ESAF Small Finance Bank Ltd Q2 FY2025 Concall Summary

Key Takeaways

• A deliberate reset quarter, not a stumble: The bank absorbed 5,109 BC employees, took a ₹58 crore exceptional charge, and front-loaded ₹214 crore of provisions to clean the microfinance book, pushing the bottom line to a ₹190 crore loss.
• Microfinance stress is deep and spreading: Gross NPAs in the segment jumped from 3.5% to 10.3%, and management sees stress moving from Kerala and Tamil Nadu into Bihar and Uttar Pradesh, with a revival not expected until 2025.
• The balance sheet is pivoting fast toward secured: Secured assets rose from 27% to 38% of the book, gold loans grew 59% YoY, and the 40% secured target originally set for FY27 has been pulled forward to this financial year.
• The liability franchise is a bright spot: CASA deposits grew 69.3% YoY, lifting the CASA ratio from 18% to 24.6%, while retail deposits now make up 92% of the base, insulating the bank from bulk-deposit dependence.
• What to watch next quarter: Whether slippages actually moderate as guided, the pace of the microfinance book’s deliberate shrinkage, and any sign that the collection interventions in Kerala are holding.

Microfinance Stress & Clean-Up

• NPA spike: Microfinance GNPA rose from 3.5% to 10.3%, driven by prolonged collection periods, heat waves, residual pandemic effects, dilution of the joint liability group model, less frequent group meetings, and over-indebtedness among borrowers.
• Portfolio deliberately shrunk: The micro loan book was reduced from ₹13,764 crore in March 2024 to ₹11,984 crore in September 2024, and the bank aims to limit microfinance’s share of the total portfolio going forward.
• Guardrails tightened: Maximum ticket size capped at ₹75,000, loans per client limited to two, borrower exposure capped at ₹1 lakh (down from ₹2 lakh), and new loans restricted for clients with DPD exceeding 60 days.
• Collections intervention showing early traction: Accounts with collections from linked-in accounts improved from 3.45 lakh in June 2024 to 4.86 lakh in September 2024, and the first instance of overdue trend has started declining.
• Stress is migrating geographically: Kerala experienced stress earlier than the rest of the country, but management now sees stress building in Bihar and Uttar Pradesh, while the southern part of Kerala has shown some collection improvement in the last two to three months.
• Revival is a FY26 story: Management expects the microfinance segment’s revival to be visible only by 2025, after two to three more quarters of pain.

Velloor: "I think what is happening is the rest of the country is catching up with Kerala. If you see, what we are seeing across the country and in the newspaper reports is that there is stress building up everywhere."

Secured Book Acceleration

• Secured mix shift ahead of plan: The secured asset portfolio increased from 27% to 38%, and the goal of reaching 40% secured, originally planned for FY27, has been brought forward to this financial year, with a further target of 45% by March 2025.
• Gold loans are the engine: Gold loans grew 59% YoY, supported by distribution expansion from roughly 400 branches to 670 branches this year, and management cites a cost-of-borrowing advantage over NBFCs plus more transparent pricing as competitive moats.
• Revised medium-term target: The earlier plan of 60% secured by FY26-27 has been recalibrated to 50%, reflecting a more realistic pace while still prioritizing secured growth.
• Other secured products in focus: The bank plans to grow its mortgage, affordable housing, and mobility loan books alongside gold loans, while also increasing the agricultural loan portfolio.

Velloor: "Between keeping gold with a bank and a non-bank, I think we have certain advantages because end of the day, the cost of borrowing from us is definitely lower than the cost of borrowing from an NBFC."

BC Transition & Operational Reset

• ESMACO arrangement modified: The board decided on June 14, 2024 to modify the arrangement with M/s ESMACO, the bank’s largest BC and a promoter group entity, to reduce concentration risk. Effective July 1, 2024, the bank absorbed 5,109 trained employees and paid ESMACO ₹58 crore including GST as compensation, booked as an exceptional item.
• Retention improved dramatically: Attrition in the microfinance segment, which had been running at 35–40%, dropped sharply after the transition, with hardly 200 employees leaving in the four months since absorption.
• Direct control is helping asset quality: Roughly 50% of the portfolio was brought into the bank’s book, and the bank book has been able to slow PAR slippages over the last four months after taking over controls, while the BC book had already been behaving better.
• Field intensity increased: The bank increased its field officer count and reduced the borrower base per officer from 400 to 355, while also reviving group meetings to foster accountability and improve JLG effectiveness.

Velloor: "When 5,000 odd employees got transitioned from a BC to the bank, that itself has given a very positive impact in terms of retention. I think we have had hardly some 200 odd people leaving since the transition, which is four months ago."

Asset Quality & Provisions

• Headline GNPA up, net NPA down: Gross NPA increased to 6.98% from 6.61% QoQ, while net NPA improved to 2.98% from 3.21%, reflecting the higher provision coverage ratio, which rose from 62% to 74%.
• Front-loaded provisions: The bank set aside ₹214 crore as additional provisions over and above policy-mandated levels, explicitly aimed at reducing net NPA and improving coverage, and management guided that Q3 and Q4 provisions will also be “a little bit elevated” as it cleans up the book during the current year.
• Slippages expected to moderate: Management expects some recovery and a moderation in slippages in Q3 and Q4, though it declined to quantify the exact provision amount for the coming quarters.
• Asset quality focus for two more quarters: The bank will concentrate on maintaining and improving asset quality for another two quarters, implying a near-term growth trade-off.

Income & Margin Pressure

• NII and NIM compressed: Net interest income fell from ₹597 crore to ₹540 crore QoQ, and NIM declined from 11% to 9.7% YoY, driven by the asset mix shift from unsecured to secured and interest reversals on fresh slippages. Management confirmed the NII decline is not a one-off.
• PPOP halved: Pre-provisioning operating profits, before exceptional items, dropped to ₹143 crore from ₹254 crore, weighed down by higher employee expenses from the BC absorption, increments, retirement benefits valuation, and performance incentives.
• NIM maintenance target: Management committed to maintaining a healthy NIM at 8.6%, supported by NPA recovery, growth in high-margin secured products, and an increasing CASA ratio.
• Cost-to-income to normalize later: The cost-to-income ratio is expected to return to a normal level of around 60% once slippages come down and productivity reaches optimum levels.

Liability Franchise & Other Positives

• CASA surge: CASA deposits grew 69.3% YoY, lifting the CASA ratio from 18.04% to 24.6%, with a target of 26% by end of FY25.
• Retail deposit dominance: Total retail deposits stand at 92% of the deposit base, and reliance on bulk deposits remains very low, providing a stable funding profile.
• Customer addition continued: The bank added 5.68 lakh new customers in H1 FY25, reaching 89.4 lakh customers.
• ESG recognition: CareEdge awarded an ESG rating of 68.1 out of 100, the highest in the peer group and well above the industry average of 51.8.
• Technology transformation underway: A comprehensive technology transformation program has been initiated to drive digital penetration and improve internal efficiencies.

Thomas: "CareEdge has awarded ESG rating with 68.1 out of 100, which is presently the highest score in the peer group and well above the industry average score of 51.8."

Guidance & Commitments

Key Metrics