IDFC Bank/IDFC Ltd 48/ 44

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1 Result Update May 2, 2016 Rating matrix IDFC Ltd IDFC Bank Rating : Hold Hold Expected Price : Target Period : 12 months 12 months Potential Upside : 1% 2% Demerger Structure effective from Oct 1 st, 2015 Stock data IDFC Bank Market Capitalisation crore GNPA (Q4FY16) 3058 crore NNPA (Q4FY16) 1139 crore NIM (Q4FY16) 2.1% 52 week H/L 73.5/43.1 Net worth crore Face value 10 DII holding (%) 4.6 FII holding (%) 23.2 Stock data IDFC Ltd (consol) Market Capitalisation 6982 crore Bank GNPA (Q4FY16) 3058 crore AMC AUM (Q4FY16) crore Alternatives AUM (Q4FY16) crore 52 week H/L 79.3/34.8 Net worth crore Face value 10 DII holding (%) 15.2 FII holding (%) 46.9 Research Analyst Kajal Gandhi kajal.gandhi@icicisecurities.com Vishal Narnolia vishal.narnolia@icicisecurities.com Vasant Lohiya vasant.lohiya@icicisecurities.com IDFC Bank/IDFC Ltd 48/ 44 Capital investment to keep RoE benign IDFC Bank s PAT came in lower at crore in Q4FY16 ( crore in Q3FY16), below our estimate of 246 crore, primarily led by a surge in opex at crore, owing to increase and head count and IT and other infrastructure expenditure. IDFC Bank is reporting its performance for the second quarter, post de-merger. Figures are not comparable on a YoY and QoQ basis Slippages from the restructured book led to asset quality deterioration in Q4FY16 with surge in GNPA to 3058 crore ( 1462 crore in Q3FY16). Subsequently, GNPA ratio increased ~307 bps QoQ at 6.2%. Total stressed assets as per management (NNPA+ net RA+ net SR) stays at 5.5% of the book With shedding of excess investment, non interest income came in lower QoQ at crore compared to 218 crore in Q3FY16 IDFC Ltd The consolidated entity reported a loss of 936 crore, primarily owing to one-time provision of 2639 crore on the erstwhile book (as per RBI dispensation). All financial businesses continue to remain profitable in FY16 Exhibit 1: Entity wise operating results (FY16) IDFC IDFC IDF AMC Alternatives Securities Others/ Consol Operating Income Operating Exp Provisions PBT Exceptional Item PAT before Minority & Asso. co Minority Interest / Consol Adj PAT -936 Return ratios to remain in single digits ahead RoE continues to remain in single digits at 6.0% with RoA at 1.1%. At the time of transfer, stress as per management was at 8800 crore, which has flown to the bank with provisions. Considering it, GNPA surged 3.07% QoQ to 6.2% in Q4FY16. Going ahead, RoE is expected to remain in single digits at 8.4% in FY20E led by regulatory reserve maintenance and high opex. We have lowered our multiple and value the stock at 1.05x F18E BV, thereby assigning target of 49 per share ( 66 earlier) for IDFC Bank. As the holding company will own all other businesses including 53% stake in the bank, we value the company at 44 per share (from 56 earlier) providing a 40% discount to respective subsidiary valuations. Exhibit 2: SOTP - Shareholder receives one share of both IDFC Bank, IDFC Holding Valn crore Stake Holding Target per Basis (FY17E) Val per share Held (%) co. share ( ) IDFC Bank standalone target 1.05x FY18E BV Valn of IDFC Holding Co. IDFC Holding Co Net worth 1x of NW IDFC Alternatives 9% of AUM IDFC AMC 4% of AUM IDFC Securities 10x PAT IDFC Bank (Holding co.share) ICICI Securities Ltd Retail Equity Research

2 Variance analysis IDFC Bank Crore Q4FY16 Q4FY16E Q4FY15 YoY (%) Q3FY16 QoQ (%) Comments NII NA NA Healthy advance growth and stable margin led to increase in NII NIM (%) NA NA bps Other Income NA NA Net Total Income NA NA Opex NA NA Rise in head count and IT expenditure led to higher opex PPP NA NA Provision NA NA PBT NA NA Tax Outgo NA NA PAT NA NA PAT growth impacted due to higher opex Key Metrics GNPA 3, ,712.3 NA NA 1, GNPA ratio increased from 3.09% in Q3FY16 to 6.2% in Q4FY16 NNPA 1, NA NA NNPA also rose 141 bps QoQ to 2.39% Total Restructured a 1, ,761.5 NA NA 1, Restructured book declined due to slippages into NPA Variance analysis IDFC Ltd (consolidated) FY16 FY16E FY15 YoY (%) Comments Operating Income 3,234.0 NA 4, Operating Exp 1,229.0 NA Provisions NA 1, PBT 1,679.0 NA 2, PAT before Minority NA 1, One time provision of 2639 crore, related to erstwhile book led to losses in FY16 Minority Interest / Co NA PAT NA 1, Crore Key Metrics IDFC AMC 52,460.0 NA 54,911.0 NA IDFC Alternatives 16,379.0 NA 13,574.0 NA IDF book 1,202.0 NA NA NA Balance sheet size 77,623.0 NA 87,068.0 NA Balance sheet declined led by one-time provision ICICI Securities Ltd Retail Equity Research Page 2

3 Company Analysis Transformation into bank Post the de-merger IDFC has been structured as a three tier company with IDFC Ltd, the parent and listed entity, remaining at the top of the structure with a non-operating holding financial company (NOHFC) at the second level below the parent. This NOHFC has four subsidiaries engaged in banking (IDFC Bank) and allied business including investment banking, asset management and alternate class business. Existing shareholders received one share of IDFC Ltd and one share of IDFC Bank for every share of IDFC before demerger. There are two listed entities: IDFC Ltd and IDFC Bank. Exhibit 3: Post demerger holding structure IDFC Ltd (FII - 48%) 100% 47% - Held by current shareholders of IDFC ltd directly 53% IDFC FHCL (Revenues ( 1719 crore (NOFHC) 75% 100% 100% 100% IDFC Bank (FII-22.4%) IDFC AMC IDFC Alternative IDFC NBFC-IDF Other subsidiaries Under the new structure, IDFC Bank is starting with a balance sheet size of crore. An infrastructure development fund (IDF) has been created with 440 crore of networth, 735 crore loan book and can see huge growth potential. IDFC has been given exemption from regulatory requirements including SLR, CRR and PSL to the extent of 30% of eligible infra loans, subject to verification and certification. RBI notification for infrastructure boost via issuance of long term infra bonds (>seven years) for banks allowing them to claim exemption from CRR, SLR and PSL will be based on eligible credit calculations. We believe the exemption will gradually rise and reach ~50% in four or five years. This is expected to enable the bank to reach close to double digit RoE (8.4% in FY20E) in four years. RoA is expected to stay at ~1.1% in first two years till FY18E and reach ~1.3% in FY20E. The investment book of the bank, which was at crore in Q3FY16 has been toned down to crore in Q4FY16, shedding extra buffer created on formation of the banking entity. Core SLR was at crore in March Meeting priority sector (PSL) norms will remain one of the challenges for IDFC as its loan book consists of infra loans. New PSL guidelines, however, have provided further respite for IDFC as it requires new banks to meet 40% lending target to agriculture, education and weaker sections by March In addition, introduction of PSL certificates is expected to help the bank to shore up its PSL base. The management has provided guidance of ~25% YoY growth in the loan book. Going ahead, we expect the loan book to grow at 17.3% CAGR to crore (including buy-outs) by FY20E. Retail asset contribution is aimed to increase to 20% of loan book by FY17E. With focus on meeting PSL norms, advances classified under PSL category will need to ICICI Securities Ltd Retail Equity Research Page 3

4 grow as till that time, the low yielding RIDF bonds or purchase of assets will lead to a drag on NIM. Consequently, NII is expected to grow at 16.7% to 2929 crore (marginally lower than credit off-take) by FY20E. NIM is expected to remain stable at ~ % in FY17-18E and then inch up to ~2.4% by FY20E. Shareholding pattern to offer room for increased FII participation The new bank has double the equity shares of the current IDFC holding company as IDFC shareholders will hold 47% in the bank directly. Parent IDFC will have 53% in the bank through its wholly-owned subsidiary. Shareholders of the parent holding company will indirectly own 53% taking the pie to 100%. IDFC Bank will offer room for FII holding to go up to 49% in the bank on day one, which can further rise to 74% after five years. The government holding will decline to around 7.7% in the bank. IDFC Holding will have to bring down its 53% stake in the bank to 40% by 2019 as per RBI guidelines on promoter holding. Exhibit 4: Shareholding pattern of IDFC as on December 2015 Diversified ownership hopefully provides comfort to RBI. The government is the largest shareholder. Its involvement in regular business activity is not there Fis/Insu. Co/Banks, 7% Corporate Bodies, 5% Retail, 17% MF, 7% FII/FDI/NRI, 47% GOI, 17% Foreign ownership of the bank will be under 25% as post the parent becoming domestic, the bank will also be classified domestic. Strong professional management IDFC Bank Rajiv Lall is the current Executive Chairman while Vikram Limaye is MD and CEO. Rajiv Lall will be the banking CEO. Pawan Bansal from E&Y (Citi and ANZ) will be Chief Risk Officer. IDFC shareholders received one share in IDFC Bank, IDFC Holding 1. All financially regulated businesses owned by NoFHC namely IDFC Financial Holding Company. NoFHC will hold 53% in bank 2. The demerger became effective on October 1, 2015 and both the bank and IDFC holding company are already listed and trading on exchanges IDFC Bank had 24 branches. Of these, 15 are rural branches in Hoshangabad, Khandwa and Harda districts of Madhya Pradesh. Eight urban branches are in Pune, Ahmedabad, Hyderabad and Bengaluru. ICICI Securities Ltd Retail Equity Research Page 4

5 IDFC Bank Loan growth expected at ~17% CAGR Erstwhile IDFC was engaged in financing infrastructure projects in sectors like energy, telecommunication, transportation, commercial and industrial projects including hospitals, education, tourism and hotels. IDFC s total exposure was crore in Q2FY16, of which energy was highest at 41%, followed by transportation 25%, telecommunication 23% and others 11%. Post transfer to the bank, overall sector exposure remained similar with net credit at crore. Going ahead, the management is aiming at a credit offtake of ~25% for FY17E, including buy-outs of PSL exposure. Among segments, faster growth is expected in retail and Bharat Bank, with their proportion in the overall book set to rise. Overall growth is expected at 17.3% CAGR in FY17-20E to crore. Exhibit 5: Believe loan book of old IDFC as of Q2FY16, can reflect current bank book (o/s disbursements book) 7950, 16% 21634, 44% 8133, 17% 11517, 23% Energy Transport Telecom Others Funding portfolio to move to bank as loan book moves out to bank Funds will remain wholesale even in the next three years as even with banking licence, SA generation will take longer. Branches earlier did not exist for IDFC to reach people. Three large branches and 39 AMC branches were the only presence. Hence, with no legacy of the existing model, IDFC is expected to leverage on technology and concentrate on liability building on the retail side. It has 24 branches and three ATMs. Of these, 15 are rural branches in Hoshangabad, Khandwa and Harda districts of Madhya Pradesh. The eight urban branches are in the four metros, Pune, Ahmedabad, Hyderabad and Bengaluru. As of March 2016, total branch strength is at 60. The management has indicated it will pause in branch expansion for a quarter or two and focus on improving existing branch business, before pushing the pedal on further expansion. Going ahead, with the management s focus on building its deposit franchise, we expect borrowing to grow at 4.5% CAGR in FY17-20E while deposits are expected to grow at 29.7% CAGR over the same period. ICICI Securities Ltd Retail Equity Research Page 5

6 Exhibit 6: Funding profile IDFC Bank Q4FY16 CASA, 1% others Term deposits, 7% Infra bond, 18% Bonds 69% Short Term, 14% Source: Company quarterly presentation, ICICIdirect.com Research As per IDFC, SLR, CRR can increase costs by 75 bps for loans where it will be needed Incremental CASA to aid NIMs With inheritance of liabilities from erstwhile IDFC, IDFC Bank currently is primarily a wholesale funded entity. Going ahead, we expect healthy traction in retail deposits with branch expansion and customer acquisition. Within deposits, CASA is expected to grow at a higher pace, though initial traction could be slow, thereby providing impetus to margins ahead. In Q4FY16, deposits grew to 8219 crore compared to 1646 crore in Q3FY16, mainly led by accretion in term deposit, which increased to 4263 crore in Q4FY16 compared to 223 crore in Q3FY16. CASA deposit increased 37% QoQ to 445 crore. Currently, NIM came in at 2.1% in Q4FY16, which is expected to improve to 2.4% by FY20E. Asset quality pain in infra portfolio to stay Asset quality deterioration was sharper and disappointing over the last few quarters in the financing portfolio. On the asset quality side, the bank reported a GNPA at 1462 crore, with GNPA ratio of 3.09%. Net NPA ratio was at 0.98% in Q3FY16, with absolute NNPA at crore. Restructured assets formed 3.7% of loans. Total stress as per the management stays at 8800 crore though it is ~ 5500 crore on a regulatory basis. Slippages from the restructured book have led to asset quality deterioration in Q4FY16 with surge in GNPA at 3058 crore ( 1462 crore in Q3FY16) and subsequently GNPA ratio increasing by ~307 bps QoQ at 6.2%. Net NPA also rose to 1139 crore in Q4FY16 ( core in Q3FY16) with NNPA ratio increasing 141 bps at 2.39% in Q4FY16. However, the management has indicated that these slippages have already been provided and, therefore, will not have any substantial impact on profitability. With slippages into NPA, restructured book declined at 2.9% in Q4FY16 from 4.3% in Q3FY16. Provision reserve has been built at ~10% of loans ( 4600 crore including one time 2500 crore). Hence, 50-60% of 8800 crore stress has been provided and taken to the bank. It is not expected to rise in existing infra portfolio as per management. ICICI Securities Ltd Retail Equity Research Page 6

7 Exhibit 7: Stressed book to remain steady in IDFC Bank ( crore) (%) Q3FY12 Q4FY12 Q1FY13 Q2FY13 Q3FY13 Q4FY13 Q1FY14 Q2FY14 Q3FY14 Q4FY14 Q1FY15 Q2FY15 Q3FY15 Q4FY15 Q1FY16 Q2FY16 Q3FY16 FY16E FY17E GNPA NNPA GNPA (%) NNPA (%) FY18E Source: Company quarterly presentation ICICIdirect.com Research Stability in return ratio past now, expect moderation in banking Historically, IDFC has maintained RoE of 13-14% and leverage of 4-6x. With a banking license, higher leverage moving from 5-6x to >15x will help generate better return ratios over the long term. Regulatory reserves requirement in the initial phase and infrastructure expense is expected to keep return ratios benign. We expect RoE and RoA of 8.4% and 1.3%, respectively, in FY20E. IDFC Ltd (consolidated) Post de-merger, IDFC Ltd, the parent company holds the business divided into four subsidiaries engaged in banking (IDFC Bank) and allied business including investment banking, asset management and alternate class business. Among businesses, IDFC Bank is the major contributor to the financial performance to the extent of nearly 80% of operating income. Non-bank entities includes IDFC AMC (75% stake) engaged in asset management business with its AAUM at crore as of March IDFC Alternatives (100% stake) is a multi-asset class investment management vertical with crore of AUM invested within three distinct asset classes - private equity, infrastructure equity and real estate. IDFC Securities and IDF are other fully owned subsidiaries engaged in investment banking and infrastructure debt management business respectively. Fundamentally, all financial businesses of the holding company continue to remain profitable. However, owing to one-time provision of 2639 crore, related to stressed loan pertaining to erstwhile book has led bottomline in the red in FY16. However, this is expected to turn around in black in FY17E. Exhibit 8: IDFC AMC & Alternatives major other income contributor (FY16) ( crore) IDFC IDFC IDF AMC Alternatives Securities Others/ Consol Operating Income Operating Exp Provisions PBT Exceptional Item PAT before Minority & Asso. co Minority Interest / Consol Adj PAT -936 ICICI Securities Ltd Retail Equity Research Page 7

8 Non-interest income led by asset management to remain healthy IDFC, post de-merger, comprises four business units including AMC segment, own investments and securities business, which provide a basket of fee-based income. Non-interest income (except bank) forms nearly 21.5% of consolidated total income. After IDFC Bank, we expect AMC and alternatives subsidiaries to remain major contributors to overall income for the consolidated entity. Average assets under management (AUM) in the non-mf business (Alternatives) in Q4FY16 were at crore constituting: (i) 5605 crore in private equity, and (ii) 9337 crore in project equity. For IDFC, the business earned 10 crore in FY16 as operating income. We expect feebased income to be strong even post conversion as the bank as the same focus, as previously, is expected to continue. Exhibit 9: IDFC Alternatives AUM as on FY16 ( crore) Average AUM (Alternatives) Private Equity 5605 Project Equity 9337 Real Estate 1437 Average AUM (MF) 52,460 Equity AUM (%) 25 For the acquired MF business from Standard Chartered (SC), AUM in Q4FY16 was at crore, representing 4.1% market share. Debtequity in AUM was at 75% and 25%, respectively. After the bank, IDFC AMC is the second largest contributor in topline with IDFC AMC earning asset management fees of 325 crore in FY16. ICICI Securities Ltd Retail Equity Research Page 8

9 Outlook and valuation IDFC Bank and IDFC Holding The networth, loan book and balance sheet of IDFC Bank were crore, crore and crore, respectively as on March RoE continue to remain in single digit at 6.0% and RoA at 1.1%. NIMs remain stable at 2.1% for quarter ended March GNPA surged by 3.07% QoQ to crore, however, did not impacted PAT as the loans were already provided in the erstwhile book. At the time of transfer, stress as per management was at 8800 crore (though regulatory basis it is ~ 5500 crore) which has flown to the bank with provisions. GNPA and NNPA ratio were at 6.2% and 2.4%, respectively. Going ahead, the bank is expected to gain on lower cost of funds with incremental CASA accretion. However, maintaining regulatory reserves and adhering to PSL norms will act as deterrent which is expected to keep return ratios in single digit. In addition, infrastructure development in terms of branch addition and back end IT spending is expected to keep opex elevated in the initial years. With forward return ratios of the bank expected to remain around 8.4% for RoE and 1.3% for RoA by FY20E, the bank is expected to trade at multiple of 1.0x FY18E BV. Hence, rolling our estimate at FY18E, we revise our target price lower at 49 (revised from 66 earlier) for IDFC Bank. As the holding company will own all other businesses including 53% stake in the bank, we value the company providing a 40% discount to respective subsidiary valuations. Accordingly, we assign a value of 44 per share (from 56 earlier) for the IDFC Holding Company. Exhibit 10: SOTP - Shareholder to have one share of both IDFC Bank and IDFC Holding Valn crore Stake Holding Target per Basis (FY17E) Val per share Held (%) co. share ( ) IDFC Bank standalone target 1.05x FY18E BV Valn of IDFC Holding Co. IDFC Holding Co Net worth 1x of NW IDFC Alternatives 9% of AUM IDFC AMC 4% of AUM IDFC Securities 10x PAT IDFC Bank (Holding co.share) ICICI Securities Ltd Retail Equity Research Page 9

10 Company snapshot (Erstwhile IDFC Ltd) Mar-06 Jul-06 Nov-06 Mar-07 Jul-07 Nov-07 Mar-08 Jul-08 Nov-08 Mar-09 Jul-09 Nov-09 Mar-10 Jul-10 Nov-10 Mar-11 Jul-11 Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13 Mar-14 Jul-14 Nov-14 Mar-15 Jul-15 Nov-15 Mar-16 Jul-16 Nov-16 Mar-17 Source: Bloomberg, Company, ICICIdirect.com Research Key events Erstwhile IDFC Date Event FY97 Infrastructure Development Finance Company incorporated in1997 as public limited company with their registered office in Chennai FY06 Lists on exchanges FY07 Increases its stake in National Stock Exchange of India Ltd to 8.2% by acquiring an additional 6% stake FY07 Acquires 33.33% stake in SSKI Securities Pvt Ltd (SSKI), which is a domestic mid-size investment bank and an institutional brokerage and research platform May-08 IDFC enters into asset management (MF) by acquiring the AMC business of Standard Chartered Bank in India FY08 Infrastructure boom pushes loan growth to 43% YoY and profits surge 47% YoY, taking stock price to peak FY09 Consolidated growth but remains largest infrastructure finance company for India FY12 Applies for banking licence with RBI Jul-13 Reports large increase in GNPA for first time Mar-14 Receives banking licence, saw surge in prices Top 10 Shareholders IDFC Bank Rank Name Latest Filing Date % O/S Position (m) Change (m) 1 IDFC Asset Management Company Private Limited 31-Dec , , Khazanah Nasional Berhad 31-Dec First State Investments (HK) Ltd. 31-Dec Orbis Investment Management Ltd. 31-Dec Standard Chartered PLC 31-Dec UTI Asset Management Co. Ltd. 31-Mar The Vanguard Group, Inc. 31-Mar Matthews International Capital Management, L.L.C 31-Dec Dimensional Fund Advisors, L.P. 31-Jan Birla Sun Life Asset Management Company Ltd. 31-Mar Shareholding Pattern IDFC Bank (in %) Mar-15 Jun-15 Sep-15 Dec-15 Mar-16 Promoter FII DII Others Top 10 Shareholders IDFC Ltd Rank Name Latest Filing Date % O/S Position (m) Change (m) 1 Government of India 31-Mar Khazanah Nasional Berhad 31-Mar Stewart Investors 31-Mar First State Investments (HK) Ltd. 31-Dec Orbis Investment Management Ltd. 31-Mar Standard Chartered PLC 31-Mar UTI Asset Management Co. Ltd. 31-Mar LIC Nomura Mutual Fund Asset Management Comp 31-Mar East Bridge Capital Management L.P. 31-Mar HSBC Global Asset Management (Singapore) Limite 30-Sep Shareholding Pattern IDFC Ltd (in %) Dec-14 Jun-15 Sep-15 Dec-15 Mar-16 Promoter FII DII Others ICICI Securities Ltd Retail Equity Research Page 10

11 Financial Summary - IDFC Bank Profit and loss statement - IDFC Bank crore (Year-end March) Q3FY16 2HFY16 FY17E FY18E FY19E FY20E Interest Earned Interest Expended Net Interest Income % growth Non Interest Income Net Income Staff cost Other opex Operating Profit Provisions PBT Taxes Net Profit % growth EPS ( ) Balance sheet IDFC Bank crore (Year-end March) Q3FY16 2HFY16 FY17E FY18E FY19E FY20E Sources of Funds Capital Reserves and Surplus Networth Deposit Borrowings Other Liabilities Total 85, , , , , ,891.2 Application of Funds Cash and equivalent Investments SLR RIDF Other Investments Advances PSL Other Assets incl FA Total ICICI Securities Ltd Retail Equity Research Page 11

12 Key ratios IDFC Bank Q3FY16 2HFY16 FY17E FY18E FY19E FY20E Valuation No. of Equity Shares EPS ( ) BVPS ( ) Yields & Margins (%) Yield on assets Avg. cost on funds Net Interest Margins Quality and Efficiency Cost to income ratio Leverage ratio RONW (%) ROA (%) ICICI Securities Ltd Retail Equity Research Page 12

13 ICICIdirect.com coverage universe (Banking) CMP M Cap EPS ( ) P/E (x) P/ABV (x) RoA (%) RoE (%) Sector / Company ( ) TP( ) Rating ( Cr) FY15 FY16E FY17E FY15 FY16E FY17E FY15 FY16E FY17E FY15 FY16E FY17E FY15 FY16E FY17E Bank of Baroda (BANBAR) Hold 36, Punjab National Bank (PUNBAN) Hold 17, State Bank of India (STABAN) Hold 144, Indian Bank (INDIBA) Hold 4, Axis Bank (AXIBAN) Hold 111, City Union Bank (CITUNI) Buy 5, DCB Bank (DCB) Hold 2, Federal Bank (FEDBAN) Sell 7, HDFC Bank (HDFBAN) 1,113 1,225 Buy 278, IndusInd Bank (INDBA) 1,031 1,060 Hold 61, Jammu & Kashmir Bk(JAMKAS) Hold 3, Kotak Mahindra Bank (KOTMAH) Hold 128, Yes Bank (YESBAN) Hold 39, IDFC Bank (IDFBAN) Hold 16, ICICI Securities Ltd Retail Equity Research Page 13

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