A key overhang on players such as Equitas and Ujjivan has been the RBI’s norm which requires them to list their banking subsidiary within three years and maintain minimum promoter shareholding in the bank (at least 40 percent) for a period of five years from the date of commencement of their business.
Ujjivan Financial Services, the holding company of Ujjivan Small Finance Bank,that got listed in May 2016, fell about 3 per cent on Monday, after the company filed a draft red herring prospectus for the listing of its wholly owned small finance bank - Ujjivan Small Finance Bank.
The listing of the banking subsidiary will imply Ujjivan Financial Services trading at a significant holding company discount and dilution for existing shareholders. While the extent of pain for shareholders of Ujjivan Financial will be known once the IPO price is fixed, the stock is likely to remain under pressure in the near-term.
Why the worry?
Ujjivan Small Finance Bank is planning to raise ₹1,200 crore through the IPO. The issue includes a reservation of up to ₹120 crore for subscription by eligible Ujjivan Financial Services shareholders - individuals and HUFs (share capital upto ₹2 lakh). There is also a pre-issue placement of not exceeding ₹300 crore for other investors.
Currently, institutions including mutual funds, AIFs, FPIs, insurance companies and others hold about 56.7 per cent in Ujjivan Financial Services. Retail individual investors (share capital upto ₹2 lakh) hold about 20.5 per cent in Ujjivan Financial.
Listing of Ujjivan Small Finance Bank would have an unfavourable impact on the existing shareholders of the already listed holding company Ujjivan Financial Services.
One, the listing of the small finance bank, will imply dilution for existing shareholders of Ujjivan Financial. This is because, currently, Ujjivan Financial holds 100 per cent in Ujjivan Small Finance Bank. According to the management, the new shareholders in the small finance bank, post the IPO, may hold about 15 per cent. The actual dilution for existing shareholders would ultimately depend on the IPO price.
Two, double listing of the holding company and the small finance bank, would add pricing pressure at the holding company level. This is because, a pricing discount gets created for the holding company. Existing shareholders would end up owning only holding company shares. The company has sought RBI’s approval for the merger of Ujjivan Financial into Ujjivan Small Finance Bank (reverse merger). This could ease the blow, but clarity on this is awaited and it would take effect in the long term (upon the completion of five years from the commencement of bank, in 2022).
Until there is more clarity on this, the stock of Ujjivan Financial would be under pressure (though the market has already been pricing in the possible impact of such an IPO).
Strong operational performance
Notwithstanding the overhang of the IPO issue, Ujjivan Small Finance’s bank’s operational performance has been strong, offering some comfort to investors.
Ujjivan launched its small finance bank in February 2017. At the time of transitioning into an SFB, MFI loans were still a chunk of the (about 98 per cent) of its loans. Demonetisation led to lower collection efficiencies and rise in GNPAs. In FY18, the company’s focus was to contain losses and improve quality of loan book.
In FY19, coming out of the demonetisation blues, the bank’s loan book grew by a strong 46 per cent, and its profitability improved significantly. Return on assets (ROA) went up to 1.7 per cent in FY19, as against 0.1 per cent in FY18. The bank’s low cost deposits (CASA as a proportion of deposits) also ramped up to 10.6 per cent from 3.7 per cent in FY18. Gross non-performing assets (GNPA) fell from 3.65 per cent in FY18 to 0.92 per cent in FY19.
In the latest June quarter, Ujjivan’s loan growth was a robust 51 per cent, driven by 36.8 per cent growth in microfinance loans; non-MFI including MSE, affordable housing, personal loans etc., grew nearly three-folds on a low base, constituting 18 per cent of loans (from 9 per cent last year).
A significant reduction in cost-to-income ratio also aided earnings, with the bank’s cost control measures paying off. The bank’s net profit more than doubled to Rs 94 crore in the June quarter.
At the current price of ₹275, the stock of Ujjivan Financial trades at 1.5 times FY20 book. Given the strong operational performance, the valuations appear attractive, but the small finance bank listing is a dampener. Market in general applies a 40-50 per cent holding company discount. This could keep the stock under pressure. The listing price for the IPO of the small finance bank, will be keenly watched, which will determine the extent of impact on the existing shareholders of Ujjivan Financial.