Bandhan Bank IPO – The New MFI Leader

  • Date 14th Mar; IPO Opens 15-19th Mar at Rs. 370-375
  • Large Cap: Rs. 44,780 cr. Mkt cap
  • Industry – Commercial Bank
  • Valuations: P/E 40.2 times TTM, P/B 4.9 times (Post IPO)
  • Advice: SUBSCRIBE 
  • Overview: Bandhan is a commercial bank focused on serving underbanked and underpenetrated markets in India. Bandhan Bank has the largest microfinance loan portfolio, with Rs. 21,380 crores as of FY17. Bandhan bank has a great brand recall, strong financial performance, good asset quality and an experienced management. It is the new MFI loans leader. Presence in underbanked East and NE regions and universal bank structure are key strengths. At a P/B of 4.93 times (post IPO), the valuation look expensive. However Bandhan has a focus and a leadership position. It also operates in niche geographies.
  • Risks: 1) Economically and politically sensitive sector 2) Significant exposure to unsecured loans.
  • Opinion: Investors can SUBSCRIBE to this IPO with a 2 year perspective.

Related Reports:

Here is a note on Bandhan Bank (Bandhan) IPO.

IPO highlights

  • The IPO opens: 15-19th Mar 2018 with the Price band: Rs. 370-375 per share.
  • Shares offered to public number 11.92 cr. The FV of each is Rs. 10 and market Lot is 40.
  • The IPO in total will collect Rs 4,473 cr. while selling 10% of equity.
  • The promoter & promoter group owns 89.6% in Bandhan which will fall to 82.2% post-IPO.
  • The offer will be both a sale by current shareholders (OFS) and also by issuing fresh shares. The OFS proceeds would be Rs. 810 cr. at UMP and fresh issue size is Rs. 3,662 cr.
  • The selling shareholders are IFC and IFC Investment Co. They are partly exiting through this IPO. The IPO is being launched as Bandhan needs to comply with the RBI’s direction of listing publicly and reducing promoter holding to 40% within the first 3 years of operations.

jainmatrix investments, bandhan bank ipo

Exhibit 1 – IPO Selling Shareholders

  • The IPO share quotas for QIB, NIB and retail are in ratio of 50:15:35.
  • The unofficial/ grey market premium for this IPO is Rs. 30-35/share. This is a positive.

Introduction

  • Bandhan is a commercial bank focused on serving underbanked and underpenetrated markets in India. They have a universal banking license that permits them to provide banking services pan-India across customer segments. They currently offer a variety of asset and liability services designed for microfinance (MFI) and general banking, as well as services to generate non-interest income.
  • Revenues, NII and profit for FY17 were Rs. 4,320 cr., Rs. 2,403 cr. and Rs. 1112 cr. resp. It has 27,176 employees. 88% of their gross loans were micro loans (FY17). 96% of their loan book is unsecured.

jainmatrix investments, bandhan bank ipo

Fig 2a – Loan products

jainmatrix investments, bandhan bank ipo

Fig 2b Gross Loans and Fig 2c Loans Segments

jainmatrix investments, bandhan bank ipo

Fig 3a Regions and Fig 3b Segments FY17

  • Bandhan Konnagar was formed in 2001 as a NGO providing microfinance services to socially and economically disadvantaged women in rural West Bengal. It later became Bandhan Financial Services Ltd and subsequently got the conditional banking license in 2014.
  • Bandhan operated across 33 States and UT’s through 887 branches, 2,633 doorstep service centres and 430 ATM’s. The gross loans of Bandhan are displayed in Fig 2b and 2c. 58% and 23% of the loans were from East and NE regions resp. for 9M FY18. Hence there is a geographic concentration risk.
  • Bandhan generates 87% of revenues from retail banking business. See Fig 3(b).
  • Total borrowings were Rs 1,330 cr. (9M FY18) and the cost of borrowings was 7.9% (FY17).
  • Leadership is Chandra Shekhar Ghosh (MD & CEO), Sunil Samdani (CFO) and Biswajit Das (CRO).

News, Updates and Strategies of Bandhan

  • IFC had invested in Bandhan Feb 2016 at Rs 42.93 so for their partial exit they will get 7.7X returns.
  • The bank’s loan book grew at 51% CAGR over past 17 years, which slowed to a still strong 33% by 9M FY18. As per mgmt., in next 2-3 years a 33-35% growth in advances can be achieved.
  • RBI’s guideline is to reduce the promoter’s stake to 40% within 3 years from the date of start of business as a bank. Bandhan received the nod in June 2015, so this timeline is quite close.
  • Bandhan’s business strategy is as follows:
  • To maintain focus on micro lending while expanding further into other retail and SME lending.
  • To strengthen their liability franchise in order to provide a stable, low-cost source of funding.
  • To enhance their digital platform to improve customer acquisition and retention and reduce costs.

Micro Finance and Banking Industry Outlook in India

  • Financing needs in India have risen along with economic growth over the past decade. By complementing banks and other financial institutions, NBFCs help meet this need.
  • MFI is a volatile sector that can be badly affected by economic and political events. The Bank structure is better to house MFI activities, as can be seen by Bharat Financial merger with IndusInd Bank, and SFB license to several players by RBI. Bandhan has a good advantage here.
  • Bandhan has the largest overall gross micro-banking asset portfolio, with Rs. 21,380 cr. as of FY17. Amongst the banks (private as well as public), the micro loans given by Bandhan are more than 3 times the next player, SBI.
  •  It has an estimated 15-20% share in MFI.
  • Penetration of Microfinance is low in NorthEast India, which can be to Bandhan’s benefit. See Fig 4.

jainmatrix investments, bandhan bank IPO

Fig 4 – Micro Finance Penetration (Source: The Bharat Microfinance Report 2017)

  • The gross loan portfolio (GLP) of MFIs grew at 51% CAGR from FY13 to FY17. This growth was fuelled largely by the growth in GLP of some large players, such as Janalakshmi Micro-finance, Bharat Financial Inclusion, Ujjivan Financial Services and Satin Creditcare Network.
  • Banking credit growth slumped in the previous 2 fiscal years owing to asset quality and capital adequacy issues. However, as per CRISIL Research bank credit will rise owing to improvements in working capital demand, marginal pick-up in private investment, increased govt. spending on the infra, improvements in commodity prices, and expectations of a good monsoon season.
  • Though demonetisation affected the retail sector’s credit performance in FY17, which dropped 300 bps from FY16, growth remained higher than industrial and agricultural credit growth in FY17. The retail segment represents more than one-fifth (23% as of FY17) of overall banking credit, and in turn, derives a major share from housing finance, which accounts for 53% of retail credit by banks as of FY17. So the retail segment was negatively impacted by the demonetisation-driven slump in the real estate sector. Retail credit grew 16% YoY, while industrial credit contracted YoY by 2%.

Financials of Bandhan Bank

  • Bandhan’s revenues, NII and PAT over the years are in Fig 5.
  • Previous data is not shared as its business model changed from an NGO to NBFC to a bank.
  • Bandhan had a RoE of 25.01% and RoA of 4.5% in FY17. This is excellent as the return ratios are high and amongst the best in the industry. It has not declared any dividends in the last 5 years.

jainmatrix investments, bandhan bank

Fig 5 – Financials (FY18 is projected by extrapolating 9M results)

  • NIM’s for Bandhan have declined in the last few years, however the NIM’s were high at over 11% in FY16 which has gradually declined to 9.86% in 9M FY18. Currently, it earns a high yield on loans, however as the bank expands its loan portfolio to other segments and into general banking there could be significant drop in the NIM.
  • The gross loan and disbursement growth slowed in FY17 due to demonetization related issues.
  • Bandhan has a robust asset quality. The GNPA as on 9M FY18 stood at 1.67% whereas the NNPA’s stood at 0.8%. The NNPA’s for FY17 were as low as 0.4%. Priority Sector Loans constitute 31.6% of the total advances as of 9M FY18. 97.6% of the GNPA’s are from the PSL loans for Bandhan Bank.
  • As a universal bank, Bandhan has a CASA ratio of 33.22%. This is fair, and should grow in future.

Benchmarking

We benchmark Bandhan against peers, See Exhibit 6.

jainmatrix investments, bandhan bank ipo

Fig 6 – Benchmarking

  • Majority of the peers have reported losses in 2 of last 4 quarters. Prices have however kept up well.
  • PE of Bandhan is the lowest in the peer group. However it is low because the peer group companies have depressed earnings reported in the last 4 quarters.
  • In terms of PB, the valuations are in the mid-range at 4.93 times post IPO. The valuation looks expensive considering that 96% of Bandhan’s loan book is unsecured and they would be entering new categories which have lower margins.
  • The D/E ratio at 0.15 (diluted post IPO) is the best and lowest and hence gives Bandhan scope to aggressively lend. The CAR of Bandhan stood at 26.4% for FY17 as against RBI’s minimum requirement of 15%, which indicates that it is adequately capitalized.
  • The RoE is the highest at 25.01% and Bandhan has the lowest GNPA’s (9M FY18) amongst its peers. This is a positive. Bandhan also has the lowest cost to income ratio of 36.3%.

Positives for Bandhan bank and the IPO

  • As a universal bank, Bandhan has flexibility to operate across multiple product lines and with few restrictions. It is the leader in the MFI industry as other players are Small Finance Banks or NBFCs.
  • World Bank arm International Finance Corporation (IFC) is an investor/ promoter of Bandhan.
  • Bandhan has a strong presence in East & NE India, which are more agriculture and agro-commodity intensive regions. We feel it may have high scope to grow and penetrate deeper here.
  • Bandhan’s growth has been achieved despite difficult conditions in India’s MFI and banking industry. Events like the crisis in the southern state of AP in 2010, demonetisation in late 2016 and farm loan waivers, were challenges for the banking industry. But Bandhan did well.
  • In MFI, achieving volumes of loans is a powerful advantage as the costs of reach and distribution are shared across many loans. With a good marketshare and presence in East & NE, it has an advantage.
  • Bandhan has a large low cost distribution network. They operate in 33 States and UTs in India, reaching 1.2 crore customers. Bandhan’s distribution network is relatively low cost because of its ‘hub and spoke’ model of using DSCs and associate bank branches, and focus on tech initiatives, which reflects in their operating cost-to-income ratio of 35.4% & 36.3% for 9M FY18 & FY17, resp.
  • The asset quality of Bandhan is stable with NNPA’s at 0.80% for 9M FY18. Financially the firm is well managed with excellent return ratios, good margins and tight controls on costs. This is a positive.
  • Bandhan has a good management team. The founder, MD & CEO, Mr. Chandra Shekhar Ghosh, has 37 years of experience in Indian MFI. Members of their senior management have a track record that combines professional and entrepreneurial skills in microfinance and banking, with average 23.9 years of experience in finserv. 8 of 12 directors on the board are Independent Directors.

Risks and Negatives for Bandhan and the IPO

  • The valuations are on the higher side in terms of P/B at 4.93 times (adjusted post IPO).
  • Bandhan has a limited financial history and a rapidly evolving business which makes it difficult to evaluate their business and future operating results.
  • Bandhan’s micro finance loan portfolio is not supported by any collateral that could help ensure repayment of the loan, and in the event of non-payment by a borrower of one of these loans, they may be unable to collect the unpaid balance.
  • Bandhan handles cash in a high volume of transactions occurring through a dispersed network of branches and DSCs; as a result, they are exposed to operational risks, including fraud, petty theft and embezzlement, which could harm financial position.
  • Bandhan’s business relies significantly on their operations in the East and NE states, and any adverse changes in the conditions affecting these States can adversely impact their business. As of FY17, roughly 81% of Gross loans were located in such areas.
  • The microfinance sector is sensitive to economic, political and weather events

Overall Opinion and Recommendation

  • Microfinance sector carries out the critical role of financial services penetration into rural India. MFI’s have been operationally under stress since 2017 due to demonetization and GST rollout. The earnings were impacted due to a spike in defaults and business disruption. However the current signs are that this impact is over and the rural economy & demand is regaining strength.
  • Bandhan bank has a great brand recall, strong financial performance, good asset quality and an experienced management. It is the new MFI loans leader.
  • Presence in underbanked East and NE regions and universal bank structure are key strengths.
  • At a P/B of 4.93 times (post IPO), the valuation look expensive. However Bandhan has a focus and a leadership position. It also operates in niche geographies.
  • Opinion: Investors can SUBSCRIBE to this IPO with a 2 year perspective.

Disclaimer

This document has been prepared by JainMatrix Investments Bangalore (JM), and is meant for use by the recipient only as information and is not for circulation. This document is not to be reported or copied or made available to others without prior permission of JM. It should not be considered or taken as an offer to sell or a solicitation to buy or sell any security. The information contained in this report has been obtained from sources that are considered to be reliable. However, JM has not independently verified the accuracy or completeness of the same. JM has no stake ownership or known financial interests in Bandhan or any group company. Punit Jain intends to apply for this IPO in the Retail category. Neither JM nor any of its affiliates, its directors or its employees accepts any responsibility of whatsoever nature for the information, statements and opinion given, made available or expressed herein or for any omission therein. Recipients of this report should be aware that past performance is not necessarily a guide to future performance and value of investments can go down as well. The suitability or otherwise of any investments will depend upon the recipient’s particular circumstances and, in case of doubt, advice should be sought from an Investment Advisor. Punit Jain is a registered Research Analyst under SEBI (Research Analysts) Regulations, 2014. JM has been publishing equity research reports since Nov 2012. Any questions should be directed to the director of JainMatrix Investments at punit.jain@jainmatrix.com.

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Investment Outlook – Short Term Pain, Medium Term Gain

  • 22nd Nov 2016
  • Report Type: News Analysis

Recently the global markets have been very volatile and the same is being witnessed in the Indian markets as well. The Sensex has fallen around 12% from peak of 29,045 on 8th Sept, after a 26% rise since the 2016 budget. Here are the key events which have likely affected the mood of the market.

I) Demonetization:

The high value currency notes of Rs 500 and Rs 1000 were demonetized on the 9th of Nov, 2016. Just overnight 86% of cash in INR has become obsolete. This measure was taken by the govt. to 1) tackle the widespread presence and hoarding of undisclosed (black) money and 2) destroy the counterfeit notes in the economy. A 50 day window till 30th Dec was given by the govt. to public to deposit or exchange these high value notes.

  • Per estimates about Rs 14.73 lakh crores is in the form of 500/1000 Re notes, and these will be replaced with new Rs 500/2,000 notes which are being distributed by bank branches /ATMs.
  • On 22nd Nov, the RBI eased NPA recognition norms as many SMEs, Agri and other business making cash based settlements/transactions could face repayment issues. RBI has given additional 60 day limit for Banks and NBFCs to recognize loans as NPA over and above standard regulatory limits for dues payable between 1st Nov – 31st Dec 2016 in cases where sanctioned limit is below Rs 1 crore.

The Cash categories are:

  1. Daily cash for individuals and businesses: There is a short term pain as people have to wait in queues outside banks and ATMs to deposit, withdraw or exchange money. We expect this to continue in urban areas for 10 days and semi-urban/ rural for another 2 weeks. Already limits are being raised for individuals & businesses. Online /mobile payments are gaining acceptance. New bank accounts will grow; usage of Jan Dhan Yojana accounts has begun.
  2. Black/ undisclosed cash: Over many years, cash has become a massive store of wealth in India. The reasons were convenience and lack of bank accounts on one side, and to avoid tax, under-declare property values, run illegal business, naxalite movement, etc. on the other. It is estimated that 25-40% of above 14.73 lakh crore of cash is undisclosed. This money is expected to either 1) be deposited in bank accounts and declared, accruing taxes and converting to white, 2) Some of this may leak out to other asset classes like currency, gold, real estate, forex and other people’s bank accounts 3) Be destroyed so as not to leave a trail.
  3. Counterfeit / fake currency: There is a reported presence of fake currency in the system, which is debasing the banking operations. By collecting all high value notes and issuing new ones, these will be flushed out of the system. It’s difficult to estimate this type of cash.
JainMatrix Investments

Fig 1: Ring out the Old, Ring in the New

Impact: For individuals and in business, there will be some disruption before we limp back to normalcy. This will be worse in rural areas with poor banking penetration.

  • But 30 years of cumulative black money will in one stroke be converted or destroyed.
  • This cash exchange, coupled with GST, may radically alter consumer behavior. Bank accounts usage will multiply, as also money transfer facilities and transparency.
  • The govt. is trying to switch from equilibrium in Tax Non-compliance to one in Compliance. In other words break a vicious circle of saving in black money to a virtuous circle of white money.
  • The market sentiment in the short term is affected as several cash oriented sectors may be impacted. Real estate, jewellery, microfinance / NBFC and retail operations may be affected. However the new 22nd Nov rule will ease liquidity for NBFCs and allow operations to stabilize.
  • Data available today indicates the money deposited with banks by customers crossed Rs 6 L crore from Nov 10, after demonetization. Withdrawals, including exchange of old notes, were above of Rs 1.35 L crore (per IBA). We estimate that in another 10 days, the depositing should be complete. The withdrawal / exchange of notes may take 2-3 weeks more to meet daily cash needs.

II) US election results:

Donald Trump won the 45th US Presidential elections on the 9th Nov, 2016. This was against the market consensus of various polls indicating a win for Hillary Clinton, thus shocking many Americans and investors worldwide. After the initial surprise, the US markets stabilized.

Impact: We expect the US policies to change once Trump takes over presidency in Jan 2017. The immigration, foreign business treaties, tax rates and a host of domestic policies may change. The impact on Indian investors too will unravel over 6 months. There is a higher uncertainty in US markets. Some FIIs are pulling out funds from Emerging Markets in a Risk off move. However after an initial knee-jerk reaction, this may not continue.

III) Tension along the India – Pak Border:

Indian stock markets fell almost 2% on 29th Sept, 2016 after the Indian army conducted “surgical strikes” on terror launch pads across the Line of Control (LoC) in Jammu and Kashmir amidst rising tensions between India and Pakistan. Thus the Indian side has taken a firm stand against terror from Pakistan. This event has been followed up with many incidents of firing on both sides and disruptions along the border.

Impact: We feel that there will be ongoing tensions between India and Pakistan. However a war like situation might not come up. Though the issues are unlikely to be solved soon, negotiations and dialogues should happen. Any aggressive attacks from either side could lead to a short term fall in markets. There is a higher uncertainty.

IV) Tata Group Clash:

The Chairman of the Tata Group, Cyrus Mistry was ousted from his post. The past Chairman Ratan Tata took over and will appoint a new Chairman within 2-3 months. The main reason for this was stated to be a loss of confidence in Mistry. This sounded like a painless coup for investors but the spat between the two has gone public, and it may be some time before the changes are rolled out across the group.

Impact: We feel that the operations of most companies will not be affected in the near term. Some strategic direction may be changed. The aggressive and combative stand of Tata group seen in recent cases like Tata Corus and Tata Docomo may soften in line with group philosophy.

Indices movements: Sensex, Nasdaq, S&P 500 and Dow Jones

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Fig 2 – Index movements – 1 year

  • We can see that there has been a fair correlation between Indian and USA markets over 1 year.
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Fig 3 – Index movements – 1 week

  • But over the last week, perhaps thanks to demonetization and the Trump election, Sensex has fallen relative to other markets.

Conclusions

  • There has been a sharp fall in Indian indices and many stocks from recent peaks. The fall reflects a break in the positive run, an increase in uncertainty and sudden unexpected events. It’s not all bad news. We feel that most of the events are short term disruptions, with a recovery possible in a period of 2 weeks to 3 months.
  • This is a correction in an overall bull run as we are seeing a lowering of interest rates, positive moves on GST and 7th pay commission and until recently, steady investments from FIIs and domestic retail. The IPO market too has been euphoric with a lot of pent up demand from retail investors.
  • This short term fall is a buying opportunity if you have a time horizon of a period longer than 3 months.

JAINMATRIX KNOWLEDGE BASE 

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Disclaimers

This document has been prepared by JainMatrix Investments Bangalore (JM), and is meant for use by the recipient only as information and is not for circulation. This document is not to be reported or copied or made available to others without prior permission of JM. It should not be considered or taken as an offer to sell or a solicitation to buy or sell any security. The information contained in this report has been obtained from sources that are considered to be reliable. However, JM has not independently verified the accuracy or completeness of the same. Neither JM nor any of its affiliates, its directors or its employees accepts any responsibility of whatsoever nature for the information, statements and opinion given, made available or expressed herein or for any omission therein. Recipients of this report should be aware that past performance is not necessarily a guide to future performance and value of investments can go down as well. The suitability or otherwise of any investments will depend upon the recipient’s particular circumstances and, in case of doubt, advice should be sought from an independent expert/advisor. Punit Jain is a registered Research Analyst and compliant with SEBI (Research Analysts) Regulations, 2014. Any questions should be directed to the director of JainMatrix Investments at punit.jain@jainmatrix.com.

Equitas IPO – Leader in SF Banks

  • Date: 3rd April 2016
  • IPO price range Rs 109 – 110, Apply from 5-7th Apr 2016
  • Industry: BFSI – Small Finance Bank
  • Mid Cap: Rs 3,560 cr Mkt Cap
  • Advice: BUY 

logo

Summary

  • Overview: Equitas Holdings is a financial services firm that has extended beyond microfinance to  MSME, CV and housing loans to people that are underserved by formal financing channels.
  • Equitas had revenues of Rs 756 cr. and profits of Rs 107 cr. in FY2015. The topline and PAT have grown by 56.1% and 39.2% respectively CAGR over the last four years.
  • Why BUY: 1) Equitas has a good record of business so far, in terms of growth, segment diversification and profits. 2) In terms of valuations, Equitas has priced the shares attractively, leaving something on the table for investors.
  • Key risks: are geographic concentration and impending SFB structural changes.
  • Retail Investors can BUY this IPO.

Here is a note on Equitas Holdings Limited (Equitas)

IPO highlights

  • The IPO is open from 5-7th Apr 2016 with Issue Price band: Rs.109-110 per share
  • It will raise Rs 2,177 cr. totally, as Offer for Sale (1457 cr.) and fresh issue (720 cr.)
  • No of Shares offered to public are 19.8 crore of Face Value: Rs.10. These are 59.07% of the equity base, and include OFS from shareholders (13.2 cr.) and a fresh issue (6.6 cr.).
  • Market Lot: 135 shares and in multiples of 135 shares there off
  • Objects of the issue are – reduction in foreign shareholding – In Sept 2015, the firm received approval from RBI for a small finance bank. But foreign shareholders held 93% of the firm. As per the current FDI policy, the foreign investment in a private bank will be a maximum of 49%. So the IPO will help reduce foreign stake to below 49%. It will also provide an Exit opportunity for current shareholders.
  • The funds raised in the fresh issue (Rs 720 cr), would be used to set up the Small Finance Bank (Rs 620 cr), set off the IPO expenses, and extend loans to the subsidiaries (Rs 100 cr.).

To download the PDF version of report, proceed to bottom of this page. 

Introduction to Equitas

  • Equitas is a financial services firm into microfinance, MSE Finance, CV and housing loans. Total Income in FY15 was Rs 756 crore and Net Profits stood at Rs 107 cr.
  • Equitas revenues and PAT grew at 56.1% and 39.2% resp. CAGR over four years.
  • The HQ is in Chennai, and operations are spread across 11 states, one UT and Delhi. Equitas has 539 branches and 8,067 employees. The loan portfolio in FY2015 was Rs 4,185 cr. See Fig 1
  • Equitas had been granted approval by RBI for setting up a SFB. It is the fifth-largest MFI behind Bandhan (Bank), SKS (NBFC-MFI), Janalakshmi (SFB) and Ujjivan (SFB).
Fig 1 – Key Segments, JainMatrix Investments

Fig 1 – Key Segments     

Fig 2 - Loans Accounts by State, JainMatrix Investments

Fig 2 – Loans Accounts by State

Fig 3 - Post IPO shareholding, JainMatrix Investments

Fig 3 – Post IPO shareholding

  • The capital adequacy ratio (CAR) of EMFL (microfinance) and EFL (vehicle finance and MSE finance) was 21.02% and 31.45%, resp. as of Q3 FY2015, compared to the RBI mandated CAR of 15%. The CAR of EHFL (housing finance) was 32.1%, compared to the requirement of 12%. These look comfortable.
  • The Gross NPAs ratio to On-Book AUM was 1.33%, while Net NPAs to On-Book AUM was 0.97%.
  • Leadership is Mr P.N. Vasudevan (MD), N Rangachary (Non-exec chairman) & S Bhaskar (CFO).
  • Foreign ownership in Equitas, currently at 92.6%, will drop below 49% after IPO.

Business News and Updates

  • In Dec 2015 Equitas informed BSE of the proposed amalgamation with EHFL with EFL subject to approval of RBI and High Court of Madras.
  • Equitas’ proposal to be a SFB was assessed of financial soundness, proposed business plan and fit and proper status based on due diligence reports. The RBI received 72 applications for small finance banks, and granted the status to just 10.
  • India’s second largest MF house and two of the largest private life insurers were in final stages of talks to buy stake in Equitas for a total of Rs 300 cr as on 30/3/2016.
  • Equitas founder Vasudevan’s vision is to create a widely owned firm run by professionals.
  • Equitas will open SFB branches in all the 11 states, in which it has presence.
  • Equitas has introduced two products, loan against gold jewellery and two-wheeler loans.

Industry Outlook

  • Three developing economies, namely China, India and Indonesia, account for 38% of the world’s unbanked, wherein India is home to 21% of the world’s unbanked adults.
  • Indian MFI sector is set to grow at 30-40%. The Loan Portfolio in Urban areas is Rs 35,320 cr (72%) and in Rural is Rs 13,563 cr (28%). (Source: The Bharat Microfinance Report 2015).
  • Average loan outstanding per borrower has been an important metric for MFIs. Average loan size in FY2015 was nearly Rs 13,000 which rose 31% YoY. Average loan size in Northeast is highest at Rs 16,200 followed by North at Rs 14,300. The loan size is larger in Northeast as the economic activities in this region require higher outlays due to the hilly terrain.
  • The total credit made available to poor /financially excluded clients had crossed Rs 48,882 cr. and number of clients benefited crossed 3.7 cr. by Mar2015. NBFC MFIs have CAR of 21.5%.
  • The eight MFIs (Bandhan, Janalakshmi, Equitas, Equitas, ESAF, Utkarsh, Suryoday and RGVN) accounted for 26% of MFI assets in FY2015. They will convert into SFBs along with Bandhan (a bank, with 20% of AUM), so the NBFC-MFI industry size will halve.
  • Outreach grew by 13% and loan outstanding grew by 33% in FY15 over FY14. The South continues to have the highest share of both outreach and loans outstanding, followed by East. However growth rates are higher in the Northeast and Central regions.
  • CRISIL expects the loan book of NBFCs to post 15-17% growth till FY 2017. The MFI Industry is expected to grow at 28-30% over next 2 years. (Source: CRISIL MF Opinion, 2015).
  • In the aftermath of the AP microfinance crisis, the Malegam Committee was established to review the MFI sector in India. It highlighted concerns included the high rates of interest charged, the lack of transparency in fixing of interest rates and other charges, multiple loans, upfront collection of security deposit, over borrowing, ghost borrowers and coercive methods of recovery. The Malegam Committee report resulted in the introduction of the NBFC – MFI guidelines which lay down a stringent regulatory regime for the MFI industry.
  • The GoI and RBI have created conducive policy and regulatory framework for MFIs to operate in the country, by setting up MUDRA for refinancing and regulating the microfinance sector.
  • The net loan portfolio as on Mar 2015 for the MFI’s stood at Rs 34,344.64 cr. Equitas thus has a market share of 6.2% in the microfinance sector.

Financials of Equitas

  • Equitas Revenue, EBITDA and PAT has grown 56.1%, 41.1% and 39.2% CAGR over the last 4 years. This is a very high growth rate. See Fig 4.
Fig 4 – Equitas Financials, JainMatrix Investments

Fig 4 – Equitas Financials

  • The operating margin increased from 49.2% in 2011 to 61.7% today. Also for Q3FY16 the figure stands was 63.6%. The profit margin  increased from 11.9% in 2011 to 14.2%. NIM dropping from 21.9% in 2011 to 11.6% in 2015. This is the effect of high growth.
  • The AUM, disbursements and interest income have grown fast over 4 years, a positive, Fig 5.
  • The cost of funds has been flat over the years, but the spread has fallen slightly due to fall in the yields. So the interest margins have declined. However it is not a cause for concern.
Fig 5 – Key Financial Metrics, JainMatrix Investments

Fig 5 – Key Financial Metrics

Spread is the difference between the Yield and the Cost of Funds

Positives for the IPO

  • The revenue, EBITDA and EPS growth rate have been very good over the last 4 years.
  • Equitas won the SFB license approval in Sept 2015. This is a good validation of the firm’s financial soundness, business model and practices.
  • Equitas as a SFB may now have access to lower cost funds, which can improve margins.
  • Equitas is quite diversified in its business areas. Hence it has the flexibility to change focus segments in case of a changed business outlook.
  • Equitas has a senior mgt. team with rich experience in financial services, that has developed and implementing the business strategy with a commitment to fair and transparent business practices while maintaining effective risk management and competitive margins.
  • Equitas MD P.N. Vasudevan is going to sell only 1,80,000 shares, a small percentage of his holding. The company will continue to benefit from the founder’s ‘skin in the game’.
  • Equitas has robust corporate governance standards, transparent operations and customer goodwill. “Equitas” in Latin means fair & transparent. Since inception, Equitas has attempted to comply with corporate governance standards applicable to publicly listed companies.
  • Equitas had received the CRISIL Governance and Value Creation Level 2 rating. Also their wholly owned subsidiary EHFL received a CRISIL rating of A-/Stable in Oct 2015.
  • Equitas has a large customer base of over 27 lakhs and provides wide range of credit products. The company can leverage its customer base to grow faster. As indicated by the management, once the company becomes a SFB, it intends to leverage its strength by providing agri based loans.

Internal Risks

  • Political Risk: In 2010, the adverse financial conditions in Andhra Pradesh and debt related suicides by farmers led to bad publicity for the MFI sector. Subsequently, the AP govt froze the MFI loans and operations, causing extensive losses and damage to current operators. Thereafter regulatory condition improved and RBI issued MFI and SFB regulations. But the sector retains a political risk.
  • In future, growth is likely to happen in two phases. Equitas has a deadline of 18 months for it to comply with the requirements under the RBI – SFB Guidelines and fulfil various conditions. Thus until next year Equitas may witness high growth as seen in the past. However post setting up of the SFB, the growth may slow as the firm adjusts to the new structure and conditions. Equitas will be required to maintain CRR and SLR, which may impact on their business operations.
  • While current leadership lead by Mr. P.N. Vasudevan is excellent, the next phase of growth for Equitas requires a strong next line of management /leadership.

External Risks

  • Geographic concentration: Their business is heavily dependent on their operations in Tamil Nadu (63% of loans), and any adverse changes in this region will impact business.
    • Equitas is present in 12 more states, and growth there should reduce this dependence.
  • SFB Challenges: The SFBs will be required to extend Priority Sector Lending to identified sectors, which may have higher delinquency rates and lower returns. If Equitas is unable to comply with these PSL requirements, then they will need to invest in funds with lower than market returns.
    • The regulatory framework to govern SFBs is uncertain, due to the absence of administrative, operational or judicial precedent, in terms of regulatory non-compliances and penal actions.
    • If Equitas is not able to set up its SFB structure and processes within the 18 months timelines prescribed, it will have an adverse effect on their SFB status and approvals.
  • Listing issues: In the IPO, foreign investors may not be able to participate freely under the QII and NII categories as the firm is trying to reduce foreign ownership, see Fig 3. This may reduce demand.
  • Competition: The MFI industry is at an early stage of growth and enjoys high margins and growth rates. However competition is intensifying as related sectors of NBFCs and Banks may diversifying into this sector. It is likely that margins may be reduce in a few years, as also industry growth rates.

Benchmarking

We compare Equitas with peers in the microfinance and rural lending space.

Exhibit 6 - Benchmarking, JainMatrix Investments

Exhibit 6 – Benchmarking

  • Equitas leads on PE, P/B, growth and D/E parameters.
  • The margins that Equitas enjoys seem low compared to these peers. This could be due to the diversified loan book of Equitas.

Overall Opinion

  • Microfinance in India is a sunrise industry. In an underbanked country, availability of credit for self-employed persons in rural areas is very low.
  • In this scenario Equitas follows SKS Microfinance to be the second listed company in this space. It is also the first (of 10 approvals) of Small Finance Bank in India to list.
  • Equitas has a good record in terms of growth, segment diversification and profits.
  • In terms of valuations, Equitas has priced the shares attractively, leaving something on the table for investors. The P/E and especially P/B appear at a discount to the peers.
  • Key risks are geographic concentration and impending SFB structural changes.
  • The IPO is rated a medium risk, high return offering. Retail Investors can BUY it.

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Disclaimer:

This document has been prepared by JainMatrix Investments Bangalore (JM), and is meant for use by the recipient only as information and is not for circulation. This document is not to be reported or copied or made available to others without prior permission of JM. It should not be considered or taken as an offer to sell or a solicitation to buy or sell any security. The information contained in this report has been obtained from sources that are considered to be reliable. However, JM has not independently verified the accuracy or completeness of the same. JM has no known financial interests in Equitas Holdings or any related group. Neither JM nor any of its affiliates, its directors or its employees accepts any responsibility of whatsoever nature for the information, statements and opinion given, made available or expressed herein or for any omission therein. Recipients of this report should be aware that past performance is not necessarily a guide to future performance and value of investments can go down as well. The suitability or otherwise of any investments will depend upon the recipient’s particular circumstances and, in case of doubt, advice should be sought from an Investment Advisor. Punit Jain is a registered Research Analyst (SEBI Registration No. INH200002747) under SEBI (Research Analysts) Regulations, 2014. JM has been publishing equity research reports since Nov 2012. Any questions should be directed to the director of JainMatrix Investments at punit.jain@jainmatrix.com .