Deepak Shenoy on what demerger of financial services business means for Reliance and market

SBI has done really well in the recent past but to this extent where we are right now, figures for bank credit growth came out on Friday. It is 17% now. I think there is a tremendous surge of credit across the cycle. If we look at the numbers from September, credit growth is scorchingly high across almost all of the sectors and the one that is actually growing slowest relative to itself is the small and medium industries’ credit and that is growing at about 36% a year.

In this area, public sector banks being one of the largest players in the banking sector, stand to benefit. They have seen expanded NIMs. Their NIMs will come down because interest rates from a deposit perspective are going up but still they have been relatively undervalued and maybe it is early stages of the growth story or a crowded trade; only time will tell.

Do you share as much conviction on ?
Not really. I share more of the conviction on ICICI to be honest. We own it and one of the reasons is because of their relatively high corporate focus in comparison with say

or Kotak or anything like that. Relatively speaking, they have spent a lot of time cleaning up their balance sheet and are in better shape right now than they used to be.

We have seen them aggressively and silently take market share in a lot of sectors where other banks were in high demand and it is more float related but that is going to pay them rich dividends when interest rates go up because float essentially reduces interest cost. So from a fundamental perspective, is very strong, though right now, if you look at the stock prices, you should just be buying PSU banks.

What do you make of the news in Reliance? They have looked at divesting their financial business and KV Kamath joining there? Financial service for Reliance is not a big business yet they want to demerged it and they have got a man with deep understanding of the entire financial sector to head it. It is a very interesting move as Reliance is ready to give you free shares before the business has become big.
Well, I mean, I would not call it free, it is part of the business but I am happy because we own Reliance and this is an interesting play. I would say any business should separate its financial endeavours into a separate entity that is owned by the shareholders of the business and not by the business itself because it conflates the debt equity ratios and reduces your ability to do buybacks.

We have seen this in L&T. L&T could not do a buyback simply because they owned L&T Finance whose debt levels were higher than the buyback rules allow. So I would say at this point moving away the entire business via demerger is actually one of the best ideas that any business could do and I am happy that Reliance is doing it. It is not necessarily small. While the asset base would be something like Rs 6,000 crore which is effectively 1:1 share with Reliance. This is their capital base. They also will have access to about 6% of Reliance shares which were earlier treasury shares of Reliance itself.

Now this 6% of Reliance shares add up to Rs 100,000 crore. Effectively that means the book value of this company will be over Rs 100,000 crore if they are allowed to use that entire share price as capital. They may not need to raise more capital for a significant amount of time and it gives them a huge leeway for expansion.

Reliance is already one of the best players in the debt markets.

If I look at the history of Reliance. they have incubated businesses within their balance sheet – whether it is Jio or the retail business or whether it was the entire petrochemical business or the E&P business. Markets six months ago were speculating when Jio and the retail business would be divested because those businesses have become sizable businesses. If they are looking at incubating that business, obviously the share capital would be large, but it is not a business which is generating Rs 1,000 crore of EBITDA for them.
I think the reason was to separate out the financial business from the core business so that they could raise more capital in it as debt without hurting the debt equity ratio of the core business. So that might have been the reason to move it out right now. It also becomes the holding company for all their financial practices if they want to get into broking, asset management, any of the other insurance plays and so on.

Initially they are focussed on lending and that is why they have done it. I really think the demerger play is the way to go. Instead of creating a Jio IPO tomorrow, I would rather see a Jio demerger from the business or a Reliance Retail demerger from the business because otherwise it qualifies Reliance as just a holding company instead of an actual operating company which it is.