African Bank update ahead of results

Everyone is talking about African Bank, well in my world anyhow. Clients, along with ourselves have had to be very patient with this one. Yesterday the share price had another tough day falling to 2835c, touching on levels it reached during the financial crisis. We have written extensively about this one. If your memory sometimes eludes you or you just happened to miss your favourite daily read due to some extreme circumstances, click on the link below which will steer you towards a whole host of links. Share reports for African Bank.


So far this year we have written six articles about Abil and have referred to the company on many other occasions. I spoke about them when I covered the Capitec Numbers and just yesterday Sasha alluded to the micro lending environment whilst covering Nedbank. He had deciphered that the entire Micro lending market in South Africa was equivalent to 71.4% of Nedbank's book (the smallest of the big four banks). Just to put things into perspective of how small micro lending still is in SA.


Fundamentally the stock looks ridiculously cheap. According to Sharedata who have pooled 6 analyst estimates, 2012 should see earnings around 354c, 2013 of 422c and 2014 of 511c. That puts the stock on forward multiples of 8 (2012), 6.7 (2013) and 5.5 (2014). Historically the company has a strong dividend policy which should see yields above 8% in years to come.


So why has the stock crashed while the fundamentals look so good? Sentiment beyond 2012 has decreased, especially from foreign investors who are/were big holders of the stock. The market does not believe the company will meet analyst expectations. Beyond the strikes, their exit from the top 40 and foreigners exiting, the biggest dampener is talk of a micro lending ''bubble''.


African Bank is the biggest micro lender in the country and is entirely reliant on micro lending for its earnings. Ellerines only contributes 12.5% to income from operations. So whether there is a micro lending bubble or not is the biggest question that needs to be asked.

As Sasha pointed out yesterday comparing the entire micro lending market to Nedbank's book, people underestimate how small the base we are coming off actually is. Our economy is very unique, mostly due to our political past. We have a massive informal sector who cannot obtain credit any other way. Before the country was liberalised more than 80% of our nation struggled to obtain any credit at all. The demand for credit, especially amongst the recently liberalised is way beyond the supply. These factors along with the implementation of the national credit act meant that the micro lending environment was abnormally small.


The massive uptick we have seen in recent years was purely due to banks increasing the supply, seeking higher returns due to increased regulations on secured lending following the financial crisis. Keith McLachlan, the renowned small caps analyst, suggests in this article titled Brief look at Unsecured Lending, that this uptick was in fact required in order to reach a sustainable equilibrium for micro lending in our credit market.


People are worried that there is a bubble because of the unnatural growth we have seen. But in my opinion this is because micro lending levels were unnaturally low. Yes this growth will slow and yes we will see a rise in defaults. More loans means more default risk. But at the end of the day it is all about earnings and return. African Bank are more than prepared for what the micro lending environment has in stall. Trust me, they know more than anyone else about this world and even have to share advice with the regulators on a regular basis. The share price has priced in an explosion which I think is over exaggerated. I'm not saying a rerating will happen tomorrow but for the patient investor like ourselves this is a strong buy.