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Well crafted for growth among small finance banks

Equitas Small Finance Bank (ESFBL) is the second-largest SFB in India in terms of total advances as on FY22. Locating across 17 states and UTs, ESFBL serves through 869 banking outlets.

*  Loan book has witnessed a CAGR of 18% during FY19-22 through 25% growth in non-micro finance segments. With recovering economic activities, we anticipate a 20% growth over FY22-FY24E.

*  ESFBL has posted robust retail deposit growth with the CASA mix improving significantly from 20.5% in FY20 to 52.0% in FY22. We expect CASA ratio to be at 55% by FY24, aiding a lower cost of fund.

* GNPA/NNPA stands at 4.0%/2.1% as on Q1FY23. Standard Restructured book stands at Rs.410cr which is 1.9% of the total book. Asset quality is expected to improve gradually over coming quarters supported by improved collections.

*  Proposed reverse merger with its parent, Equitas Holdings, at a swap ratio of 100:231 by March 2023, will assist the bank to comply with the RBI regulations on promoter holdings.

* We initiate coverage on ESFBL by valuing at 1.35x FY24E Adj P/B with a target of Rs. 52 and recommend BUY rating considering better profit growth and improvement in ROA.

Well diversified loan book

ESFBL has been able to diversify it’s loan portfolio by reducing dependence on microfinance business as compared to other SFBs. Bank is targeting to reduce the exposure in micro-finance business to 15% which currently stands at 19%. We expect advances to grow at a CAGR of 20% during FY22- 24 with micro finance growing at 13% and non-micro finance segment growing at 21%

Advancing CASA mix and liability profile

ESFBL has a strong liability profile with CASA ratio of 52% and term deposit inclining to safer retail deposits (Retail term deposit at 78% of total term deposit). During FY22, the bank has registered 15.6% YoY growth in total deposits with savings deposit growing at 78.3% YoY and current deposit at 48.5%, while term deposit registered a de-growth of 15.0%. CASA ratio improved from 20.5% in FY20 to 52.0% in FY22 leading to reduced cost of funds. CASA mix is expected to improve further to 55% by FY24 due to banks' strong distribution presence and products offering

Strong capital base and improving asset quality

The bank is well capitalized as capital adequacy ratio stood at 21.9% as on FY22 which is more than the RBI prescribed limit of 15% for small finance banks. Current GNPA/NNPA stands at 4.0%/2.1% and we expect it to improve with better collections and rebound in rural economics. However, provision coverage of 48.5% seems lower which will lead to elevated credit cost in the upcoming quarters. Banks total restructured book stands at Rs.1500cr of which standard restructured book stands at Rs.604cr which is 3.1% of total advances.

Valuation and Outlook

We believe that the sector exhibits a strong recovery from Covid-19 impacts and the same is evident in improving collections and disbursement. We expect advances to grow at a CAGR of 20% over FY22-24. The bank is expected to close the reverse merger with it’s parent company by March 23. Net Interest Income and PAT is expected to grow at 18% and 53% CAGR over FY22-FY24E; powered by better loan growth, lower cost of funds. The stock is currently trading at 1yr fwd P/B of 1.1x compared to its 3yr average P/B of 1.6x. With improving business prospect, we expect decent improvement in its valuation going forward. We therefore initiate coverage with a BUY rating by valuing at 1.35x FY24E Adj P/B with a target of Rs 52.

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