HDFC-HDFC Bank combined m-cap to put it among world’s top 10 most valuable banks: KV Kamath
,Last Updated: Apr 22, 2022, 03:01 PM IST
“The mid-tier banks will have to show a greater level of agility. They will have to embrace technology in a much larger context, much more quickly than what they might have been doing today. Probably there is an interesting path here where they could be the acquirers for some of the fintech start-ups that are coming.”
KV Kamath, Chairperson, National Bank for Financing Infrastructure & Development (NBFID), in conversation with Nikunj Dalmia of ET Now at the Times Network India Economic Conclave. “In a three- and eight-year period, the digital economy should be 30-35% of the overall economy. But I would look at it in a very positive way because the rest of the economy is growing 7-8%,” sais Kamath
Let us understand the construct of the economy. In January, it appeared that we were in a swift recovery mode. Oil prices were under control, the fiscal deficit was looking strong, corporate capex was looking decent but now the world has taken a 180 degree turn. Is it time to get worried and is a bullish person like you also slightly worried?
I am not worried. Two-three things are at play here; one, is a change in mindset across India and not just companies but at individual level. The mind is now receptive to new things, to technology across age groups. Typically we said technology is where the 20-year old mind or the 15 year old mind plays but today 60 and 70-year-old people perforce are using technology . That creates a whole lot of new opportunities.
We have seen what has been happening at the corporate front after the second quarter post the first lockdown. We could see EBITDA levels jump by 25% and they have persisted over the last seven or so quarters. On Wednesday, I was tracking the numbers of the last quarter for the companies which have declared results, probably not the full set of the large companies, but I am seeing 17% jump in EBITDA continuing.
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So, at the corporate level, they are producing something heroic in terms of efficiency and product which augurs well for the economy and allows them the muscle to withstand any shock. Yes, there are external challenges and we will see how these are handled particularly in the context of inflation, but there again, the policy stance of the central bank to hold interest rates, keep liquidity adequate is fit for policy purpose over the last two years. We will see how they will play out this jump in inflation. Here, again some new lessons have to be learnt in all this.
We had economic scholars saying that the moment there is inflation, interest rate hike is the only medicine. I ask a simple question: what happened to all that theory when in Europe there is 8.5- 9% inflation and interest rates are near zero? I read somebody in the ECB saying oh! probably we will have a hike in July. So what happens between April and July? There’s no answer. In the US too, there is a vast gap between interest rate and inflation. New economic theories are being written and we will write this one out in a very interesting manner.
History may not repeat itself but it certainly rhymes we are at the beginning of a new credit cycle. The last credit cycle was in a sense led by power, steel and other commodity sectors. How will this credit cycle be different from the last credit cycle?
Two or three things will be different and let me put that in context. The overarching context is what the honourable finance minister and the honourable Prime Minister have articulated, that we are talking of a 25-year runway. See what happens in a country where I lived for five years, China. Over the last 25 years, in terms of infrastructure and the momentum, I can see a 25% runway for infrastructure. If there has been a quarter on quarter 25% jump in EBITDA, I think a huge productivity gain has happened in our manufacturing sector and they are becoming globally competitive.
I think that they will find new energy to also go for the next 25 years. And 25 years because that is when you travel from being a $3 trillion economy to a $5-trillion economy to a $10-trillion economy, it takes if not 25 years, at least 10 to 15 years. So the manufacturing sector will come back on its own and will invest just in time and that is another critical thing that will happen compared to say 10, 15, 20 years back where it took four years to set up a project. Now you can do it in one year. About 15-20 years back, one could put 20% as a promoter’s contribution, 80% came as debt. Today free cash flows are enough to set up the whole project with may be some small borrowings at the margin.
So, the character of investment has changed, investment will happen and clearly manufacturing will be a drive. Infrastructure has a long runway but at the moment it looks like the government has taken the lead and the private sector is playing a supporting role. Due to the challenges over the last 10 years, a whole lot of things went wrong and they will be overcome but till then, the government has become the driver.
Then there is a third cherry in terms of the whole economic momentum towards a digital economy. In China, 30-35% of the economy is digital now. Are we getting there? I am reasonably sure we are getting there over maybe one, two or three years. Interestingly, that does not require funding from either the capital market or the banks. This is getting funded through PE money as it were.
So just to sum up the three drivers – manufacturing is going to be self financing; infrastructure will be financed from the market and probably the lead will be with the government and when I say infrastructure I include water and the consequential impact on agriculture; and the digital economy which will drive its own path.
We are going to have a very robust growth and as we go on, we will be pleasantly surprised with the employment numbers. I do not think we have as yet captured the full numbers that the digital economy provides an opportunity to. It is much larger that it is articulated just now. In a year’s time, analyse these numbers and we will see that is the next growth path.
In the banking sector, PSU banks have been consolidated. Among private banks, there is the HDFC-HDFC Bank big consolidation and then we have got the fintech piece which has become very large. As we move into the next credit cycle and the country becomes more digital, which piece of the banking/financial sector are you most excited about?
If we had this conversation six to eight months back, I would have said the fintech space because they are coming on strong, they were doing things right but somewhere I see that not just the fintech piece, but in the entire digitech piece, there is a challenge that is now very visible and it is a challenge between the value that has been created in each of these enterprises undoubtedly, enormous value has been created.
Then there is a valuation expectation. There is a discord between the value and the valuation now when one moves from the private market to the public market and one is not able to show sustained growth. Ultimately sustained growth is the bottom line. When one comes to that market, one does not count eyeballs, one counts the bottom line for the very simple reason that this investor is asking a tough question: Are you going to come back to me for money? If you are, I do not want to deal with you.
If you tell me that I do not know when I will make money, I do not know how to deal with you at all. So, there is a situation wherein these valuation discord companies – the digitech companies – will have to understand what is their free cash flow, when they will hit the free cash flow and how are you going to be punished by the public market if you do not generate that. I hope they are not punished, I hope they are rewarded but the moment they say my burn continues and I need more money, I am going to come back to you. I think you are going to get a shock.
So correcting back to the incumbent players not just in financial industry but everywhere, unless these new digital start-ups are able to get their valuation expectation and cash flow right, we have a lead time and the events of event of six to eight months have shown that probably they have lost probably two to three years in having to regroup themselves and come back with a undoubted value they created for their products. During this period, I am sure the incumbent players will also learn how to reinvent themselves because they have seen a challenge come very very close and so it is going to be a very interesting watch.
Six months back, the new course, the digitech and the fintechs had an upper hand. Today, the upper hand is with the incumbents and we will say a very interesting play. I do not want to call it a battle and market share positioning in the next three years and we will know the answer then. But these players have created value and one form or other, they will continue to stay in the market.
How do you see profitability for private banks moving because private banks in a sense have this USP of getting fee-based income, selling mutual funds, selling PMS, selling advisory, distribution and insurance that end is now getting disrupted because of low fees model by fintech?
The low-fee, giveaway model is sustainable. A good example is the securities industry where we had one competitor – pure play fintech – doing very well. There was hardly any debt and they had a positive cash flow. Can all the other challengers say the same thing? Can all the aggregators say the same thing? So unless one comes to a situation where they can say that they run a positive cash flow model, valuation is justified and the incumbents have time to regroup themselves and that is what is happening.
I do not think the march is going to be as fast as we thought and so at least in the securities business, it has been thwarted. The next would have mutual funds. There again, hard questions are going to be asked whether a challenger can run profitably and then it would have been in general insurance and that is even more regulated. As you go up the regulatory framework, the challenge is going to get more and more difficult. So eight months back, I would have thought this is like an avalanche, today it is like a strong wind and we will have to see how it blows.
I was reading in the morning that
ICICI Bankprice to book is higher thanHDFC Bank. This happened for the first time in 20 years and that should bring a smile on your face. Your hard work is now getting recognised?
No, that is not the smile on my face. I do not think many of us know that we today have a bank which will have a combined market cap which puts it at probably the seventh or eighth most valuable bank in the world by market cap, that brings a smile to my face. So how we have achieved it is secondary and that is the aspiration for all the private banks and the government banks there. As to when do we get into the 10 banks, I have been saying since the mid 2000s when we saw four or five Chinese banks get into the top 10 banks in the world by market cap, that our turn will come and our turn has come and that brings a big smile to my face. Indeed all private sector banks are doing well and we will celebrate their successes also, including ICICI Bank’s. I am undoubtedly proud about it but today I am proud about the banking sector in general, having made that break into the top 10. That has not happened in any other industry.
Why is that? Globally, the market caps of financials are not in the top five, There was a time when JP Morgan and Goldman Sachs were the top of the heap in terms of market cap. Now that has been taken over by tech. Is the migration for the Indian financial sector as well?
Yes, there is going to be a migration. The financial sector will remain there for quite some years I would guess but in India, despite the scale that has been built, I think there is a long way to go to create companies of a size with even a 15-20 multiple that puts us in the top 10 in the world. There are two reasons for that; one, the domestic market is still nascent. We remember that we had a $3 trillion economy heading to a $5-trillion economy and I would think that we will come into the top 10 as we probably traverse from $7 trillion to $10 trillion because that will create the opportunity to scale.
The second is that we have not globalised any of our products as of now where we can say that these are our products in the global market except for software. The historical legacy software we were providing but the big bucks and the scale will come in when we actually take to market the products that we have undoubtedly built here and what we may be lovingly called the India stack.
So I ask a question. Take one item out of that the UPI. Cannot the UPI stack be taken global and for sure I think it can be taken global, it can be scaled across Europe because I do not see anything near it in Europe. I do not see anything near it in the US and across the North American players. I do not see anything near it in Africa. Maybe in South America and in the Far East, there are some bits and pieces. But there are several geographies where this stack is open and could be scaled up. I just gave that as an example but there are several such things that we can pick up and scale globally. I am sure somebody will now look at fintechs or the digitechs and look at what is it that we could bring to market in a global context, the Indian context and that will give them the ability to be with the big players.
Some of the most underappreciated facts about India is that we have got Aadhaar, we have got a successful vaccine rollout and the way things have progressed on the UPI front. Do you think the India stack will be the biggest differentiator for us?
Absolutely. And there the role of the big tech, including the fintechs, is signal because they have made it possible. A new mindset was required and they brought the mindset to there and that speed with which the CoWIN app was rolled out is not possible with conventional thinking and conventional architecture that typically IT firms would use.
So here we see a new India at play and that will make a difference and that is what will lead us into the next century and the underlying theme is democratic. The democratisation of India goes much beyond the political context and to put a simple think in the context of what we were speaking just now, technology has become democratised.
The device that sits in our pocket, the mass could not afford it just a year and a half back but can afford it today. If they could afford it, they could not afford the data cost. Today they can afford it. I would think that these two great levellers and the the whole ecosystem that has been built around it, makes it possible for something new to happen in a dramatic way. I see democratisation not only in the political context, but in the usage of everything around us, becoming the next growth driver.
What is the future of mid-tier banks because they will suffer because of reach? They will face challenges in generating CASA and adaptation of technology. How will they move both for private and PSU banks?
The mid-tier banks will have to show a greater level of agility. They will have to embrace technology in a much larger context, much more quickly than what they might have been doing today. Probably there is an interesting path here where they could be the acquirers for some of the fintech start-ups that are coming. They are not necessarily somebody with a great platform but somebody with a right mindset which provides a layer within your own IT architecture or within your own IT department to do things which you are not doing. So to be successful, they have to think like the digitech players because if they try to imitate the big guys, that is a much bigger challenge. I see a great future for the mid-tier guys as long as they are willing to shed all issues that are there in their mind today and embrace new technology and new technology firms, maybe as partners, maybe by joining them and so on.
Following the merger of HDFC and HDFC Bank, will more such consolidations happen?
That consolidation gives us scale as a nation. We require at least three or four banks of that balance sheet size and particularly net worth to actually drive the momentum towards $5-trillion and then $10-trillion economy.
Digital players have a wide range of opportunities to which they can grow and that is virtually what they can dream of starting with the securities business, going on to core banking business within the regulatory ambit. What they are allowed to do with regulation, how they are allowed to structure, how they are allowed to structure and hold these companies within regulation but they will need to think that technology is available within the system and not necessarily with them and they need to embrace it.
The reason I am saying and pushing this point is because for the incumbent large banks embracing technology is a huge challenge, changing mindsets in your IT department is a vast challenge.
As India grows there is going to be more and more corporate participation. What is the easy way out where corporates also get advantage for their investment and the sector also gets fresh capital?
I will answer it in parts. Given the cleanup of the banking system that has taken place, I have not seen a banking system so clean in the last 50 years. So we have a squeaky clean banking system, adequately capitalised and for the current stage of growth, it has the ability to provide funding. It does not have the size as we jump from a $3 trillion to a $5 trillion to a $7 trillion economy. For that, one may need capital but as they continue to do well, that capital will certainly come in.
I would think that the banking system’s capital needs will come in without too much of a challenge. The fintech firms will need to learn how to bulk up because that is going to be a challenge. They may find a bigger problem in raising the retail resources, the CASA money and so on.
But more critically, it is a question of establishing trust. Can we say the technology platforms they run have built trust? I think there’s some way to go and unfortunately, the last six to eight months have not augured well in that trust context.
This is 2022. I am going to take the clock forward – 2025 and 2028, which is three years and five years. Hypothetically if we are engaging in the same forum after three years, what is that one big trend you see in three years and what is that one big trend you see in next five years?
I think in three years, we will be nudging $5 trillion and in seven to eight years, we should be nudging $7 to 8 trillion. That is my reasonable confidence. The economy will be significantly biased towards the digital side though as I said there is a 25-year runway for infrastructure. The digital runway will grow faster and between that three- and eight-year period, the digital economy should be 30-35% of the overall economy. But I would look at it in a very positive way because the rest of the economy is growing 7-8% and on top of that, the cherry on the is one-third of what is from the conventional drivers. We are talking of an economy which is probably able to grow in double digits. So, that is what I would expect to see seven to eight years from now.
What could pour cold water on this assumption? Could it be oil, could it be external shock?
I think not too many things. I think our ability to concentrate on the path forward and not be so swayed by economic theory which probably was relevant 100 years back and that is clearly demonstrated by what the Reserve Bank did during the course of the pandemic. Against all odds, they kept interest rates down, kept liquidity flushed and kept to that at the end we have come out of the challenges. There are some innovative ways in terms of how to provide helping hand – be it providing food support to the masses who could not afford that, be it providing support by way of a guarantee to that entire MSME sector that came in as a joint effort between the government and the Reserve Bank.
Alternate energy is coming in at a cost virtually half of that of fossil fuel. In 2015, alternate energy was twice or thrice as costly as fossil fuel. We need to factor that in as to what is the next evolution here. I think in the next three to four years, storage systems in one way or the other whether it is batteries or it is hydrogen or whatever is going to happen, which we probably do not see today and 24/7 alternate energy could be a reality.
What is one thing you do not like about ICICI Bank?
I have to be more general in an answer than about ICICI Bank because my team is still there, all my old friends are still there. I will give a wider context. I think I would like every player, whether in the financial sector or in any other incumbent in any sector, to embrace change and what is happening to us particularly in the digital context much more openly. I am not seeing that happening across the Indian incumbent scene and as I said earlier, we have suddenly got a four-year lease of life. We should take full advantage of that and that is my message to the large number of Indian corporates that you have an opportunity to seize it now.