Equity Research INDIA July 1, 2020 BSE Sensex: 34916 AU Small Finance Bank BUY ICICI Securities Limited Maintained is the author and Annual report analysis – Mission of SFB journey distributor of this report on track Rs544 Company update AU Small Finance Bank (AU SFB), in FY20, completed 25 years of its journey as an institution and three years as an SFB. While it remained nimble-footed as an NBFC, its SFB license in FY17 further opened the doors for larger opportunities Financials and its SFB mission, through credible execution strategy, is on track: 1) >4x balance sheet expansion in three years with improving deposit profile (retail TD & Target price: Rs665 CASA contributing 43%), superior NIMs and return metrics, and sustained asset quality; 2) expanding customer base to >1.7mn (added ~0.5mn new customers in FY20) and deepening its footprint in 243 districts (of the 718 districts in India); 3) Shareholding pattern digitisation focus with >80% transactions through alternate delivery channels; 4) Sep Dec Mar ‘19 ‘19 ‘20 products per customer at 1.3x indicating enough growth potential; 5) unwavering Promoters 32.1 31.0 31.0 focus on used vehicle financing (>6% market share); 6) outdoing regulatory Institutional requirements with ~85% (against required 75%) PSL lending, ~60% (50%) investors 41.8 41.9 44.1 MFs and UTI 12.6 11.4 11.1 <Rs2.5mn ticket-size loans and ~31% (25%) of rural branches. Maintain BUY. FIs/Banks 0.1 0.1 0.0 Insurance co. 3.6 3.4 3.5 Mission on track with ‘quality over quantity’ approach: Amidst Covid-related FIIs 25.5 27.0 29.5 disruption, tough operating environment and weak growth outlook, AU is rightly Others 26.1 27.1 24.9 setting the tone of ‘quality over quantity’ and target-based approach will take a backseat in FY21E. However, being a young and agile institution, it is reinforcing its Price chart commitment to grow once the economy revives and touch Rs1trn booksize with a client base of >10mn quicker than peers. 1,350 1,200 Used vehicle financing accelerated. AU’s ability to adapt quickly to changing 1,050 business dynamics is one of the key reasons for its industry-leading growth and 900 profitability. Witnessing the moderation in new vehicle sales, it strategically decided (Rs) 750 to accelerate its presence in used vehicle financing. Notably, AU is amongst the few 600 to effectively build a scalable used vehicle financing model by approaching the entire 450 ecosystem in the same manner as it does for new vehicles. Consequently, it now 300 commands >6% market share in used vehicle financing. Jul-17 i) 80%+ of transactions are Oct-18 Jan-20 Jun-20 Successfully embarking on digital journey: Mar-19 Dec-17 Aug-19 May-18 happening thorough alternate delivery channel (167% YoY growth in mobile and internet banking transactions); ii) disbursed Rs5bn through exclusive analytics- driven campaigns with <0.5% NPAs; iii) paperless end-to-end digital journey for 2W and consumer durable loans by using Aadhar, e-Mandate and e-Sign, while similar digital journeys for vehicle and SBL are in process; iv) paperless onboarding of deposit customers, ~95% of CASA/FD accounts are opened in <30 minutes Other key metrics: 1) Granularisation of deposits on radar – proportion of top-20 down to 23.4%; 2) adding 50k-60k customers on an average per month; 3) launched AU Royale in Q3FY20 – a savings account product, aimed at tapping the millennials, and mass affluent customers across branches; 4) cross-sell ratio at 1.3x products vs per customer ( 4x for private banks) indicates enough growth potential. Research Analysts: Market Cap Rs167bn/US$2.2bn Year to March FY19 FY20 FY21E FY22E Renish Bhuva Reuters/Bloomberg AUFI.BO/AUBANK IN NII (Rs mn) 13,423 19,094 21,602 25,875 [email protected] Shares Outstanding (mn) 306.4 Net Profit (Rs mn) 3,818 6,753 5,113 8,544 +91 22 6637 7465 52-week Range (Rs) 1180/380 EPS (Rs) 12.5 22.1 16.7 27.9 Kunal Shah [email protected] Free Float (%) 67.9 % Chg YoY 24.6 76.9 -24.3 67.1 +91 22 6637 7572 FII (%) 29.5 P/E (x) 43.5 24.6 32.5 19.4 Sandeep Joshi Daily Volume (US$/'000) 9,662 P/BV (x) 5.2 3.8 3.4 3.1 [email protected] Absolute Return 3m (%) +91 22 6637 7658 7.5 Net NPA (%) 1.3 0.8 1.5 1.2 Abhijit Tibrewal, CFA Absolute Return 12m (%) (22.7) Dividend Yield (%) 0.1 0.6 0.4 0.7 [email protected] Sensex Return 3m (%) 18.7 RoA (%) 1.5 1.8 1.2 1.7 +91 22 6637 7230 Sensex Return 12m (%) (10.5) RoE (%) 14.0 17.9 11.1 16.8 Please refer to important disclosures at the end of this report AU Small Finance Bank, July 1, 2020 ICICI Securities Chart 1: AU SFB’s financial inclusion (FI) objectives and achievements Regulator 75% Priority Sector 50% loans less than 25% branches in mandates Lending (PSL) 25 lakh ticket size unbanked rural areas Achievements ~85% ~60% ~31% in FY 2019-20 Source: Company data, I-Sec research Chart 2: AUM CAGR at 39% over FY18-FY20 supported well by 31% CAGR in disbursements 350 309 300 242 250 200 186 162 161 (Rs bn) (Rs 150 108 100 50 0 FY18 FY19 FY20 Disbursements AuM Source: Company data, I-Sec research Chart 3: Thrust on retail segment continued; it contributed >80% of AuM in FY20 AuM mix 100% 90% 17% 22% 17% 80% 70% 60% 50% 40% 83% 78% 83% 30% 20% 10% 0% FY18 FY19 FY20 Retail SMC Source: Company data, I-Sec research 2 AU Small Finance Bank, July 1, 2020 ICICI Securities Table 1: Incremental AuM growth driven by MSMEs / newly launched branch banking products and business banking segment FY18 FY19 FY20 2-Year CAGR Retail Assets 1,32,650 1,88,130 2,58,920 40% Vehicle Finance 71,330 1,02,240 1,29,850 35% Secured Business Loan (SBL) - MSME 49,770 78,650 1,12,870 51% Secured Business Loan (SBL) - SME 8,700 8,910 - Gold Loan + AGRI SME + HL + CD 620 570 2,570 104% OD against FD 2,240 5,510 7,960 89% Wholesale Assets 27,730 51,080 49,760 34% NBFC 15,250 25,110 18,560 10% Real Estate Group 7,790 8,010 8,260 3% Business Banking 4,680 8,110 10,810 52% Agri SME* 0 2,440 12,130 Total 1,60,380 2,39,210 3,08,680 39% Source: Company data, I-Sec research Chart 4: Wheels AuM growing at 35% CAGR led by cars, tractors, SUVs, LCVs Product-wise Wheels AuM 30 25 20 15 10 5 0 CE 3Ws 2Ws Cars LCVs SCVs SUVs HCVs MUVs Tractors TA to TA dealers/Others FY18 FY19 FY20 Source: Company data, I-Sec research Chart 5: Unwavering focus on used vehicles in FY20 New Used/Re-Finance Trade Advance 100 90 28 27 27 28 80 27 31 34 35 37 70 60 50 40 71 71 70 71 70 68 30 64 64 62 20 10 0 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Source: Company data, I-Sec research 3 AU Small Finance Bank, July 1, 2020 ICICI Securities Chart 6: Encouraging paperless disbursements in PLs and 2Ws 800 740 690 700 600 500 450 460 400 350 (Rs mn) (Rs 300 230 180 200 150 150 140 110 80 100 0 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Personal loans 2-W Consumer loans Source: Company data, I-Sec research Chart 7: Substantial rise in alternate delivery channel (ADC) transactions Total CBS transactions Total ADC transactions 35 ADC transaction as a % of total transactions 85% 30 80% 25 75% 20 70% 15 65% 10 60% 5 55% 0 50% Q1FY20 Q2FY20 Q3FY20 Q4FY20 Source: Company data, I-Sec research Chart 8: Robust digital platform ensured steady decline in Cost of Asset to 3.8% in FY20, one of the lowest amongst SFBs Cost to Assets 6.0 5.3 5.0 4.2 3.8 4.0 3.0 (%) 2.0 1.0 0.0 FY18 FY19 FY20 Source: Company data, I-Sec research 4 AU Small Finance Bank, July 1, 2020 ICICI Securities Chart 9: Deposit mobilisation keeping pace with balance sheet growth… Deposits -ex CD (Rs bn) 300 250 239 200 171 150 (%) 100 67 50 8 0 June'17 FY18 FY19 FY20 Source: Company data, I-Sec research Chart 10: … with increasing the share of retail TD Term Deposit break-up 80% 70% 70% 61% 60% 50% 39% 40% 30% 30% 20% 10% 0% Retail TD Bulk TD FY19 FY20 Source: Company data, I-Sec research Chart 11: Pristine asset quality 2.5% 2.0% 2.0% 2.0% 1.7% 1.5% 1.3% 1.3% 1.0% 0.8% 0.5% 0.0% FY18 FY19 FY20 GNPA (%) NNPA (%) Source: Company data, I-Sec research 5 AU Small Finance Bank, July 1, 2020 ICICI Securities Table 2: Bank’s provisioning policy Overdue buckets Secured Unsecured 90-180 15% 25% 181-365 30% 30% 366-455 60% 60% 456-730 60% 100% >730 100% 100% Loss Asset 100% 100% Source: Company data, I-Sec research Chart 12: Improving RoE profile RoAA RoE 2.5% 20.0% 17.9% 18.0% 2.0% 14.0% 16.0% 13.7% 14.0% 1.5% 12.0% 10.0% 1.0% 8.0% 6.0% 0.5% 4.0% 2.0% 2.0% 1.5% 1.8% 0.0% 0.0% FY18 FY19 FY20 Source - *Includes profit from sale of shares of Aavas Financiers Limited Chart 13: Adequately capitalised with higher loss absorption capacity Tier 1 ratio 19.0% 18.4% 18.4% 18.5% 18.0% 17.5% 17.0% 16.5% 16.0% 16.0% 15.5% 15.0% 14.5% FY18 FY19 FY20 Source: Company data, I-Sec research Table 3: Top management’s remuneration broadly in line with business growth Particular Designation FY18 FY19 FY20 2-Year CAGR Mr.