Mind the hype
The story is good but the company is stretched
CAPITEC IS A PHENOMENON. And it’s priced like one. The listed retail bank trades on a multiple of 19 times, recently breaching the significant looking but ultimately meaningless level of R100/share. Volumes are thin, but demand for the available stock is consistent. It’s a share private investors are falling over each other to buy and will seemingly pay almost anything for it.
It’s a David in a market of Goliaths and investors are captivated by its story. Headline earnings per share to end-February grew 44% as its major competitors saw profits contract, primarily as a result of ballooning impairments. With a branch network now almost the size of Nedbank’s it employs more than 4 100 staff and serves more than 2m clients, with no plans to hold back on its aggressive growth strategy.
It made an average 12 000 loans/day last year, amounting to R8,6bn, up a staggering 38% in a single year. And it’s expanded its offering to include loans of up to R100 000 over 48 months, gradually encroaching on the turf of South Africa’s bigger players. It’s innovative in its simplicity, using biometrics and a sophisticated technology platform to deliver simple, low-cost transaction capability to its customers.
It doesn’t hurt its marketing machinery that its name appeared earlier this year alongside those of Apple and Amazon.com on a Credit Suisse list of “Great Brands of Tomorrow” – which maintains nominees will outperform their respective markets over the next three to five years as they build and leverage brand equity to grow in size, scale and profitability.
Capitec is attracting a growing support base, not only of investors but also depositors, drawn by its promise of higher interest rates, while a growing body of clients are lured by a vastly superior fee structure for day-to-day transactional services. While many South African consumers regard their banks as bloated, greedy and unhelpful, Capitec is building a brand that espouses exactly the opposite.
Why, then, is there discomfort about the stock? After all, it grew earnings to R437m, with a return on equity of 32% – up from 27% a year before. Management says its lending criteria are stricter than ever, using its technology platform to weed out potentially bad payers from its good clients. The result, it claims, is a reduction in impairments from 14,5% to 9,8%. Its financial backers aren’t concerned. Funding more than doubled during the year, from R3bn to R7bn, and the group maintains its ability to pay all depositors on demand – should it ever be required.
The discomfort comes in the form of its coverage ratio – effectively, a measure of just how much fat the group has on its balance sheet. If you measure the level of provisions it takes relative to its advances, things begin to look a little bit tight and a growing band of analysts are questioning whether it’s sufficiently conservative when it comes to its provisioning policy.
Capitec had a coverage ratio of 17% in 2006. That’s gradually shrunk to 7%. By comparison, African Bank has steadily maintained a coverage ratio in the high teens over the same period.
Most South African banks are overly conservative and provide for more than they realistically expect to write off. They inevitably collect a proportion of those doubtful advances. For example, in the year to December 2009 Absa finally wrote off 35% of its impairments, Nedbank 48%, Standard Bank 29% and FirstRand 61% (adjusted for the full year), African Bank 54% and Capitec 129%. Only once since listing has the amount of money finally written off by the group been lower than 100% of the provision – that was in 2006.