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Ratnakar Bank IPO - Should you buy?

We have tested the bank on 21 metrics to help you decide. Read on

Ratnakar Bank IPO - Should you buy?

Winston Churchill once said of his nemesis Clement Attlee - 'A modest man with much to be modest about.' The same can be said about Ratnakar Bank (RBL). It is a prudent lender with comfortingly low levels of bad loans but disappointing margins. It gets too much of its capital from expensive sources - from the stock market, from the bond market and from high interest carrying fixed deposits; rather than low cost current and savings accounts also known as CASA. The bank passed just 10 of the 21 tests we had set. That,coupled with expensive valuations, takes the sheen off the IPO. Nonetheless diamonds can sometimes be found in the dark and we have shed some light on RBL to help you decide if they exist here. Read on.

RBL (erstwhile Ratnakar Bank) started its journey as a regional bank in Maharashtra in 1943. Following the 2008 recession, the bank embarked on an aggressive growth strategy, growing its capital 10 times over to 2016 and increasing its loan book 19 times. Currently, the bank has 197 branches, 362 ATMs across 16 states, as well as 32,000 transaction points where it offers branchless banking solutions to its rural customers. For comparison, Yes Bank has 900 branches and 1680 ATMs across 29 states. The growth comes at a cost: the bank's capital adequacy ratio, a measure of the bank's ability to absorb losses, has fallen from 42% to 13% (though it is similar to SBI's 13.12%). RBL's growth was also funded by issuing increasing numbers of shares, diluting the ownership of existing shareholders. Thus, the 63% annualized five year growth rate in the loan book translated into a mere 30% annualized growth rate in per share earnings.

Three keys to understanding RBL:

  1. CASA Ratio (Current and Savings Accounts Ratio): The CASA Ratio tells you what proportion of the bank's deposits are comprised of low cost current and savings accounts. Other forms of deposits such as fixed deposits require a bank to pay higher interest rates. Ratnakar Bank has one of the lowest CASA ratios in India - a bad sign. Among 41 listed Indian banks (both public and private banks) only 2 banks (IDFC and Lakshmi Vilas) reported a CASA ratio lower than RBL. A high CASA ratio reduces the overall cost of borrowing as it involves deposits in current and savings accounts which have low interest costs associated with them. RBL relies on fixed deposits and market borrowing instead - funding 25% of its loans by borrowing from the market.
  2. NIM (Net Interest Margin): Net Interest Margin is the difference between the rate at which a bank borrows money (from depositors, or the bond market) and the rate at which it lends money. RBL again ranks poorly when it comes to net interest margins. As many as 34 out of 41 banks do better than RBL on this count. RBL has NIMs of only 2.15% which is among the lowest in Indian Banking industry.
  3. Non Performing Assets (NPAs): This dreaded term simply refers to the loans of a bank that have turned 'bad'. In other words, these are loans where principal or interest that was due has remained unpaid for more than 90 days.On this measure, RBL is among the best performers in India. Its Gross NPA Ratio, which measures these NPAs against the bank's total advances, is a mere 0.98% - meaning that less than 1% of the money it has lent out has turned bad. This is the 4th lowest in the industry.

Our Checks

  1. Has the bank been penalized by any regulatory authority?
    1. The Reserve Bank of India imposed a penalty of Rs 1 crore on the bank for violating KYC rules in July 2016.
    2. RBL's rights issues in 2003 and 2006 were in violation of the Companies Act, 1956 and SEBI regulations. However, these violations have been compounded by RBL's payment of a penalty of Rs 5 lakh. Compounding is a legal process in which the offender admits the violation and pays the specified penalty thus extinguishing its liability.
  2. Does the management frequently revise its estimates for growth and bad loans?
    RBL does not provide any guidance or estimates on these parameters, due to its unlisted status.
  3. Does the bank adequately provide for its Non-performing assets (NPAs)? More specifically, is the ratio of provisions to Gross NPAs more than 50%?
    This ratio was to 40.19% in 2015-16. However, 5-year average stands at 62.87%, higher than the 50% mark.
  4. Do the top five managers have stock as meaningful part of their compensation (More than 50%)?
  1. Does the bank have a Current and Savings Account (CASA) Ratio of more than 40%? A high CASA ratio denotes a large reserve of cheap funds.
    No, it is 18.64%.
  2. Does the bank have a fresh slippages to total advances ratio of less than 2%? Fresh slippages are loans which have become NPAs in the last financial year.
    Yes, it is 0.87%.
  3. Did the bank generate a current and 5-year average return on equity (RoE) of more than 12 per cent and return on assets (RoA) of more than 1 per cent?
    No. Its current RoE is close to but below 12%. Its 5-year RoE lags this threshold substantially. Its RoE and RoA are given in the table below.
    Ratnakar Bank IPO - Should you buy?
  4. Did the bank increase its loan book by 15% annually over the last five years?
    Yes, over the last 5 years, its loan book grew at an annual rate of 63.63%.
  5. Did the bank increase its Net Interest Income (NII) by 15% annually over the last five years?
    Yes, over the last 5 Years, Net Interest Income (NII) grew at an annual rate of 53.81%.
  6. Is there a direct relationship between the increase in loan book and the increase in Net Interest Income (NII)?
    Yes, the relationship is positive. However its margins have contracted over the last 5 years.
  7. Is the bank's capital adequacy ratio more than 12%?
    Yes, it is 12.94%.
  8. Can the bank run its business without relying on external funding in the next three years?
    No. Additional capital is required if it is to maintain the growth rate it enjoyed over the past 5 years.
  9. Did the bank generate average NIM of more than 3% in last 5 years?
    No, it generated an average NIM of 2.18%. This figure is also trending down.
  10. Is the Average Gross NPA Ratio (Gross NPAs/Total Advances) over the last 3 years less than 3% and the Net NPA Ratio (Net NPAs/Total Advances) less than 1%?
    Yes, the Average Gross NPA Ratio is 0.85% and the Average Net NPA Ratio is 0.39%.
  11. Does the bank have a cost-income ratio of less than 50%?
    No, it is 59.59%. It averaged 61.08% over the past 5 years.
  1. Will the bank be able to scale up its business?
  2. Does the bank have a loan book of more than Rs 100,000 crores?
    No, it is around Rs 23,000 crores (including debentures and bonds)
  3. Does the bank have more than 10% exposure to any particular sector?
    No. Its largest exposure is towards infrastructure at 7.42%.
  4. Does the bank have a recognizable brand, truly valued by its customers?
    No, RBL is still a small bank and has not yet established its brand widely.
  5. Does the bank have a credible moat?
  6. What degree of competition does the bank face?
    Strong. The presence of several formidable players makes banking in India a highly competitive market.
  1. Is the bank's price to earnings ratio less than its five or ten year median level?
    Not applicable. At the higher end of the price band of 224-225, its price to earnings would be close to 25.
  2. Is the bank's price to book value less than 1?
    No. At the higher end of the price band of 224-225, the bank's price to book ratio would be 2.45.

(With inputs from Kashyap Sriram and Neil Borate)