RBL Bank: Lending comfort - Buy

RBL Bank that hit the primary market in 2016, has put up a healthy show over the past two to three years. Strong traction in loans, stable asset quality , steady improvement in net interest margins — leading to better return ratios — are positives for the stock. The shares of RBL Bank have more than doubled since listing.

At the current price, the stock trades at 2.5 times its FY20 estimated book value, which is reasonable, given the bank’s strong growth in loans and earnings. New private players such as YES Bank and Kotak Bank trade at around 1.5 times and 3.7 times respectively, while old private banks such as Federal Bank and City Union Bank trade at 1.2 and 2.3 times respectively.

For RBL, its current valuation offers a good opportunity for long-term investors, on the back of strong growth in its underlying earnings. After a stellar run between FY13 and FY16 (albeit on a small base), when its loan book grew by 49 per cent annually, the bank continued to deliver strong growth in advances (by about 36 per cent CAGR) over the past two years. An expected loan growth of 30-35 per cent (CAGR) over the next one to two years, should keep earnings in good stead.

From the current 1.27 per cent, the bank expects to end FY20 with a return on assets (ROA) of 1.5 per cent . As high-yielding retail and microfinance businesses continue to grow aggressively and attain scale, returns should improve over the next two to three years.

Investors with a two to three-year horizon can invest in the stock.

Sound business

RBL Bank has transitioned into a new age private bank in the past seven to eight years, growing aggressively since 2010. The bank catered largely to the funding and working-capital needs of large corporates and SMEs in the past, but has been increasing its focus on the profitable retail and microfinance businesses over the last three to four years. From 61 per cent in FY17, the share of wholesale (corporate and commercial banking) loans has fallen to 57 per cent as of December 2018. Aggressive lending to the retail and micro-banking segments has aided the bank’s growth. Within retail, credit cards and LAP (secured loans) have been the key drivers of growth. A sound business model and selective target segments have helped the bank keep risks at bay within the LAP portfolio — with gross NPA at about 0.7 per cent within LAP.

For now, while the bank has managed to keep delinquencies under check, the stellar growth in unsecured credit-card business needs to be monitored. The bank has close to 1.4 million credit cards as of December 2018.

While the micro-banking business came under stress, post demonetisation, the portfolio has now stabilised and continues to witness robust traction. After peaking at 5.1 per cent in the third quarter of FY18, GNPAs in the micro-banking business came down to 4 per cent by the end of FY18. As of December 2018, GNPAs are down to 0.88 per cent of loans. The bank has provided for the entire demonetisation impacted portfolio.

Overall, the bank’s GNPAs have trended up over the past three to four years, but at 1.4 per cent of loans, they are under control.

Improving NIMs

The bank’s net interest margin (NIM) has been improving steadily over the past two years, thanks to strong traction in the high-yielding retail and micro banking loans. Increase in the bank’s benchmark lending rate(MCLR), has also aided NIMs in recent quarters. From 3.5 per cent towards the end of FY17, NIMs have gone up to 4.1 per cent as of December 2018. Continued traction in the retail and micro banking portfolio should aid NIMs going ahead too.

While the bank’s cost-to-income ratio has fallen substantially — from 58 per cent in FY16 to 51.6 per cent as of December 2018 — it is still high. The bank will continue to add branches, which will keep cost-to-income at 51-52 per cent over the next one to two years. The bank proposes to increase its current branch strength of 288 to 380-400 by the end of FY20.

However, the bank’s shift towards better yield loans should offset some of these costs, aiding earnings and returns. Strong growth in core fee income (50 per cent Y-o-Y in December 2018 quarter) must also boost profit.

RBL Bank has ramped up its low-cost CASA deposits over the past three years — from 18.6 per cent of total deposits in FY16 to 24.6 per cent as of December 2018. While branch expansion will help widen the deposit base, a sharp increase in CASA ratio is unlikely, with garnering low cost deposits being an industry-wide challenge.

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