Change in business mix weighs on Bandhan's interest margin in FY18

After a sturdy listing in March 2018, Bandhan Bank (Bandhan) turned in satisfactory FY18 numbers on Friday. Overall assets under management (AUM, size of loan book) of the bank surged by 37.4 per cent year-on-year to Rs 323.39 billion as of March 2018, pushing its net interest income (NII, difference between interest earned and interest expended) and net profit upward by 26.1 per cent and 21 per cent, to Rs 30.32 billion and Rs 13.46 billion, respectively.

But, the bank's profitability -- expressed in terms of net interest margin (NIM, which is NII as a per cent of average AUM) -- came down by 70 basis points to 9.7 per cent in FY18 owing to a change in business mix, which dragged down the bank’s overall yields on loans to customers by 160 basis points to 15.4 per cent.

Firstly, in FY18, Bandhan lowered its sale of the loan portfolio, impacting profitability. Around 95 per cent of its portfolio comes under the priority sector, part of which is sold to other banks who are in need (to bridge the shortfall of 40 per cent priority sector lending target). Though the bank earns interest on the sold portion, it lowers the on-balance sheet AUM, thereby increasing NIM.

In FY18, however, the bank issued more priority sector lending certificates (PSLCs), which are tradable certificates issued against priority sector advances and purchased by other banks to achieve their priority sector target. As informed by the management, this change in business i.e. moving from sale down to PSLCs led to around 50 basis point impact on margins. Nonetheless, this helped the bank to increase its fee income. Bandhan’s fee income as a per cent of total income went up to 12.8 per cent during the year, as against 9.5 per cent in FY17.

Secondly, the share of non-micro-finance loans in the aggregate loan portfolio increased by over 1.5 times to 14 per cent, dragging down NIM further. Non-micro-finance portfolio attracts lower interest rate as compared to micro-finance loans. As of March 2018, Bandhan’s non-micro-finance portfolio stood at about Rs 47 billion, more than two-fold rise.

Having said that, given its almost debt-free status, expected persistency in growth and full-year benefits of capital, margins are likely to improve going ahead. “The bank will get full-year benefits of capital in terms of NIM. Also, unlike FY18, the pace of branch expansion will be lowered and more focus would be on growth,” says Manish Oswal, an analyst at Nirmal Bang. Bandhan is expected to grow its loan book by around 30-35 per cent in the near term.

Moreover, although the yearly figures show a deterioration in bad loans, Bandhan’s asset quality improved in the March 2018 quarter with gross non-performing assets (NPAs or bad loans) as a per cent of advances declining to 1.2 per cent from 1.6 per cent as of December 2017. The street would be keeping an eye on this parameter for further improvement.

Meanwhile, business continues to grow fast. In March quarter, NII grew 25.2 per cent, while operating profit was up 32.8 per cent and net profit was up 20.3 per cent, over the year-ago period.

Given the visible growth and strong management, analysts are positive on the stock and see a 24 per cent upside over the next year, despite the stock being quite expensive. “Given the management’s efficiency in micro finance business, expected growth in terms of advances and profitability, earnings are expected to be strong in the near term,” Oswal added.

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