ICICI: Sell

Recommendation: Sell

Sanjiv Shankaran

A YEAR is a long time in the equity market.

In September 1999, ICICI became the first Indian company to achieve a listing on the New York Stock Exchange (NYSE). Since then, the company's share price has recorded significant gains. A year later, with no new developments and some old concerns remaining, investors may consider booking profits in the stock.

All entities in the financial sector were affected by the industrial slowdown in the mid-1990s. Perhaps the worst affected were the development financial institution (DFIs) such as ICICI because the long tenure of their loans were aimed largely at projects dependent on a firm trend in commodity prices.

As is well known, commodity prices crashed and many projects were rendered unviable. The outcome was a growing incidence of bad loans -- non-performing assets (NPAs) -- on the books of financial institutions.

Only ICICI has managed to counter successfully the negative perception of equity investors in financial institutions. The reasons for the relatively handsome returns that ICICI has provided the equity investor over the last two years are rooted in the company's fast-paced growth in operations and the equity market perceiving the company as a nimble financial supermarket rather than a traditional FI.

Internet and the retail thrust

ICICI's transition, from a traditional FI, that poured money into long-term manufacturing sector projects, to a company that has made a timely move to capitalise on the opportunities thrown up by the spread of the Internet is important to its valuation.

Simply put, the company believes that the Internet has the potential to alter radically the way financial services are delivered. The days of having a large number of branches across the length and breadth of the country are long gone. The Internet is believed to be the medium of the future.

The possibilities of the Internet appear enormous especially when viewed in the backdrop of important financial entities turning themselves into one-stop-shops with traditional barriers breaking down. ICICI was among the earliest to pursue aggressively the concept of an universal bank by establishing subsidiaries to get into practically every area of financial intermediation.

On the heels of one-stop-shops and the growing importance of the Internet as a medium, ICICI has adopted the new technology quickly. The public face of the new development has been an attempt to cater to the retail investors' multiple needs by using the Internet and various subsidiaries.

While the retail thrust and the Internet have attracted attention, the matter is put in a better context when one considers that retail assets make for a meagre 0.8 per cent of its total portfolio. The move has made a bigger impact on perceptions and the equity market has rewarded a company viewed as dynamic and visionary.

Impact of growth

Another interesting aspect of ICICI's operations over the last few years is the sharp growth in the balance-sheet size. In the last four years, the balance-sheet it has grown at a compound rate of about 31 per cent to touch Rs. 52,127 crores at end-March 2000. This growth has come in the backdrop of an industrial slowdown growth, global commodity prices crash, and questions about the viability of some notable domestic companies.

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This begs the question: Where has the growth come from? From the very same industrial sector, but in a different way. By 2000, the bulk of the new disbursements has been to large new projects in the oil and gas sector, infrastructure and to medium-term lending in the corporate sector. Most loans to the traditional manufacturing sector have been stagnating over the last few years.

The activities undertaken under the head `corporate lending' capture the company's tendency to look for opportunities, what with securitisation and short-term financing being areas where the disbursement has grown.

A result of the sharp growth in the balance-sheet size is that the magnitude of the bad loan problem gets lost in percentage terms and, especially, in absolute terms. But these may still be a sizeable proportion of earnings. Much of the valuation improvement also hinges on the perception that incremental loans to new areas where the performance is independent of existing assets may reduce risks. While this may take time to unravel, a significant problem lies in some earlier loans turning bad.

While the balance-sheet has grown by about 31 per cent, the proportion of net NPAs to total assets has hovered at 6.7-8.1 per cent in the same period. It was 7.6 per cent in March 2000. Among the problem areas for ICICI are steel, basic chemicals and manmade fibres, all sectors where competition and the changing environment have threatened the viability of some projects.

Old problems die hard

ICICI has provided shareholders handsome returns over the last year. At the current price of Rs. 120, the company trades at a price earnings multiple (PEM) of about 7, one of the highest in the financial sector.

When 93 per cent of the company's NPAs pertain to project finance, the possibility of the company's equity valuation being adversely hit if some of the projects are discarded cannot be ruled out. The emphasis on the Internet and its delivery seem a step in the right direction, but the initial response from target customers to the Internet dimension of delivery appears disappointing. In this backdrop, further capital appreciation seems unlikely till significant new developments come along. Investors may consider booking profits and keeping a tab on the stock for possible investment at lower levels.