IDFC received final regulatory approval for its banking arm, after successfully performing the corporate restructuring required to house the bank in a separate entity. We see the demerger as a key event to trigger the stock price moving towards our unchanged fair value estimate of INR 198 on this no-moat stock.
Although not representative of future or past profitability, consolidated profits slumped 47% during the past year as operating expenses ballooned 4 times last year's number with the expenses related to setting up the bank. It certainly did not help that the loan book continued to shrink by 1%, and the firm's interest and non-interest income both moved down. On the existing infrastructure focused loan book, the primary pain point continues to be in the power sector, where thermal-based plants continue to face coal shortages, forcing IDFC to restructure or recognise 8.4% of its book as non-performing during the quarter. We agree with management when it says this prudent measure will prevent the newly formed IDFC Bank from recognising large non-performing loans when launched on 1 October, 2015.
Management articulated its three-pronged future strategy for the bank. As anticipated, its first port of call will be existing corporate clients to build their liability base and cross-sell banking services to them. Second, they will go after rural customers for their asset base, as they plan to set up 15 or so branches in rural Madhya Pradesh by October, to build local scale in select geographies to prove their business model before expanding further. The remaining 5 to 10 branches, to start with, will be opened in Delhi and Mumbai to target urban retail customers, to whom it will start by offering home loans. It also plans to build a liability base over a period 7 to 10 years, as this will be a hard market to crack with most established banks having concentrated presence in tier-1 urban cities.
We are keen to see how the company tackles the balance between branch versus branchless banking in an era where digital delivery mechanisms can significantly reduce the cost of operating a bank. However, the primary mode of customer acquisition remains a neighbourhood branch network.
