IDFC Bank, Capital First merger: will the shoe fit this time?
What is trickier than buying a shoe? Perhaps it’s buying what could be termed an aspirational shoe, fully knowing that the wearer will struggle to achieve a balanced gait.
IDFC Bank Ltd’s inorganic attempts at growth have been very similar to the pitfalls such a shoe-shopper seeking upward mobility faces. Its latest deal is a merger with non-banking finance company (NBFC) Capital First.
In the roughly three-and-a-half years of its existence, the private lender has acquired a micro finance company in 2016, and now aims to merge with a retail and small business financier, in its bid to achieve its aspirational six million customer base by 2020.
Capital First will be IDFC Bank’s big leap towards this goal. Once merged, the share of retail loans in the bank’s book would double from the current 26%.
Expanding its retail footprint would be easy after it adds 228 centres of the NBFC to its branch network.
The icing on the cake is that the portfolio has an impeccable asset quality, with gross and net bad loans around 1%.
The swap ratio is 139 shares of IDFC Bank to every 10 shares of Capital First. That works out to paying a bit more than three times estimated FY19 book value for Capital First. But a glance at the NBFC’s stellar growth over the past five years makes this dilution worthwhile for IDFC Bank’s promoter.
Apparently, the shoe fits.
But, can the wearer of the new shoe fill it? Shareholders of Capital First, especially biggest stakeholder Warburg Pincus, get what they have been lusting after—a bank licence. This will reflect in the stock price soon as most analysts expect a significant appreciation in the coming weeks.
The deal values Capital First at around Rs9,200 crore, adding a cool premium of 12% over the stock’s Friday closing. This means the valuation of Warburg Pincus’s investment in the company has already swelled.
But this bank licence is fraught with issues. IDFC Bank’s book is ravaged by bad loans due to legacy infrastructure accounts. The IDFC Bank stock has gone nowhere and, in fact, trades 4.3% lower than its listing price. A lot has to do with a lack of direction that is a side effect of inorganic growth. Add the break-up of the announced nuptials with the Shriram Group, which, too, affected the stock.
In all its attempts to improve its asset side, IDFC Bank has given no guidance for its liabilities. The strength of any bank’s asset size is driven from its liabilities franchise and, here, IDFC Bank is stumbling.
IDFC Bank’s deposits add up to just Rs38,890 crore, as of 30 September; and of this, only 8.2% are current and savings accounts. Managements of both companies claim that synergies in culture and technology give the deal an edge. Both are hoping that this synergy helps in expanding the deposit pie. And here is where investors need to see if the shoe will pinch.
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