Clinch the Deal The M&A Event

The Case
11/3/2010

Backwaters v2.10 IIM Kozhikode

The case has been prepared by Ankit Jain for use in Clinch the Deal event at Backwaters v2.10.

Introduction
The age is about the fortune at the bottom of the pyramid. Increasingly, the various businesses are looking at tapping the potential wealth that exists amongst the poorer sections of the society. A large chunk of untapped potential exists amongst the rural population; the only catch is that they would not be willing to spend One strategy being adopted by the companies is that of M&A. Amongst the leaders in this area is the banking sector. Providing financial solutions to the more economically feasible sections is a profitable venture owing to the volumes, but the weaker sections provide opportunities for higher margins. The Indian Standard Bank is looking to acquire and merge with banks that have a foothold in the rural financing department. The various players in this field in the industry have been listed, but how do they decide which is the bank that will provide an apt synergy? Should they go for a merger or an acquisition? How do they go about financing the deal? What price should they be willing to pay? How should they negotiate? How should the capital for the acquisition be raised? These questions are what are bothering the management. The details of the 3 players have been listed. The criteria for the short-listing by the bank: 1) 2) 3) 4) The institutions model should not be one that is non-profitable. The institution should have been in operation for at least three years. There should be a way of improving profitability of the institution. The CAGR should be at least 5% for next 4 years.

Constraints 1) Assume there are little constrains except for the financial synergies and appraisal of the target. 2) Raising capital is very much possible through either means. 3) Only one of the 3 target institutions can be acquired.

The case has been prepared by Ankit Jain for use in the event Clinch the Deal at Backwaters v2.10

Indian Standard Bank

Established in 1994, it is amongst the leading financial institutions in India with the service basket varying from simple savings/current accounts to the complicated instruments of private equity. They offer 1. 2. 3. 4. 5. Loans (corporate, housing, personal and only the minimum stipulated 18% agricultural) Wealth management advisory services Portfolio management through their own mutual funds M&A advisory services Insurance products

Over the past 5 years their standing in the country has improved from being the 8 th largest private player to being the 4th largest in terms of deposits and advances. Most of their revenues come through the interest side, i.e. interest income (40%) NPAs are about 3% of total assets, NII is around 2%.

Balance Sheet
2008 Capital Equity Reserves and Surplus Deposits Borrowings Other Liabilities and Provisions Total Assets Cash and Balances with RBI Balances with Banks, Money at call and short notices Investments Advances Fixed Assets Other Assets Total Contingent Liabilities Bills for Collection 112.28 168.42 2276.2 22188.7 3932.2 28565.52 2009 122.04 183.06 2474.1 24118.2 4274.1 31049.46 2010 135.6 203.4 2749 26798 4749 34499.4

1615.4 560.5 7625.1 17713.4 95.2 1068.1 28677.7 87591.6 126.7

1755.9 609.3 8288.1 19253.7 103.5 1161 31171.5 95208.3 137.7

1951 677 9209 21393 115 1290 34635 105787 153

The case has been prepared by Ankit Jain for use in the event Clinch the Deal at Backwaters v2.10

Consolidated Profit and Loss Account

2009 Interest income Total income Interest expenses Other expenses Total expenses Operating profit PAT EPS Share price (Face Value) LTV D/E 2250 5647.5 2169 2070 4239 1408.5 360 18 5 0.9 37 2010 2500 6275 2410 2300 4710 1565 400 20 5 0.9 37 2011 (E) 2700 6777 2603 2484 5087 1690 432 22 5 0.9 37 2012 (E) 3024 7590 2915 2782 5697 1893 484 24 5 0.9 37

Share price movement for past 6 months

Share Price Movement

1200 Sahre Price (Rs.) 1000 800 600 400 200 0 129 122 115 108 101 94 87 80 73 66 59 52 45 38 31 24 17 10 3

Past working Days

*Share price has never gone above Rs. 1100 (3 years ago) and never below Rs. 550 (19 months ago) *Data displayed in graph is for the past 129 working days

The case has been prepared by Ankit Jain for use in the event Clinch the Deal at Backwaters v2.10

Target 1: Rural finance of India (RFI)

RFI was established in 2004 with the motive of financing the rural activities and the weaker sections. Number of branches in India are 32. Dominance is in the regions of Karnataka and parts of Tamil Nadu. It has an extensive network with MFIs and SHGs in these regions. Only business of this financial institution is to provide savings instruments and also to provide easy loans. The details are:
2009 347.4 27 374.4 329.4 342 19.8 1.17 0.63 20945 25200 1389.6 27 2010 386 30 416 366 380 22 1.3 0.7 23272 28000 1544 27

Interest Income Other income Total income Interest expense Total expenses PAT LTV ratio Savings to loan ratio Number of accounts Number of loans disbursed Loan value D/E

Balance sheet
2008 Capital Equity Reserves and Surplus Deposits Borrowings Other Liabilities and Provisions Total Assets Cash Balances with Banks, Money at call and short notices Investments Advances Fixed Assets Other Assets Total Contingent Liabilities 18.72 28.08 379.4 3698.1 655.4 4760.98 2009 20.36 30.54 412.4 4019.7 712.4 5175.04 2010 22.6 33.9 458.2 4466.3 791.5 5749.9

269.2 93.4

292.7 101.6

325.2 112.8

1270.8 2952.2 15.9 178 4779.5 14598.6

1381.4 3209 17.3 193.5 5195.5 15868.1

1534.8 3565.5 19.2 215 5772.5 17631.2

The case has been prepared by Ankit Jain for use in the event Clinch the Deal at Backwaters v2.10

The company is not listed and its shares are held closely by the promoters. The growth rate in interest income is expected to be around 7-8% CAGR over the next 4 years. The savings to loan ratio has been increasing, NPAs are around the industry average for micro finance institutions @ 3% of total assets. Savings deposits are considered as debt in calculation of D/E. Rate of Interest being charged is 26%. The rate of interest on deposits is 9.25%.

Target 2: Financing Fund for the Poor (FFP)

Established in 2000, this bank provides a wider basket of services. The services include life, health and crop insurance, agricultural loans ranging from 6 months to 5 years, housing loans, student loans, medical loans. These are all services being provided only to the rural areas. The number of branches is 77, with dominance in Bihar (53 out of 77). It is not a well financial institution outside of Bihar. The NPAs are relatively higher at 3.7%. D/E ratios include the savings deposits as well. Following are the details

2009 Interest Income Other income Total income Interest expense Total expenses PAT LTV ratio Savings to loan ratio Number of accounts Number of loans disbursed Loan value D/E 422.4 341.6 764 384 664 44 1.2 0.48 20618 25600 1760 25

2010 528 427 955 480 830 55 1.5 0.6 25772 32000 2200 25

The case has been prepared by Ankit Jain for use in the event Clinch the Deal at Backwaters v2.10

Balance Sheet
2008 Capital Equity Reserves & Surplus Deposits Borrowings Other Liabilities & Provisions Total Assets Cash Balances with Banks, Money at call & short notices Investments Advances Fixed Assets Other Assets Total Contingent Liabilities 33.68 50.5 6656.6 1179.7 8603.3 2009 36.61 54.9 742.2 7235.5 1282.2 9351.5 2010 40.68 61.0 824.7 8039.4 1424.7 10390.5

484.6 168.2 2287.5 5314.0 28.6 320.4 8603.3 26277.5

526.8 182.8 2486.4 5776.1 31.1 348.3 9351.5 28562.5

585.3 203.1 2762.7 6417.9 34.5 387 10390.5 31736.1

Growth rate in interest income is expected to be around 10% CAGR in next 4 years. Savings to loan ratio has been stagnant in the past 4 quarters increasing slightly from 0.55 to 0.6. Rate of Interest being charged is 25.5%. The rate of interest on deposits is 9.50%.

Target 3:Regional corporation of Rajasthan (RCR)

Established in 2005, main purpose was irrigation loans. The asset portfolio consists primarily of loans given out to farmers for periods ranging from 2 years to 10 years for the purpose of acquiring irrigation facilities. Loans are given out for pumps, tube-wells, canals to the fields etc. collateral is the machinery purchased. Default rates are low and NPAs are around 2% of total assets. Growth rate in Interest income is expected to be close to 10% CAGR for next 4 years. Number of branches is 24. It operates only in Rajasthan. Following are the details

The case has been prepared by Ankit Jain for use in the event Clinch the Deal at Backwaters v2.10

2009

2010

Interest Income Other income Total income Interest expense Total expenses PAT LTV ratio Savings to loan ratio Number of accounts Number of loans disbursed Loan value D/E

187 15.3 202.3 170 182.8 9.35 1.275 0.68 5950 7650 680 31

220 18 238 200 215 11 1.5 0.8 7000 9000 800 31

Balance Sheet
2008 Capital Assets Reserves and Surplus Deposits Borrowings Other Liabilities and Provisions Total Assets Cash and Balances with RBI Balances with Banks, Money at call and short notices Investments Advances Fixed Assets Other Assets Total Contingent Liabilities 13.48 20.22 273.1 2662.6 471.9 3427.82 2009 14.64 21.96 296.9 2894.2 512.9 3725.96 2010 16.28 24.42 329.9 3215.8 569.9 4140.02

193.9 67.3

210.7 73.1

234.1 81.2

915 2125.6 11.4 128.2 3441.4 10511

994.6 2310.4 12.4 139.3 3740.5 11425

1105.1 2567.2 13.8 154.8 4156.2 12694.4

Rate of Interest being charged is 27%. The rate of interest on deposits is 9.00%.

The case has been prepared by Ankit Jain for use in the event Clinch the Deal at Backwaters v2.10

All financials are of the current period, i.e. 2009-2010

Assumptions:
1. All 3 targets are not banks, they are financial institutions 2. NIM for the 3 targets are around 6% 3. Use of technology in case of the poorer sections is minimal, however the institutions use decent levels of technology to keep their operations efficient 4. The 3 targets are unlisted and the stocks are held closely by the promoters 5. Savings provided by the institutions are through tie ups with banks. These institutions collect funds from the people and use them for savings with various banks. Thus the instruments are similar to any bank operating in the country 6. There are no restrictions imposed by the government or the RBI

(All figures in crores except ratios, numbers of savings accounts and loans)

The case has been prepared by Ankit Jain for use in the event Clinch the Deal at Backwaters v2.10