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Equitas Small Finance Bank Ltd’s early update on its June-quarter performance has given cheer to investors. The worry that small finance banks would be the worst hit by the second wave of the pandemic is now receding and shares of these lenders are benefiting from the change in sentiment.

Shares of Equitas rose nearly 20% on Wednesday after the release of the quarterly update, but slipped 4.5% on Thursday.

Equitas reported a mere 0.5% sequential contraction in its loan book for the June quarter. Moreover, collection efficiencies showed recovery in June, a sign that things may be getting better.

This better-than-expected performance comes close on the heels of a similar update from AU Small Finance Bank Ltd.

Hits and misses
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Hits and misses

The lender had reported a 2% contraction in loans in its quarterly update.

To be sure, disbursements during the quarter have collapsed as the lender reported a 50% sequential drop.

Notwithstanding the improvement in collections for June, the lender witnessed a sharp fall in collection efficiencies compared with the previous quarter.

Of course, the pain point was microfinance loans. Even at 66.9% in June, collection efficiency in micro-loans was far lower than 105% in March. Small business loans and vehicle loans too suffered in a similar way.

Micro and small enterprises (MSE) finance and corporate loans, however, fared well. Collections in these two categories stood at 108% and 243%, respectively.

Investors also need to look at collection efficiencies, excluding bad loans. For microfinance and small business loans, the lender has not been able to collect more than 70% and 86%, respectively.

Simply put, loans that were not stressed before are now showing signs of pain. Borrowers that had defaulted are showing an increase in stress.

“Overall, collection trends would be a key monitorable in the near term," wrote analysts at Motial Oswal Financial Services Ltd in a note.

The upshot is that Equitas Small Finance Bank has a challenge when it comes to asset quality. Indeed, this can be stretched to other small finance banks as well. Details of asset quality that the bank will release in its audited financial statement for the quarter at a later date would determine whether investors should worry or not.

For now, a modest valuation seems to be working for the stock. Despite the recent sharp gains, the Equitas stock trades at a discount to its estimated book value for FY22. AU Small Finance Bank shares trade at a multiple of 4.6 times.

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