Utkarsh Small Finance Bank

Diversifying small finance bank

Upcylce in key microfinance segment, diversifying loan book, pan India network, presence in credit underpenetrated states to benefit

Utkarsh Small Finance Bank is a leading and third fastest growing Small Finance Bank (SFB) in India. Its promoter, Utkarsh CoreInvest commenced its operations as a NBFC in FY2010 and was focused on providing microfinance to unserved and underserved segments and in particular in the states of Uttar Pradesh and Bihar. Banks headquarter is located in Varanasi, Uttar Pradesh and over the years expanded SFB operations strategically in various States with prior microfinance experience of Utkarsh CoreInvest.

Utkarsh CoreInvest received the RBI In-Principle Approval on 7 October 2015 to establish an SFB, following which it incorporated Utkarsh Small Finance Bank as a wholly-owned subsidiary on 30 April 2016. Subsequent to obtaining the RBI Licence on 25 November 2016, Bank commenced its operations from 23 January 2017.

Bank operations are spread across India and its present in 26 States and Union Territories with 830 Banking Outlets and 15,424 employees end March 2023. The customer base stood at 3.59 million customers (both deposit and credit) majorly located in rural and semi-urban areas primarily in the states of Bihar and Uttar Pradesh, which has best asset quality with low and moderate credit penetration.

The microfinance remains a focused business segment for the Bank, while it has been diversifying its product portfolio to include non-micro banking loans reducing dependence on microfinance business and growing secured loan portfolio. Bank offers a range of financial products and services that address the specific requirements of customer segments

Asset products include (i) microbanking loans that include joint liability group loans, and individual loans; (ii) retail loans that includes unsecured loans, such as business loans and personal loans, and secured loans, such as loans against property (LAP) (iii) wholesale lending that includes short term and long-term loan facilities to SMEs, mid and large corporates and institutional clients; (iv) housing loans with a focus on affordable housing; (v) commercial vehicle / construction equipment loans and (vi) gold loans that was launched in FY2022.

Gross Loan Portfolio has grown from Rs 8415.66 crore end March 2021 to Rs 13957.11 crore end March 2023. The disbursements increased from Rs 5914 crore in FY2021 to Rs 12442.89 crore in FY2023.

On the liabilities side, the bank offers savings accounts, current accounts and a variety of term and recurring deposit accounts. Deposits have grown from Rs 7507.57 crore end March 2021 to Rs 13710.14 crore end March 2023. Total number of deposit customers has more than doubled from 0.88 million end March 2021 to 2.04 million end March 2023. The retail term deposits comprised 40.66% of total deposits, while CASA as a percentage of overall deposits was 20.89% end March 2022. Cost of Funds has reduced from 8.27% in FY2021 to 7.47% in FY2022 and further to 6.96% in FY2023.

Bank leverage the use of technology to provide transactional ease through internet and mobile banking and on-boarding convenience through digital on-boarding of customers with the use of handheld devices.

The bank is led by Managing Director and chief executive officer, Govind Singh, who has over 25 years of experience in the banking and financial services sector.

Promoter, Utkarsh CoreInvest, is an NBFC-CIC-NDSI in India and is backed by a number of institutional investors including British International Investment PLC (formerly, CDC Group PLC), RBL Bank, International Finance Corporation, NMI Frontier Fund KS, Lok Capital Growth Fund, SIDBI, HDFC Life Insurance Company, HDFC Ergo General Insurance Company, ICICI Prudential Life Insurance Company, Faering Capital India Evolving Fund, Hero Enterprises Partner Ventures, responsAbility Participations Mauritius, Shriram Life Insurance Company Limited, and Aavishkaar Bharat Fund.

CRAR was 20.64% with Tier I capital of 18.25% end March 2023. Bank’s provisioning and write-off policy is more stringent than norms prescribed by the RBI. Gross NPAs ratio was 3.23% and net NPAs ratio was 0.39% of Net Advances end March 2023. Gross NPAs in the microbanking segment was 4.09%, retail 1.36%, wholesale 0.00% and housing loan 5.09%.

The Offer and the Objects

The initial public offer (IPO) consists of fresh issue of Rs 500 crore through issuance of 21.74 crore equity shares at the lower band of Rs 23 per share (face value Rs 10 per share) and 20 crore shares at the upper band of Rs 25 per share.

The issue is to be made through the book-building process and will open on 12 July 2023 and will close on 14 July 2023.

Bank proposes to utilize the Net Proceeds from the offer towards augmenting Bank’s Tier I capital base to meet future capital requirements. The listing of the bank is also in line with terms of the RBI in-principle approval, RBI final approval and SFB licensing guidelines, requiring the bank to list its Equity Shares on the stock exchanges within three years from the date of commencement of business.

Strengths

The bank has a sound understanding of the microfinance segment and rural and semi-urban areas. About 6.4 lakh villages in India account for 66% of the country’s population. Rural areas contribute 47% of India’s GDP, but their share is low at 8% of total credit and 11% of total deposits indicating low penetration of the banking sector in rural areas and provides growth opportunities.

After many key event such as demonetization, NBFC crisis, covid etc impacting the microfinance segment in the last few years, the sector is gearing up for accelerated growth with asset quality issues largely behind.

Bank has significant presence in Uttar Pradesh and Bihar - the most populous states in India accounting for 17% and 9% of overall population in India, but their share in overall credit outstanding is only 5% and 1% indicating a strong opportunity for providing banking services to unserved or underserved customers.

In FY2023, Bihar, Uttar Pradesh, and Jharkhand have the best asset quality amongst the other states and have a low portfolio at risk greater than 30 days and 90 days than at a pan-India level.

The bank has reduced the share of its microbanking portfolio from 81.98% end March 2023 to 66.03% of Gross Loan Portfolio end March 2023. The retail segment contributed 10.99%, wholesale 11.08% and housing 3.72% of Gross Loan Portfolio.

The bank has reduced the share of rural and semi-urban loan book from 68.47% end March 2021 to 56.42% of gross loan book end March 2023. About 522 out of 830 Banking Outlets are located in rural and semi-urban areas

For microbanking customers, the bank offers life insurance products where the borrower and guarantor are covered up to the value of the loan.

An incremental priority sector credit to certain districts with low credit flow is eligible for a higher PSL weightage and such districts accounted for more than 40% of JLG portfolio of the bank.

The percentage of non-callable deposits to total deposits was 39.28% end March 2023.

Bank has over the years focused on robust and comprehensive credit assessment and risk management framework.

Net Interest Margin has improved from 8.20% in FY2021 to 8.75% in FY2022 and 9.57% in FY2023.

Bank ability to provide products and services in a cost-efficient manner is among core strengths and cost-to-income ratio was the lowest among SFBs at 54.15% in FY2023.

Weaknesses

A significant portion of advances in the micro-banking segment are towards customers located in the states of Bihar (30.88%) and Uttar Pradesh (25.98%), and any adverse changes in the conditions affecting the region can adversely impact business. About 374 out of 830 Banking Outlets were located in these two States.

Attracting and retaining talented professionals is a key element to growth strategy. The bank has witnessed a high attrition rate of 23.28% in FY21, 29.89% in FY22 and 33.70% in FY23. If the banking industry increasingly moves toward incentive-based pay schemes, attrition rates could increase and banks could be forced to alter remuneration scheme.

Deposits depend on a limited number of customers and a loss of such customers could adversely affect deposit portfolio. Top 5 depositors accounted for 9.32% and top 20 for 21.04% of total deposits end March 2023.

Bank has a high proportion of bulk deposits at 48.6% end March 2023. A partial or complete withdrawal of such deposits by any of the customers could adversely affect business.

Microbanking loans and certain retail loans are at higher credit risk than secured loan portfolios since they may not be supported by collateral. The share of unsecured loans has declined from 86.2% end March 2023 to 66.9% end March 2023

Business involves lending money to smaller, relatively low income entrepreneurs and individuals who may not have any credit history making it difficult to carry out a formal credit risk analysis on customers.

Valuations

FY2023 EPS on post-issue equity works out to Rs 3.7. At the price band of Rs 23 to Rs 25, P/E works out to 6.2 to 6.8 times of FY2023 EPS.

Post-issue, the book value (BV) will be Rs 22.8, while adjusted BV (ABV) net of net non-performing assets and 10% of restructured loans works out to Rs 22.3 per share at upper price band.

The scrip is being offered at price to Adj BV multiple of 1.1 times at the upper price band.

Among peers, AU Small Finance Bank is trading at P/ Adj BV multiple of 4.8 times, while Ujjivan Small Finance Bank is trading at P/ Adj BV multiple of 2.1 times, Equitas Small Finance Bank at P/ Adj BV multiple of 2.1 times, Bandhan Bank at 2.0 times and Suryoday Small Finance Bank at 1.2 times.

In terms of PE, Au Small Finance Bank is trading at 36.1 times its EPS for FY2023, Equitas Small Finance Bank at 17.8 times, Bandhan Bank at 16.8 times, Ujjivan Small Finance Bank at 7.5 times and Suryoday Small Finance Bank at 5.7 times.

In March 2021, bank had issued 8.91 crore equity shares cumulatively on private placement basis at an issue price of Rs 27, while issuing 3.70 crore equity shares to Olympus ACF Pte, 1.34 crore equity shares to responsAbility Participations Mauritius, 1.30 crore equity shares to Aavishkaar Bharat Fund and 0.85 crore equity shares each to Triodos Sicav II - Triodos Microfinance Fund, Legal Owner Triodos Funds B.V. and Growth Catalyst Partners LLC.

Further in August 2021, bank issued 4.72 crore equity share at an issue price of Rs 31.8 to Bharti Axa Life Insurance Company (2.36 crore equity share), Triodos Sicav II - Triodos Microfinance Fund (1.26 crore equity share), Growth Catalyst Partners LLC (0.31 crore equity share), Harish Engineer (0.35 crore equity share) and ICICI Prudential Life Insurance Company (0.44 crore equity share).

Utkarsh SFB is the third fastest growing SFB in gross loan portfolio among its peers at 31.0% CAGR between FY2019 and FY2023, to reach Rs 13960 crore. Utkarsh SFB also reported third highest CAGR in terms of deposits at a CAGR of 37.9% between FY2019 and FY2023 to reach Rs 13710 crore.

Most of the SFBs were erstwhile microfinance institutions (MFI) and still have a huge concentration in MFI products. With SFBs focus on portfolio diversification, the product mix is getting distributed into multiple asset classes. Top 7 states for Utkarsh SFB accounts for 88% of loans, which is third lowest among the compared SFBs.

Amongst compared SFBs, Utkarsh SFB has the best cost to income ratio of 54.15% in FY2023. Utkarsh SFB posted second highest RoE at 22.64% and also reported the second highest RoA at 2.37% for FY2023. Utkarsh SFB has posted the second highest NIMs at 9.57% in FY2023.

Utkarsh SFB has the highest liquidity coverage ratio at 375.82% and the second highest provision coverage ratio (PCR) at 88.29% end March 2023. Utkarsh SFB has the second lowest NNPA ratio of 0.39% end March 2023.