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IDBI: The way forward?

Dec 10, 2004

Challenging one of the most aggressive banks in the country i.e. ICICI Bank in the retail space and gaining market share is no mean task! But IDBI Bank, post its merger with parent company IDBI, seems to be gearing up to achieve this feat.A scrutiny of the fundamentals of the two merging entities (read IDBI and IDBI Bank), suggests that both the entities will be equal beneficiaries of the synergy. We have substantiated this view in an earlier article. The “merger ratio”, which will reflect their respective bargaining powers, will also give an indication of the future valuations to be assigned to the merged entity. The following is an estimation of the said valuations in two different scenarios.

IDBI Bank merges with IDBI...
FY04IDBIIDBI BankMerger ratio 3:1Merger ratio 2:1
Consolidated EntityConsolidated Entity
No. of shares (Rs m)653214  
No of shares held by IDBI in IDBI Bank (Rs m)120   
No. of shares post merger (Rs m)  684700
EPS (Rs)5.86.37.487.31

In this case the synergies will act in favour of shareholders of IDBI, as their upside in terms of EPS will be higher than the IDBI Bank shareholders.

Reverse merger of IDBI with IDBI Bank...
FY04IDBIIDBI BankMerger ratio 1:3Merger ratio 1:2
Consolidated EntityConsolidated Entity
No. of shares (Rs m)653214  
No of shares held by IDBI in IDBI Bank (Rs m)120   
No. of shares post merger (Rs m)  312326.5
EPS (Rs)5.86.3 16.4 15.7

In this case the IDBI Bank shareholders will be the undisputed beneficiaries of the merger, as every share of IDBI (current market price Rs 97) will then be valued at Rs 25 or lesser (i.e. 74% cheaper than the market price!).

Post its reverse merger in FY02, ICICI Bank has emerged as the strongest entity in Indian private sector banking. The investments and advances of the bank have augmented by 19% and 32% respectively over the last 3 years, while the deposits have grown by a whopping 112%. This gives a clear indication of the momentum that the bank gained, post its merger. Are we looking at a similar story in case of IDBI? Our estimations of the financials of the merged entity present the following picture….

 ICICI BankICICI BankIDBIIDBI BankConsolidated Entity
 (Pre merger- FY01)FY 04FY 04FY 04FY 04
ROA 0.40%1.40%0.60%1.30%0.95%
Investments (Rs in m) 358,911 427,429 98,800 39,100 137,900
Advances (Rs in m) 470,349 620,955 451,100 74,000 525,100
Deposits (Rs in m) 320,851 681,086 49,800 100,500 150,300
Net NPAs (Rs m) 26,292 14,226 11,244 623 11,867
Net NPA to advances 5.50%2.20%2%0.80%2.26%
Credit / Deposit Ratio146.60%91.20%85%73.60%349%
No. of Branches 540 413 10192 193
ATMs 1,000 1675NA298 298
No. of Employees 7,700 13,609 1,400 1,700 3,100
Business/employee (Rs m) 103 95.7 - 108.0 108
Business / branch (Rs m) 1,465 3,152 - 1,517 1,517
Profits/employee (Rs m)4.839.62.70.83.5
Profit after Tax (Rs m) 4,249 3,788 3,789 1,326 5,115
No. of shares outstanding (m)613.0616.0652.8214.2 
No of shares held by IDBI in IDBI Bank (m)   120.0   
No. of shares outdg post merger (m)    684.2
EPS (Rs)4.226.65.86.3 7.48

The above comparison is intended to give investors, a futuristic view of the strength of the merged entity, as well as the figures that the entity should benchmark against, to achieve its goal of replicating ICICI Bank’s success. As the figures suggest, we are likely to witness a head to head collision between ICICI Bank and IDBI Bank in terms of corporate financing. But when it comes to retail, it is evident that, IDBI has a long way to go. Nevertheless, IDBI scores immensely in terms of its efficiency ratios. In spite of having one third the number of employees and half the number of branches, the merged entity (IDBI) is likely to outperform its prospective retailing rival (see the business per employee and business per branch ratios of ICICI Bank and merged IDBI).

However, the caveat in this case is the true quality of the assets. Although IDBI has been successful in pruning its Net NPA ratio to 2.4% in FY04 as against 14.2% in FY03, thanks to the Rs 90 bn government bailout package, 37% of the “restructured loans” still have a high probability of slippage in future.

At the current price of Rs 364, ICICI Bank is trading at a price to book value ratio of 2.7, while at Rs 97 and Rs 51, IDBI and IDBI Bank are trading at price to book value ratios of 0.7 and 2.0 respectively. When and what will be the true valuations accorded to the proposed merged entity, depends upon how soon the respective entities (IDBI and IDBI Bank) are successful in displaying the true colours of their synergy.

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