Ujjivan Financial Q3 review: Strong execution, reasonable valuation albeit regulatory overhang

Efforts to de-risk and diversify the loan book is on. Growth in micro-finance, at 21 percent, was lower than the company average. The non-microfinance book surged 220 percent (albeit on a small base) and constituted 13.4 percent of overall portfolio compared to 5.5 percent a year back.

Its liability profile is improving, with steady accretion to deposits. While overall deposits showed a sequential growth of 28 percent, low-cost CASA (current and savings account) grew 49 percent and formed 10.4 percent of total deposits. At present, close to 58 percent of advances are funded by deposits as against 35 percent a year back. The bank is working on converting its asset customers to deposit holders and is targeting a CASA share of 30 percent in the next few years.

Source: Company

While the loan book is moving towards more secured lending (depressing yield on advances), thanks to the ramp-up in deposits (leading to a softening in the cost of funding), Ujjivan was able to maintain its interest margin at 11.8 percent.

Asset quality improved, with gross non-performing assets (NPA) declining to 1.4 percent from 1.9 sequentially. Net NPA stood at 0.3 percent, with provision cover (provision against NPA) at 81 percent.

Ujjivan is well capitalised to take advantage of the emerging opportunities, with capital adequacy ratio at 22.1 percent, much above the regulatory requirement. It is raising Tier II capital to boost its capital position further.

Key negatives
Cost-to-income ratio is still high (77.7 percent) as the management continued to rollout branches and boost its headcount. It added 97 branches in Q3, taking the total number of banking outlets to 464. The pace of addition is certainly going to decelerate in FY20. As the bank starts sweating these assets efficiently, it is looking at substantial moderation in the cost-to-income ratio to 50-55 percent over the next three years.

While farm loan waivers so far hasn’t had any impact on its overall business, the management alluded to challenges in a small pocket of Madhya Pradesh on account of the same.

Other observations Ujjivan is confident of asset growth upwards of 35 percent in the current fiscal. It has identified three candidates for the position of Managing Director, which will be sent to RBI shortly.

To meet with the licencing norms (listing of the bank by January 2020 and paring down promoter holding to 40 percent by January 2022), the management is working on a number of alternatives and will initiate discussion with RBI and the Securities and Exchange Board of India (SEBI).

Outlook Improvement in the liability mix and diversification of asset book would continue to de-risk the business without comprising much on profitability. Moderation in cost-to-income ratio will provide significant boost to medium-term earnings. After the demonetisation blues, asset quality stress is largely behind. While the regulatory overhang pertaining to listing the small finance bank remains, correction in the stock price (down 30 percent in the past one year) has rendered valuation undemanding (1.7 times FY20 estimated book) in the context of its future prospects.