Weekend Irani (Longform): The future of credit cards in India Part 2

Disclaimer: This is a broad industry article and not a commentary on any individual security. The intent here is to simplify and explain the working of a particular industry. This post is not a recommendation to buy/hold/sell any security. It is for informational purposes only. Investors should seek the advice of their independent financial advisor prior to making any investment decision based on this article or for any necessary explanation of its contents. The data used in this article is from publically available sources and we are not responsible for any discrepancy in the same.

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Last week we came up with our first post on the credit card space to explain the broad business model and growth drivers in the sector. You can read about it here. (Link:The future of credit cards in India Part 1).

The article was very well received and was our most popular post to date. As promised we are back with the second version of the series where we discuss the competitive dynamics in the space, the potential disruptions and partnerships that can arise at the intersection of credit cards and new tech, and the hindrances and opportunities for credit card penetration in India. I would like to thank Manu Jindal for agreeing to collaborate with GSN Invest on this article. He has worked with the credit card team of a leading private bank and brings valuable on ground insight to the post. (We are also getting more industry leaders on board to partner with us on content for ZappChai. Check out the details if you are interested: Collab with ZappChai)

Let us start the post by understanding the major players in the credit card space, the market share dynamics, and trends in market share.

Top credit card players in India:

The Indian credit card market is a fairly crowded place with 74 players operating. The top 5 players, however, have a comfortable 78% share by the number of cards and 75% share by credit card spend. HDFC bank is the leader at close to 28% share followed by SBI cards at 18%, which is followed by ICICI, Axis, and Citi.

It helps to create a broad classification to see how the players in the competition are doing. While there are a lot of ways to slice and dice them, we’ve chosen size and growth as two factors via which to understand these players as we believe it gives a fairly good framework to analyze their future.

We have divided the existing players into 3 categories:

Steady Giants: As the name indicates, these are the dominant ones that use their traditional banking channels to acquire the customers. These are primarily SBI Cards, Axis Bank & HDFC Bank

Falling Giants: These are the ones that are succumbing to the market competition and hence their market share has been falling. The foreign players Citi, Standard Chartered and Amex come under this fold. For eg., the market share of Citi dropped from 14% to 6% from FY 14 to FY 19

Potential Upstarts: These are the ones that are gaining ground at the expense of falling and steady giants. The primary players among them are RBL Bank & Kotak Mahindra Bank. Using their retail presence along with the fin-tech play, these players have been growing tremendously in terms of the number of cards originated.

With that broad classification done, let’s look into some of the nitty gritties of how the players have been growing. We’ll do this across similar factors we had discussed in our last post i.e. 1) Growth in cards 2) Spend per card 3) Growth in outstanding to keep the analysis consistent across posts.

Growth in cards (all growth rates for FY14-19): Axis Bank leads the pack amongst the top players here, albeit of a smaller base, growing its card base at a 34% CAGR. SBI clocks an impressive 24%, followed by HDFC and ICICI at 19% and 16% respectively. While we had covered most of the factors driving growth in cards previously, one major catalyst that changed the growth rate from low double-digit to the high teens to early twenties rates was demonetization. Growth rates for the top 5 players went up from 11% in the year before demo to 17% in the year of demonetization, and they haven’t looked back since.

Growth in spend per card: While Citi Bank has the highest spend per card standing at almost 200K, growth in spending has been fairly steady for most players with Citi, Axis and HDFC growing at 11-12%. SBI stands out here with a growing spend at 19%. Surprisingly (at least for me) HDFC and SBI are almost head to head in the per-customer spend at ~145K, with a sharp rise in per-customer spend for SBI Cards in recent years.

Growth in average outstanding per card: Average outstanding per card is still fairly low with HDFC bank at 36K and SBI, ICICI and Axis at around 20K. At just around 15% of the average spend, this amount is extremely low compared to developed markets players and could see good upside potential over the long term. Delinquency levels remain steady between 1.5% and 1.8%, although a prolonged slowdown could see that number rise driven by challenges to both ability and intent to repay the unsecured debt.

Let us now move on to the next piece of the puzzle, the threats in the payments and credit space.

FinTech lenders: (High growth, low threat) Almost every other startup these days is venturing into lending. These lenders use non-conventional data points to extend lines of credit to people who otherwise wouldn’t have had access to them, thereby greatly expanding the pie to whom credit can be made available and grow fast based on the need at the end of the spectrum. In its current form, this seems more like an attempt to expand the pie and is unlikely to affect traditional credit card players significantly. We think this space will begin to get a lot more regulated as it grows with restrictions not only on the types of data you can use to extend credit and the privacy of the people involved, but also the rates that can be potentially charged to these people which could be major headwinds for the sector. Distribution (lowers cost of acquisition) and data (improves lending algorithms) will in all likelihood decide the winners in the space. Large players like Paytm, Airtel, Jio, & Xiaomi who already have a touchpoint with the customer (Device/App/Network) and access to multiple customer data points knowingly or unknowingly provided by their users, would most likely end up winners in the space long term. The impact of this on credit cards, however, shouldn't be significant in the short to medium term.

NBFC backed consumer credit: (High growth, moderate threat ) Numerous well-positioned NBFCs offer consumer credit on e-commerce and other platforms with attractively structured no-cost or low-cost EMI options to customers. The growth in demand here is significantly driven by e-commerce, and delinquency rates of this mode are broadly in line with credit cards (touch higher). We believe that given the importance of e-commerce to credit card growth, this is a moderately significant threat in the short-medium term, that could eat into an important growth engine.

Alternate payment avenues: (High growth, moderate threat) Debit cards and UPI have seen phenomenal growth over the last few years. These instruments see much less resistance with the traditional Indian consumer who always errs on the side of caution on matters related to credit. The cost advantage to the merchant on both these methods will lead to the continued growth of the two atleast for low-ticket purchases.

Finally, let's have a look at an issue that will be top of mind for most analysts looking at credit cards, the hinderances and drivers of credit card penetration in India.

Hinderance to faster credit card adoption

The total credit cards issued in India are around ~35 million. While this number may seem large it represents a mere 3% penetration, that puts us not only significantly behind developed countries, but behind most developing countries as well. The 35 million also pales in comparison to ~85 million debit cards in circulation in India. In our opinion, the following are some of the major hindrances for the growth of credit cards in India

Cost of Origination: The credit card companies incur the cost of ~Rs 4300 for a single credit card origination in India. These costs include customer acquisition cost which involves giving freebies to customers on joining, risk absorption, logistics, and other paperwork costs. This puts a bar on how fast and how much these firms can grow, because it restricts the potential customers you can onboard.

Low recovery rate: While the default rates in the space are relatively low at around 1.5%-2.0%, recovering from the people who default is a major issue, and often quite expensive. The combination of low value (typical credit card outstanding is around 20K), unsecured nature (no collateral to stake claims over), limited concern about credit scores in the country(only real leverage the credit card companies have given the cost and futility of legal recourse) and dispersed customer spread (tougher to reach out physically) make recovery in the space tougher.

Fear or aversion to credit: A conservative middle-class India still remains skeptical of the credit card and credit in general. Stories of high fees and rates of the days gone by combined with a general aversion to credit unless necessary requires a significant effort from the credit card company front to bring down. And while attitudes around credit are changing, this is still a significant psychological block to overcome.

Next, let's look at ways credit card companies are trying to increase adoption in the country

Modes to increase adoption:

Partnerships: Partnerships with organizations and educational institutes was and continues to remain one major channel used by credit card companies historically. It solves two of the issues discussed above: one the cost of origination becomes low since you can capture a larger audience in one go, and second, you have lower concerns around recovery since you generally select audiences who have a higher propensity to pay back. HDFC has been making good steady progress on this front with its diners program, onboarding folks from top b-schools with its attractive 10x rewards and lifetime free cards. With this, it effectively gets access to a cohort that will go on to become high spenders, which increases its leverage with other partners in the ecosystem in the future. Another mode of partnership that firms have been using is co-branded cards, partnering with everyone from ride-hailing apps to petrol pumps. These serve as a good tool to ensure loyalty to the partner (reward points are generally higher for spending with the partner- eg: 5x rewards for a Ola card on spend with Ola would make you more likely to choose an Ola vs an Uber) which makes sure that these partners actively push the cards from their end.

Apart from loyalty, they also massively reduce the cost of underwriting for the financial institutions since these companies have wealth of data to understand the customer and their buying patterns

Merchant side tackle: The next aspect here is increasing presence at more merchant locations. As more shops, restaurants, and merchants begin keeping PoS terminals and accepting credit cards, and innovations around contactless and mobile PoS enter the mainstream, customers will see more merit in maintaining a credit card.

Other Factors: As mentioned in the impediments, the perception and lengthy process of origination were the key highlights. Focussed investor education on the management of credit cards, proliferation and regulatory acceptance of e-signatures to enable low-cost low-friction customer onboarding are all measures that can be used other than the traditional push marketing to increase adoption in the country.

That's it from us for now. We hope we were able to give you a good basic understanding of how the credit card space in India works. We will be coming up with more such pieces in the days to come.

If you want to read part 1 and are too lazy to scroll up, here's a link: Link:The future of credit cards in India Part 1

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