Bharat Financial

SKS Microfinance is entering the capital market through a public issue of 1.68 crore equity shares of Rs.10 each, comprising of an offer for sale of 93.46 lakh shares by 4 promoter entities and balance 74.45 lakh shares, through a fresh issue. The issue, priced between Rs. 850 to Rs. 985 per share, offers Rs. 50 discount to investors applying under the retail category. The issue represents 21.6% of the fully diluted post issue paid-up capital of the company, opens on 28^th July 2010 and closes on 30^th July for QIBs and on 2^nd August for the retail and HNI category.

SKS Microfinance, an NBFC by legal constitution, is the India's largest micro finance institution, in terms of value of loans outstanding, borrowers and number of branches. It provides collateral-free loans, having an average ticket size of about Rs. 10,000, to poor women in rural India, for conducting any income generating activities. The loans are repayable in 50 equal weekly instalments and carry interest rates between 26.7% to 31.4%. As of 31^st March 2010, the company had a wide-spread network of 2,029 branches in 19 Indian states, catering to 67.8 lakh women borrowers.

The company has reported robust growth between FY07-FY10. Its total income grew at 176% CAGR to Rs. 959 crore in FY10, from Rs. 46 crore in FY07. Likewise, its net profit increased at 330% CAGR, during this period, to Rs. 175 crore in FY10 from Rs. 2 crore in FY07. During FY10, it disbursed Rs. 14,387 crore in loan amount and earned net profit margin of 18.2% and EPS of Rs. 32.98.

The company has a very good asset quality, as reflected by low NPAs. As on 31^st March 2010, gross NPAs were Rs. 9.6 crore (0.33% of gross loans outstanding) and net NPAs stood at Rs. 4.8 crore (0.16% of net loans outstanding). For FY10, it earned a return on assets (RoA), a key parameter for NBFCs, of 4.9%. Its networth, as of 31^st March 2010, was Rs. 950 crore and book value per share amounted to Rs. 147. Total debt amounted to Rs. 2,695 crore, of which 55.8% can be recalled by the company's lenders anytime, leading to a debt-equity ratio of 2.8:1.

In the past, the company has faced instances of cash embezzlements and misrepresentation by employees. Also, with a headcount of over 21,000 employees, its employee attrition stood high at 25.7% for FY10.

The primary object of the issue is to fund the company's future growth plans. At the upper end of the price band of Rs. 985, the company is expected to see fund infusion of about Rs. 733 crore while the offer for sale will amount to Rs. 920 crore. Recent trend in IPO pricing has been to keep a very close price band, generally in the range of 6-8%, representing confidence on the part of promoters. But in this case, the 16% range between the lower and upper end of the price band is quite large, considering the high issue price, in absolute terms.

At the lower and upper end of the price band, the company is issuing shares at PE multiple of 25.8 and 29.9 times respectively. On a PBV basis, it is issuing shares at 5.8 and 6.7 times respectively, calculated on pre-issue equity. On a post dilution basis, PBV works out to 3.9 and 4.2 times at the lower and upper ends, respectively.

There are no exact comparable companies listed in India. However, it can be benchmarked with asset financing NBFCs such as Shriram Transport Finance and M&M Financial Services. Shriram Transport, clocking annual revenues of Rs. 4,500 crore had net profit margin of 19.7% in FY10. It is presently ruling at PE multiple of 17.2 times and PBV of 3.9 times. On the other hand, M&M Financial Services, having earned PAT margin of 22.8% in FY10 on revenues of over Rs. 1,500 crore, is ruling at PE and PBV of 14.7 and 3.0 times respectively. These companies, bigger in size, with higher net profit margins, established presence and earning comparable RoAs are available at much attractive valuations in the secondary market. Obviously, an investor cannot afford to overlook these comparable peers and will not get carried away by the innovative concept of micro financing.

We have seen that a lot of hype has been created for this issue, firstly due to Narayana Murthy and George Soros backed Quantum fund being PE investors in the company and secondly due to the nature of business of discharging social obligations or rendering services to the poor. But both are coming at a heavy price, leading to good profit for the promoters. It would have been much better, if lending would have been made at around 15% to 18%, as there is not much NPAs. Infact, lending rate of around 28% looks quite exorbitant and seen as fleecing poor and illiterate borrowers. Also, it is felt that borrowers have seen adopting the teeming and lading approach, as fresh loan is availed to repay old ones.

On pure economics of business and fundamentals, issue is looking expensive, but still may evoke good response, which may result in listing gains. It would have been better to see book getting discovered at Rs. 850 per share (which looks unlikely looking to the response having received from anchor investors) thus having an effective cost to retail investors at Rs. 800 per share. But element of premium looks to have built in its pricing due to first mover advantage and good hype.

Those who are looking to go for it are advised to do so at the upper band, as otherwise they may get left out.