Citi deal leads to no instant re-rating for Axis Bank stock

One plus one should be greater than two - that’s the basic criteria for judging the efficacy of any M&A transaction. Axis Bank–Citi’s proposed deal checks this box. 

For the ₹12,300 crore that Axis Bank is expected to shell out to acquire Citibank India’s retail business, here’s what it gets in return – four per cent increase in loan book (credit cards, mortgage, personal & ready credit loans, asset-backed finance and small business banking all included), 31 per cent jump in its credit cards base, seven per cent increase in its deposit base (12 per cent to its CASA or current account–savings accounts) and ₹1.1 lakh crore accretion to its Axis Burgundy brand. 

While the deal values Citi’s business at 2x its book value -- which is at a slight premium to Axis Bank’s consolidated valuations 1.8x FY22 estimated price to book -- the gain from the deal outweighs the cost even if it means a potential capital burn of 180 basis points as capital adequacy may reduce to 13 per cent from the present 15.8 per cent. 

The transaction is expected to conclude by end of FY23 – that’s about a year from now. But given that it is earnings accretive, the deal will be positive for its return ratios. Return on assets and return on equity are estimated at 1.6 per cent and 16.1 per cent respectively in FY24. That’s a near doubling from FY21 levels of 0.8 per cent ROA and 8.2 per cent ROE. This is after factoring for a ₹1,800-crore increase in interest outflow to bring Citi’s savings account customers (offered 2.5 per cent interest) at par with Axis Bank at 3–3.5 per cent. There’s also a one-time hit to the balance sheet for goodwill amortisation estimated at 10 per cent of Axis Bank’s FY23 book value. 

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Accelerates growth 

Axis Bank has come in for much criticism for the recent slowdown in growth; given the bank’s approach of calibrated and cautious growth, in the current scenario, an organic expansion of book may have been challenging. This would be particularly true in case of the credit cards business. Axis Bank’s market share (volume-wise) has almost stagnated at 12 per cent in the last two years, despite the market leader HDFC Bank being forced out of business for a few months until August 2021; an opportunity well-captured by its immediate competitors such as SBI Cards and ICICI Bank. Therefore, Axis Bank shopping a relatively high-quality book accelerates growth momentum. What’s more, the bank gets to grow the segment it wants to. In the last three years, Axis Bank has increased its focus on premium and high-net worth individuals. Its Burgundy offerings are aimed at this segment. Citi, with a high focus on a similar set of customers, will complement Axis Bank’s strategy, cementing its position as No. 3 player in the affluent market segment of the wealth management business. 

Risks to consider

Amitabh Chaudhry, within months after taking charge as MD & CEO of the bank in 2019, assured investors of 18 per cent ROE by FY22. Disrupted by the pandemic, the bank has been way off this target. For the 9-months ended December 2021, its ROE was around 11 per cent. As mentioned above, the deal is expected to take ROE to 16.1 per cent by FY24. So, the acquisition by itself doesn’t take Axis Bank to the aspired number. Therefore, in addition to Citibank acquisition, Axis Bank’s loan book too must grow in the teens alongside to meet its internal ROE targets. Whether the bank can take the challenge of the tight rope walk till FY24 in terms of growing its own book alongside closing the Citi deal and subsequently integrating it with the bank, needs to be seen.

Secondly, while Citi holds a good brand recall, its market share in the credit cards space has dipped from 10 per cent to 3.6 per cent since 2016. Axis Bank’s immediate focus should be on arresting this issue and merging Citi’s customers with itself to provide seamless service.

Way ahead

The Axis Bank stock has been a huge underperformer with gains of just 9 per cent in a year. The stock price has marginally dipped by 2 per cent in the last three years, whereas peers such as HDFC Bank and Kotak Mahindra Bank have gained 25–30 per cent during this period. ICICI Bank has returned over 80 per cent gains in three years. Consequently, Axis Bank’s valuations have corrected by 25 per cent to 1.8x FY22 estimated book. While at this asking price, Axis Bank stock seems attractive, the Street has discounted the stock primarily owing to the growth concerns. Therefore, unless the bank can organically grow its book by 14–16 per cent CAGR in the next two years, apart from Citi’s consolidation, it may remain a laggard. In other words, the Citi deal by itself doesn’t assure a re-rating for the Axis Bank stock. Given that the deal entails capital consumption, valuations will assume immense importance in the near term as the bank may have to raise equity sooner than estimated. Chaudhry has already done two rounds of equity infusions since FY20, and both were at a discount to the prevailing market prices. Can the upcoming fundraise be at a premium? That will depend on a fast improvement in the bank’s return profile.

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