Verdict: Let it first prove its mettle

IPO Snapshot:

CSB Bank is entering the primary market on Friday 22^nd November 2019, to raise Rs. 410 crore via an IPO, comprising fresh issue of up to Rs. 24 crore and an offer for sale (OFS) of up to 1.98 crore shares of Rs. 10 each, by 26 selling shareholders, mainly financial investors, in the price band of Rs. 193-195 per share. Since bank reported losses upto FY19, retail portion is restricted to 10% of issue size (over 35% otherwise) with reservation for institutions increased to 75% (over 50% earlier). Issue represents 12.11% of the post-issue share capital and will close on Tuesday 26^th November, with listing likely on 4^th Dec.

Objects of Issue and Shareholding:

Canadian billionaire Prem Watsa’s Fairfax holds 50.09% stake as a promoter (purchased at Rs. 140 per share, since Oct 2018) but voting rights are capped at 26%. As per prevailing RBI regulations, this shareholding has to reduce to 40% within 5 years, to 30% within 10 years and finally to 15% within 15 years. Thus, selling overhang of large chunks intermittently by the promoter will remain. Immediately post IPO, promoter shareholding will drop to 49.72%.

Bank is not in need of funds, as it has received primary infusion of Rs. 1,200 crore in past year from new promoter, strengthening capital adequacy ratio (CAR) to 22.77% (30-9-19) from 8.33% (31-3-18), versus requirement of 9%. Tiny fresh issue may have been merely included in the IPO as a buffer.

This IPO is being undertaken under RBI’s July 2018 directive to the bank, to list shares by 30^th Sep2019, a requisite while permitting Fairfax to purchase majority stake. Listing has been delayed by a couple of months, for which, MD & CEO’s remuneration stands frozen along with restrictions on fresh permission to open new branches. IPO is structured as an OFS by 26 selling shareholders, including 5 financial investors, HDFC Life, ICICI Pru, ICICI Lombard, Edelweiss Tokio, Bridge India Fund having cost of Rs. 100-120 per share, having invested since 2016 and making a complete exit now. While these 5 investors account for 60% of the OFS portion, others include Federal Bank (15% of OFS, cost of Rs. 156 per share), Coffee Day group’s Way2Wealth (8% of OFS, cost Rs. 256 per share). Bank has over 26,000 public shareholders, who are not participating in the OFS, prominent ones being:

1. UAE based NRI MA Yusuff Ali of Lulu Group holding 2.9% stake
2. PE firm Volrado Venture with 1.9% stake
3. Enam’s Vallabh Bhansali owning 1.27% stake bought at Rs. 160 per share in May 2017 from erstwhile promoter NRI Chansri Chawla.

Company Background:

CSB Bank, formerly The Catholic Syrian Bank, is a 98 year old Thrissur, Kerala head,quartered retail focused private bank, serving 1.3 million customers, mainly in Kerala, Tamil Nadu, Karnataka and Maharashtra. Its network of 412 branches and 290 ATMs provides gold, SME, retail and wholesale loans and serves NRI customers (which account for 25% of deposits). While Kerala accounts for 67% of bank’s total deposits of Rs. 15,510 crore, advances are not as concentrated, with home state Kerala accounting for 30% of total advances of Rs. 11,298 crore, as of 30-9-19.

Financials:

FY19 total income rose 4% YoY to Rs. 1,483 crore, with net interest income (NII) surging 14% YoY to Rs. 440 crore. Due to elevated cost structures (cost to income ratio of 98%) and provisioning of Rs. 111 crore, profit before tax (PBT) was negative at Rs. 98 crore and net loss after tax stood at Rs. 66 crore. During H1FY20, total income rose to Rs. 817 crore, with NII at Rs. 280 crore. Cost to income ratio, although down to 72%, is still high, given industry norm of 40-55%. Since provisions contracted to Rs. 35 crore in the first six months, PBT was back in the black at Rs. 69 crore, with net profit of Rs. 44 crore, leading to an EPS of Rs. 3.86 for H1FY20. As of 30-9-19, bank’s CASA ratio stands at 28%, net NPA at 1.96% and net interest margin (NIM) at 3.43% for H1FY20.

During H1FY20, deposits growth was 2.6% on back of bank’s conscious strategy to go slow on term deposits, given fresh funding from promoter, but advances grew at a muted 3.6% to Rs.11,300 crore. These advances comprise of 33% of gold loan, 30% SME loans, 25% wholesale and balance 13% non-gold retail loan (such as home, loan against property, vehicle, education loans). Between FY17 to H1FY20, advances grew at 13% CAGR, aided by 45% growth in wholesale loans and 28% growth in gold loans. However, in absolute terms, SME and non-gold retail loans actually contracted 2% and 3% respectively, during this 30 month period. Even during H1FY20, SME loans fell 3% (from Rs. 3,473 crore as of 31-3-19 to Rs.3,361 crore as of 30-9-19) while non-gold retail loans declined 5% (from Rs. 1,562 crore to Rs.1,490 crore). When domestic private banks are demonstrating improved share of retail loans supported by slow lending from public sector banks, it is surprising how CSB has not made inroads into its key turf of SME and non-gold retail lending; instead fuelling advances growth only by gold and wholesale loans. Thus, recent growth looks more opportunistic in nature. Page 24 of RHP states that against defaulting loans (under SARFAESI and not IBC) of about Rs. 760 crore, provision of Rs. 480 crore has been made, as of 10^th Nov19, which again highlights the bank’s underwriting skills or the lack of it. Also, it remains to be seen if further provisions will impact P&L in H2FY20.

Going forward, bank has stated intent to reduce share of wholesale to 15%, which is now at 25%, and was at 13% as of 31-3-17. Gold loan, being collateral based short-term lending, with almost nil delinquency, is a good business to be in, but can not be the sole growth engine, given its inherent link with gold prices. This is precisely the reason why pure-play gold loan NBFCs like Muthoot and Manappuram have diversified into home, micro and vehicle loans. Thus, CSB’s ability to continue with broad-based growth in advances, especially in SME and non-gold retail is yet to be proven and that remains a key concern in the competitive geography of South and West India. 

Valuation:

At Rs. 195, bank’s market cap will be Rs. 3,383 crore, translating into PBV of 2.2x, on 30-9-19, BVPS of Rs. 89. This multiple is quite stretched, given peer comparison of other prominent South focused banks, as under:

City Union commands premium valuation of PBV of 2.8x, on FY20E BVPS, as its NIMs have been historically been among the highest in the industry at 4% plus (4.3% in FY19), similar to biggies HDFC Bank and Kotak. Lately, City Union witnessed temporary contraction in margins. On PE multiple basis too, its multiple at 20x is lower than CSB’s 23x. Another mid-cap bank DCB is currently ruling at much lower multiples on both counts (PBV and PE), despite better asset quality (net NPAs < 1%) and larger size, with presence in premium geography of West India. Even the larger Federal Bank with bigger scale and better asset quality is ruling at much lower multiples. Gold loan financiers Muthoot and Manappuram are trading at FY20E PBV multiples of about 2.2-2.3x, which is justified, given their pan India presence, higher yield on gold loans of 20%+ over 12.5% on gold loans for CSB Bank and established track record. Since CSB is still at a nascent stage with execution story yet to unfold, premium pricing for an OFS issue for a small sized bank is seen quite aggressive.

Bank plans to double branch count in the next 5 years, implying that cost to income ratio may remain elevated, despite employee costs getting rationalized gradually. Rising competition from payments/small finance banks and on-tap banking licensing by RBI doesn’t warrant a scarcity premium for a bank either. CSB did a primary issue of shares to Fairfax a year ago at Rs. 140 per share (which includes control premium to promoter), while current offer price is at 39% premium to last transacted price, which is steep. About 20% premium can be justified given turnaround in financial operations, but 39% actually discounts all future positives. Lower allocation for retail in a small issue may create some market fancy, but we believe it is better to stick to proven names and consistent leaders among the new age private banks, which are rather ruling at an attractive levels currently.

Conclusion:

While recent promoter fund infusion is positive for the bank, it is yet to prove its mettle on execution capabilities and underwriting. Hence, we advise to wait for the bank to perform over the next few quarters, as current IPO valuations are not too attractive either.

Grey Market Premium (GMP) of CSB Bank: Grey Market Premium of CSB Bank is an unofficial figure, against guidelines of SEBI. We strongly recommend investors against following the grey market premium. To know more about grey market premium and how it operates, read our article on ‘grey market premium’ in Pathshala column.

Disclosure: No Interest.