There is no doubt that financial Services and NBFC’s have been the leader of this Bull Market. IDFC is one of the newest bank and has recently completed its 1st Full year of Banking operations has done pretty well.
Let’s understand the larger trend that has emerged in the Private Banking space.
There have been different strategy era’s in the private banking space in the last 15 years which has resulted into wealth creation for Investors.
2003-2009 was about branch expansion and cross selling on services like credit card and auto loans which made the Emergence of HDFC Bank and ICICI Bank.
2009-2016 was about Kotak Bank, IndusInd Bank and Yes bank, where they emerged as the Fastest growing banks due to their focus on Niche Services and Digtal Foray.
2016 – 2020 the trend is clear i.e. its Digital Plus Rural. Till now banks have concentrated on 20% of population who has 60% of the countries net worth, however going forward the focus will be on the 80% population which doesn’t have access to credit facilities. With Digitalization, financial inclusion has become a possibility and the leaders in this pack could be IDFC Bank and RBL Bank.
10 Important Factors you need to know about IDFC Bank.
Factor #1 – About The Management Management – At Stallion Asset when we buy a Bank, We look at the Banker rather than bank only. Dr Rajiv lal is a veteran economist for last 30 years and has worked in various RBI Committees along with ex Governor Raghuram Raju, he has been a partner of popular private equity firm Warburg Pincus, head economist at Morgan Stanley clearly suggesting that he is a seasoned player who understands the game really well.
Factor #2 About the Bank – IDFC became a bank from an NBFC in October 2015, It offers wide variety of corporate and retail banking products and services to ~1.38 million customers. The Bank enjoys a presence of 74 Core Branches ; 47 ATM’s ; 8,600 points of presence covering 20 states, 150 districts, 19 major cities and almost 33,000 villages.
The bank is Divided into 3 Parts
1) Bharat Banking – (Rural Side of the Bank) –This is the Microfinance unit of the company which started after it acquired Grama Vidiyal Micro Finance and has a unique outreach model to cater to local consumers. It has its branches built in difficult geographies and it has a unique outreach servicing model focused on financial inclusion. IDFC has acquired 12 Lakh customers in a small timeframe of 1 year.
2) Bharat Plus – (Digital urban focused side of the Bank) It primarily caters to the needs of mass affluent (Salaried class) & affluent segment (self employed) business banking segment. The Bank has acquired 1.4 Lakh Customers since inception, out of which 20,000 are digitally acquired.
3) Wholesale – This is the legacy exposure of Infrastructure loans the Company had before it became a bank. The Percentage of Infrastructure loans have come down from 75% to 51% in FY2017 after 1.5 years of commencement of bank.
Factor #3 -Branch Light and Asset Light Business Model. –
IDFC bank is the bank of the future is focusing more on technology and partnership and rely less on branches. Currently it has 74 Branches under its network likely to go up to 200 Branches by 2020 and corporate Business Correspondents will go up from 350 currently to 1000 by 2020. Further aggressive use of micro ATM’s to 100,000 touch points from 8600 Currently & is expected to make en-roads in making banking simple and accessible, anytime and from anywhere along with Bank focus on serving the rural underserved communities & self employed. The average break-even of new branches is 4-6 months, the lowest in the industry.
Factor #4 – Impressive first Full Year of Operations – There are only a few banks that become profitable in the first year of their operations since a lot of the cost are front loaded. Since IDFC Bank had a ready made loan book of Infrastructure loans, this helped it to be profitable in the first year Itself. The Bank recorded a net profit of Rs. 1,020 crore for FY17, delivering a 25% growth in net profit. Net interest income improved 20%, while the cost-to-income ratio was steady at 54%. Fee income has continued to increase at a healthy pace of 26%. The Balance Sheet grew y-o-y by 35% to 112160 Cr in Mar 2017.
Factor #5 -Growth Without Equity Dilution – Capital Adequacy Ratio stood strong at 18.9% with Tier I capital ratio at 18.5%. The bank does not plan to raise Tier I capital atleast for the next 2 years. The comfortable capital position provides healthy support for expanding loan book at a strong pace. The bank had a CASA of only 4% in FY2017 which the company has guided to Increase to 15%, which will decrease cost of funds.
Factor #6 – Selling out Legacy Loans – The bank sold its legacy infrastructure loans of Rs 2000 Cr net of provisions in Q4FY17 to ARCs by way of security receipts. As a result of this sale, the Gross NPA levels reduced to Rs 1540 Cr (3%) in Q4FY17 from Rs 3590 Cr (7%) in Q3FY17. The net NPA levels stood at Rs 580 Cr (1.1%) in Q4FY17 as against Rs 1250 Cr (2.6%) in Q3FY17. Profitability wont be impacted in near future since management has provided adequate provisions for the stressed assets.
Factor #7 – Vision 2020 – The management has given aggressive guidance and is on the mission to transform the bank.
Factor#8 – Risks – The company is investing a lot of money in Microfinance segment and we at Stallion have been bearish on that part. We Believe that Loan Waiver is a New Normal and will continue happening for next two years until 2019 Elections Atleast.
The Company needs to show its best in digital platforms, a place where RBL is clearly winning in all fronts. Kotak has come out with 811, and has guided to acquire 1.5 crore customers.
IDFC doesn’t have the brand name yet, but with Mr Rajiv Lal at the forefront you can Expect the Unexpected. They have guided for atleast one acquisition which is very risky as valuations of banks ain’t cheap and the options available are South Indian Bank and Karnataka bank for them.
Factor #9 – Valuations- IDFC has a book value of 43/Share and Adjusted Book value of 41/Share i.e. it trades at 1.3x P/B . IDFC has a Market cap of 20,000 crore and did Earnings of 1020 crores i.e. trading at PE of 20 times. The valuations are reasonable but only if they can reach their 2020 target without screwing up in the acquisition, microfinance portfolio, they will get higher valuation. CASA growth is also very important which stands at 4% currently (Guided 15% in 2020) as cost of capital decreases with increase in CASA.
Factor #10 – Stallions View and Conclusion – At Stallion Asset We do understand that Rural plus Digital is wealth where wealth will be created. IDFC is reasonable at 1.3x Book especially after most legacy loan issues are now cleared but the story is not very clear as the bank is only 1 year old. We need to understand that there are many Small Finance banks (Rural Space) coming in as well as competition from payment banks (Digital Space). IDFC Bank are targeting 1 crore customers by 2020 which is a tall task but have an amazing management team. Most loans given out in microfinance division are subprime loans and are risky.
IDFC Bank is definitely not a 1 year story but a 5 year story and if it plays out, you can expect a 3-4-5x returns, and worse case you can lose 30% from these levels. We at Stallion like more clarity before investing especially because IDFC will be acquiring a bank, and expected volatility in microfinance division;things are not very clear now, probably we will have to pay a higher price for clarity, but we are comfortable to pay up a little more for certainty.
Disclosure – Amit Jeswani and Family have no Positions in it. This is not a advise, please use this for education purpose only.