Event update: Yes Bank (Underperformer) - Capital raise; Credibility of investor important for RBI approval

YES Bank has notified exchanges that they have a binding offer from a global investor willing to invest US$1.2bn as capital into the bank. At the CMP of INR70, the proposed issue will result in a big dilution of 47% to existing equity. Post infusion, CET1 will improve to 9.5% by end FY20E and will fall to 8.5% in FY21E based on our estimates. So even after the capital raise (if RBI approves) there will not be enough growth capital. We highlight that we have been generous in our RWA density assumptions while calculating the CET1 benefit. We have assumed RWA density of 82% in FY21 against 87% in 1QFY20. RoE following the new capital raise will dip to 2.3% and RoA to below 0.2%. More importantly while we have already factored in NPLs moving to 9.5% by end FY20E from 5% in 1QFY20 we see upside risk to this assumption which would lead to lower EPS/CET1/ RoE.

Putting US1.2bn in context: USD 1.2bn or 85bn is 47% of the bank’s mcap. It does not even cover the bank’s largest stress group exposure. It accounts for only 65% of the bank’s largest stress group exposure in our view and one-third of the top three group stress exposures combined. Post dilution RoE/RoA will remain subdued and will likely remain below 5% through FY22.

Credibility of the investor is key. RBI rules require that any investor who wants to acquire 5% or more in a bank needs its prior approval. RBI checks whether the investor wanting a stake beyond 5% in a private bank meets all the ‘fit and proper’ criteria. So RBI will make a special exemption only for a credible investor. Also RBI is more likely to make exceptions for granting a limit substantially higher than 5% for weak banks under PCA than for non-PCA banks.

It is in the interest of shareholders that mgmt. discloses the name soon: YES Bank has not divulged the name of the investor. It will be in the interest of shareholders if YES Bank discloses this name. If the name is credible, the market will get confidence that RBI will give YES a special exemption. In that case the relief rally in YES Bank’s stock could continue for some more time even if it means that the stock trades above its fair value. If the name is not credible, RBI approval is unlikely and will be negative.

Valuation and view: Even with the capital, YES is unlikely to generate RoE of >5% by FY22E. As such we believe a below-book target multiple is justified. We maintain our fair multiple of 0.4x which on a post money BVPS of Rs94 yields a TP of 35. While this according to us is the fair value, if the investor is credible the stock can likely trade much above its fair value in the short term as concerns on the bank’s sustainability are addressed. As such a lot depends on who the investor is. We maintain Underperformer and await details about the investor.