I am happy to over-invest in technology: IDFC’s Rajiv Lall
The way the world is moving, branches are becoming less relevant to connect with customers, says Rajiv Lall, chairman of IDFC Ltd
Mumbai: Rural and corporate banking will be the initial focus of soon-to-be launched IDFC Bank, Rajiv Lall, chairman of IDFC Ltd, said in an interview on Tuesday. While IDFC Bank will be profitable from Day 1 due to the existing infrastructure lending business of IDFC, which will be transferred to the bank, Lall noted that the banking sector will face challenges in terms of profitability as competition intensifies. But he is confident that for a new bank like IDFC “there is a much bigger opportunity... to grow today than there was 10 years ago”. Edited excerpts:
How far are you from getting the final approval from the Reserve Bank of India (RBI)? Have you already done a soft launch?
We will launch in the first week of October. We are awaiting the final go-ahead from RBI, which should happen shortly. Then it’s a question of getting the testing done for our fairly complex technology systems, in time for the October launch.
As far as the pilots are concerned, there are some branches that we have already launched in Madhya Pradesh. These are part of our Bharat banking division. They have been launched as a non-banking finance corporation (NBFC) but all of that will be transferred to the bank. We can’t do any deposit-taking activity right now. The idea was to test our technology and our systems ahead of time. So, by the time we get to launch, we’ll have 15 branches in Madhya Pradesh and 5 branches in Delhi and Mumbai.
Who will be the chairman of IDFC Ltd and IDFC Bank?
The chairman of the bank will be Anil Baijal. I will be the vice-chairman and managing director and as I step down as executive chairman of IDFC, we will have a non-executive chairman who will take my place at IDFC Ltd. Vikram Limaye will remain managing director and chief executive officer at IDFC and will therefore be on the board of the bank as one of the representatives of the largest shareholders. Vinod Rai is also joining the board of IDFC as an independent director.
What will your corporate banking set-up look like?
We have made treasury, cash management, transaction banking, government banking, mid-markets, SME, investment banking and large corporates into one large piece headed by Ajay Mahajan. The differentiating feature is the integration of investment banking with commercial corporate banking. In this cycle, we have decided that it all belongs together.
How will you differentiate yourself on the corporate banking side?
The difference has to come in terms of service. You can’t start to get too innovative in terms of product offering in banking. I don’t want to do that. Our differentiation is something that will have to be felt in the marketplace. It’s not an easy thing to do. The biggest weakness that existing banks have is the quality of service that they deliver to customers. I can tell you that service will be our focus. That’s very easy to say but we are under no illusion. This will be very difficult to deliver.
If you look at the three broadest categories of the franchise we want to build—there is corporate, there is retail, which is tier-1 focused, and then there is Bharat banking. Of these three, the toughest will be the retail bank because of sophisticated customers as there is a variety of offerings available to them. So of the three businesses, retail will be the toughest to break into.
On the corporate side, we have very strong existing relationships. These corporates are not just in the infrastructure sector, they are embedded in the much wider non-infra corporate landscape. We believe that we have a very strong starting base to work from in terms of feeding this pool of existing customers with products and services we were unable to provide till now.
We will also use this pool to penetrate into the vendor base, the SMEs that surround these relationships. This gives us a very strong base which generates, on an ongoing basis, significant revenues and profits. This is why I can say, without any hesitation, that IDFC Bank will be profitable from Day 1.
You will have to rebalance the book away from the infrastructure sector...
Proportionately, yes. The incremental lending will be disproportionately non-infra. That’s what is happening in the economy in any case. That’s what we require in terms of diversifying our revenue and customer base. The relative share of the infra book will decline over time.
If the private investment cycle picks up and infrastructure investment picks up, as is hoped, will you be in a position to lend into that cycle?
Nothing prevents us from doing that. If that happens, then we are in an extremely good spot because the way we would fund that part of our book will be extremely compelling. That part of the book can be bond funded, with the additional benefit that those liabilities are not subject to CRR (cash reserve ratio) or SLR (statutory liquidity ratio) requirements. So, if the infrastructure lending cycle picks up and we are comfortable with the risk profile, we will exploit that to our advantage.
What is the growth rate that a new private bank can achieve right now? Is it lower than the previous set of private banks who probably had more opportunities due to gaps in the market?
On balance, there is a much bigger opportunity for private banks to grow today than there was 10 years ago. Ten years ago, when the cycle was taking off, the balance sheet of public sector banks was much stronger.
Therefore, the ability of public sector banks to compete, just on grounds of availability of capital, is much lower now. Eventually they will get capital, but if the government is serious about reforms, capital will not be so easily available to public sector banks. I fully expect that some public sector banks will become stronger but there will be a bunch of other public sector banks which will not be able to ride on coat-tails. And that will create opportunities for private sector banks to take away market share, even if we have a lower economic growth.
If the country keeps growing at 5-6%, that is pretty good for us because it means that the financial system should grow at 15-20% on a sustainable basis and if things go right, then we should be above that average which is not a bad growth rate.
What will your margin profile look like?
We are actually in a very interesting situation because depending on what lens you wear we are either a start-up or not a start-up.
We are an existing business that will use and expand its existing sources of profitability to underwrite investments in new segments of our business model. In that sense, our profits will be under pressure because we will be investing a significant chunk in building a retail franchise and investing in technology and all of that.
So, the consolidated profit of IDFC group will come down to start with, and then, if we get things right it will against a see a consistent and healthy rise over time. But on a wider systemic level, profitability of the banking system generally is going to be under increasing pressure as new banks, changes in technology and new regulations are going to be feeding on the same fields.
Payments banks, small banks and non-banks like MobiKwik and Paytm, which provide convenient services to customers, are taking away income from banks. We are going to see a systemic and systematic rise in competition both from within and outside the banking industry that is going to put pressure on sustainable banking profitability. This is very disquieting for existing banks.
And for new banks?
No, not for new banks, because if we are able to get our cost model right. Then, we have the opportunity to take advantage of this discontinuity and gain market share. So, the only people that can survive and thrive in this market now are people who are much more cost conscious than the existing players have had to be.
I am diffident about branch expansion because I don’t want to over-invest in branches. I am happy to over-invest in technology because I know it will pay for itself. You are going to see a very different kind of landscape in banking in the next 10 years.
Can you walk us through Bharat banking? You have said this will be profitable from the start. Will it be a technology-driven model?
The overall concept is to take banking to the community. That is also what Bandhan is doing. But the difference between us and Bandhan will be in the technology architecture. Compared to the traditional microfinance model, the level of sophistication of technology will be several standard deviations above what microfinance firms have been able to do with technology.
The way the world is moving, branches are becoming less relevant for a connect with customers. The goal is really to use technology intelligently in a way that it builds a trusted relationship with customers at scale and at lower cost. We believe this combination of scale and technology has the potential to create an interesting business model.
I cannot pretend that the Bharat banking operations will contribute meaningfully to the overall profits of the bank. Each branch ecosystem may not be immediately profitable, but it becomes profitable fairly quickly. You break even because you are confident about making a lending proposition available in a risk-mitigated manner and that makes the whole economics of the ecosystem viable.
We are excited and confident that over a three-to-five-year horizon, a bulk of our customers will come from the Bharat banking division even though a bulk of the revenues and profits will come from the corporate and wholesale bank.
What will be the branch mix between rural and urban?
I’ve given you a sense of it. At the start, 15 of our branches will be Bharat banking and only five will be in the usual metros. This balance may not remain as skewed but our branch expansion in urban India will be much more parsimonious than the branch expansion in rural India. The distribution of branches in these areas will be much more than what a mere compliance mindset would require.
There was an issue with the tax-free bonds you had issued a few years ago. You want to transfer them to the bank but the finance ministry is not in favour of it. What is the latest update?
There has been a lot of exchange of information with the finance ministry. The Madras high court has examined everything and we don’t expect any difficulties. We are now looking pretty set to transfer these bonds.
RBI requires everything to be transferred but the only issue was how does one repay the bonds. We have no problems servicing the debt of these bond holders from either the bank or even IDFC because we are only talking about Rs.2,800 crore. Both the balance sheets are strong and either of them can pay back. IDFC can also stand guarantee and the bank can take over the entire liability and pay it off.
The first tranche completes five years in December. The most likely outcome is the debt will get transferred to the bank.