Verdict: Surging stock indices make it a ‘short-term angel’

IPO Snapshot:

Angel Broking has entered the primary market on Tuesday 22nd September 2020, to raise Rs. 600 crore, via fresh issue of equity shares of Rs. 10 each up to Rs. 300 crore and an offer for sale (OFS) of up to Rs. 300 crore by 2 promoters, IFC and 14 individual shareholders in the price band of Rs. 305-306 per share. The issue represents 24% of the post-issue share capital and will close on Thursday 24th September, with listing likely on 5th October. In 2015 bull-run, company had plans for a Rs. 250 crore IPO, which did not materialise.

Company Background:

Angel Broking is a full-fledged retail broking house with 11,000 authorized person network, operating on flat fee structure serving 2.15 million broking client accounts (as of 30-6-20), of which, 0.81 million are active customers (exchange-defined as those who executed atleast 1 trade in past 1 year). Broking accounted for 72% of Q1FY21 revenue of Rs. 238 crore, interest from lending business (margin funding/loan against shares) 17%, depository activities 7%, balance from other activities such as portfolio management services, investment advisory, distribution of third party financial products etc. 91% of brokerage income was contributed by top 20% of active clients, implying that despite a B2C model, 60% of company’s overall revenue is generated from 20% of active customers. Company’s margin funding book is about Rs. 770 crore, fetching fixed rate of return, as against its borrowings on fixed-cum-floating rates, which is fine in the current scenario of declining to stable interest rates.

After moving to a flat brokerage fee structure since April 2019, new client addition has been very strong, growth by 37% CAGR between FY18 to Q1FY21, with average monthly net client addition run rate improving from 19,700 incremental demat accounts in Q1FY20 to 36,700 in Q2FY20 to 42,400 in Q3FY20 to 75,600 in Q4FY20 and 113,200 in Q1FY21. Nearly half of these new client additions are from tier 3 and above towns, strengthening company’s market share in number of clients to 6.3% (30-6-20) from 5.3% (31-3-20). Its market share in average daily turnover (ADTO) is stronger, improved to 9.6% in equity market in June 2020, from an average of 5.4% for FY20 and 8.2% in Q1FY21 and to 26% in commodities market from 17% and 25% respectively.

Industry Overview:

Massive competition with many new players (some deep-pocketed like Paytm) eyeing entry and recent media reported suggesting exchanges considering offering direct access to investors. Given the growth and nature of broking industry, it has concentrated in the hands of few, with top 7 accounting for half of the client count. Moreover, incremental new client growth is higher for discount brokerages like Zerodha (16% market share), Upstox (6% market share), 5paisa.com (4% market share) and Angel (5% market share), which charge flat fees, gaining share from traditional brokers still operating on % fees. Whether Angel can thrive amidst the intense competition, only time will tell, as financial strength is also crucial, given period capital needs for meeting higher margin funding. Thus, while low equity culture and surging trading volumes are key tailwinds, competitive pressure can adversely impact profitability of the key players in the industry.

Objects of Issue and Shareholding:

Company is undertaking IPO to fund working capital needs worth Rs. 230 crore, mainly for its margin funding business. Rs. 300 crore OFS comprises part exit to IFC (invested Rs. 152 crore for 18% stake in 2007) for Rs. 120 crore, Rs. 23 crore by 2 promoters Ashok Thakkar and Sunita Magnani and Rs. 157 crore by 14 individual shareholders. Post-listing, promoter shareholding will contract from 55% to 48%, while IFC’s 18% stake will decline to 11%. In 1995-96, one of the promoters was debarred by SEBI from market for artificial price rise in a listed stock. As of RHP date, company was involved in 153 criminal case/economic offences worth Rs. 21 crore, while promoters have 9 criminal cases/ economic offences litigation worth Rs. 68 lakh. While the sum involved in the cases is not substantial, reputational risk and corporate governance are bigger concerns as the company is a vital financial intermediary.

Financials:

For FY20, revenue stood at Rs. 725 crore, comprising net fee and commission income of Rs. 334 crore and net interest income of Rs. 109 crore. For flat fee brokers, while brokerage may be nil on delivery trades, fees in the form of AMC, depository charges is earned, while margin funding is a play on net interest margin. Supported by rising stock maket indices and higher retail participation, Q1FY21 revenue surged to Rs. 238 crore, with net fee and commission income of Rs. 127 crore and net interest income of Rs. 27 crore. Q1FY21 reported one-off bad debt write off of Rs. 13 crore, due to crude oil slipping in negative on 20.4.20 resulting in some client accounts turning bad. There was another impairment loss of Rs. 12.5 crore on shut down of gymnasium business housed in a wholly owned subsidiary, but this did not impact consolidated earnings, which stood at Q1FY21 PBT of Rs. 65 crore. Q1FY21 PAT stood at Rs. 48 crore as against FY20 PAT of Rs. 87 crore, resulting in an EPS of Rs. 6.70 for Q1FY21, as against Rs. 11 for FY20, on an equity of Rs. 72 crore. Net worth as of 30-6-20 stood at Rs. 640 crore, while FY20 RoE of 14% rose to 7.4% in Q1FY21 (not annualized). Company had dividend payout ratio of 27-28% for FY20 and FY19. Post IPO, equity will rise to Rs. 82 crore.

Valuation:

At Rs. 306, company’s market cap will stand at Rs. 2,503 crore, implying FY20 and FY21E PE multiples of 27x and 12x respectively, which are not aggressive in relation to unlisted and India’s largest retail discount broker Zerodha (with 16% client market share) valuated at Rs. 7,000 crore in June 2020 basis buyback of ESOPs. Zerodha reportedly clocked Rs. 950 crore revenue in FY20, on active client base of 1.9 mn as against Rs. 725 crore revenue for Angel on 0.8 mn active customers.

Comparison with some of the listed brokers is as under:

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Full service brokerage house ICICI Securities which houses institutional and retail broking along with investment banking services, has market cap of Rs. 15,000 crore, implying PE multiple of 28x on FY20 earnings and 26x on FY21E earnings. Motilal Oswal, Edelweiss and JM are much larger diversified plays housing asset management, housing finance, investment banking, PE fund, NBFC among others hence not compared in the table above. IIFL Securities with market cap of Rs. 1,340 crore is ruling at FY21E PE multiple of less than 10x due to its lower growth. Emkay Global and another discount broker 5paisa Cap have been reporting losses until Q4FY20. Geojit’s FY21E PE multiple of 11x is in line with Angel’s offering, despite latter’s higher growth in client count and market share gains in trading volumes. Buoyant stock markets keep outlook healthy for Q2FY21, but it is difficult to take a call on FY22 earnings for the entire sector, given extreme market volatility. Flat fee brokers continue to gain market share from traditional brokers and Angel has successfully transformed itself into one, with healthy customer acquisition in tier 2 & 3 towns. 

Over the long term though, brokerages mirror shareholder return based on broader market performance, a trend witnessed not just in India, but more mature markets like US too, as brokerage fee income is highly cyclical in nature with high operating leverage. Thus, they cannot be considered as portfolio bets to be held for long term wealth creation. Closer home broking houses like ICICI Securities, Emkay, Motilal Oswal, IIFL or JM have all failed to generate consistent shareholder returns, witnessing sharp upsurge in a bull-run and equally steep correction in a bear phase. Since its IPO 2 years ago, ICICI Sec has under-performed the market sharply, with share price languishing below IPO price for most of the time. Thus brokerage is a high risk business from an investor point of view.  To take an exposure on rising stock markets, an asset light business model of a depository participant like CDSL may be a better proxy although current valuations of the latter have sky rocketed.

Conclusion:

Industry tailwinds supported by reasonable valuation make short term view on Angel broking positive. Hence, if someone wants to strictly take a short term bet, can go ahead. However, brokerages have not rewarded investors consistently over the long term with acute volatility, implying that this is not a portfolio stock for sure.

Grey Market Premium (GMP) of Angel Broking: Grey Market Premium of Angel Broking is an unofficial figure, against guidelines of SEBI. We strongly recommend investors against following the grey market premium. To know more about grey market premium and how it operates, read our article on ‘grey market premium’ in Pathshala column.

Disclosure: No Interest.

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