Is Capitec still a buy?

PAUL THERON, MD, Vestact Asset Management

HIGH ON SPECULATION

I'm a big fan of consumer finance. Unlike other banks, Capitec isn't involved in proprietary trading, corporate finance or private equity dealing

ATTRACTIVE: Capitec is attractive, because it focuses on the middle-income consumer in South Africa, where margins are high and risks are manageable - if monitored carefully. But at around R90 per share Capitec looks rich.

JUSTIFICATION: Capitec needs to deliver earnings of around R10 per share over the next year or two to justify its R90 per share price. In the year ended February 2009, Capitec earned 364c per share.

LONG WAY TO GO: Its recent trading update pointed to financial 2010 earnings of around 520c per share, so it still has a long way to go.

RISK MODELS: The quality of its lending book (which produces the lion's share of group profits) is mixed and is probably inferior to that of larger competitor African Bank, which has better risk models.

INCREASED FUNDING ABILITY: Capitec's recent entry into the mainstream corporate bond market as a debit issuer is a plus, as it has substantially increased its ability to fund its lending activities. However, it's early days and its new bonds were priced at around 100 basis points above that of African Bank.

LONG-TERM HOLDER? Is PSG, which holds just under 35% of Capitec, a long-term holder? PSG's Jannie Mouton is known for his good timing - and "exit discipline". Does anyone know how long he'll be sticking around?

FINALLY: The trading liquidity of Capitec is simply too low for most investors to obtain a meaningful stake in the company. Fewer than 20 000 shares are traded per day. Consequently, speculators may have pushed the price this high on thin volumes.

SINDI DANISO, Credit Suisse Standard Securities analyst

WINNING MARKET SHARE

The main driver of growth for Capitec Bank will be its larger client base and loan growth as its branch network expands, with clients lured away from the bigger banks

GROWTH STORY: After growing the number of branches by 29 over its past financial year to 400, Capitec's longer-term plan is to increase that further to 750 branches by financial 2017. Management has a target of 5m active clients by financial 2017, from around 2,5m currently and 2,1m by first half financial 2010. These price-sensitive (including middle-income earners) clients will be attracted to the bank by its low-cost banking model.

IMPROVING IMPAIRMENTS: When Capitec reports its results late in March, the market will focus on impairments, cost-containment measures and advances growth. Evidence that bad debts have been adequately managed will be of interest to the market. We expect impairments to start improving from financial 2011 as SA's economy recovers.

SUPERIOR GROWTH: Relative to SA banks, Capitec is trading on a "calendar-ised" earnings multiple of 8,5 times our financial 2011 earnings target of 700c per share. That's only a 7,6% premium to the major banks' weighted average of 7,9 times. We also believe Capitec's price-to-book premium over SA's larger banks doesn't reflect its superior growth prospects, merely its superior capital gains.

BUY: We recommend buying the share with a target price of R90, based mainly on our discounted cash flow valuation. Capitec is currently trading on a forward p:e of 10,7 times our financial 2011 financial earnings, which is a 55% discount to its five-year historic average.