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8/8/2019 Team _ Finacs_Mergers & Acquisition Document in Banking Industry
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Merger & Acquisition
Document in BankingIndustry
SJMSOM,IIT-Bombay
Team Finacs
Ankur Choraria Akhil Jolly Laveen
Ramrakhiyani
[email protected] [email protected] [email protected]
09820709306 09757052508 09820704573
mailto:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]8/8/2019 Team _ Finacs_Mergers & Acquisition Document in Banking Industry
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Private sector banks are sitting on adequate liquidity to ramp up their
market share in the coming year
Growth in industry credit was fuelled by PSBs to a larger extent in the past
couple of years
The strong CASA of banks like HDFC Bank, Axis Bank, PNB, SBI and BoB
paid off in terms of higher and stable NIM
Private Banks have seen stronger growth in book given their ability to
raise capital at higher multiples a virtuous cycle
Source: India: Financial Services Goldman Sachs March 2009
Attractiveness
Indian Banks are continuously growing stronger in terms of capitalization,
lower NPAs and better spreads in the past one-and-a half decade.
Indian banks recovered a higher amount from NPAs during 2008-09 as
compared to the previous year, pointing towards efforts to improve assetquality of banks
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Higher credit growth is expected in FY11 and FY12 with growth in
industrial production (IIP), improved GDP growth outlook, high business
confidence and increased demand
Major Drivers
Acceleration in Indias credit growth in excess of 20% in both FY11 and
FY12 on the back of:
Stronger economy (GDP growth of 8.2% and 8.7% for FY11E and
FY12E)
Infrastructure investments (road construction to increase from 9
km/day in December 2009 [4 km average until recently] to an
estimated 20 km by next year) Capital Expenditure
Improved working capital cycle (from stronger demand and higher
commodity prices)
Potential for retail financing high
Rising per-capita income currently at US$689 vs. Chinas US$1,934,
Demographic trends more than 42% of population is aged
between 24-59 years and this is estimated by the UN to grow to46%
Urbanization is expected to increase to 33% by FY20E from the
current 29.5%
Declining average household size
Deposit growth has remained resilient throughout the global crisis
remaining in the double digits throughout 2009 - ensuring abundant
liquidity in the financial system
Huge deposit base, RBI's proactive measures to steadily improve banks'
balance sheet strength, and a demand in the economy for physical asset
creation are key factors
Projected investment in infrastructure may be close to Rs. 10,750 bn for
FY11 and FY12 as per the planned outlay under the 11th Five Year Plan
implying that Infrastructure as a percentage of total bank credit to grow at
more than 40% YoY for the next three years.
Easing of Inflation will result in RBI reducing the hiked key policy rates
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High Credit growth and rising per-capita income brightens the future of Banking
in India
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Source: RBI website
84 SCBs with total asset base of `60, 69,570 crores and deposit base of `47,
92,995 crores
Private Sector Banks are gradually increasing their shares in deposits and assetbase
Private Sector contributes to 23% of total deposits and 26.8% of total
assets
Net NPAs at 1.03% and RoA at 1.28% is better than the industry average
which has net NPAs at 1.12% and RoA of 1.05%
Opportunities & Trends
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Banking Industry is poised to grow 3X to serve the huge addition of
bankable population, much of which will come from private sector
Improving efficiency by virtue of lower NPAs due to stringent lending
norms
Fee-based income to register higher growth fuelled by large increase in
M&A activities
Large number of MSMEs as potential customers
Challenges
Net Interest Margin may shrink due to higher cost of funds and asset
quality may deteriorate as banks may lend ruthlessly to increase their
customer base
Banking Industry Potential in South Indian Market
Strong GDP contribution by South India
Strong Saving Deposit growth rate
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South Indian Banks set to outperform Industry
NIM to improve due to higher CASA ratio
IndusInd Bank Acquiring Firm
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IndusInd profile and recent developments
Incorporated in 1994 as a vision of Srichand Hinduja , head of the Hinduja
group
Offers a wide range of products and services like deposits, loans,investments, insurance, forex services, demat services, online services
and wealth management services
Raised $250 million through QIP route in Sep, 2010
Network of 209 branches and 427 ATMs spread over 168 locations in 28
states with no significant concentration in any state
Strong financial profile
Measure Value
AUM(`Crores) 35,505.5
Deposits (`Crores) 273,824.3
CASA 24.3%
NIM 3.3%
RoE 23%
RoA 1.3%
Cost - Income 49.5%
Credit - Deposit 74.4%
EPS 11.54
Cost to Asset 2.6%
Source: Company Website, Annual Report-FY2010, Economic Times
Well diversified revenue sources
Source: Company Website, Annual Report-FY2010, Economic Times
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Diversified exposure across industries
Source: Company Website, Annual Report-FY2010, Economic Times
Aggressive expansion plans for the future
Source: Company Website, Annual Report-FY2010, Economic Times
Probable Target Firms
Federal Bank
Company Overview
708 branches 77.30% in South India and 59.90% in Kerala only
Substantially low-cost deposits base comprising CASA (26%) and NRI
deposits (20%) in FY10
At 17.3% CAR and 15.3% tier-1 at end-1QFY11, Federal Banks capital is
sufficient to support growth over the next 2-3 years
Diversified loan book with 40% of it exposed to corporate advances, 30%
to SME advances and 31% to retail advances
Gross NPAs spiked up sharply by 27% QoQ, in 1QFY11
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Financial Health
Market Cap: `7107 crores (BSE)
FY09 FY10 FY11e FY12e FY13e
Deposits (`Crores) 32,198 36,058 44,431 55,917 69,424
%age Growth 12 23.2 25.8 24.2
NII (`Crores) 1,316 1,411 1,770 2,197 2,738
%age Growth 7.2 25.5 24.1 24.6
Net Income (`Crores) 507 465 586 749 933
%age Growth -8.3 26.2 27.8 24.5
NIM % 3.9 3.6 3.7 3.8 3.9
Cost-Income % 31.2 34.9 35.5 36 36
RoE % 12.1 10.3 11.8 13.5 15
Source: Research Report by Anand Rathi, AR 2009-10
Karnataka Bank
Company Overview
464 branches 74.80% in South India and 60.60% in Karnataka only
Credit growth has steadily inched up to 21% in 1QFY11 compared with
10.5% in 1QFY10
NIM has also shown sharp improvement from 0.79% in 1QFY10 to 1.74% in
1QFY11
Share of CASA improved to 24.3% in 1QFY11 from 19.3 % in 1QFY10
Operating efficiency Improved as the core cost-to-income (excludingtrading income) declined to 63.3% in 1QFY11 from 100.9% in 1QFY10
Fee Income grew 75% YoY in 1QFY11
Low P-BV of 1.36 due to recent dip in performance
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Financial Health
Market Cap: `2493 crores (BSE)
FY09 FY10 FY11e FY12e FY13e
Deposits (`Crores) 20,33323,731
28,7
14
34,7
44
42,0
40
%age Growth 19.5 16.7 21 21 21
NII (`Crores) 505 336 484 565 683
%age Growth 10.0 -33.5 44.0 16.7 20.9
Net Income (`Crores) 170 68 204 262 353
%age Growth 0 -60 200.0 28.4 34.7
NIM % 3.9 3.6 3.7 3.8 3.9
Cost-Income % 24.7 21 18.7 17.2 15.8
RoE % 12.3 4.4 11.1 11.9 13.3
Source: Company Website, Annual Report-FY2010, Economic Times
Karur Vysya Bank
Company Overview
Network of 335 branches and 376 ATMs across India with major
concentration in Tamil Nadu and AP
Healthy asset quality with provision coverage ratio of 89.7% and
restructured portfolio at 4% of advances
Banks 14.5% CAR and tier-1 capital of 12.9% provide it cushion for future
growth and additional loan defaults
Very low net NPA of the bank at mere 0.2% is one of the lowest in theindustry
Adjudged as the Best Mid-sized Bank by Business Today KPMG for 2009
Financial Health
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Market Cap: `4049 crores (BSE)
FY09 FY10 FY11e FY12e FY13e
Deposits (`Crores) 15,101 19,272 24,143 30,688 38,473
%age Growth 20.3 27.6 25.3 27.1 25.4
NII (`Crores) 410 565 740 934 1,216
%age Growth 20.3 37.6 31.1 26.1 30.3
Net Income (`Crores) 236 336 391 475 588
%age Growth 13.3 42.3 16.4 21.4 23.7
NIM % 18.6 22.6 22.1 22.6 23.6
Cost-Income % 38.1 42.9 41.5 41 41
RoE % 18.6 22.6 22.1 22.6 23.6
Source: Company Website, Annual Report-FY2010, Economic Times
South Indian Bank
Company Overview
Market Cap: `3017 crores (BSE)
FY09 FY10 FY11e FY12e FY13e
Deposits (`Crores) 18,092 23,012 28,933 35,910 44,170
%age Growth 19.4 27.2 25.7 24.1 23
NII (`Crores) 523 568 754 979 1,258
%age Growth 32.7 8.7 32.7 29.9 28.4
Net Income (`Crores) 195 234 278 345 439
%age Growth 28.4 20 18.8 24.1 27.4
NIM % 3 2.6 2.7 2.8 3
Cost-Income % 47.8 47.1 46.8 46.5 46.5
RoE % 15.8 16.8 17.4 18.8 20.5
Source: Company Website, Annual Report-FY2010, Economic Times
Analysis of Probable Target Firms
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Source: Capital line, AR 2009-10, BSE Website
Source: Capital line, AR 2009-10, BSE Website
Higher NPAs and lower RoA reveals the scope of improvement in
performance and hence market values
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Karnataka Bank and South Indian Bank have lower market
capitalization per branch making them attractive targets
Lower P/BV makes them cheap and hence attractive targets to acquire
Appropriate Target: Karnataka Bank
Karnataka Bank emerge as the most appropriate target
Karnataka Bank has relatively higher potential for improvement in NPAs
due to expected recovery in retail & SME lending, concentrated in the
South
Higher scope for improvements in operations under able management of
IndusInd as Karnataka Banks current operating expenses are relatively
much higher
Available at much lower P/BV than the industry average, making
Karnataka bank a cheaper bet than other targets
Large presence in rural and semi-urban areas (187 branches out of 464),
which is the emerging area in banking sector
High growth potential on the back of stabilization in asset quality in next
two years
Relative Standings
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* Size of bubble indicates number of branches
Federal
Bank
Karnatak
aBank
Karur
VysyaBank
South
IndianBank
PotentialGrowth
2 3 3 2
PriceAttractiveness
3 4 1 2
Scope ofImprovement
2 4 1 3
SizeCompatibility 1 3 4 2
In terms of attractiveness: 4 Maximum 1 Minimum
Karnataka Bank Target Firm Analysis
Steady business growth
Higher productivity & fee income
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Improving Asset Quality
Well diversified revenue sources
Diversified exposure across industries
Source: Company Website, Annual Report-FY2010, Economic times
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The Football Field: Valuation
Source: Capital Line, AR 2009-10
Note1: Valuation based on terminal growth rate varied within 7%-8.5%
Note2: Valuation based on terminal growth rate varied within 7%-8.5%
Assumptions & Risks
Assumptions in Valuation of Karnataka Bank
Business Growth
The deposits and advances will grow at 21%
Terminal growth rate, which represents the long term credit growth, is
assumed to be 7% 8.50%.
The fee-based income is assumed to grow at 10% on account of higher
demand for other financial services and merchant banking sector.
Total investments is taken as 45% of total deposits
Equity will remain more or less as the same fraction of total assets on
account of maintaining the Capital Adequacy Ratio
Margin & Income
The cost of funds will remain stable at 7.2%. The increase in term deposit
rates will be countered by increase in CASA ratio
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The interest on advances will decrease slightly due to increased
competition from foreign and large-cap banks. The return is assumed to
remain the same at 9.8% in FY11 and will eventually decrease to 9.5% in
FY16
The return on investments is assumed to be constant at 6.5% (same asthat in FY09 & FY10)
The income on sale of investments is assumed to be stable at 1.2% of
total investments based on historical data
Miscellaneous income is assumed to be constant at the last year levels
(miscellaneous income as the fraction of total income is negligible)
Operating expenses will grow at 10% on account of more branches in
future and inflationary effects
Regulatory Concerns
The deal would subject to RBI approval
The prudential norms under BASEL-II will be met by the combined entity
The promoter shareholding in IndusInd Bank has to be brought down from
19.73% to below 10% level
Where things can go wrong!
Slowdown in Indian economy, as seen in recent financial crisis, particularlyin southern India will hurt the growth rate assumptions
Increase in bad loans due to various reasons farmer waiver or asset price
bubble in housing may impact earnings growth
Large-cap banks may get into irrational competition and the interest
margins may get eroded
The change in regulatory environment against the banking industry may
hinder the growth expectations
Synergy Benefits
Synergy Benefits arising out of improvement in operations
Increase in branches from 209 to 673 is in line with IndusInds strategy to
expand its presence across India
Karnataka Banks extensive network in rural and semi-urban areas (187
branches out of 464), gives IndusInd Bank access to high potential rural
markets
The acquisition provides well trained local employees to IndusInd Bank
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The acquisition provides 87.3% increase in CASA to IndusInd Bank
The operations under more experienced management of IndusInd creates
an opportunity for the Karnataka Bank operation to:
Improve operational efficiencies
Reduce NPAs in line with IndusInd Banks conservative lending
strategy
Technological benefits to Karnataka Bank operations from Indusinds
developed technology platform
Karnataka Banks operations gets access to lower cost funds
After the acquisition the NPAs of Karnataka Bank may move down to
better management of IndusInd Bank
Similarly, the operating expenses could be capped and grow at relatively
lower rate at 8%
The scenario analysis based on improvement of operations and better
asset management is shown in the adjacent table:
The value of Karnataka Banks business may even go as high as `4190
crores
(in ` Crores)
NPA Provision of Karnataka Bank
2.42% 2.00% 1.60% 1.20%
Operatin
g
Expenses
Growth
10% 3,146 3,169 3,191 3,213
9.00% 3,643 3,667 3,688 3,710
8.00% 4,123 4,146 4,168 4,190
Deal Structure & Timeline
Deal Structure
IndusInd Bank would acquire the Karnataka Bank in an equity swap deal
The current stock price of IndusInd Bank is `280.25 while the current stock
price of Karnataka Bank is `186.20
The valuation of Karnataka Bank provides a range of `225 - `260 which
values the Karnataka Bank at a premium of about 21% and 40%
respectively
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The price offered is `250 valuing the Karnataka Bank at P/E of 21.20 and
P/BV of 1.83 with the premium of 34.26% over prevailing market price
For every 28 shares of Karnataka Bank, IndusInd Bank will give 25 shares
of its own
Outstanding Shares of Karnataka Bank(crores) 13.402
Karnataka Bank Current Stock Price `186.2
IndusInd Bank Stock Price `280.25
Offered Stock Price for Karnataka Bank `250
Swap Ratio 0.8921
Premium Paid over current market price 34.26%
P/E at offered price 21.20
P/BV at offered price 1.83
No. of Shares of IndusInd Bank to be diluted 11.96
Time Line
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