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Published on 28/03/2020 12:38:22 PM | Source: Emkay Global Financial Services Ltd

Sell LIC Housing Finance Ltd For Target Rs. 371 - Emkay Global

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Merger with IDBI: A blessing in disguise?

With recent media reports articulating the merger of LIC Housing Finance (LICHF) with IDBI Bank, the market does not seem to favor the move. Despite a clear denial from the managements, markets do assign some merger probability. We are also of a similar opinion that there is high probability of the merger happening, considering various assumptions.

In our view LIC, which is the promoter for both, may be required by the regulator to conduct all lending business through a single entity. The reduction in promoter stake in IDBI Bank, as per statutory requirements, would be more convenient after the merger (being the retail lending entity). This aided by the government’s intention of selling the existing stake in IDBI Bank adds further weightage to the possibility of a merger. Our analysis suggests that synergies attached to the merger are higher than what the market is anticipating.

 

Easy access to low cost funds; the share of retail lending book encouraging: We are negative on LICHF from the last many quarters due to the company loosening its competitive landscape, especially to SBI, which has emerged as the most aggressive mortgage lender recently (~22.7% market share). Following the merger, incremental cost of funding for the merged entity would be as low as ~5.5% vs. 7.8% currently for LICHF. After the merger, the share of retail lending will also shoot up to ~76% from 55% for standalone IDBI and 90% for LICHF currently. However, we would remain cautious of the corporate book (24% in the merged entity) transitioning under a PSU management setup.

 

IDBI Bank already well placed on all necessary statutory requirements:

IDBI Bank already has excess liquidity in books (due to PCA), resulting in CRR at ~11% vs. the statutory requirement of 4%. Hence, after the merger, no excess CRR requirement arises. Similarly, the bank is already sitting on excess SLR at ~25% vs. the requirement of ~19%. After the merger, SLR may dip to ~15%, which could possess some risk to margins due to the negative carry on G-Sec. Lastly, the bank is also well placed on Priority Sector Lending (PSL) norms with ~41.8% of lending under PSL. With more than ~50% of LICHF’s book eligible under PSL, norms still remain manageable.

 

Accelerated provisions can be RoE accretive; swap ratio already priced in: Interestingly, IDBI Bank has gross NPA of 28.7% as on Dec’19, while net NPA stood at ~5.3%, with the overall coverage of 92%. Any probable recoveries from the existing written off account could be RoE accretive for the merged entity. On the swap ratio front, we have analyzed three different possibilities. After the recent price correction in LICHF, swap as per the existing net worth is already equivalent to the current m-cap. As per both, two shares of LICHF could be allotted with one share of IDBI. With the swap ratio based on adj. book (after adjusting for NNPAs), LICHF’s investors remain further beneficiary with 1 IDBI share for 1.5 shares of LICHF.

Housing finance as a business possesses maximum competitive risks from banks considering a relatively large ticket size, bringing operational efficiency, increasing geographical penetration of banks and superior liability franchise for banks. A shift in regulator for HFCs from NHB to the RBI has further removed the regulatory cushion available for pure mortgage lenders. Penalizing LICHF purely based on the merger with IDBI Bank seems to be an overreaction from the market.

We maintain our estimates and Sell rating with a TP of Rs371, corresponding to 1x FY22E P/adj. Book. We would be closely monitoring any movement toward the merger. The biggest risk to our merger thesis is technical/regulatory risks, if any, arising over the proposed merger.

 


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