IDFC First Bank Limited

I have been an investor in IDFC first bank the past 4-5 years and still investing on SIP mode. We still haven’t seen the reflection of the bank’s efficient operations due to elevated costs primarily linked to branch expansion and new product launches. It is unfair to compare a bank which got its license less than a decade ago and started from scratch with a bank which started operations decades back. Like its pointed already, the management guided 5 years back and have delivered on all counts. And i see a similar conservative guidance for the next 5 years which will be easily beaten IMHO. Additionally there are lot of soft factors like customer experience and digital platforms which will play out over the next few years once customers warm up to the bank due to trust factor built with time.
I have never seen any other bank CEO talk fin-tech language anywhere else. And I see this reflecting in the bank’s tech stack and digital customer experience. I would say it is still early days for the bank and it will go through incremental profit metrics as well as valuation re-rating over the next 5 years.

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While reading an article by The Morning Context on Indian Banking and an article by The Economic Times which highlighted the pains in banking industry and those pains being reflected in the gross NPAs and specially in Write Offs, I decided to look at BASEL Pillar 3 disclosures of IDFC First Bank to understand their write off situation since the start of the bank.
The disclosures used to come up with this data can be seen here: Regulatory Disclosures | IDFC FIRST Bank

Summary of observations
Since the formation of IDFC First Bank (the merger took place in Dec 2018 - these numbers includes disclosures made during fiscal year ended Mar 2019):

  • IDFC First Bank declared assets worth 27,997 Crores as NPAs
  • Against these, they provided (Gross provisions) for 21,240 crores.
  • Of these provisions, 14823 Crores have been written off and 5054 Crores have been upgraded/recovered back. So about 53% of NPAs have been written off and 18% has been recovered/upgraded.
  • Excluding write-offs (Assuming no write-offs were made - as was called out in above themorningcontext.com article that the real pain is hidden in write-offs), the closing Gross NPA would have been ₹18,541 crore instead of ₹3,718 Crore (as it is at the end of Mar 31 2024) - roughly 5x or (5x1.88% GNPA = 9.4%)
  • For the last financial year (FY24) IDFC First Bank declared NPAs: 5251 Crores (Gross NPA), out of these IDFC First Bank provided for 4437 Crores (NPA Provision). The bank wrote off 2982 Crore (~57% of NPA) and recovered 1477 Crores (~28% of NPA)
  • That said, write-offs have been fully taken into P&L as per accounting rules and also as required by the regulator, but this goes on to indicate the pain in banking industry.

Doubts:

  • Any one who has been looking into banking disclosures for a while, can you please highlight if I am looking and interpreting the numbers correctly?
  • Gross NPA (assuming nothing was written off) at 9.4% - does this indicate a grim situation at Indian Banking industry?

Link to Google Sheet:

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I understand your perspective on the investment in non-lending finance companies, and you make valid points. However, the dynamics of the lending business for banks and NBFCs are somewhat different, and it’s important to consider these distinctions.

One crucial aspect to highlight is the relationship between loan growth and equity dilution due to regulatory requirements for core equity capital. Regulatory capital adequacy norms mandate that every lender must have a certain amount of core net worth invested in their lending activities. This means that if a bank or NBFC generates a ROE of 14-15% and wishes to avoid diluting equity, their growth potential is limited to around 11-12%.

For instance, a bank like IDFC First, which generates an ROE of approximately 11% but aims to grow its loan book by over 20%, has no choice but to continuously dilute its equity. This scenario applies not only to IDFC First Bank but also to other banks and lending NBFCs, including prominent names like Bajaj Finance, ICICI Bank, Axis Bank, SBI, and HDFC Bank.

In my experience, the only financial institution that has managed to avoid this trend was the erstwhile Gruh Finance, which generated an impressive ROE of over 27-28% while maintaining a lower growth rate of 18-20%. This exceptional performance allowed them to grow without the need for frequent equity dilution.

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For coming to a conclusion, you will have to look at all banks GNPAs and writeoffs, its a mere academic exercise without comparing it with peers and multiplying the GNPA with number would not reach to accurate gnpa.

Its a standard practice - a gnpa which cant be recovered needs to be written off, while being gnpa, its already accounted out of PnL by providing for it.

So all writeoffs are actually coming out of profits and hence ROE will remain lower. While if RoE is higher, consider writeoffs as lower than profit generated and hence reserves are getting accumulated.

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Great analysis. So In your view if someone has to look at the bank from 3-5 yrs investment horizon, what do you suggest 3-5x from here, assuming our country Debt to GDP ratio at a sweet spot, steeper shift from lower to middle and middle to upper middle class in coming years boosting consumer credit, FIIs waiting to invest in great businesses with tough fight from DIIs…

Through some forward looking numbers on Valuation.

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