SKS Microfinance public issue too expensive, say analysts
Retail investors get a discount of Rs50 and one day more than institutional buyers to subscribe to the offer
Pramit Bhattacharya
Mumbai: SKS Microfinance Ltd, India’s largest microfinance institution (MFI), will sell 16.7 million shares from Wednesday and has priced its initial public offering (IPO) at between Rs850 and Rs985 a share. Analysts say the shares are too expensive for the industry, which makes loans to the unbanked poor.
The lower end of the price band is a 33.7% premium to the Rs635.58 per share at which SKS chairman Vikram Akula sold nearly 950,000 shares to Tree Line Asia Master Fund (Singapore) Pte Ltd in April.
The share sale includes an offer to sell 9.3 million shares of some existing shareholders—Sequoia Capital India II Llc and an assortment of SKS trusts— and a fresh issue of 7.4 million shares. At the lower end of the price band, the combined share sale would raise Rs1,420 crore.
Retail investors get a discount of Rs50 and one day more than institutions to subscribe to the offer. The offer closes on 31 July for institutional investors and on 2 August for retail investors. At Rs850 a share, the implied valuation for the firm is 3.8 times post-issue book value (net worth) and 35 times the earnings of fiscal 2010, which appears quite expensive, said Pankaj Agarwal, analyst at the UK-based investment advisory firm Execution Noble.
SKS, which counts Infosys Technology Ltd chairman N.R. Narayana Murthy and Indian-American venture capitalist Vinod Khosla among its shareholders, is the first entity of its kind to sell shares in India.
In a 23 July note, Execution Noble’s Agarwal said though global MFIs are trading at 3.5-4.5 times book value, they have had a much longer operating history and higher returns on equity (RoE) of 30-45%. In comparison, SKS has an RoE of 21.5%.
“The pricing seems to be on the higher side,” said Tejas Doshi, vice-president, research, at Mumbai-based brokerage firm Sushil Financial Services Ltd.
To be sure, SKS has managed its margins well and its bad loans are capped at 0.33%. In the last two fiscals, its profit grew by 116% and 329%, respectively.
“Whilst cost to income ratio of SKS has come down from 79% in FY07 to 52%, it is primarily driven by increased loan ticket size rather than operating leverage in the business model,” Agarwal wrote.
“Doubtlessly, it is an expensive issue, given the risks and uncertainty associated with the microfinance industry”, said Apurva Shah, head of research at Prabhudas Lilladher Pvt Ltd.
MFIs face risks such as limited ability to leverage, regulatory clampdowns and unusual credit risks that could lead to collective defaults by a large number of borrowers. They also find it difficult to leverage beyond five times their balance sheet values since banks and regulators may not be comfortable with a higher degree of leverage, Agarwal wrote in the note.
Experts say the industry is yet to evolve in India, making it difficult to rely on the high growth rates and low bad loan percentages. The Reserve Bank of India (RBI) does not allow MFIs, which are registered as non-banking financial companies, to raise deposits. They typically face interest costs of 9-12% and operating expenses of 15-18%.
This makes it “difficult for MFIs to raise margins”, said Abizer Diwanji, director and head of financial services at consulting firm KPMG. It also leads to high lending rates of up to 30% that MFIs charge their customers, who are among India’s poorest wage earners.
“The only way to get commercial capital is to be not just profitable, but extremely profitable,” Akula had recently told Mint. “If you are making 57% after cost of capital, what does it matter to you if the loan is 28% or 36%?”
But this might not be sustainable, especially with state governments and RBI frowning upon the high rates.
A bigger risk that could upset calculations is the unusual credit risk involving mass defaults by borrowers. A decree issued by some religious leaders to not pay back the loans taken from MFIs caused mass defaults in Kolar district of Karnataka last year. Political protests were also staged in Andhra Pradesh against MFIs.
Such instances could become more common as MFIs scale up their operations, unless they lower their charges, Diwanji said
Mass defaults have been a recurrent feature in several countries that saw aggressive growth in microfinance loan portfolios in the previous three-four years, said a February report by Consultative Group to Assist the Poor, a research organization.
The sector also faces the problem of multiple lenders lending to the same borrower, which would impact asset quality of MFIs several years down the line.
Zerodha (Trading & Demat Account)
RHP
