SECTOR UPDATE

BFSI
IDFC Bank - Capital First merger: A win-win proposition
India Equity Research | Banking and Financial Services

Post an unsuccessful attempt of IDFC-Shriram Group deal, IDFC Bank

(IDFCB) has now decided to merge with retail/SME financier, Capital First
(CapF) (subject to various approvals) at swap ratio of 139:10 (139 shares of
IDFC Bank for 10 CapF shares). Strategically, the merger is a step in the right
direction to achieve stated intentions of both entities: a) IDFC Bank:
"Retailising" its business; and b) Capital First: Transformation to “Universal
Bank”. Financially, this merger will be synergistic, value accretive and
provide an opportunity to new management (Mr. Vaidyanathan as MD &
CEO with Dr. Rajiv Lall as non-Executive Chairman) to build a robust banking
franchise. Given synergistic value that the merger will create, we ascribe a
value of INR364bn to the combined entity (1.75x FY19E book). While in the
immediate term, just on basis of declared swap ratio, benefits flow more to
CapF, we revise the stock target price to INR1,033 (INR927 earlier) and
maintain ‘BUY’. We revise TP of IDFCB to INR74 (INR67 earlier) and maintain
‘HOLD’. Ramp up of liability franchise will be a key monitorable.

Opportunity to build robust banking franchise

IDFCB, post receiving the universal bank license, was struggling with execution and
growth owing to a relatively weak retail assets & liabilities platform. However, in past 2
years, it has invested in franchise rolling out 100 branches, building customer base of
>1.9mn, introducing retail products, technology initiatives, etc. CapF, under Mr.
Vaidyanathan’s leadership, has a strong track record of building a retail asset base of
>INR200bn with customer base of >5mn. Not only does this merger give CapF
management access to a bank platform towards early part of the life cycle, it also gives an
opportunity to build a robust banking franchise on IDFCB’s existing platform. Besides,
CapF’s product mix and customer profile (LAP, SME loans, 2-wheelers, CD financing, etc)
fit well into the banking fold and will have access to low cost funding avenues. The only
monitorable will be ramp up of liability franchise – particularly CASA.

In immediate term, benefits flow more to CapF

Given the retail lending franchise that CapF brings to the table along with core
management team, it is valued at INR938/share (12% premium over CMP), implying 3.2x
FY19E BV. However, for IDFCB, it entails dilution of 40%. With IDFC’s holding in IDFCB
getting reduced to 37.6%, IDFC will require infusion to take its shareholding to 40%.

Valuations and Outlook

Kunal Shah
The merged entity will have >35% of retail assets with an established platform (both +91 22 4040 7579
entities have invested in building processes, systems and infrastructure), diversified [email protected]

product suite, adequate capital and potential to grow on a sustainable basis. While there
Prakhar Agarwal
could be near term challenges by way of deposit ramp up and PSL requirement, over +91 22 6620 3076
medium- to-longer-term, the merger will be value accretive and synergistic. We maintain [email protected]
‘BUY/SO’ on CapF with TP of INR1,033 and ‘HOLD/SP’ on IDFCB with TP of INR74.
January 13, 2018

Edelweiss Research is also available on www.edelresearch.com, Edelweiss Securities Limited

1
Bloomberg EDEL <GO>, Thomson First Call, Reuters and Factset.
 Banking and Financial Services

Key questions in investors’ mind

 Build-up of liability franchise: IDFCB has been investing towards scaling up its retail
franchise, but its liability base is still weak with retail CASA at ~INR8bn and retail asset
base at mere ~INR40bn. Similarly, CapF being an NBFC is dependent on wholesale
borrowings – with more than 50% bank borrowings. While it will provide access to low
cost funds, replacement of bank borrowings and ramp up of deposit base will be a key
monitorable.

 Process will take 3-4 quarters: All regulatory approvals (RBI, CCI, SEBI, etc) will take
almost 9-12 months to come in.

Table 1: Swap ratio at 139:10 leading to dilution of 40% for IDFC Bank
IDFC Bank CapF
Mcap (INR mn) 229,681 82,840
No. of share (mn) 3,403 99
Price (INR) 68 838
Share swap 139.0 10.0
Additional Share issued (mn) 1,375
Combined shares (mn) 4,777
Dilution (%) 40.4
Source: Company, Edelweiss research

Table 2: Retail proportion will rise to 35% for combined entity

Q2FY18 IDFC Bank CapF IDFCB + CapF
Customers (mn) 1.9 5.1 7.0
Employees 4,677 1,924 6,601
Branches 100 228 328
Loans (INR mn) 488,300 229,735 718,035
-Retail 40,880 213,284 254,164
-(%) of Retail 8.4 92.8 35.4
Networth (INR mn) 150,560 24,203 174,763
Total Assets (INR mn) 1,199,520 199,212 1,398,732

Table 3: Financial proforma of merged entity without synergy benefits

IDFC Bank Capital First Proforma (IDFCB+CapF)
(INR mn)
FY17 FY18E FY19E FY17 FY18E FY19E FY17 FY18E FY19E
Networth 1,46,780 1,57,418 1,69,825 23,038 26,025 30,024 1,68,844 1,82,470 1,98,875
IDFC Infusion - - 9,300
Networth including infusion 1,68,844 1,82,470 2,08,175
Loans 4,94,017 5,76,738 7,12,532 1,50,914 1,93,221 2,36,985 6,44,931 7,69,959 9,49,517
-Loan growth (%) 16.7 23.5 28.0 22.6 19.4 23.3
Assets 11,21,597 13,35,416 15,33,716 1,64,119 2,03,319 2,48,679 12,85,716 15,38,735 17,82,395
-Asset growth (%) 19.1 14.8 23.9 22.3 19.7 15.8
PAT 10,197 13,645 15,914 2,389 3,485 4,681 12,586 17,130 20,595
EPS (INR) 3.0 4.0 4.7 22.3 33.2 44.5 3.6 4.2
BV (INR) 43.2 46.3 50.0 229.6 257.0 293.6 38.2 42.5
RoE (%) 6.9 9.0 9.7 10.4 14.2 16.7 9.8 10.5
RoA (%) 0.9 1.1 1.1 1.6 1.9 2.1 1.2 1.2
Number of share (mn) 3,403 3,403 3,403 99 99 99 4,777 4,901
*Note: Haven’t assumed any synergy benefits
Source: Company, Edelweiss research

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 Banking and Financial Services

Table 4: Share holding pattern, IDCF to come down to 37.6% which needs to be increased to 40% entailing some dilution
Capital First (%) IDFC bank (%) Combined (%)
Warburg Pincus 33.9 IDFC 52.8 IDFC 37.6
GIC 8.8 GOI 7.7 Warburg Pincus 9.9
Vaidyanathan 4.5 Others 39.5 GOI 5.5
Others 52.7 GIC 2.6
Vaidyanathan 1.3
Others 43.2
Source: Company, Edelweiss research

Chart 1: MCap-to-loans of various banks suggest potential for IDFC bank, albeit RoE will tend to be lower than peers
3.0 25.0
0.8

0.6 2.4 21.4

0.6
0.5 1.8 17.8
0.5

(%)

(%)
0.3 0.4
(x)

0.3
0.3 1.2 14.2
0.3
0.6 10.6
0.2
0.0 7.0
0.0 AXSB ICICIB HDFCB IIB Yes IDFCB
AXSB ICICIB HDFCB IIB Yes Bank IDFCB Bank
Mcap/loans (FY19) RoA RoE

Table 5: Synergy benefits in immediate term to boost return & will be earnings accretive
Immediate synergies on merger (%) (INR mn)
Positive
Borrowing 141,081 Interest cost benefit 1.0 1,411
Total benefit 1,411
Negative
Borrowing 141,081 CRR 4.0 395
Borrowing 141,081 SLR 20.5 289
Total drag 684
Net impact 727
RoE impact (%) 0.4
RoA impact (%) 0.1
EPS impact (INR) 0.2
Source: Company, Edelweiss research

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 Banking and Financial Services

Chart 2: Borrowing mix

Capital First - INR175bn IDFC Bank - INR988bn
Perpetual Others incl CASA
Sub Debt Debt CDs 3%
CP 6% 2% 15% FD
4%
24%

CBLO/Repo
Bank /LAF
Borrowing 20%
NCD 52%
Infra Bonds
36% 10%
FC Loans
2% Bonds &
Deb.
26%
Source: Company

4 Edelweiss Securities Limited

 Banking and Financial Services

Edelweiss Securities Limited, Edelweiss House, off C.S.T. Road, Kalina, Mumbai – 400 098.
Board: (91-22) 4009 4400, Email: [email protected]

ADITYA
Digitally signed by ADITYA NARAIN
DN: c=IN, o=EDELWEISS SECURITIES LIMITED,
Aditya Narain ou=HEAD RESEARCH, cn=ADITYA NARAIN,
serialNumber=e0576796072ad1a3266c27990f
20bf0213f69235fc3f1bcd0fa1c30092792c20,
Head of Research
NARAIN
postalCode=400005,
2.5.4.20=3dc92af943d52d778c99d69c48a8e0c
89e548e5001b4f8141cf423fd58c07b02,
[email protected] st=Maharashtra
Date: 2018.01.13 21:14:02 +05'30'

Coverage group(s) of stocks by primary analyst(s): Banking and Financial Services

Allahabad Bank, Axis Bank, Bharat Financial Inclusion, Bajaj Finserv, Bank of Baroda, Capital First, DCB Bank, Dewan Housing Finance, Equitas Holdings
Ltd., Federal Bank, HDFC, HDFC Bank, ICICI Bank, IDFC Bank, Indiabulls Housing Finance, IndusInd Bank, Karnataka Bank, Kotak Mahindra Bank, LIC
Housing Finance, L&T FINANCE HOLDINGS LTD, Max Financial Services, Multi Commodity Exchange of India, Manappuram General Finance, Magma
Fincorp, Mahindra & Mahindra Financial Services, Muthoot Finance, Oriental Bank Of Commerce, Punjab National Bank, Power Finance Corp, Reliance
Capital, Rural Electrification Corporation, Repco Home Finance, State Bank of India, Shriram City Union Finance, Shriram Transport Finance, South Indian
Bank, Union Bank Of India, Yes Bank

Recent Research
Date Company Title Price (INR) Recos
Recent Research
11-Jan-18 IndusInd Retail growth re-emerging to 1,700 Buy
Bank fore; Result Update
10-Jan-18 South Indian Core improving; asset quality 32 Buy
Bank holds ground;
Result Update
28-Dec-17 BFSI Turning interest rates table:
Impact analysis;
Sector Update

Distribution of Ratings / Market Cap

Edelweiss Research Coverage Universe Rating Interpretation
Buy Hold Reduce Total Rating Expected to

Rating Distribution* 161 67 11 240 Buy appreciate more than 15% over a 12-month period
* 1 stocks under review
Hold appreciate up to 15% over a 12-month period
> 50bn Between 10bn and 50 bn < 10bn
Reduce depreciate more than 5% over a 12-month period
Market Cap (INR) 156 62 11
One year price charts

900 70
820 65
740 60
(INR)
(INR)

660 55
580 50
500 45
Dec-17
Jun-17
Dec-17

Oct-17
Jun-17

Nov-17
Jul-17
Apr-17
Oct-17

Feb-17

Sep-17
Nov-17

Mar-17
Jul-17

Jan-17

Jan-18
Apr-17
Feb-17

Sep-17
Mar-17
Jan-17

Jan-18

Aug-17
May-17
Aug-17
May-17

Capital First IDFC Bank

5 Edelweiss Securities Limited

 (INR)

55
70

45
50
60
Jan-17 65
Feb-17
Mar-17

Apr-17

May-17

Jun-17

Jul-17
IDFC

6
Aug-17

Sep-17
Banking and Financial Services

Oct-17

Nov-17

Dec-17

Jan-18

Edelweiss Securities Limited

 Banking and Financial Services
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