CAMS IPO Analysis – Should you subscribe to CAMS IPO?

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CAMS is all set to hit the Primary Markets of Dalal Street on September 21.

Let’s delve deeper into CAMS IPO Analysis now!

Issue Details –

Size – 2258 Cr (Complete offer for sale, no fresh issue)
Price Bands – 1229 to 1230
Dates – Sep 21, 2020 – Sep 23, 2020
The Offer consists of an offer for sale of up to 18,246,600 Equity Shares by NSE Investments
Post issue Mcap will be Rs 6000 Cr! (48.78 mn shares * 1230)

Risks –

  • As a SEBI-registered RTA, they are subject to periodic inspection audits by the SEBI to, among others, ascertain compliance with provisions and rules of the SEBI MF Regulations, SEBI RTA Regulations, and SCRA; ensure that the records are being maintained by Company in the manner specified in the SEBI RTA Regulations, and investigate into complaints received from investors or any other intermediaries in the securities market.
  • They derive a significant portion of revenue from their mutual funds services business. For the three months ended June 30, 2020, and the financial years 2020, 2019, and 2018, revenue from mutual funds services business accounted for 89.7%, 86.9%, 86.8%, and 86.6% of revenue from operations, respectively.
  • Dependent directly on markets – a fall may mean a fall in business too.
  • Significant disruptions in information technology systems or breaches of data security could adversely affect business and reputation.
  • legal and regulatory risks are inherent in the business and services, such as transaction origination and execution, report generation, data and payment processing, and customer care services, are particularly sensitive to changes in laws and regulations governing the financial services industry and the securities markets.
  • For the three months ended June 30, 2020, and the financial years 2020, 2019, and 2018, their top five clients contributed ₹1,053.06 million, ₹4,718.62 million, ₹4,656.20 million, and ₹4,290.00 million, or 70.9%, 67.4%, 67.1%, and 66.9%, of revenue from operations, respectively.
  • Contracts with such mutual funds and AIF clients are typically perpetual in nature unless terminated by either party. For other clients, the validity of such contracts ranges between one to three years. They negotiate pricing terms with these clients on a periodic basis and their contracts permit them to terminate their arrangements with them by providing three to six months’ written notice, after which they may engage the services of its competitors.
  • Certain of its contracts with clients include provisions pursuant to which they are liable to such client for losses, including any indirect or consequential losses, arising in connection with error or omission, fraud, negligence, or default caused by them, any of its employees, or its agent’s actions. Indemnity provisions in such contracts include, among others, CAMS holding the client harmless from and against all such losses, damages, injury liabilities, claims, actions, costs, including attorney’s fees and court fees relating to third-party claims arising out of or related to its performance or failure of the terms of such contract for which they have assumed financial, administrative or operational responsibility.
  • The financial services industry is characterized by increasingly complex and integrated infrastructure and services, new and changing business models, and rapid technological and regulatory changes. Their clients’ needs and demands for their services evolve with these changes. For example, mobile applications are becoming increasingly popular among customers due to their convenience and user-friendliness.
  • Consolidation in the financial services industry could adversely affect revenues by eliminating some of their existing and potential clients and could make them increasingly dependent on a limited number of clients.
  • As of June 30, 2020, they have employed 4,243 personnel across operations and engaged 1,920 contractual employees. Although they have not experienced any employee unrest in the past, they cannot assure that it will not experience disruptions in work due to disputes or other problems with the workforce.
  • They rely on third-party service providers in order to conduct business in several areas of operations. In compliance with applicable regulations, they have outsourced certain services, such as data entry, messaging services, software and technology services, front office services, information security, recruitment, training, and outsourcing.

Biggest Risk – Regulatory Risk! And growth!

MF TERs (Mutual fund total expense ratios) have come down and hence the RTA MFs charges % also came down, because honestly speaking when the MF company itself is earning less, it will try its best to squeeze its vendors too. We see in the P&L section how the company has delivered mediocre growth in 3 years.

Competition

The markets for their services continue to evolve and are competitive. They compete with a number of entities that provide similar services in each of the business lines in which CAMS operates. Their most significant competitors in each of the business verticals are as follows:

Outstanding Litigations

Nothing material here as it’s all related to tax matters.

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Shareholding Pattern

Note that NSE is the selling shareholder. As of the date of the filing of this Red Herring Prospectus, the total number of their Shareholders is 43.

What is CAMS? What do they do? (One line explanation)

CAMS is a technology-driven financial infrastructure and services provider to mutual funds and other financial institutions with over two decades of experience.

What is CAMS? What do they do? (A bigger explanation)

India’s largest registrar and transfer agent of mutual funds with an aggregate market share of approximately 70% based on mutual fund average assets under management (“AAUM”) managed by their clients and serviced by us during July 2020.

Over the last five years, they have grown its market share from approximately 61% during March 2015 to approximately 69% during March 2020, based on AAUM serviced.

Their mutual fund clients include four of the five largest mutual funds as well as nine of the 15 largest mutual funds based on AAUM during July 2020, according to the CRISIL Report.

They have 16 mutual fund clients with an aggregate of over 71.8 million accounts held by such clients as of June 30, 2020. The number of accounts added in the three months ended June 30, 2020, and the financial year 2020 was 0.9 million and 7.3 million, respectively. They are a member of NICSA – a US-based not for profit trade association that connects players in the global asset management industry. Such membership helps them monitor key developments in the mutual fund industry.

With the initiative of creating an end-to-end value chain of services, they have grown their service offerings and currently provide a comprehensive portfolio of technology-based services, such as transaction origination interface, transaction execution, payment, settlement and reconciliation, dividend processing, investor interface, record keeping, report generation, intermediary empanelment and brokerage computation and compliance-related services, through a pan-India network to their mutual fund clients, distributors, and investors.

They also provide certain services to alternative investment funds, insurance companies, banks, and non-banking finance companies.

Strengths

  • Largest Infrastructure and Services Provider in a Large and Growing Mutual Funds Market
  • Integrated Business Model and Longstanding Client Relationships in our Mutual Funds Services Business
  • Scalable Technology Enabled Ecosystem
  • Strong Focus on Processes and Risk Management
  • Experienced Management and Board and Marquee Shareholders

Strategies Ahead

  • Maintain Leadership Position by enhancing Service Offerings to Mutual Fund Clients
  • Continue the Technology-led Services Innovations
  • Achieve Leadership in Individual Businesses and then Target Scale
  • Improve Automation in our Businesses

Management

The management of CAMS is seasoned having held a lot of good positions in financial firms.

CAMS Analyst Conference Webinar Takeaways!

  • The largest 10 mutual fund relationships for them have been 2 decades-long (similar for other RTA also well)
  • Client longevity is the inherent nature found in the RTA industry
  • HDFC Ltd was the first institutional investor in CAMS (Through HDFC Ltd and other HDFC ESOPs plans)
  • They do over 30 cr transactions a year, and 4 Cr live folios (Almost 24 Cr are SIP transactions)
  • They have 300 TB of data stored across the country

Mutual Fund Registrar and Transfer Agent – An Overview

Computer Age Management Services Limited (“CAMS”), KFin Technologies Private Limited (erstwhile Karvy Fintech Private Limited) (“Karvy”), Sundaram BNP Paribas Fund Services (acquired by Karvy in October 2019), and Franklin Templeton Asset Management (India) Private Limited are the mutual fund registrar and transfer agents (“MF RTA”) operating in India.

Among the top five AMCs, SBI Mutual Fund, HDFC Mutual Fund, ICICI Prudential Mutual Fund, and Aditya Birla Sun Life Mutual Fund are serviced by CAMS, and Nippon India Mutual Fund is serviced by Karvy.

The following graph sets forth the market share of various MF RTAs in terms of mutual fund AAUM managed for the periods indicated:

As of March 2020, CAMS was the market leader and serviced ₹17.1 trillion AAUM which constituted approximately 69% of total mutual fund industry AUM. CAMS also services four of the top-five as well as nine of the 15 largest mutual funds in India based on AAUM during July 2020. The reasons for the concentration in market share amongst CAMS and Karvy is attributed to the following reasons:

  • High technology intensity, compliance requirements and need to keep investing in light of changing regulations
  • Requirement of extensive branch network
  • High operating leverage
  • Knowledge base acquired through years of experience

Deep integration with mutual fund ecosystem makes the MF RTA relationships sticky

From a mutual fund’s perspective, MF RTAs with their branches spread across the country provide good access, assist in increasing sales, and help save costs.

MF RTAs also generally have long term relationships with their clients and have a strong delivery track record which creates a limited incentive for the AMCs to migrate to another player. Thus reasons such as consolidation and having captive firms as MF RTAs are the only major instances that result in switching the MF RTAs.

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The amount of time to be invested in migration, a high risk of business disruption, data loss, as well as customer and regulatory issues make it a bigger task to switch MF RTAs. As a result, the newer entrants have not gained much traction and it remains a two-player industry.

What do Mutual Fund RTAs do?

The following graph briefly sets forth the wide variety of services offered by MF RTAs:

  • Being a knowledge partner for AMCs
  • Acting as a service aggregator for driving value-based offerings
  • Operational integration and better customer care services provided by MF RTAs.

How do Mutual Fund RTAs earn money?

  • A major part of the revenue earned by MF RTAs (approximately 80%) is by means of fees charged on the AUMs managed by the AMCs for which the MF RTAs provide service.
  • These fees are generally tiered in nature and tend to decrease as a proportion of total AUMs of the fund house once the AUMs surpass the tiers for which the fees are agreed on.
  • The other major portion of revenue is the charge for the handling of paper-based transactions of AMCs, for which considerable effort is needed to enter the details into the system for effective record keeping and reporting.
  • Although the proportion of these transactions may be going down with increasing usage of the online medium, they still form a good portion of MF RTAs’ revenue due to the higher dependence of institutional investors on paper-based systems.
  • These transactions require a higher amount of processing, which in turn leads to higher costs for MF RTAs.
  • MF RTAs charge the highest fee for equity AUMs

The overall fee percentage for the RTAs are approximately 0.035% to 0.04% of the total AUMs as on March 31, 2020.

These are lower than the fee charged as of March 31, 2015, which were approximately 0.045% to 0.05% as on March 2015. According to CRISIL, a moderate reduction in fees charged by RTAs as a proportion of AUM as the size of industry AUM increases is expected. However, RTAs will benefit from an expected increase in the share of equity and hybrid funds in industry AUM.

The fee reduction is also because of the overall expenses ratio being lowered by mutual funds!

The Duopoly of MF RTA Industry – CAMS vs KARVY – a report card

The following table analyses the operational performance and key financial indicators of CAMS and Karvy (which together account for approximately 96% of the MF RTA industry) for the financial year 2020:

CAMS has the highest revenue in the industry and also witnessed the highest revenue growth in the past five years with a CAGR of 12.8% between financial years 2015 and 2020. For the financial year 2020, the EBITDA margins and RoE of CAMS are better than their competitors.

On a consolidated basis, the profitability of both Karvy Computer Share and Karvy was healthy in the financial year 2020 with EBITDA margins being equal to or more than approximately 36% in their respective periods. CAMS is the most productive MF RTA with its monthly AUM per branch being the highest in industry.

Probable Moats of CAMS

In fact, it has become very difficult for AMCs to switch RTAs due to the technological back-end that the existing MF RTA provides and the huge amount of data and information that needs to be transferred. There is a high risk of disruption of operations and customer experience due to the long transition period with shifts across all platforms and solutions

NSDL Database Management Limited and CAMS have a combined market share of approximately 84% based on e-insurance policies being managed and approximately 67% based on e-insurance accounts.

Further, e-insurance policies and accounts have increased substantially in the financial year 2018, growing over 100% and 61%, respectively, when compared with the financial year 2017. The e-insurance policies have grown at a CAGR of approximately 55% between financial years 2015 and 2018 and insurance accounts have grown at a CAGR of approximately 29% over the same period

According to CRISIL, the current size of the market of insurance repositories is estimated to be around ₹50 million to ₹60 million and the life insurance industry is projected to grow at 12% to 15%, and the general insurance industry is projected to grow at 15% to 20% on the back of low penetration and density in comparison with other countries.

Balance Sheet

Observations –

P&L

Observations –

Cash Flows

Valuations –

Rs 108.27 is BV as of Q1FY21
RoE as of Q1FY21 is 31%
FY21 Annualized EPS is 33.5 (Q1 EPS into 4)

Conclusion

We clearly see that the issue is at the expensive side – 11.36x Price to Book, 36.7x Price to earnings ratio. But given the IPO euphoria, the IPO may see a lot of subscriptions and FOMO leading to listing gains. We have no view on the IPO listing day or grey market premium as these are just vanity figures and metrics.

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Coming to the long term, we clearly see that the company has delivered no growth in the past 3 years. There are 2 probable scenarios that play out for CAMS –

Bull case scenario – monopoly working, low % of charges yes, but more revenue (Note that Karvy is hanging by a thread, 1% margin, 3% roe, so it is quite possible that CAMS will try to do predatory pricing to eliminate competition completely)

Base case – not a monopoly working, SEBI streamlines MF TERs , MFs squeeze RTAs

We asked the company 3 questions on its webinar which were un-answered even after asking it 3 times! (We will give the company the benefit of the doubt and wait for the answer).

Percentage charges on the various asset classes have reduced from 2018. Does it seem that MFs are trying to squeeze more out of their RTAs?
Pricing power seems to be not present.
Churn ratio in Their clients?

The CAMS IPO has more questions than answers and hence we have a ‘Avoid’ for the long term as there has been no growth and there is always an imminent regulatory risk for Mutual Fund Industry that may impact MF RTAs adversely. For the short term, due to IPO euphoria and FOMO, the stock may list at a premium. We have no view on the short term or listing day as we have long term views being business owners. Kindly do not consider our view for the short term if you are an IPO listing day investor. We strictly analyze companies for the long term!

Key Growth Drivers

  • Favourable demographics
  • Urbanization

Key Structural Reforms: Long-Term Positives for Indian Economy

  • Financial Inclusion
  • Reduction in Corporate Tax Rate to Boost Capital Base of financial institutions
  • The gross domestic saving rate
  • Capital markets to remain an attractive element of financial saving
  • Mutual Fund Penetration

Industry Overview

India’s mutual fund penetration (AUM to GDP) is significantly lower than the world average of 63% and also lower than many developed economies such as U.S. (120%), Canada (81%), France (80%), and UK (67%), and even emerging economies such as Brazil (68%) and South Africa (48%). Low penetration of mutual funds in India is also evident from the equity mutual fund AUM to GDP ratio of 5% compared with 75% in the U.S., 55% in Canada, 40% in the UK, and 18% in Brazil.

The following graph sets out the equity mutual fund and debt mutual fund AUM to GDP ratio in India compared to certain other countries:

Equity Markets and Retail Participation

The mutual fund industry’s aggregate AUM grew at a CAGR of approximately 18% from ₹11.9 trillion as of March 2015 to ₹27.6 trillion as of March 2020. The strong growth of the mutual fund industry can largely be attributed to higher financial savings combined with growing investor awareness of such products.

Between March 2015 and June 2020, the industry witnessed a net inflow of ₹10.7 trillion. The first quarter of the financial year 2021 saw a drop in AUM on account of the nationwide lockdown and a corresponding fall in the capital market indices.

The following graph sets out the trend in share of various mutual fund segments for the periods indicated:

The following graph sets out the share of AUM by investor classification (in %) for the periods indicated:

Between April 2016 and July 2020, the monthly amount invested through SIPs has risen from approximately ₹31 billion to approximately ₹78 billion.

As of the June quarter of 2020, SBI Mutual Fund is the largest AMC in terms of its AUMs. It is followed by HDFC Mutual Fund, ICICI Prudential Mutual Fund, Aditya Birla Sun Life Mutual Fund, and Nippon India Mutual Fund which form the top five AMCs. The next five AMCs are Kotak Mahindra Mutual Fund, Axis Mutual Fund, UTI Mutual Fund, IDFC Mutual Fund, and Franklin Templeton Mutual Fund which complete the top 10 AMCs.

The following graph sets forth the mutual fund industry AUM share of the AMCs (in ₹ billion) for the periods indicated:

The mutual fund industry comprises of 41 AMCs (excluding Infrastructure Debt Funds) and a majority of the total mutual fund AUM is managed by the top five AMCs which have approximately 59% of the total market share as of June 2020.

The following table sets forth the individual market share of the top 10 AMCs for the periods indicated:

 

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JST Investments is a Mumbai-based investment firm that believes in long-term wealth creation. It's a brainchild of Aditya Kondawar, Aditya Shah, and Anish Moonka.
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