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IDFC: Provisions continue to weigh on profits - Views on News from Equitymaster
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IDFC: Provisions continue to weigh on profits
Feb 16, 2015

IDFC declared its results for the third quarter (3QFY15) and first nine months of the financial year 2014-15 (9mFY15). The institution reported a 7.6% YoY increase in its income from operations for 9mFY15. However, the profits declined by 14.2% YoY for 9mFY15. Here is our analysis of the results.

Performance summary
  • Consolidated income from operations increases 7.6% YoY in 9mFY15 despite 1% YoY growth in advances. While there was an improvement in the disbursement to sanction ratio, IDFC chose to be cautious and consolidate its loan book.
  • Overall asset management revenues increased by 9% in 9mFY15, total asset under management (AUM) stands at Rs 610 bn at the end of December 2014. While the mutual fund drove the growth largely, fees from the alternatives business rose too.
  • Net interest margins (NIM) dipped to 3.7% levels in 9mFY15 from 4.0% a year ago.
  • Other income sees a whopping increase of 607% YoY during 9mFY15 primarily on the back of higher principal gains in investment banking and broking income.
  • Bottom-line declines by 14.2% YoY in 9mFY15 primarily on account of staggering 338% YoY increase in provisions. Cost to income ratio increases marginally to 14.9% from 14.8% in 9mFY14.
  • Capital adequacy ratio stands at a robust 24.9% at the end of 9mFY15 (Tier-1 ratio of 22.8%).
  • Net NPAs stood at 0.5% at the end of December 2014 (0.2% in 9mFY14).


Consolidated financial performance snapshot
Rs (m) 3QFY14 3QFY15 Change 9mFY14 9mFY15 Change
Income from operations 21,194 24,585 16.0% 65,592 70,582 7.6%
Interest expended 12,680 14,842 17.1% 38,059 41,725 9.6%
Net Interest Income  8,514 9,743 14.4% 27,533 28,857 4.8%
Net interest margin       4.0% 3.7%  
Other Income 34 36 5.9% 112 792 607.1%
Operating expense 1,315 1,944 47.8% 4,075 4,467 9.6%
Provisions and contingencies 365 1,532 319.7% 1,457 6,382 338.0%
Profit before tax 6,868 6,303 -8.2% 22,113 18,800 -15.0%
Tax 1,810 2,018 11.5% 6,537 5,267 -19.4%
Effective tax rate 26.4% 32.0%   29.6% 28.0%  
Share of profit from associates 7 (30)   14 (163)  
Minority interest 57 37   143 123  
Profit after tax/ (loss) 5,008 4,218 -15.8% 15,447 13,247 -14.2%
Net profit margin (%) 23.6% 17.2%   23.6% 18.8%  
No. of shares (m)         1,590  
Book value per share (Rs)*         109.2  
P/BV (x)         1.6  
* (Book value as on 31st December 2014)

What has driven performance in 9mFY15?
  • Energy, transportation and telecom comprised 41%, 24% and 20% of IDFCs total loan exposure at the end of December 2014. The top 20 companies were about 44% of the total exposure. With just a few months away from setting up a bank, IDFC today stands in a consolidation phase. The cautious credit off-take, higher provisioning buffer and treasury built-up are all in an effort to meet regulatory requirements for the banking business. And these measures have had the impact on margins and earnings alike. Moreover, the challenges pertaining to infrastructure sector continue to haunt IDFC's books. The reform wheel set to be rolled out by the new government is expected to augur well for the infrastructure development. While the company is on the consolidation mode treading a cautious path, the business growth has been modest. Also, setting up a private bank will call for uncertainties in the medium term for the largest infrastructure financing company. While we continue to have a closer look at these challenges, we believe the benefits of transition into a bank will come with time. Meanwhile, the company continues to consolidate its assets, combat the asset quality challenges and put the structure in place to prepare for the transitional phase.

  • The fact that the disbursement to sanction ratio has improved over the past year points to the fact that corporate have started availing the loans that they got sanctioned in the past. And as this loan demand increases it could strengthen IDFCs balance sheet.

    Improvement in disbursement to sanction ratio
    (Rs m) 9mFY14 9mFY15 Change
    Sanctions 204,100 153,590 -24.7%
    Disbursements 76,390 88,430 15.8%
    D/S ratio 37.4% 57.6%  
    Advances 534,693 540,040 1.0%

  • Focus on risk-free assets has narrowed the spreads of the company. Consequently the margins have declined to 3.7% levels.

  • With infra activity and capex cycle yet to pick up, pressure on asset quality continues to remain. Even though IDFC is much better off as compared to most other large banks exposed to inra lending, the gross NPAs have gone up to 0.7% in 9mFY15 and the net NPAs too have gone up to 0.5%, from 0.6 and 0.4% respectively in 9mFY14. The net restructured loans have been reported at 6.1% of the total loan book during the 9mFY15. On prudential grounds, the company has been proactively providing higher than the regulatory norm to avoid any major shortcomings in the future particularly on the bank front. While this might dent the short-term profitability of the company, the company would continue to maintain buffer treading a cautious path

  • Although the entity has already started incurring the cost of setting up the bank, the incremental inpact on cost to income ratio has been marginal. Hence, we do not factor any numbers on this front at this juncture and await further clarity from the management. Nonetheless, the management has charted out roadmap to undertake banking business activity and the company is expected to roll out the banking arm in October 2015. The board has already approved the de-merger of its financing undertaking into its wholly owned step down subsidiary IDFC Bank. Moreover, it has also been decided that every shareholder of IDFC Bank will be entitled for one equity share for every equity share held in IDFC Limited.
What to expect?
At the current price of Rs 173, the stock is valued at 1.4 times our FY17 adjusted book value. IDFC is one of the best poised institutions in the financial sector to weather sectoral headwinds. It has the highest capital adequacy ratio and high operating efficiency. The company today stands in a transition phase moving cautiously on the growth path. We are particularly comfortable with the prudent management skills on the provisioning front.

We have factored in muted growth in loan book and risks to margins and asset quality in our assumptions. The near term hiccups stand imminent as the company transitions into a bank. While negative sentiments towards the infrastructure sector may prevail in the near to medium term, investors should reap the benefit of steady long term players like IDFC. However, investors must keep a watch on the return ratios (RoE) which have fallen below 10% in recent quarters. While we continue to reiterate our buy view on the entity, investors must ensure that the stock does not comprise more than 5% of their overall portfolio.

DISCLOSURES UNDER SEBI (RESEARCH ANALYSTS) REGULATIONS, 2014
INTRODUCTION:
Equitymaster Agora Research Private Limited (hereinafter referred to as "Equitymaster"/"Company") was incorporated on October 25, 2007. Equitymaster is a joint venture between Quantum Information Services Private Limited (QIS) and Agora group.
BUSINESS ACTIVITY:
An independent research initiative, Equitymaster is committed to providing honest and unbiased views, opinions and recommendations on various investment opportunities across asset classes.
DISCIPLINARY HISTORY:
There are no outstanding litigations against the Company, it subsidiaries and its Directors.
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For the terms and conditions for research reports click here.
DETAILS OF ASSOCIATES:
  1. Quantum Information Services Private Limited (QIS) having its registered office at 103, Regent Chambers, Nariman Point, Mumbai 400021 is registered under SEBI (Investment Advisers) Regulations, 2013 vide Registration No. INA000000680. QIS provides information on mutual funds and personal financial planning, financial markets in general, and services related to financial planning and research in various financial instruments including mutual funds, insurance and fixed income products to customers. It offers asset allocation and researched investment recommendations through its financial planning services through its website www.personalfn.com
  2. Agora Holdings (Cyprus) Limited having its registered office at Akropolis, 59-61, 3rd Floor, Office 301 Strovolos 2012 Nicosia Cyprus belongs to Agro group (Agora) which owns www.agora-inc.com and is one of the largest and most successful consumer newsletter publishers in the world.
  3. Common Sense Living Private Limited (CSL) owns www.commonsenseliving.co.in and is an initiative that provides straightforward lifestyle and wealth-building ideas from wealth coach Mark Ford. CSL is 100% subsidiary Company of Equitymaster.
DISCLOSURE WITH REGARDS TO OWNERSHIP AND MATERIAL CONFLICTS OF INTEREST:
  1. Equitymaster has financial interest in the subject company.
  2. Equitymaster's Associates, Research Analyst or his/her relative have no financial interest in the subject company.
  3. Neither Equitymaster, it's Associates, Research Analyst or his/her relative have actual/beneficial ownership of one percent or more securities of the subject company at the end of the month immediately preceding the date of publication of the research report.
  4. Neither Equitymaster, it's Associates, Research Analyst or his/her relative have any other material conflict of interest at the time of publication of the research report.
DISCLOSURE WITH REGARDS TO RECEIPT OF COMPENSATION:
  1. Neither Equitymaster nor it's Associates have received any compensation from the subject company in the past twelve months.
  2. Neither Equitymaster nor it's Associates have managed or co-managed public offering of securities for the subject company in the past twelve months.
  3. Neither Equitymaster nor it's Associates have received any compensation for investment banking or merchant banking or brokerage services from the subject company in the past twelve months.
  4. Neither Equitymaster nor it's Associates have received any compensation for products or services other than investment banking or merchant banking or brokerage services from the subject company in the past twelve months.
  5. Neither Equitymaster nor it's Associates have received any compensation or other benefits from the subject company or third party in connection with the research report.
GENERAL DISCLOSURES:
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  2. Equitymaster or the Research Analyst has not been engaged in market making activity for the subject company.

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DISCLOSURES UNDER SEBI (RESEARCH ANALYSTS) REGULATIONS, 2014
INTRODUCTION:
Equitymaster Agora Research Private Limited (hereinafter referred to as "Equitymaster"/"Company") was incorporated on October 25, 2007. Equitymaster is a joint venture between Quantum Information Services Private Limited (QIS) and Agora group.
BUSINESS ACTIVITY:
An independent research initiative, Equitymaster is committed to providing honest and unbiased views, opinions and recommendations on various investment opportunities across asset classes.
DISCIPLINARY HISTORY:
There are no outstanding litigations against the Company, it subsidiaries and its Directors.
GENERAL TERMS AND CONDITIONS FOR RESEARCH REPORT:
For the terms and conditions for research reports click here.
DETAILS OF ASSOCIATES:
  1. Quantum Information Services Private Limited (QIS) having its registered office at 103, Regent Chambers, Nariman Point, Mumbai 400021 is registered under SEBI (Investment Advisers) Regulations, 2013 vide Registration No. INA000000680. QIS provides information on mutual funds and personal financial planning, financial markets in general, and services related to financial planning and research in various financial instruments including mutual funds, insurance and fixed income products to customers. It offers asset allocation and researched investment recommendations through its financial planning services through its website www.personalfn.com
  2. Agora Holdings (Cyprus) Limited having its registered office at Akropolis, 59-61, 3rd Floor, Office 301 Strovolos 2012 Nicosia Cyprus belongs to Agro group (Agora) which owns www.agora-inc.com and is one of the largest and most successful consumer newsletter publishers in the world.
  3. Common Sense Living Private Limited (CSL) owns www.commonsenseliving.co.in and is an initiative that provides straightforward lifestyle and wealth-building ideas from wealth coach Mark Ford. CSL is 100% subsidiary Company of Equitymaster.
DISCLOSURE WITH REGARDS TO OWNERSHIP AND MATERIAL CONFLICTS OF INTEREST:
  1. Equitymaster has financial interest in the subject company.
  2. Equitymaster's Associates, Research Analyst or his/her relative have no financial interest in the subject company.
  3. Neither Equitymaster, it's Associates, Research Analyst or his/her relative have actual/beneficial ownership of one percent or more securities of the subject company at the end of the month immediately preceding the date of publication of the research report.
  4. Neither Equitymaster, it's Associates, Research Analyst or his/her relative have any other material conflict of interest at the time of publication of the research report.
DISCLOSURE WITH REGARDS TO RECEIPT OF COMPENSATION:
  1. Neither Equitymaster nor it's Associates have received any compensation from the subject company in the past twelve months.
  2. Neither Equitymaster nor it's Associates have managed or co-managed public offering of securities for the subject company in the past twelve months.
  3. Neither Equitymaster nor it's Associates have received any compensation for investment banking or merchant banking or brokerage services from the subject company in the past twelve months.
  4. Neither Equitymaster nor it's Associates have received any compensation for products or services other than investment banking or merchant banking or brokerage services from the subject company in the past twelve months.
  5. Neither Equitymaster nor it's Associates have received any compensation or other benefits from the subject company or third party in connection with the research report.
GENERAL DISCLOSURES:
  1. The Research Analyst has not served as an officer, director or employee of the subject company.
  2. Equitymaster or the Research Analyst has not been engaged in market making activity for the subject company.
Definitions of Terms Used:
  1. Buy recommendation: This means that the investor could consider buying the concerned stock at current market price keeping in mind the tenure and objective of the recommendation service.
  2. Hold recommendation: This means that the investor could consider holding on to the shares of the company until further update and not buy more of the stock at current market price.
  3. Buy at lower price: This means that the investor should wait for some correction in the market price so that the stock can be bought at more attractive valuations keeping in mind the tenure and the objective of the service.
  4. Sell recommendation: This means that the investor could consider selling the stock at current market price keeping in mind the objective of the recommendation service.
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