty.

NDB had Non Performing Loans (NPL) amounting to Rs.2.4 billion at the end of FY2004, accounting for 7.4% of the gross loans and 1% of net loans.

However, the management is keen on bringing down the NPLs to Rs.1.7 billion by the end of FY2005. The Company has a specialised team working on the NPLs and their rewards include a performance based component.

During FY2004 the unit managed to recover Rs.204 million of already written off loans and management expects to recover a similar amount during FY2005.

Meanwhile, in FY2004 the loan book of the group grew by a sharp 52%, mainly due to the consolidation of the NDB Banks loan book. However we project the loan book to grow at a moderate pace of 14% and 16% in FY2005 and FY2006 respectively. The management feels that the challenges ahead for Sri Lankan banks include competition from regional banks and local banks are to remain competitive in this environment they will have to meet the global standards. Some regional banking giants normally operate aggressively with low interest spreads (around approximately below 3%) and a cost to income ratio of around 40%. The entrance of such a bank could lead to fierce competition within the Sri Lankan banking sector, which operate with interest rate spreads of around 4%- 5% and cost to income ratios in the range of 55% - 65%.

We see the 3-5 year plan adopted by NDB enabling the Bank to grow with a relatively lower cost to income ratio, compared to its peers.

NDB has outperformed the CSE from 1999 to 2003, but like many blue chips, stock under performed the market in 2004, with a beta of 0.77. The management feels that the best strategy to improve the performance of NDB share is to generate quality earnings over a period of time.

We expect NDB to reap the benefits of the current remodeling process in the medium term to long term and to remain among the few financial powerhouses in the country. Considering the diversified nature of the group and the proactive planning, we place our optimism on the stock in the long term. Therefore we maintain our recommendation, a Long Term Buy.

Caltex 1Q results FY2005

Caltex recently released its first quarter results for FY2005, posting a net profit of Rs.161.3 million, which showed a notable reduction of 21.8% compared to the corresponding period of the last financial year. The reduction in net profits was mainly due to the increase in oil prices, resulting in increased cost of sales and a reduction in finance income with the sale off of short term investments.

The turnover of Caltex stood at Rs.1.28 billion showing an encouraging 16.7% growth for the first quarter 3 months. The company attributed the increase mainly to a volume growth and a 10% price increase, which was revised during the latter part of last year.

Comparing to the 4th quarter of the previous financial year, where gross margins stood at 17.9%, we can identify a Quarter on Quarter (QoQ) improvement in gross margins. The improvement can be attributed to the rupee appreciation seen from January onwards.

The finance income for the three months period stood at Rs.21.9 million showing a 56.8% reduction compared to the last financial year. We expected finance income to reduce substantially due to Caltex selling off the major part of its short term investments during last year.

Our forecasts project earnings for the full year of FY2005 stand at Rs.715 million resulting in a EPS of Rs.11.92 and a PER of 5.4x.

Commercial Bank results for 1Q FY2005

Commercial Bank released its results for the 1Q of FY2005 recording an 11% increase in profit attributable to ordinary shareholders to Rs.293 million. Total interest income showed an increase of 42% to Rs.2.83 billion, due to an impressive 27% YoY growth in the loan book.

The considerable increase in expenses, resulted an increase in the cost to income ratio to 63%, 1% higher than 1Q FY2004 ratio. We project a 12.6% growth in earnings to Rs.1.68 billion during FY2005, with an EPS of Rs.24.18, resulting in forward multiples of 10.8x. The earnings for FY2006 are expected to grow by 7.6% to Rs.1.81 billion, reducing the PER to 10.1x. We rate Commercial Bank a Buy.