Inclusion of Bandhan Bank in MSCI Index – Merger Effect

Introduction

Bandhan Bank & Gruh Finance Merger is approved by NCLT’s (National Company Law Tribunal) Kolkata and Ahmedabad benches. 17th October 2019 is fixed as the record date for the effective merger.

Bandhan Bank & Gruh Finance Merger Approved (To Merge on 17th October 2019)

Merger Overview

• Objectives of Merger
  1. Lower Bank’s Promoter Holding :
     • The merger will reduce the promoter stake in Bandhan Bank to 61%, from 82.26% as a first step towards finally reducing to 40% as directed by Reserve Bank of India (RBI) based on norms for holding of promoters in private sector bank.
     • Thus, after getting approval from NCLT’s (National Company Law Tribunal) Kolkata and Ahmedabad benches, then Bandhan bank’s promoter holding will go down from 82.26% to 61% holding in the merged entity effective from 17th October 2019.
  2. Expand Housing Finance Portfolio :
     • This merger is going to give Bandhan Bank a ready-made home finance company, Gruh Finance to diversify business.
• Share Swap Ratio
  • The share swap ratio is 568 shares of Bandhan Bank for every 1,000 shares of Gruh Finance.
  • The share swap ratio is in line with six-month weighted average stock price of the two companies.

Inclusion of Bandhan Bank in MSCI Index – Merger Effect

• Bandhan Bank will be added in the MSCI (Morgan Stanley Capital International) Index of India with effect from 16 October. This inclusion in MSCI index is due to Gruh Finance’s merger with Bandhan Bank.
• The move is likely to result in $180 million (Rs.1,300 Cr) worth of inflows.

Shareholding Pattern of Bandhan Bank

Who Is Going to Gain from This Merger & What?

For Promoters of Bandhan Bank

• The merger enables Promoters of Bandhan Bank to dilute their stake without actually selling any shares and get strong housing finance portfolio though at premium.  Though they still need to dilute stake further but may be when they dilute now can get better price for their sale.
• Also, They will be able to scale up the business both in east and west by cross selling the products. They get HDFC as a very strong partner or promoter.
• The merger may look at premium price for Bandhan Bank in the short term. But if scale-up of business continues to remain profitable then it can provide benefits in the long run to all stakeholders.

Great Business Synergy for Bandhan Bank as well as Gruh Finance

• The merger will help Bandhan Bank diversify its product basket and de-risk portfolio by addition of secured loan products.
• For Bandhan Bank, merger is getting ready made business. Also in the process walk towards the compliance by getting reputed Company like HDFC as its shareholders. 
• In terms of manufacturing business,
  1. Geographical expansion
  2. Product diversification
  3. Getting strong infrastructure and client base
  4. Big opportunity for cross selling the products
• Also raising funds for deposits and improving gross and net interest margin. It is possible for the bank to increase its CASA deposit post-merger. Since existing clients of Gruh Finance may be attracted to shift its normal banking operations to Bandhan Bank.
• The biggest advantage of the merger for Bandhan Bank will be a sharp increase in the secured loans. Post-merger, the share of unsecured loan book of Bandhan Bank will decline to 57% from 86%.
• Also, expertise of Gruh Finance can be utilized to cross-sell products. The merger will enable Bandhan Bank to reduce risk arising out of geographical concentration, diversify its product portfolio, and still target the under penetrated market.
• Bandhan Bank is well positioned to deliver a 23% CAGR in micro-finance loan book over next 4-5 years, driven by :
  1. Continued growth in credit demand from existing customers
  2. Increasing penetration and expansion into new geographies and
  3. Further market share gains from micro-finance lending
• Bandhan bank’s strategy to diversify the geographic and lending mix will be helpful and its ability to collect deposits from its borrowers would also give it more information about the borrowers, thereby reducing the risk.

For HDFC Ltd.

• One of the biggest winner of the merger is HDFC Ltd. HDFC is able to get an exit from its subsidiary at good premium and is able to participate in the growth of the merged entity though as minority shareholder. 
• HDFC has been able to monetize its investments in Gruh Finance at a very attractive valuation which is 13.3 times the trailing book value.
• The merger helps HDFC Ltd avoid a potential conflict of interest as both the parent and Gruh Finance are in mortgage financing. Now, HDFC is having a great opportunity to organically expand into the affordable housing segment. There has been an overlap in business of both Gruh Finance and HDFC Ltd, especially in the western region.
• The RBI’s rule does not allow a promoter of one bank to hold more than 10% stake in another bank. As HDFC will hold 15% stake in Bandhan Bank, it will have to reduce its stake in the future. 

Conclusion

• Bandhan Bank achieves geographical expansion, product diversification, regulatory compliance stake dilution and getting HDFC as stakeholder in this merger.
• Whether it will deliver superior value to public shareholders or not will depended how product and cost of funds synergies are captured post-merger.

Divestment Options of BPCL

Introduction

In this article, we are going to do BPCL stock analysis including company overview, key financials and divestment options of BPCL. BPCL is a leading name in the government’s divestment programme to maximize the revenue.

BPCL Stock Analysis

Company Overview

• Bharat Petroleum Corporation Limited (BPCL) is a government-owned company with 53.29% stake of government.
• In 2017, BPCL has received Maharatna status, putting it in the category of PSU entities in India with the largest market capitalization and consistently high profits.
• It is India’s 6th largest company in terms of revenue, with a revenue of Rs.3.376 Lakh Crore for FY2019. Also, it is 2nd largest oil marketing company (OMC) after Indian Oil Corporation Ltd. (IOCL).
• Domestic market share of BPCL by value is around 21% in FY2019, whereas that of IOCL is around 40-45%.

Business Verticals of BPCL

• Bharat Petroleum Corporation Ltd. (BPCL) is mainly engaged in the business of refining of crude oil and marketing of petroleum products. BPCL is having a diversified product offering and presence across value chain.
• The company’s business is divided in seven key Strategic Business Units like Refinery, Retail, LPG, Industrial/Commercial, Aviation, Lubricants and Gas.

Key Financials of BPCL Stock

• With a heavy capital investments in refinery, pipeline infrastructure and oil terminals, retail outlets, stock is giving a return-on-capital-employed (ROCE) of 18.92, which is very positive. ROCE number of BPCL is greater than its peers, showing the comparatively higher return per unit of capital employed. ROE is 19.86, which is also very positive.
• D/E ratio is 0.78, while interest coverage ratio is 6.72. Both the numbers are very good. It shows the ability of the company to repay its interest payments regularly with generation of a positive net cash flow.
• Also, the Stock is providing a good dividend yield of 3.34%.
• Current PE ratio of BPCL is 18.9 as compared with its historical average PE ratios around 10-13. It shows BPCL is currently trading at almost 40% premium valuation when compared with its historical PE ratio.

Divestment of BPCL

Government is looking to divest its 53.29% stake in BPCL either to IOCL or even private players. This divestment will help maximize revenue for the government.

Divestment Option 1 : Merger of BPCL with IOCL

• Merger of BPCL with IOCL will create an energy giant with disproportionate share in the Indian energy market across refining, fuel retailing and City Gas Distribution players.
• This will be an easiest way out for the government to raise money to meet part of their divestment target of Rs.1 Trillion.
• Synergy in refining and product sourcing : In terms of synergy, there is lot of overlap in fuel retailing business and major savings can be achieved by way of coordinated marketing plans.
• Funding the acquisition not a concern : Funding the BPCL stake by IOCL will not be a major concern, as IOCL’s net debt to equity stands comfortable at 0.55x.
• In addition, BPCL has a much better earnings profile with ROEs of >20% vis-a-vis 15% for IOCL.

Divestment Option 2 : BPCL Stake Sale to Private/ Foreign Players

• BPCL stake sale to private/foreign players will help unlock the real value of the company and help realize government strategy to bring competition in fuel retailing and break the dominance of the OMCs, which has over 90% market share.
• Post sale, share of private/foreign players in fuel retailing will increase to around 33% from current 10%.
• BPCL’s well-laid pipeline infrastructure and oil terminals across India can be used by the entrant to significantly scale up operations in a competitive landscape.

Conclusion

• Divestment to IOCL will create a big monopoly of combined entity (IOCL+BPCL). Although it is unlikely to alter market dynamics in the near term.
• The divestment to IOCL is the easy way out, but the real price discovery of BPCL stock will happen with stake sale to foreign/private players and unlock the real value.

Are Your Deposits Safe in Co-operative Banks?

Introduction

In this article, we are going to discuss the issue in PMC bank (Punjab & Maharashtra Co-operative Bank), which is one of the top 10 co-operative banks in India. After the PMC bank crisis, are your deposits safe in a co-operative banks?

PMC Bank Issue | Is Your Money Safe in Co-operative Banks?

Commercial Bank v/s Co-operative Bank

• Commercial Banks :
  • They are regulated under the RBI’s Banking Regulation Act, 1949 and their business model is designed to make profit.
  • Their primary function is to accept deposits and grant loans to the general public, corporate and government.
• Co-operative banks :
  • They are registered under the Cooperative Societies Act, 1912 and they are run by an elected managing committee. Their objective is to provide service on no-profit no-loss basis.
  • Basically, it is a financial entity engaged in the business of collecting deposits and lending – like any other commercial bank.
  • But they function on the principle of cooperation and sharing profits with members. They offer services essentially to members who are shareholders of the bank.
  • They mainly serve Agriculture-based activities, entrepreneurs, small businesses and self-employment mainly in rural areas.

PMC Bank Details

• Punjab & Maharashtra Co-operative Bank (PMC bank) is a Mumbai-based co-operative bank established in 1984. It is one of the top 10 co-operative banks in India.
• The name of PMC bank came into the limelight when the RBI recently ordered freezing of operations and imposed limits on withdrawals of funds by depositors.
• The bank is having a total loan book of Rs.8,383 Cr as on March 2019. PMC’s annual report shows it to be a profitable lender with a capital adequacy ratio higher than the 12% minimum requirement and a bad-loan ratio of under 4%. This is almost respectable by the current standards of India’s banking industry.
• According the Financials for 2018-19, PMC bank shown NPA of just 2.19% which around Rs.160 Cr.

Then how can the bank have bad loans of Rs.6,500 Cr?

• As much as 73% of PMC bank’s loan book was tied to just one borrower group – Housing Development and Infrastructure Ltd. (HDIL). HDIL is a Mumbai-based real estate developer that’s facing bankruptcy proceedings at NCLT. Thus, the bank’s exposure to bankrupt HDIL has been pegged at Rs.6,500 Cr, which is 73% of the bank’s total assets.
• At least 21,049 dummy accounts were used by the Punjab and Maharashtra Co-operative Bank to hide accumulated non-performing assets of realty firm Housing Development and Infrastructure Limited (HDIL).
• The size of the reported advance is far in excess of the bank’s capital. This goes beyond a failure of oversight, and would require top-level complicity.
• As the outstandings (loans) were huge and if these were classified as NPA, it would have affected the bank’s profitability and the bank would have faced regulatory action from RBI.

Are Your Deposits Safe in Co-operative Banks?

• The nature of regulation is different for co-operative banks. Although RBI regulates co-operative banks from the financial aspects, the management supervision is done by state and central governments.
• In other words, RBI can prescribe the best practices to run a bank but cannot make any changes in the bank management, barring an emergency. As a result, these banks have been subject to a high level of political interference.
• Many small cooperative banks and cooperative societies keep their deposits in large urban cooperative banks. The urban cooperative banks (UCBs) often offer slightly higher interest rates than state-run banks and aggressively seek deposits from housing societies.
• Deposits with a co-operative bank are eligible to get protection of up to Rs.1 lakh per deposit if
  • The bank is covered under the Deposit Insurance and Credit Guarantee Scheme
  • Provided the bank has subscribed to the protection cover
• Only a fraction of a depositor’s money can get insurance cover. If a commercial bank is in trouble, there are legal provisions to protect the depositors’ interest by merging the troubled bank with another. But the same is not true in case of a cooperative bank.

Should I Invest or Not? | IRCTC SWOT Analysis

Introduction

In this article, we will discuss IRCTC IPO Analysis with Valuation Angle. The IRCTC IPO is an offer-for-sale and is a part of the government’s divestment programme for FY 2019-20 in which it is divesting 12.6% stake in the company.

IRCTC IPO Analysis with Valuation Angle

Company Profile – IRCTC

• Indian Railway Catering and Tourism Corporation (IRCTC) is a subsidiary of the Indian Railways IRCTC is a central public sector enterprise wholly-owned by the Government of India and under the administrative control of the Ministry of Railways.
• It is the only entity authorised by Indian Railways. It operates in 4 business segments :
  1. Internet ticketing
  2. Catering
  3. Packaging Drinking Water under the “Rail Neer” brand
  4. Travel and Tourism
• The website of the company, www.irctc.co.in, is among the most frequented website with about 25-28 million transactions per month. www.irctc.co.in is the most transacted websites in the Asia-Pacific region.
• It has also diversified into other businesses, including non-railway catering and services such as e-catering, executive lounges and budget hotels, which are in line with its objective to build a “one-stop solution” for customers.

Objectives of IPO

• The issue is an offer for sale and is a part of the government’s divestment programme for FY 2019-20.
• Thus, the main objective of the IPO offer is :
  1. To carry out the disinvestment of 2.016 Crore equity shares by the selling shareholder constituting 12.6% of company’s paid-up equity share capital
  2. To achieve the benefits of listing the equity shares on the stock exchanges.
• The company will not receive any proceeds from the offer and the proceeds from the IPO will go to the promoter of the company.

IPO Details

• IRCTC has launched its initial public offering (IPO) on September 30, 2019 with a plan to raise up to Rs.645 crore. The IPO has a price band of Rs.315-320 per equity share with 2.01 crore shares on sale.
• % Allocation of total number of shares reserved under 3 heads :
  1. Qualified Institutional Investors (FIIs and DIIs) : 50%
  2. Retail Investors : 35%
  3. Non Institutional (High Net Worth) Investors : 15%

IRCTC Key Financials

• Total revenue of IRCTC grew at a CAGR of 10.4% since last two financial years to Rs.1,956 crore. In the same period, EBITDA grew at a CAGR of 9.1% to Rs.372 crore.
• The Net profit in the past two fiscals has grown at a CAGR of 9% to Rs.272 crore. As of FY2019, the company had an operating profit margin and net profit margin of close to 20% and 14% respectively.
• The company has no debt. It is completely a debt-free company. As of FY2019, IRCTC had cash and cash equivalent of close to Rs 1,140 crore.

Revenue Mix FY2019

• Currently, Catering business is the highest contributor in terms of revenue at 55%. Whereas, Travel & Tourism and Internet Booking contribute around 23.29% and 12.35% respectively.
• However, there is a very high growth opportunities for Internet Booking and Travel &Tourism businesses in near future. The revenue growth of these 2 segments is going to add a great value to the overall profitability and business portfolio of IRCTC.

SWOT Analysis

Valuation Angle

• The company is valued at Rs.5,120 crore at the upper price band and the valuation is pegged at Rs.5,040 crore at lower band.
• The company is commanding a price-to-earnings multiple of 18.8 times at the higher end of the price band.
• This is quite attractive considering the factors that work in favour of its business model and its strong return ratios. There is a clear 50% appreciation in market valuation of the company in coming years.
• So, it can be a great deal for a retail investor who can avail a discount of Rs.10 per share for such a big growth effect.

Should You Invest or Not?

• IRCTC has a unique business model and the company does not have any competition across business segments.
• Positive view on the issue based on various parameters such as strong earnings profile, diversified business segment, healthy return ratio, debt-free status, and most important monopoly business.
• Recent tax reduction by government to 25.2% and increase in revenue from service charge for online ticketing will improve profitability substantially going forward.
• There is also significant opportunity for the company to ramp up the catering business given a very large captive audience which is currently being underserved.
• Increasing business volumes from catering and packaged drinking water businesses, along with service charge for online ticket booking will drive earnings growth for the company between FY2019-21.
• IRCTC’s strong business model makes its IPO a good long-term investment.
• At the IPO price band, the stock is available at a price to earnings multiple of 10 times FY2021E EPS, which looks attractive from the perspective of future earnings growth.

Impact of Corporate Tax Rate Cut on HDFC Bank’s Valuation

Introduction

In this article, we are going to discuss the HDFC Bank Valuation Update Post Corporate Tax Rate Cut by considering valuation factors like Revenue growth, PBT growth, PAT projection, PE ratios and Market Capitalisation etc. What will be the impact of corporate tax rate cut on the valuation of HDFC Bank, what is the potential upside for the stock.

HDFC Bank Valuation Update Post Corporate Tax Rate Cuts

• Finance Minister Nirmala Sitharaman had announced the corporate tax rate cuts measure to boost economy. It is one of the biggest reform in stimulating the GDP growth rate of the country.
• This move has significant positive implications for corporate profitability, the broader economy and market valuations.
• With the enhanced profitability of the corporates, companies can either pay higher dividends or use their retained earnings for the business expansion.
• Thus, the capital expenditure and investments by the corporates can lead to a big growth in coming quarters. So, we can clearly get the how important is this structural reform done by Government of India.
• There are many pros and cons of corporate tax rate cut on Indian economy.

Lets discuss the impact of corporate tax rate cut on ITC Ltd stock valuation in detail.

HDFC Bank Valuation Update

• It is the biggest private sector bank (according to the market capitalization) among peer private banks. Current Market cap is Rs.6,73,807 Cr.
• HDFC Bank is well-diversified in a range of banking and financial services including retail banking, wholesale banking and treasury operations
• Here, we are doing the valuation analysis of the HDFC bank on the basis of following valuation factors : Revenue Growth, Profit Before Tax (PBT) Growth, PE Ratio, Market Capitalisation etc.

CAGR Growth of Revenue & Profit Before Tax (PBT)

• Here, we have calculated the CAGR growth of revenue and Profit Before Tax (PBT) of HDFC Bank Ltd.
• For FY2018-19 :
  • Revenue = Rs.98,972 Cr
  • PBT = Rs.32,200 Cr
• After calculating the CAGR growth, the lowest PBT growth rate (Here, 19.99% ie. 20%) is taken for further calculations of PBT projections for FY2019-20.
• Thus, PBT Projection FY2019-20 = Rs.32,200 Cr * (1.2) = Rs.38,640 Cr
• Corporate tax rate of ITC Ltd was 35% earlier. Now, Considering the new reduced corporate tax rate for FY2019-20 ie. 25.17%,
• Profit After Tax (PAT) Projection FY2019-20 = Rs. 38,640 Cr (1 – 25.17%) = Rs.28,980 Cr
• PAT for 2018-19 was Rs.21,078 Cr, so year-on-year % growth in PAT for FY2019-20 would be almost 37% due tax rate cut effect.
• However, we should take into consideration one important thing that this 37% growth can not be achieved for FY2020-21 because of the same effective tax rates for FY19-20 and FY20-21.
• So, a drastic growth in PAT this year (FY2019-20) is a one-time effect of corporate tax rate cut. And thereafter, around 20-25% PAT growth is expected from the bank.

Market Capitalization Projections

• The historical average PE ratios for 3, 5 and 10 years are 26.57, 25.72 and 25.49 respectively.
• So we have calculated the future market cap projections of the bank by considering those PE ratios also.
• By considering the realistic expectations from the market, we are taking the current PE Ratio also for calculating its market cap projection.
• Thus, Current PE = 30.3 and PAT FY2019-20 projection = Rs.28,980 Cr
• Market Cap Projection of ITC Ltd stock = 30.3 * Rs.28,980 Cr = Rs.8,78,094 Cr
• While, the current market cap = Rs.6,73,807 Cr
• So, % Growth in the market cap with current PE ratio would be = 30.31%
• However, the current higher PE ratio (30.3) of the bank as compared with its 3 year, 5 year and 10 year average PE ratios is the effect of :
  • Rise in the stock price (Almost 9%) due to improved sentiments of the market and increased buying on account of
    1. Increased profitability of the bank post tax rate cuts
    2. Expectation of higher dividend payout to the shareholders
• So, while analyzing the market capitalization projections of the bank, we should consider its historical PE range. In this way, we can make the realistic projections and interpret the correct potential upside for the HDFC bank valuation.
• Thus, by considering the average historical PE, we expect the stock’s PE projections will come down to around 25. Thus, a healthy growth of almost 13-17% in the market capitalization can be achieved by the bank in coming quarters.

Summary

• In addition to the corporate tax rate cuts effects explained above, strong positioning, healthy balance sheet growth and superior asset quality & management, the bank is well poised to deliver consistently with margin leadership & robust returns.
• So the future growth rate of the company is also very positive over medium to longer term perspective