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Research
IDFC - Valuations reasonable for capped ROEs, Downgrade to Accumulate - Prabhudas Lilladher
Posted On : 2012-10-28 20:34:54( TIMEZONE : IST )
We downgrade IDFC to 'Accumulate' as current valuations at 1.5-1.6x seems reasonable for ~14-15% current ROEs and ~16% normalized ROEs. We expect ROAs of ~2.9-3.0% not only factoring in strong margins and low credit costs in the lending business but also an uptick in flow businesses. With peak leverage of 5.5-5.75x, ROEs will get capped at 15-16% and hence, we do not expect further rerating.Superior project underwriting + floating provision provide asset quality comfort but there could be downside to our flow business profitability.
- Test our operating assumptions for ROA upsides: We get ROAs of ~2.9-3.0% for IDFC by factoring in (1) loan growth of 22-23%, considering re-financing opportunities continue (2) we have assumed current spreads to remain stable as lower funding costs net-off lower yields on re-financing (3) lending-related fees to continue to grow at +20% YoY over FY13-15 and (4) benefits of operating leverage to sustain with cost-income coming off to 15% from 18% currently. We believe, we have been generous on most metrics and see potential upsides to our growth assumptions and hence, upside catalysts to ROAs are limited.
- Factoring in stable asset quality + some pick in flow business: Despite lumpy asset risks, we factor credit costs of 40-50bps over FY13-15 as floating provision of Rs10bn provide comfort and hence, our downgrade is not based on rising credit costs. Also, IDFC remains a play on flow businesses which has seen some buoyancy lately and hence, we have also factored in Rs3.5-4.0bn of treasury gains every year + 1.8x jump in flow business profit and these, coupled with improving operating metrics, would at best take ROEs to ~15-16% over FY15.
- ROEs capped at best at ~15-16%; Downgrade to 'Accumulate': With the ongoing leveraging up of the B/S, IDFC will achieve peak leverage of 5.5-5.7x by FY14-15 (last reached FY07) and with limited room for further ROA improvement beyond 2.9-3.0%, we believe ROEs will get capped at 15-16% assuming peak leverage of 5.75x. We rollover our PT to Rs165/share based on 1.6x FY14 book and downgrade to 'ACCUMULATE'.
