Today Capital First (CAPF) announced its merger with IDFC bank. Here is what i think as someone who has been invested in CAPF for almost 2 years now.
- The merger ratio of 139:10 is similar to the ratio of stock prices of both companies before they started running up sharply few days back but i don’t think it is a bonanza that an investor of a smaller target company dreams of.
- As a CAPF investor, I always compared this stock to Bajaj Finance and hoped it would become the next Bajaj Finance. But now it has taken a different course for its future growth.
- If we consider IDFC bank to be fairly valued at current price, then the deal values CAPF at approx 35X trailing earnings as per the merger ratio. On P/B, it values it around 3.5X of my FY18 estimates which is somewhat less than what other similar NBFC stocks.
- But a counter case can be made that IDFC bank stok itself is relatively cheaper when compared to its peers to justify this ratio.So it looks like a fair deal, but i won’t call it a great deal as a small CAPF shareholder.
- My one key disappointment is that I expected CAPF stock to deliver 10X in 8-10 yrs, which may be challenging for the new merged entity which will be over 3X the present size of CAPF.
- My another worry is that one of my steady growth stock is merging with a company that hasn’t seen the best of times lately. This adds a degree of uncertainity and unpredicatibility to future prospects.
Now listing some potential positives from this merger that i see as an CAPF investor-
- The valuations of the combined entity should be a lot cheaper than what we have of CAPF. This may limit downside in stock price if stock markets take a downturn.
- I am happy that the current chairman and MD, Shri Vaidyanathan, who has done wonders at CAPF will be leading the merged entity as its MD & CEO.
- Every financial comapny envisages itself to eventually convert into a bank after attaining a certain size.Looks like the big day is finally here for CAPF.
- Ultra-low interest rates, which we have seen globally for last few years in the aftermath of 2008 financial crisis are normalizing steadily. Being a bank may give access to funds at cheaper costs and be a competitive advantage in future for CAPF against its NBFC peers.
- The Indian economy has started picking up with GDP growth bottoming out and industrial output hitting 25 month high as per Nov 2017 data.
Banks, courts, govt and regulators acting tough on large NPAs, we should start seeing resolution of some large corporate NPAs in coming months. If troubled corporate lonas of IDFC Bank start getting resolved, this may boost profits heavily.
One should do well to remember that at its peak, IDFC Limited did annual profits of 1800cr+ in FY2013 & 2014 compared to trailing 12 month profits of IDFC Bank which is just about 1000cr.
Conclusion- I believe this development of merger should have somewhat positive affect on CAPF stock price and should limit potential downside in the immediate future. However, due to this sudden development, I may decide to rebalance allocation to this stock depending on market prices or if I find other more promising opportunities.
Based on my calculations, I expect the merged entity to have a book value of close to Rs50 for FY2020 and have a conservative target price of 100 at 2 times book value for IDFC bank for FY2020.
Disclaimer- I & my family members have vested interest in the discussed stock. Markets and stock prices can always act differently from the views expressed by me. This does not constitute investment advice. Read full disclaimer here.