Capitec Bank - Valuation Looks Steep But Growth Outlook Is The Differentiating Factor - Final

April 19 2010 Equity Report
RECOMMENDATION CAPITEC BANK

BUY
Valuation looks steep, but growth
outlook is the differentiating factor
Company Information
Bloomberg Ticker CPI SJ
Current Price (cents) 10,100
12‐month Price Target 12,162 We initiate coverage on Capitec Bank with a BUY
Market Cap, Rbn 8.33
recommendation. In section 1 of this report, we provide an
Shares outstanding,mn 82.983
Potential capital gain 20.42% analysis of the banking sector, comparing it to other
Forward Div Yield 2.71%
Forecast total return 23.13%
Emerging markets (EMs) and/or history where necessary.
Implied PER,X 23.9 In section 2, we carry out our company analysis (Capitec
Implied PBVR,X 6.4
YTD capital return 27% Bank), presenting our forecasts and their basis. We also
52 Week Return 179% show our valuation model and provide an environmental,
social and governance (ESG) comment.
Salient information Overall, the banking industry structure, and the borrowers’
Rand,mn 2009 2010 2011F 2012F 2013F profile, particularly households, are poor and weak. In that
NII,
Net fee income
943
1,036
1,273
1,282
1,598
1,605
2,055
2,047
2,427
2,457
light, we do not like:
EPS, cents 357 509 683 874 1,028
Loans and advances 2,982 5,225 7,176 10,573 13,994 the high penetration rates. The loan/GDP and deposit/GDP
Deposits 3,317 7,360 9,568 12,439 15,549
BVPS, cents 1,489 1,910 2,325 2,850 3,466 ratios are high at 96% and 93% respectively. This provides
little room for excess loan growth above GDP growth
NIM 19.0% 13.4% 13.1% 13.1% 12.4%
Cost/Income 54% 54% 53% 52% 51%
LDR
ROE
90%
25.5%
71%
28.6%
75%
31.5%
85%
32.9%
90%
31.8%
without catalysing liquidity problems in the long-term;
Forward PER,X
Forward PBVR,X
14.8
4.3
11.6
3.5
9.8
2.9
the high debt/disposable income level which makes the
household borrowers’ profile poor in our view. South Africa’s
debt/disposable income ratio is around 80%, which does not
Returns vs. Banks & ALS Indices
compare favourably against history and other EMs;
174% the poor outlook for major loan growth factors. Only per
1‐Year 38.7%
39.3% capita income screens positively for loan growth; and
60% the increasing funding gap that could create liquidity
6‐Months
problems in the long-term. The funding gap is R329bn, and
12.9%
13.5%
32% could grow to R500bn by 2012. The Loan-to-deposit ratio

(LDR) is already above 100% at 103% and the leverage
3‐Months 6% Capitec
11% ALSI
27%
Banks Index multiple is 15X.
YTD 7%
12%
0% 50% 100% 150% 200%

Initiation of coverage: We initiate coverage on Capitec with a
BUY recommendation. Our 12-month price target is R122,
providing a potential total return of 23.1%. While the share price
has re-rated strongly from April last year, and has outperformed
Peter Mushangwe the Banks Index and the All Share Index by wide margins, we
Puleng Kgosimore believe there is some value on the table. We are convinced that
+27 11 551 3675
the bank commands a strong position in its market segment. It
peterm@legae.co.za
has strong capital and liquidity levels that can be deployed to
grow loans and profitability, and has an experienced management
Please refer to the back of this report to team.
view our disclaimer and disclosure
Contents page
Executive Summary 2
1. Industry Analysis 5
1.1 We loath high penetration, but we like high H-Index 5
1.2 Credit risks: Slower NPL formation to aid profitability 11
1.3 Liquidity risks: Funding gap is increasing 15
1.4 Capital risks: Adequate capital levels 19
1.5 Profitability: We carry loan growth worries 20
1.6 Why the micro-market could be the winner 23
1.7 The macro story: So far so good 27
2. Initiation of Coverage 31
2.1 Capitec Bank: Initiating with a BUY 31
2.2 Company Analysis 34
2.3 Financial Forecasts and Valuation 45
2.4 Corporate governance and other ESG issues 50
Page 1 of 54
The Executive Summary.
Initiating with a BUY, our 12-month price target is R122: We

initiate coverage on Capitec Bank, [Bloomberg CPI SJ] with a BUY
recommendation. Our primary method is the Justified
Price/Earnings ratio (PER), which we estimate at 17.8X. We
multiply the Justified PER by our FY11 earnings per share (EPS) to
get a 12-month price target of R122. This provides a potential total
return of 23.1%. Our secondary valuation method, the Discounted
Future Earnings (DFE) provides a fair value of R113, giving a
potential total return of 14.7% from the current price. We use a
Cost of Equity (CoE) of 17.5% to discount the earnings and an exit
PER of 13X for our terminal value (TV).
Good company, but bad stock?: To an extent, we were caught
between the high valuation risk argument and our earnings
outlook. Our analysis points out the strength of franchise and the
strong growth outlook. But the relatively high trailing PER created
some discomfort. However, we become more convinced that our
earnings outlook is a stronger argument for exposure. Our
recommendation is underpinned by our forecast of strong excess
earnings, in spite of our conservative estimates (relative to history
and management guidance). Our forward PER reduces to 9.8X in
FY13. For investors (and not speculators), the risk/reward profile is
still appealing, in our view.
What we like about Capitec: We like the 100% exposure to the
high-margins, low income segment, and the experienced
management. The low income segment is less leveraged when
compared to the mainstream banks’ general customers. This,
supported by the recent pace of deposits gathering should provide
above system loan growth. The high cash level, low leverage and
low LDR provide room for stronger loan growth for Capitec when
compared to the industry. The Net Interest Income (NII) growth
rates are strong and Net interest margins (NIM) are healthy. Net
Page 2 of 54
fee income has increased materially, with high growth rates.
Management is also experienced in our opinion, and has managed
to control both credit and operating costs. The ROE outlook is solid
in our view.
What we do not like about Capitec: The unwanted side-effects
of a rapid credit expansion, and to low income segments is the
higher credit risks. Capitec’s overdue accounts/loan ratio is higher
than the industry’s average. We also do not covet the apparent
high valuation risk of the share. The trailing PER of 19.7X does not
compare positively against the Banks Index PER (I-net) of 14.5X,
notwithstanding the strong earnings growth outlook.
The industry’s high penetration is a significant negative in
our view: The high penetration rates provide modest upside
potential in system loan growth beyond GDP growth without
negative impact on the system’s liquidity. The system’s banking
assets/GDP and loans/GDP ratios are 126% and 96% respectively.
The deposit/GDP ratio is 93%. While both the loan/GDP and
deposit/GDP ratios are still below 100%, the loan/deposit ratio is
above 100% at 103%;
But the high concentration level reduces competitive
pressures: The high concentration level reduces competition,
particularly for the Big 4 banks. The Herfindahl Index (H-Index) is
above 0.18 indicating high market share concentration. The Top 4
banks’ market share is 84.4% (2008, and based on banks’ balance
sheets). Theoretically, the system is oligopolistic;
System credit risks increased in CY2008-9 but we expect
slower non-performing loans (NPL) formation to aid
profitability hereafter: With the recovery of the economy, we
expect system NPL formation to reduce. There is increasing
positive management guidance in terms of credit risks,
(notwithstanding Standard Bank’s famous guidance that NPLs
“have not peaked yet”). Our view is that the pace of both rand and
percentage growth should slow this year. In our opinion, the major
Page 3 of 54
sector to watch is the real estate which makes up 44% of the
industry’s loan book.
Sector liquidity risks worry us as the funding gap is
increasing and the LDR is now over 100%: The system’s LDR
is high at 103% and the funding gap is increasing. The funding gap
is R329bn, about 14% of GDP. Our estimation indicates that by
2012, the funding gap will be close to R500bn. As the funding gap
increases, the system will depend more and more on foreign
funding and the interbank market, which are both volatile. The low
savings rate is also unconstructive to the system’s long-term
liquidity. South Africa’s savings/GDP ratio is below 20% compared
to about 50% for China, for example.
The industry is profitable, and the average ROE is 15.8%
since FY02: The industry’s average NIM ratio is stable at 3.3%
since FY00 while the average interest rate spread is 3.4%.
Industry profitability has increased by a compounded annual
growth rate (CAGR) of 19.4% between FY04 and FY08. The
industry’s average ROE (CY02-CY08) is 15.8%.
The system has enough capital: The strong capital position
allows further loan growth. The local system escaped the liquidity
crunch (2007-2009) without major victims. Banks remained
relatively well capitalised, despite the higher leverage (15X) when
compared to history. We believe there is no need for consolidation
in order to strengthen the system.
Why the Micro-finance market could be the winner: In our
view, the micro-finance sector can perform better than
mainstream due to 1) lower debt levels by the lower income
consumer which provide room for further borrowing, 2) the
defensiveness of assets when compared to the main stream
system. Micro-banks’ exposure to structured credit products and
capital markets is minimal if not non-existent, 3) lower
concentration levels on both the asset (loans) and liability
(deposits) side of the balance sheet. This reduces credit and
liquidity risks, 4) higher NIM and interest rate spreads.
Page 4 of 54
1. Industry Analysis
1.1 We loath the high penetration rates, but we like the
high H-Index.
The South African banking industry is highly penetrated. Both the

loan/GDP and deposit/GDP ratios are high, at 96% and 93%
respectively. (see Fig 1). The banking sector has experienced strong
growth, and the industry balance sheet has expanded significantly.
Loans and advances, particularly to households, pushed the system’s
asset growth. Mortgage and credit card advances went up by a CAGR of
20.5% and 21.9% between CY03 and CY09 respectively. The
loans/banking assets ratio ascended by 11 percentage points (pp) from
70.1% in CY03 to 81.4% by CY06. The ratio slowed in CY08 to 73% but
has since recovered to 75.5% by CY09.
The banking sector assets/GDP ratio rose to 135% in CY08 from 85% in
CY00. South Africa’s penetration levels on both the asset and liability
side are high when compared to other EMs. In our view, this provides
modest upside potential to industry players in the long-term, particularly
when compared to other EMs...
...but the benefits come from a highly concentrated market. The
banking industry is highly concentrated with an H-Index of over 0.18.
(based on balance sheet size). The market share of the Big 4 banks
averages 84.4% since CY03. This is 14.9pp above the 69.5% market
share of the Big 4 banks in CY01 (see Fig 2). In our judgement, the
barriers to entry, particularly regulatory and capital requirements,
create further impediments to competition. Theoretically, the industry is
oligopolistic as the H-Index is above 0.18. When the industry is not
fragmented, one would expect it to carry less competitive pressures.
However, we believe the high concentration level does not bode well for
smaller competitors who should find it difficult to create necessary
economies of scale and compete hence a differentiated focus strategy
becomes imperative. For the “Big 4”, this is visibly an important
positive.
Page 5 of 54
Fig 1: The industry’s penetration rates are high. Growth potential is weaker relative to other EMs.
110% 1.15
2009
Loans/GDP
Loans/GDP Deposits/GDP
90% Deposits/GDP 1.05
70% 0.95
50% 0.85
30% 0.75
10% 0.65
Nigeria Turkey Russia Brazil Chile RSA

‐10% 0.55
2003 2004 2005 2006 2007 2008 2009
Source: IMF, UNCTAD, Bloomberg, SARB, Legae Calculations
Fig 2: The Top 4 banks dominate the market... ... and the H-Index has worsened since 2002
90.0% 0.195
87.0%
H‐Index 0.190
85.0% 85.1% 0.189
83.6% 84.1% 0.190
83.4% 84.4%
80.0%
0.185 0.184 0.184
0.182
75.0%
74.0%
0.180
70.0% 69.5%
0.175
0.175
65.0%
0.170
0.170
60.0%
55.0% 0.165
50.0% 0.160
2001 2002 2003 2004 2005 2006 2007 2008 2002 2003 2004 2005 2006 2007 2008
Source: SARB, Legae Calculations
Page 6 of 54
South Africa’s debt/disposable income ratio is high. The ratio rose
steeply from around 50% in 2002 to around 80% in 2007 and has since
stabilised around that value. Higher debt/disposable income levels make
the industry less appealing. The high levels of debt/disposable income
affect banks in two main ways; 1) it limits the expansion of loan books
as demand is constrained 2) it leads to higher default rates particularly
in times of economic stress as there would be little room for borrowers
to manoeuvre when income falls. Needless to say, both are detriment to
the bottom line. Compared to other EMs such as Russia and China,
South Africa screens poorly on the debt/disposable income ratio. For
example, Russia’s debt/disposable income ratio in 2008 is estimated at
23%. Our view is that this will have a negative impact on loan growth as
households have little capacity to carry more debt. (See Fig 3)
Fig 3: Debt/disposable income ratio rose steeply in CY02... ...and compares poorly against EMs e.g Russia
90.0 90%
80% RSA
80.0 Russia
70%
70.0
60%
60.0 50%
40%
50.0
30%
40.0 20%
10%
30.0
1980/01
1982/03
1985/01
1987/03
1990/01
1992/03
1995/01
1997/03
2000/01
2002/03
2005/01
2007/03
0%
2004 2005 2006 2007 2008
Source: SARB, IMF, Legae Calculations
Despite the relatively poor profile of the South African borrower,

the system registered strong loan growth from CY2000 to
CY2009. Loan and advances went up by a CAGR of 17.5% over the
period. Deposits registered a weaker CAGR of 15.4% over the same
period. The LDR went up from 87% in CY00 to 103% by CY09. (see Fig
4).
Page 7 of 54
It is important to note that the loans and advances growth rate
outpaced the deposits growth rate since CY2003 (see Fig 4).
Starting in 2H08, however, the deposit growth rate outpaced the loan
growth rate. The loan growth rate receded on 1) effects of a tighter
monetary policy, 2) stringent risk-based lending procedure that were
both self induced and National Credit Act (NCA) induced and 3) lower
loan demand as the economy started to show signs of weaknesses.
The system’s total loans and advances growth plunged in 2009,
and so did the deposit growth rate. While strong quarterly growth
in loans and advances was registered in CY06 and CY07 (29% and 22%
respectively), growth rate receded in CY08 to 12.3% and turned
negative in CY09 at -2.6%. The deposits growth rate also tumbled from
16.7% in CY08 to 0.4% in CY09. The simple average quarterly growth
rates for loans and advances and deposits since CY95 is 7.1% and 7.3%
correspondingly. (see Fig 5).
Anecdotal data indicates that banks have eased, or are easing
credit standards. Coupled with the expected recovery and the
relatively lower interest rate environment, we would expect loan growth
to recover somewhat, especially as demand from corporates may firm.
We do not expect loan growth to recover to pre-crisis levels, mainly
because the household borrowers’ profile is weak. Furthermore,
notwithstanding the recovery, consumer and business confidence levels
are still below the pre-crisis levels.
Page 8 of 54
Fig 4: Loan & deposit growth was strong upto 2007... ...LDR has been >100% since 2003
60% 2,500 115%

Loans,Rbn (RHS)
Deposits, Rbn(RHS)
Loan growth 110% 110% 111%
50%
Deposits growth 2,000 106% 106% 106%
105% 104%
40% 103%
100%
1,500
30%
95%
20% 90%
1,000
87%
85%
10% 83%
500 80% 79%
0%
75%
‐10% ‐ 70%
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Fig 5: Loan growth plunged in 2008... ... and so did the total deposit growth
16.0% 16.0%
Total loans growth, q/q Total deposits growth, q/q
14.0% average average
14.0%
12.0% 12.0%
10.0% 10.0%
8.0% 8.0%
7.1% 7.3%
6.0% 6.0%
4.0% 4.0%
2.0% 2.0%
0.0% 0.0%
Feb‐95
Feb‐96
Sep‐04
Sep‐05
Dec‐98
Dec‐99
Jul‐08
Jul‐09
Oct‐02
Oct‐03
Aug‐06
Aug‐07
Jan‐97
Jan‐98
Nov‐00
Nov‐01
Dec‐98
Dec‐99
Oct‐02
Oct‐03
Aug‐06
Aug‐07
Feb‐96
Jan‐97
Jan‐98
Nov‐00
Nov‐01
Sep‐04
Sep‐05
Mar‐95
Jul‐08
Jul‐09
‐2.0% ‐2.0%
South Africa’s three major loan growth factors screen poorly, in

our opinion. The three major factors we identify are 1) penetration
level 2) population growth and 3) per capita income. South Africa
screens poorly on 1 and 2. The penetration rate is high, as we have
already indicated, and the high debt/disposable income ratio
exacerbates the situation. Population growth rate is also weak. South
Page 9 of 54
Africa’s population is expected to grow to 51.5mn by 2025, according to
the Population Data Sheet 2009. The country has one of the lowest
fertility rates in the Sub-Sahara Africa and the high HIV prevalence
negatively affects population growth. Population growth rate is a long-
term theme in our view, but it still screens poorly. The only constructive
factor is the per capita income with an expected growth of 19.3%
between 2009 and 2014, expanding from US$5,635.2 to US$6,724. This
also ranks relatively well against EMs. (IMF forecasts)
Loan growth faces substantial headwinds in our view. Even in this
relatively low interest rate environment, which should spur loan
demand, the high leverage level of the borrowers still provides
significant risk to loan growth. Strong household loan growth (between
CY03 and CY08) might lead to banks restraining their loan growth rates.
Credit cards loans, for example went up by a CAGR of 22.4% between
CY03 and CY09. The growth could be an indication of credit penetration
into less credit-worthy segments. It could also be a sign of growing
exposure to the existing clients. Both would not be good for credit risks.
Our view, therefore, is that taking loan growth for granted this year and
even next year, could be risky.
But deposits growth is better placed for a rebound. On the liability
side, we expect a stronger rebound in deposits than loans. Transaction
accounts could increase due to 1) slowdown in leverage by households
which should increase savings in the medium term 2) ‘lazy’ deposits
amid diminished risk appetite due to the uncertainty in economic
recovery.
Page 10 of 54
1.2 Credit risks analysis: Slower NPL formation to aid
profitability
The system’s credit quality deteriorated starting CY07. Credit

quality started to deteriorate in 2H07, and by CY08 the rand amount of
the overdue accounts had increased by a CAGR of 41% from R21.9bn in
CY04. As a percentage of advances, the overdue accounts ratio went up
from a low of 1.1% in 2H06 to 3.8% in 2H09. The average overdue
accounts/total advances ratio from CY04 to CY08 is 1.8%. (see Fig 6)
As the economy recovers, leverage becomes a more important
factor to profitability. As the economy move from recession to
recovery, the differentiating factors in banking move from strength of
balance sheets to leverage, in our opinion. Recovery in loan demand,
albeit low, would be both constructive to NIM expansion, but banks that
can leverage stand a better chance to exploit it.
NPL formation to peak in 1H10, in our view. Slower NPL formation
due to better and improving economic conditions and the low interest
rate environment mean credit risks going forward should be soft,
especially when compared to the CY08 and CY09 levels. There is
increasing positive management guidance on asset quality despite
Standard Bank’s famous guidance that the NPLs “have not peaked yet”.
The low interest rate environment allows banks to restructure
problematic loans at lower cost and/or expanding the tenors of loans.
We expect NPL formation to peak in 1H10.
Provision levels have started to reduce. System’s overdue accounts
should still remain above the average 1.8% this year, but the pace of
growth should reduce. We, therefore, believe that CY10 will show an
improvement, but remain a fairly tough year due to the poor profile of
South Africa’s household borrowers. The restructuring of loans,
especially where tenors are extended effectively understate the NPLs.
While we could not get data to provide an insightful analysis concerning
the system’s restructuring portfolio, academic research in the US has
shown than about 50% of the loan restructured become NPLs a year
later.
Page 11 of 54
Real estate sector is the key focus area for credit risk
monitoring: For CY10, our view is that loan recovery is inescapable,
albeit slow. Already, the loan/total assets ratio has rebounded although
it is still below the 2005-2007 levels. The key focus area in our
judgment is the real estate sector. The system’s highest exposure is in
this segment as indicated by the high weight it represents as a
percentage of total loans and advances. Credit card exposure is the
smallest despite general concerns about its quality. Credit card loan
growth declined from a peak of 47.4% in CY05 to 2.8% in CY09. In rand
term, the exposure enlarged by a CAGR of 21.9% from R16.9bn in CY03
to R55.7bn in CY09. The growth in this segment could be greatly
hampered by high household debt levels. The highest credit risk
exposure for banks is the real estate as about 44.5% of loans are
mortgage loans. The mortgage loans/GDP ratio has increased from 26%
in CY03 to 43% in CY09, despite the decreasing growth rate of
mortgage loans since CY2006. (see Fig 7 and Fig 8). Nonetheless, the
recovering real estate sector should reduce risk.
Regulatory risk is one of the greatest risks in the short- to
medium-term, in our opinion. In our view, despite our expectation of
improving credit risks, the key headwind will come from regulatory risks.
As we indicated, our opinion is that at this stage of the recovery,
leverage is more important to banks in order for them to capture the
recovery and enhance bottom line. How much leverage banks will be
allowed to assume by regulators is the major question, not only in the
local market but even internationally. We do not expect regulatory risk
in the Developed Markets (DM) to have the same and immediate impact
to the local market but the international banking sector faces long-term
structural changes that should eventually affect local banks in the long-
term.
Basel committee consultative documents already point to
regulatory changes: In December 2009, the Basel Committee
governing body issued key elements of the reform programme for
consultations. The key elements were:
Page 12 of 54
raising the quality, consistency and transparency of banks’
capital bases;
strengthening the framework of the risk coverage of capital;
introduction of leverage ratio as a supplementary measure to
Basel ii risk-based framework;
introduction of a series of measures to promote the building of
capital buffers in good times; and
introduction of a global minimum liquidity standard for
internationally active banks that include a 30-day liquidity
coverage ratio underpinned by a longer-term structural liquidity
ratio.
The major aim is to strengthen, and potentially raise the minimum
capital requirements and maintaining ample liquidity. Higher capital
levels and higher liquidity levels than is the case now would
result in lower credit growth.
Fig 6: Overdue accounts/advances went up in 2008... ...and in rand-term it reached R87.3bn
4.0% 100
overdue acc/advances Overdue amounts, Rbn
3.5% 90
average
80
3.0%
70
2.5%
60
2.0% 1.8% 50
1.5% 40
30
1.0%
20
0.5%
10
0.0% 0
Dec‐04
Dec‐05
Dec‐06
Dec‐07
Dec‐08
Sep‐04
Sep‐05
Sep‐06
Sep‐07
Sep‐08
Jun‐04
Jun‐05
Jun‐06
Jun‐07
Jun‐08
Mar‐04
Mar‐05
Mar‐06
Mar‐07
Mar‐08
2004 2005 2006 2007 2008
Page 13 of 54
Fig 7: Total loans/total assets ratio is recovering... ...and mortgages continue to dominate loan book
85% 100%
90%
80% 80%
70%
60%
75%
50%
2.5%
2.6% 2.7% 2.5%
40% 2.4%
2.0%
70% 1.8%
30%
20% 41.4% 41.9% 44.5%

37.7% 39.8% 40.3%
33.6%
65%
10%
0%
60% 2003 2004 2005 2006 2007 2008 2009
2003 2004 2005 2006 2007 2008 2009 Mortgage loans Credit cards debtors overdrafts other
Fig 8: The mortgage loans/GDP ratio has stabilised at >40%. Growth in credit card loans tumbled in 2008-9
60%
45%
43% 42% 43%
40% 50%
39%
47.4%
35%
34%
40% 40.8%
30%
29%
25% 26% 30%
24.9% 25.5%
20%
20%
15%
Mortgage loans/GDP
10% Mortgage loan growth 10%
4.0%
5% ‐2.8%
0%
0% 2004 2005 2006 2007 2008 2009
2003 2004 2005 2006 2007 2008 2009
‐10%
Page 14 of 54
1.3 Liquidity risks analysis: The funding gap is increasing
Funding gap is growing fast, and LDR is high. The South African
banking system stood the “2008-2009 liquidity tsunami” with no
noticeable victims. Liquidity positions of banks remain strong, but we
are beginning to be concerned with the growing funding gap, (customer
loans and advances less customer deposits) which has now grown to
R329bn. The LDR at 103% is not beneficial to liquidity and loan growth
in the short-term. The local interbank markets have become crucial in
funding the system’s loan book. Needless to say, the interbank market
is volatile as a source of funding, and we recall the demise of Lehman
Brothers among others who became victims of over-reliance on the
interbank market. We also highlight that during the last credit cycle
downturn (2001-mid 2003), both the funding gap and the LDR dropped
but this time around they held up.
Funding gap could reach R500bn by 2012. The current funding gap
is R329bn, which is about 14% of GDP. The industry funding gap will
grow to R491bn should it continue to grow at 7.8% which is the average
growth rate since CY02. Assuming that the funding gap will grow at a
subdued rate of 1.8%, like was the case in CY09, then the gap will
increase to R466bn by CY12. (see Fig 9)
The system heavily relies on wholesale deposits. The industry
currently relies heavily on wholesale deposits, which is a concern to us
in terms of liquidity and impact to NIM. Wholesale deposits are not only
actively managed, and thus more volatile and more expensive, but they
also increase the degree of concentration risk. Investor-awareness,
where people invest their savings through money market funds instead
of ordinary deposit products could partly explain this high reliance on
the wholesale market. The comforting feature of the system funding
structure is that long-term deposits continue to rise, increasing from
13.9% in CY02 to 23.3% in CY09. (see Fig 10).
Low household savings rate could aggravate liquidity risks in the
long term. The lower savings ratio for South Africa is a negative for the
sector’s long-term liquidity. Lower savings in a market that has had high
Page 15 of 54
loan growth rates in the recent past leads to higher LDR. This could
ultimately result in liquidity problems. Countries with high savings
ratios, like China, tend to have lower LDR. The high savings rate(s) in
China (Asia) act(s) as a buffer to leverage. (see Fig 11).
We note that some of the major local banks (i.e. Standard Bank and
First Rand) established relationships with Chinese banks. Although this
has often been analysed in terms of possibilities of deal flows, especially
of trade finance and corporate finance nature, the other invaluable
benefit we identify is access to liquidity. Liquidity could be accessed
through direct credit lines or syndicated loans. We believe no-one will
“drop the cash out of a helicopter”, especially in light of the 2008-09
liquidity crunch, but the benefits will outweigh the costs, in our opinion.
Fig 9: The industry funding gap has worsened to >R300bn... ...and could hit R500bn by 2012
‐550
‐350 1.8% growth, av. for 09
6.8% growth, av. since 06
‐500 7.2% growth, av. since 02
‐300
‐450
‐250
‐400
‐200
‐350
‐150
‐300
‐100
‐250
2010/06
2010/12
2011/06
2011/12
2012/06
2012/12
‐50
May‐98
May‐05
Mar‐97
Mar‐04
Nov‐01
Nov‐08
Aug‐96
Aug‐03
Dec‐98
Dec‐05
Feb‐00
Sep‐00
Feb‐07
Sep‐07
Apr‐01
Apr‐08
Oct‐97
Oct‐04
Jun‐95
Jun‐02
Jun‐09
Jan‐96
Jan‐03
Jul‐99
Jul‐06
‐200
0
Source: SARB, Legae Securities
Page 16 of 54
Fig 10: Wholesale deposits make the highest contribution to funding but long-term deposits are rising
100%
3% 13.9% 11.7% 12.9% 14.2%
3% 90% 16.3% 17.6% 20.2% 20.6%
2%
80%
70%
18%
Wholesale deposists 60%
Commercial deposits
47% 50%
Household deposits
Local capital markets 40%
Foreign funding 30%
Other
20%
10%
28%
0%
2002 2003 2004 2005 2006 2007 2008 2009
Other demand dep. Savings Short‐term Medium‐term Long‐term
Fig 11: The gross savings/GDP ratio is low for RSA... ...but the LDR is high
60%
140%
LDR
Average
50% 120%
100%
40%
80%
30%
60%
20%
40%
10% 20%
0%
0%
LATAM CEE RSA Asia ex Japan
China India Japan Europe Australia USA RSA
Source: IMF, UNCTAD, SARB, Legae Calculations
Interbank assets increased from CY04 levels, but reduced in

CY09. The ratio of interbank assets/total deposits peaked in 2007-2008
before softening in CY09. In our view, the decline in this ratio could
have been catalysed by some form of risk aversion in the interbank
Page 17 of 54
market during the peak of the global crisis, notwithstanding the
soundness of the local system when compared to the DMs. The volatility
of the interbank market deposits, negatively affect Asset and Liability
management (ALM) strategies which could have an indirect impact on
profitability while the higher cost of such deposits have a direct impact
through lower NII.
Non-residents deposits/total deposits increased in 2008-9. The
ratio of non-residents deposits/total assets, which was below its average
of 4.6% (between 1992 and 2009) also started to migrate upwards
towards the average in CY06. By CY09, the ratio slightly exceeded the
average at 4.7%. The other period when the system had a ratio higher
than 4.6% was from 1997 to 2001 when the ratio peaked at 6.9% in
1998. (see Fig 12). Given South Africa’s relatively higher ranking in
banking soundness, one may assume this was a confidence indication,
but we note that in rand terms non-resident deposits declined by 28.9%
from R102.9bn to R73.2bn in CY09.
Fig 12: Interbank assets/total deposits ratio Non-residents deposits/total deposits
9.0% 98% 8%
8.5% 97% 7%
8.0% 96% 6%
7.5% 95% 5%
7.0% 94% 4%
6.5% 93% 3%
6.0% 92% 2%
residents deposits/total deposits, LHS
5.5% 91% 1%
non‐residents deposits/total deposits
average (non‐residents deposits/total deposits)
5.0% 90% 0%
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2003 2004 2005 2006 2007 2008 2009
Page 18 of 54
1.4 Capital risks: Capital is adequate, no need for
arranged marriages
The system is well-capitalised, and did not seek capital during
the 2008-2009 crisis. In order to retain assets and more-so grow
them on the balance sheet, the bank must be optimally funded by
capital. Because government debt is zero-risk weighted asset, during
periods of liquidity crisis, banks buy government bonds in order to
improve capital levels. While the credit profile deteriorated in South
Africa, there was no ‘stampede’ for quality as was witnessed in the DMs.
The system’s capital position worsened in CY08 as capital fell in rand-
terms from R202.1bn in CY07 to R175.9bn. The capital/assets ratio
declined in unison. However, in CY09, the system’s capital recovered
and increased to R198.1bn. (see Fig 13)
We believe in the near-term there is no need for consolidation in
order to strengthen the system.
But the system is more leveraged relative to history. System
leverage increased by 5.4 points in CY08. The leverage ratio that was
relatively stable at around 12.5X since between CY03 and CY07 climbed
to 18X in CY08 before it declined slightly to 15.0X in CY09. (see Fig 13)
Fig 13: Industry capital level has recovered,Rmn but leverage is high relative to history
14.0% 20.0
230,000
18.0 18.0
12.0%
200,000 16.0
15.0
10.0% 14.0
170,000 12.8 12.7 12.7 12.6
12.2 12.0
8.0%
140,000 10.0
6.0%
8.0
110,000
4.0% capital/total loans 6.0
capital/total assets
leverage ratio,RHS 4.0
80,000 2.0%
2.0
50,000 0.0% ‐
2003 2004 2005 2006 2007 2008 2009 2003 2004 2005 2006 2007 2008 2009
Page 19 of 54
1.5 Profitability analysis: Better earnings to come with
better times but we carry loan growth worries
Profitability was strong between 2004 and 2008. The system

profitability has increased materially during the past five years, pushing
up ROAs and ROEs. System net profit jumped from R17.4bn in CY04 to
R35bn in CY08, a CAGR of 19.1%. This is the period when loan growth
was highest since CY95, with an average annual growth rate of 9.9%
versus average growth rates of 7.6% since CY95 and 7.9% since CY00.
Although loan growth reduced in 2H08, the growth was in excess of
10% since 2H04, peaking at 15.1% in 2H06.
Profitability declined in CY2009. In 2009, profitability slumped but
we expect a rebound driven by accelerating revenue growth and falling
bad debts. Costs could be a headwind should rehiring recover, otherwise
efficiencies and cost management benefits of 2009 should be tailwinds.
System average ROE is 15.8 since CY02, despite a material jump
in 2008. The system’s ROE jumped significantly in CY08 to 28.7% from
18.1% the previous year. The average ROE from CY02 to CY08 is
15.8%. The ROA also rose strongly to 1.6% in CY08 from 0.8% in CY02.
In our opinion, the oligopolistic nature of the industry could sustain ROE
around the 2003-2007 level. (see Fig 14). It is also important to
highlight that the system average ROE, and more-so 2008 ROE is
greater than the cost of funds, which allows the sector to create value to
its shareholders.
Page 20 of 54
Fig 14: The system’s net profit rose by CAGR19.1% (CY04-08) (Rbn). ROA and ROE went up accordingly
40 35.0% 1.8%
35.00 ROE
35 average ROE 1.6%
30.0%
31.80 ROA, RHS
1.4%
30 CAGR = 19.1%
25.0%
26.38
1.2%
25
20.0% 1.0%
20 18.58
17.42 0.8%
15.0%
15
0.6%
10.0%
10 0.4%
5.0%
0.2%
5
0.0% 0.0%
‐
2002 2003 2004 2005 2006 2007 2008
2004 2005 2006 2007 2008
Average system NIM is 3.3%. System NIM has shown a steady

decline over the years, from 4.1% in CY00 to 2.7% in CY06 before
recovering to 3.6% in CY08. We see headwinds in CY10 NIM due to
lower loan growth and lower interest rates, despite the relative stable
interest spread.
Interest rate spread is stable at 3.4%.The interest rate spread has
remained largely stable, oscillating around 3.4% since CY00. (see Fig
15). The ability by banks to maintain this spread regardless of the
interest rate policy indicates the importance of loan growth and credit
management to profitability in the system. However, with the prime rate
now at 10%, and the REPO at 6.5%, we would expect pressure on
interest spread this year, particularly as liquidity is not plentiful as
indicated by the growing funding gap and LDR.
Page 21 of 54
Fig 15: The NIM (%) average 3.3% since 2000 Interest spread average 3.4%
14.0%
4.5 interest rate earned
interest rate paid
12.0% interest spread
4.0
10.0%
3.5
8.0%
3.3
3.0 NIM
average 6.0%
2.5
4.0%
2.0 2.0%
1.5 0.0%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2000 2001 2002 2003 2004 2005 2006 2007 2008
Major long-term profitability factors screen indifferently. The

major factors to profitability in our view are 1) loan growth, 2) interest
margins/spreads, 3) credit costs and operating costs i.e. management
of the cost/income ratio. These items drive the ROE in the long-term.
We investigate how these drivers may play out in the short-term.
Loan growth: As we indicated already, we believe loan growth
will be muted this year. Corporate lending could recover, but
households are still carrying a lot of debt. A ‘sticky’
unemployment rate reduces the potential for strong loan
growth.
Interest rate spreads: We expect the interest rate spread to
remain stable. The holdback to spread and NIM expansion even
when interest rates start to go up is the currently fixed spread
of the prime rate at 3.5% above REPO rate. The SARB and
Banking Association recently confirmed that there is no need to
change this policy. However, borrowers continue to be price
takers even when credit standards are loosening. The spread
could therefore slightly improve should interest rates rise.
Credit and operating costs: As we mentioned before, we
expect an improvement in credit costs. Our opinion is that
Page 22 of 54
lower NPL formation and write-backs could aid profitability,
especially in 2H10. Banks that suffered most in CY2009 should
benefit better on write backs. Banks have managed also to
contain operating costs. We do not expect significant rehiring
that could negatively affect the cost/income ratios.
System earnings could rebound impressively this year. We,

however, believe that it will be invariably associated with recovery in
capital markets and trading conditions than core commercial banking
operations. Groups with investment banks should benefit more in our
view. However, trading income tend to be more volatile.
1.6 Why the micro-market could be the winner?
The micro-finance institutions principally provide financial services to

low-income consumers, including self-employed and small business
enterprise (SMEs) as well as those that are out of formal employment.
Below we indicate what we believe to be the major phases of banking
products, and the relationship to income levels. (see Fig 16). On a global
scale, countries with higher per capita incomes have higher demand for
products in phases 3 in addition to products in phases 1 and 2 while
those with low show a higher concentration in phases 1 and 2.
Taking the same concepts to the local market, higher income earners
have higher demand for products in phases 3 and 4 in addition to
products in phases 1 and 2. Low income earners have higher demand
for products in phases 1 and 2.
The major takeaway is the fact that the phases are inversely related to
population. There are more people needing phases 1 and 2 products
than there are requiring phase 4 products. This often makes phases 1
and 2 lower margin products as banks would benefit from higher
transaction volumes. However, the oligopolistic nature of the local
market ensures that relatively higher margins can be sustained in
Page 23 of 54
phases 1 and 2 as well. Lower penetration in the low income segment
also enables micro-banks to enjoy relatively strong margins.
Micro-banks and other micro-finance institutions, on the
contrary provide unsecured products in phases 1 and 2, and that
often gives them a competitive advantage.
Fig 16: The Banking phases and relationships to income levels
As income increases, demand for new products, advisory and wealth management services increases...
Mainstream banking, dominated by the Big 4.
Phase 1 Phase 2 Phase 3 Phase 4
• Savings and loan accounts • Current accounts • Credit cards • Wealth mngmnt

• Payment services • Debit cards • Consumer finance • Advisory services
• Mortgages • Other unsecured products
• Other secured products
Low‐end institutions e.g. MFIs, Abil, Capitec Top‐end banks e.g. Investec
...but the number of people, which affects volumes, decreases as one moves up the phases
Source: Legae Securities
There are various reasons why we believe that the microfinance market
may stand to benefit, and end up the winner given the high leverage
levels of the consumers. We highlight them below:
Lower debt levels for lower income consumers: As indicated on Fig
17 below, the lower income segments are less leveraged when
compared to the middle and upper income groups. Stringent risk-based
lending by the main stream banks often result in the exclusion of the
lower income group. Mostly, they lack collateral and require more tailor-
made products than generic ones. The lower debt levels in this income
group provide room for banks that are willing to assume higher credit
risks to expand their loan books.
Page 24 of 54
Fig 17: Lower income people are less leveraged. Debt/disposable income
160%
140%
120%
100%
80%
60%
40%
20%
0%
0‐to‐50 51‐to‐100 101‐to‐300 301‐to‐500 501‐to‐750 750+
income per year in rands,000
Source: FirstRand results presentation, Legae Calculations
Defensiveness of assets: Micro-banks’ assets tend to be defensive

when compared to main stream banks. Micro-lending, especially to
Small and Medium Enterprises (SMEs) focus on basic requirements of
life, e.g. food, education, shelter etc. The Micro-banks also have limited
exposure to structured and credit products which were principal drivers
of losses in the DMs’ banking system in CY09. Exposure to capital
markets and investment banking which is suffering from “legacy risk” is
also minimal. Micro-borrowers also tend to have an incentive in
maintaining a good repayment history and relationships as they have
few sources of finance. In our view, earnings visibility is crucial given
the sub-par economic growth.
Higher NIM and interest spreads: Micro-banks’ NIM and spreads are
higher than the mainstream banks. Lending rates are higher due to
obvious reasons of elevated risks of the borrowers, but lower coverage
of the micro-borrowers by the mainstream banks also provide pricing
power to the micro-banks. Average NIM for MFI is around 8% while for
mainstream banks the average is less than 4%.
Page 25 of 54
Lower concentration risks: Most micro-banks are not dominated by a
few big depositors or borrowers. Due to the small value of deposits and
loans, concentration risk on both the asset and liability side is materially
reduced. The fragmentation of depositors and borrowers also works in
favour of micro-banking as it reduces the pricing power of both
borrowers and depositors.
Less volatile deposits: The tenors of micro-deposit tend to be longer
than deposits in the mainstream banking. There is also less reliance, if
at all, on the inter-bank market. This, combined with the lower
concentration risks, makes effecting Asset and Liability Management
(ALM) strategies easier than for mainstream banks. The other benefit is
that local depositors are becoming more concerned with banking fees,
and in a downturn, such worries are elevated. Micro-banks tend to be
more efficient and less expensive in term of banking fees when
compared to mainstream banks.
There are risks nonetheless. The major risks we perceive are:

Downscaling by mainstream banks: The Big 4 banks have capacity
and ability to downscale into the lower income segment. In fact some of
the banks have launched products that intend to capture this market
segment, especially on the liability side of the balance sheet.
Inability to benefit from government spending: The micro-banks
stand least to benefit from government expenditure. Exposure to
government infrastructure projects in terms of lending is almost nil.
Higher risk customers: The risk profile of the customers carry higher
risks notwithstanding the defensiveness of SMEs’ industries and other
micro-borrowers. SMEs tend to suffer worse during recession or
economic downturn periods as they have thin capital and cash flow
levels.
Regulatory risks: The Micro-finance industry is broad and regulatory
changes continue to take place. For most micro-finance institutions that
are registered banks, the risk is however cowed.
Page 26 of 54
1.7 The macro story: So far so good, but nothing extra-
ordinary
The macro-story of South Africa is good thus far, having started to pick
up the steam, and confidence levels rising. GDP growth is expected to
recover to 2.9% (Bloomberg consensus) (IMF = 1.8%). Along with it we
would expect a positive effect to 1) loan demand and 2) loan provision
levels. (see Fig 18)
The high loans/GDP ratio of South Africa relative indicates that the
economy is more leveraged than its peers. The question that becomes
important is: would the economy manage to increase its leverage in a
deleveraging world? There is still capacity to leverage, (Spain, one of
the so-called PIIGS had a ratio of about 160% in CY09), but we are
cautious of this leverage.
The feared “double-dip” risk seems to have waned. Internationally,
consumer and jobs data remain mixed, but with risk on the upside.
Locally, customers are happier than in 2008-2009. The confidence index
has rebounded and so has the Kagiso purchasing managers’ index.
Capacity utilisation level has also recovered. (see Fig 20 and Fig 21)
Our worry is that the “double deficit” that the country carries could
create risks, especially to the currency in the medium term. The
positive is that the current account deficit has narrowed. The relatively
high interest rates when compared to other EMs are also supportive of
the famous “carry-trade”. The fiscal deficit hit its highest at 20.5% of
GDP in 2Q09. To an extent, this was not a deliberate deficit expansion,
but a cyclical one. (expenditure/GDP ratio rose, but revenue fell much
worse hence creating a wider deficit). We would expect it to narrow as
the economy gain traction and revenue recover. (see Fig 22 and Fig 23)
Page 27 of 54
Economies are becoming healthy again...
Fig 18: South Africa’s GDP growth expected to recover... ...along with the rest of the world
5.0%
2008 2009 2010 2011
Bloomberg consensus
4.0% 3.8% World 3.0% ‐0.8% 3.9% 4.3%
IMF forecasts 3.5%
Advanced economies 0.5% ‐3.2% 2.1% 2.4%
2.9% USA 0.4% ‐2.5% 2.7% 2.4%
3.0%
Euro 0.6% ‐3.9% 1.0% 1.6%
2.0% 1.8% Germany 1.2% ‐4.8% 1.5% 1.9%
Japan ‐1.2% ‐5.3% 1.7% 2.2%
1.0% UK 0.5% ‐4.8% 1.3% 2.7%
0.0% EM 6.1% 2.1% 6.0% 6.3%

2009 2010 2011 China 9.6% 8.7% 10.0% 9.7%
‐1.0% India 7.3% 5.6% 7.7% 7.8%
Brazil 4.2% ‐2.3% 3.7% 3.8%
‐2.0% ‐1.8%
Russia 5.6% ‐9.0% 3.6% 3.4%
‐2.2% Africa 5.2% 1.9% 4.3% 5.3%
‐3.0%
Source: IMF, Bloomberg, Legae Calculations
...and GDP recovery should see some recovery in loans

Fig 19: GDP growth vs. loan growth Loans and deposit outpaced GDP growth since 2000
4.0
0.30 Loans and advances growth 0.06 Loans
GDP growth, RHS 3.5 GDP
Deposits
0.25 0.05
3.0
0.20 0.04
2.5
0.15 0.03 2.0
1.5
0.10 0.02
1.0
0.05 0.01
0.5
‐ ‐
0.0
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2000 2001 2002 2003 2004 2005 2006 2007 2008
Page 28 of 54
Happy customers are good for business...
Fig 20: Business confidence is increasing... ...and leading indicators show a better future
100 25 130 10%

Business Confidence index,RMB
90 Consumer Confidence, FNB, RHS 20 8%
120
80 15 6%
70
10 110 4%
60
5 2%
50 100
0 0%
40
‐5 90 ‐2%
30
20 ‐10 ‐4%
Leading indicators index
80
10 ‐15 change, %, RHS ‐6%
0 ‐20 70 ‐8%
1995/12/01
1996/11/29
1997/11/29
1998/11/29
1999/11/29
2000/11/29
2001/11/29
2002/11/29
2003/11/29
2004/11/29
2005/11/29
2006/11/29
2007/11/29
2008/11/29
2009/11/29
1995/12/01
1996/08/01
1997/04/01
1997/12/01
1998/08/01
1999/04/01
1999/12/01
2000/08/01
2001/04/01
2001/12/01
2002/08/01
2003/04/01
2003/12/01
2004/08/01
2005/04/01
2005/12/01
2006/08/01
2007/04/01
2007/12/01
2008/08/01
2009/04/01
2009/12/01
Source: I-Net, Legae Calculations
...and the “cash registers” are recovering after the 2008-9

collapse.
Fig 21: Kagiso PMI has rebounded... ...and capacity utilisation shows some recovery
65 90
88
60
86
55
84
50 82
80
45
78
40 76
74
35
72
1999/06
2000/03
2000/12
2001/09
2002/06
2003/03
2003/12
2004/09
2005/06
2006/03
2006/12
2007/09
2008/06
2009/03
2009/12
30
1999/10
2000/04
2000/10
2001/04
2001/10
2002/04
2002/10
2003/04
2003/10
2004/04
2004/10
2005/04
2005/10
2006/04
2006/10
2007/04
2007/10
2008/04
2008/10
2009/04
2009/10
Source: Bloomberg, Legae Calculations
Page 29 of 54
...but reliance on debt to finance the appetite of customers,
business and government could be a risk
Fig 22: But we are concerned with the twin deficit, % of GDP and the Current account deficit,Rmn q/q
33.0% 4.0% 10000
31.0% 2.0% 5000
29.0%
0.0% 0
27.0%
‐2.0% ‐5000
25.0%
‐4.0% ‐10000
23.0%
‐6.0% ‐15000
21.0%
Surplus/(Deficit), RHS
Revenue ‐8.0%
19.0% ‐20000
Expenditure
17.0% ‐10.0%
‐25000
15.0% ‐12.0%
‐30000
2005:Q1
2005:Q2
2005:Q3
2005:Q4
2006:Q1
2006:Q2
2006:Q3
2006:Q4
2007:Q1
2007:Q2
2007:Q3
2007:Q4
2008:Q1
2008:Q2
2008:Q3
2008:Q4
2009:Q1
2009:Q2
2009:Q3
2004: Q4
2003/03
2003/06
2003/09
2003/12
2004/03
2004/06
2004/09
2004/12
2005/03
2005/06
2005/09
2005/12
2006/03
2006/06
2006/09
2006/12
2007/03
2007/06
2007/09
2007/12
2008/03
2008/06
2008/09
2008/12
2009/03
2009/06
2009/09
2009/12
2010/03
...and unemployment rate remains “high”. Negative hiring

is yet to rebound despite some stabilisation
Fig 23: Unemployment rate remain ‘sticky”, %, although gross earnings growth rate seem to have rebounded.
20.0%
32
gross earnings
number of employees
15.0%
30
10.0%
28
5.0%
26
0.0%
24
‐5.0%
22
‐10.0%
2005/02
2005/09
2006/03
2006/10
2007/04
2007/11
2008/06
2008/12
2009/07
20
2000/03
2000/09
2001/03
2001/09
2002/03
2002/09
2003/03
2003/09
2004/03
2004/09
2005/03
2005/09
2006/03
2006/09
2007/03
2007/09
2008/03
2008/09
2009/03
2009/09
Page 30 of 54
2.1 Initiation of coverage
2.1 Capitec Bank: Initiating with a BUY, fair value of R121.

Short term valuation risks are evident, but better growth
outlook is the differentiating factor, our potential upside is
22.7%.
Fig 24: Company and salient balance sheet and income statement information
RECOMMENDATION BUY Rand,mn 2009 2010 2011F 2012F 2013F

Bloomberg Ticker CPI SJ NII, 943 1,273 1,598 2,055 2,427
Current Price (cents) 10,100 Net fee income 1,036 1,282 1,605 2,047 2,457
Fair Value (cents) 12,121 EPS, cents 357 509 683 874 1,028
Market Cap, Rbn 8.33 Loans and advances 2,982 5,225 7,176 10,573 13,994
Shares outstanding,mn 82.983 Deposits 3,317 7,360 9,568 12,439 15,549
Potential capital gain 20.01% BVPS, cents 1,489 1,910 2,325 2,850 3,466
Forward Div Yield 2.71% NIM 19.0% 13.4% 13.1% 13.1% 12.4%
Forecast total return 22.72% Cost/Income 54% 54% 53% 52% 51%
Implied PER,X 23.8 LDR 90% 71% 75% 85% 90%
Implied PBVR,X 6.3 ROE 25.5% 28.6% 31.5% 32.9% 31.8%
YTD capital return 27% Forward PER,X 14.8 11.6 9.8
52 Week Return 179% Forward PBVR,X 4.3 3.5 2.9
Source: Company reports, Bloomberg, Legae Calculations
We initiate coverage with a BUY recommendation, our fair value

is R121 giving a potential total return of 22.7%: We use the
Discounted Future Cashflow (DFE). Our terminal value is R13.6bn which
we obtain by growing the FY13 earnings by our long-term growth rate
and capitalise it by the exit PER of 13X. We estimate a CoE of 17.5%,
(vs. 17.6% implied by the Dividend Discount Model (DDM)). Our DFE
method indicates a fair value of R113, offering a potential total return of
14.7%. Our DFE value gives an implied PER of 22X which is higher than
our Justified PER of 17.8X. The Forward PER ratio, however, declines to
9.8X by FY13.
Our recommendation is also motivated by the high excess earnings
which we forecast in the next three years and the potential total return
that is greater than our CoE. In our view, the exposure to the low
income segment that has lower debt levels compared to the middle and
Page 31 of 54
upper class should deliver stronger top line growth compared to the
mainstream banks. In our opinion, the risk-reward profile is appealing
for investors (and not speculators!).
Possible catalysts: The possible catalysts for the share price are 1)
continued stronger loan growth, and profitability as the bank run down
its cash resources and further deploy its capital; 2) stronger recovery in
the economy that should lead to strong loan growth and material
reduction in bad debts, and 3) higher NII and transaction fee income
than we have anticipated.
The risks to our valuation: The major risks to our valuation are 1)
the exit PER is higher than a general rule of thumb of between 7X and
10X for mainstream banks, 2) we estimate our long-term growth rate at
14.9%. This is higher than the expected nominal GDP growth rate,
assuming inflation rate is contained within the target band of 3% to 6%.
Risks to share price performance in the short-term: Capitec’s
share price has rallied, and rallied strongly since January 2009. Over the
past 12 months, the share price has outperformed the Banks Index (I-
Net) and the All share index by 134.6% and 135.3% respectively. On a
year-to-date basis, the outperformance is also strong at 12% and 7%
against the Banks Index and All Share Index in that order. This out-
performance is greater when one considers that Capitec is part of the
Banks Index. (see Fig 25). In our opinion, the base of valuation is
always relative. Even the so-called ‘absolute valuation models’ are
effectively relative due to the use of the market metrics as a proxy.
(e.g. beta coefficient when calculating the CoE is relative to the market).
A de-rating by the market could be explained by this concern. Local
sector sell-off catalysed by the Goldman Sachs’ growing investigations
could also create headwinds to the price.
Capitec’s PER is trading above its historical average: The trailing
PER chart for Capitec looks intimidating. The current trailing PER at
19.7X is 42% above its long-term average PER of 13.9X. The long-term
relationship between the Banks’ Index PER and Capitec, however, seems
to be holding up. In January 2009, Capitec’s PER was 1.38X that of the
Bank’s Index. By the end of 2009, the ratio has expanded to 1.48X but
Page 32 of 54
it reduced to 1.36X currently. (see Fig 26).We doubts further multiple
expansions for both the industry, given the muted economic recovery.
Fig 25: Capitec’s share has significantly outperformed the market and could create short-term
risks to the share price
1.4
174%
Bank Index 1‐Year 38.7%
39.3%
1.3 ALSI
Capitec 60%
6‐Months 12.9%
1.2 13.5%
32%
1.1 3‐Months 6% Capitec
11% ALSI
Banks Index
1.0 27%
YTD 7%
12%
0.9
2009/12 2010/01 2010/02 2010/03 0% 50% 100% 150% 200%
Source: I-Net, Legae Calculations, prices as cob 15/04/10
Fig 26: The PER is above its average since listing, but the relationships against other banks is
holding up.
35 35
PER Capitec PER
30 Average 30 Banks Index PER
25 25
20 20
15 15
10 10
5 5
0 0
2002/09
2003/02
2003/07
2003/12
2004/05
2004/10
2005/03
2005/08
2006/01
2006/06
2006/11
2007/04
2007/09
2008/02
2008/07
2008/12
2009/05
2009/10
2010/03
2002/09
2003/02
2003/07
2003/12
2004/05
2004/10
2005/03
2005/08
2006/01
2006/06
2006/11
2007/04
2007/09
2008/02
2008/07
2008/12
2009/05
2009/10
2010/03
Page 33 of 54
Who is Capitec? Capitec Bank Holdings Limited (Capitec or the Group)
is a holding company for Capitec Bank. Capitec Bank is a registered
commercial bank that targets the micro-borrowers. The bank focuses on
providing retail banking services based on the principles of simplicity,
affordability, accessibility and personal service. Loans are granted to
employed individuals (no corporate loans) and strictly on an unsecured
basis. The average loan amount is R2,239 (FY10). Deposits are also
strictly from individuals, with the exception of ‘deposits’ raised by
issuances of bonds and from other bilateral organisations. The bank has
401 branches (FY10) and a network of 1,238 ATMs, comprising of 417
own ATMs and 821 partnership ATMs. As at the end of FY10, the bank
had no loss-making branches. New branches often turn to profit within
4 months. The 38 branches that were added in FY09 are already
profitable – a major accomplishment in our opinion!
2.2 Company analysis
Strong market position: Capitec enjoys a strong position in the lower

income segments of retail banking. It has also managed to create a
reputation and set out industry standards (e.g. paperless banking)
which, in our opinion, are important traits to reduce competitive
pressure. We believe that Capitec has developed advantageous
relationships with its customers that competitors could find difficult to
imitate in the short- to medium-term. Nonetheless, we expect growth in
both asset and profitability to slow when compared to history in the next
3 years. Our expectations are contradictory to management’s outlook on
this matter.
Profitability growth has been excellent so far: Historical
performance has been excellent with a 5-year CAGR of 33% and 46%
for income from operations and profit after tax respectively. The
profitability has been supported by a strong growth in both NII and fee
income at a CAGR of 19% and 210% in that order. In rand-terms, net
profit (before preference dividends went up from R67.4mn in FY05 to
Page 34 of 54
R449.2mn in FY10. The NII ascended from R527.1mn to R1,273.3mn
between FY05 and FY10.
Balance sheet growth supported profitability: The bank’s total
assets climbed from R805mn in FY05 to R9.5bn in FY10 – a CAGR of
64%. Given the lower penetration ratio in the low-income segment, we
expect stronger growth when compared to the industry average in the
medium term. In our view, Capitec can gain market share in two main
ways: 1) by consolidating its position in its low-income segment market
and reduce market share erosion, particularly from main stream banks
that are downscaling 2) by providing products to the relatively higher
income levels than its current market concentration, especially on the
liability side. Management has indicated that they could pursue the
relatively “well-off market”. The bank intends to open branches in more
affluent areas in order to provide convenience to its middle-income
customers. Loan and advances indicated a strong expansion, with a
CAGR of 91% between FY05 and FY10. Deposits growth was also strong
over the period with a CAGR of 101%.
Fig 27: Historical performance has been excellent
CARG
Income statement 2006 2007 2008 2009 2010 (05‐10)
Interest Income 44.1% 23.4% ‐23.5% 63.9% 45.4% 26.5%
interest expense 137.3% 74.2% 45.3% 165.8% 82.0% 96.2%
Net interest income 41.1% 20.7% ‐28.9% 47.7% 35.0% 19.3%
Net fee income 237.8% 646.6% 485.7% 58.5% 23.7% 210.7%
Non‐banking income 47.0% 22.3% 36.3% 66.6% 13.9% 36.0%
Income from operations 36.9% 27.5% 27.9% 40.0% 32.4% 32.8%
Banking expense 29.4% 21.3% 25.7% 39.5% 28.6% 28.8%
Profit after tax 71.1% 44.8% 37.2% 39.4% 40.7% 46.1%
Balance sheet
Cash and equivalents 60.5% 79.2% ‐40.8% 145.0% 69.5% 47.9%
Loan & Advances 118.7% 76.7% 151.4% 47.7% 75.2% 90.6%
Total assets 55.4% 75.2% 34.0% 69.2% 90.9% 63.8%
Deposits at amortized cost 141.8% 56.6% 75.2% 123.5% 123.1% 101.3%
Total liabilities 107.2% 56.3% 60.0% 107.3% 117.8% 87.8%
Total equity 19.1% 98.2% 8.9% 15.5% 22.9% 29.6%
Source: Company reports, Legae Calculations
Page 35 of 54
The bank’s capital position is excessive, in our view, but ample
capital should support loan growth. The bank is well capitalised, to
an extent that we are concerned by under-utilisation of the capital. In
FY09, the capital adequacy ratio was 43%. The ratio reduced to 37% in
FY10, but remains high in our view. Management’s target ratio is 25%,
and they are convinced that as a small bank they need a strong buffer.
To an extent we agree. The leverage ratio is also low at only 5.5X
(FY10) against the system’s average of 15X. The positive takeaway is
that both situations provide the bank with ample room to grow its loan
book at a higher rate than the industry.
Quality of assets - short-term loans reduces the risks: The quality
of assets is weaker when compared to the mainstream banks,
notwithstanding the defensiveness of the assets in the micro-finance
industry. For example, the loans past due/advances is 10.1% versus the
industry’s 3.9% (FY09). The ratio declined to 6.2% in FY2010.
Recoveries are however significantly higher due to the stringent
collection methods and better understanding and working relationships
with clients.
The bank writes off the total amount (capital + interest) for all loans
whose instalments are in arrears for 90 days. The impairment
charge/instalments ratio grows with tenor. For example, in FY10, the
ratio for 6-month loans was 3.8% (an improvement from 4.3% the
previous year) while for 36-month loans the ratio stands at 14.4% (an
improvement from 21.7% in FY09). (see Fig 28). We are not overly
concerned with the asset quality.
Page 36 of 54
Fig 28: impairment charges/instalments ratio has improved
60%
20%
19.0% 2010
50% 2009 50.8%
16%
40%
12%
11.6% 11.2%
30%
10.1%
21.7%
8%
20%
6.2% 12.7%
6.7% 12.7% 11.4%
14.4%
4% 4.3% 10.9% 10.8% 11.5%
10%
1.4% 5.2%
3.8%
1.4%
0%
0%
0 3 6 9 12 15 18 21 24 27 30 33 36 39 42 45 48
2006 2007 2008 2009 2010
months
Management boasts strong experience: The Chairman of the board

is the founder, and boasts strong experience in the commercial banking
industry going back to 1995. The CEO and the Financial Director joined
the group in 2000 (the founding year). Most members of the executive
committee have been with the group since 2000. Looking at the ratios
that we think provide insight to management ability, the cost/income
ratio and the efficiency ratio are showing improvements. The
cost/income ratio (banking activities) declined from 73% in FY05 to 54%
in FY10. Management’s long-term target is a maximum of 40%. This will
be achieved through both efficiency and revenue enhancement. The
Efficiency ratio improved from 74% in FY05 to 62%, just 2pp above our
preferred ratio of 60% (generally accepted as the optimal ratio). The
loan/employee and deposit/employee expanded by a CAGR of 60% and
61% respectively between FY05 and FY10, pointing to management
capability.
Revenues and earnings - transaction fee income and loan fee
income will be key: The NIM has reduced materially, from 65% in
FY05 to 13% in FY10. It is, however, still close to 10pp above the
industry average. The profitability is driven by the high interest spread
Page 37 of 54
(16% for FY2010). The contribution of the non-interest income to the
bank’s revenue has increased significantly to 50% from 11% in FY07,
showing rising volumes. (see Fig 29). This is the impact of the
increasing branch network and consequent customer volumes. For
example, savings accounts jumped by 201% from 375,000 in FY06 to
1,129,000 in FY09. Active clients stood at 2.1mn by end of FY10.
Number of loans written also climbed from 2.65mn in FY06 to 3.86mn in
FY10. In our opinion, transaction fee income and loan fee will be key for
revenue and earnings growth, given the falling interest spread.
Fig 29: Fee income contribution has improved substantially. NIM and int. spread have reduced
0% 6% 9% 12% 13% 18% 100%

100% 2% NIM
0% 90% Interest spread
90%
7%
80%
80%
70%
70%
42% 42% 36% Transaction fee 60%
60%
Loan fee 50%
50% 98% 94% NII
84% 40%
40%
30%
30%
46% 44% 46% 20%
20%
10%
10%
0% 0%
2005 2006 2007 2008 2009 2010 2005 2006 2007 2008 2009 2010
Liquidity is abundant, and asset composition is used to manage

liquidity and credit risks: High liquidity was good during the crisis
period, but we expect it to be deployed. The bank’s liquidity level is
high. Cash as a percentage of total loans and assets is 51% and 31%
respectively. The bank’s LDR at 71% (FY10) is 32pp below the system’s
average. Management’s deposit gathering strategy is centred on long-
term fixed deposits. The “fixed deposit products” now make up 16% of
the total deposits from 8% in FY09. (see Fig 30). The negative is that
some products are expensive time deposits that could depress NIM.
There is a concern of higher dependence in wholesale deposits but it is
consistent with the current industry pattern. The wholesale deposits are
Page 38 of 54
also fixed in nature, and have a minimum tenor of 6 months. Wholesale
deposit constitutes 50% of the total deposits. Retail savings type of
deposits has also increased from 32% in FY09 to 40% in FY10. In our
view the bank has plenty liquidity.
Concentration risk is insignificant on both the asset and liability
side: Concentration risk could be harmful to liquidity. Retail deposits’
concentration risk is negligible as the bank deposits gathering strategies
are not targeted at “mainstream corporate deposits”. Management
estimate the highest value from a single retail depositor at R2.8mn. On
the asset side, where concentration risk could be harmful to credit risk
exposure, it is also unimportant. Loans are spread over many small-
value borrowers.
Fig 30: Retail fixed deposits/total deposits ratio increased from 8% in 09 to 16% in 10.
1% 3%
8%
16%
wholesale wholesale
retail savings retail savings
50%
retail fixed retail fixed
51%
other other
40%
32%
About 26% (25% net) of the loan book has a maturity of 90 days or
less. Before 2010, no loan tenor exceeded 36 months, but the bank
introduced a 4-year loan in 2009. (i.e. FY10 for Capitec). This 4-year
product now constitutes 5% of the bank’s loan sales. (see Fig 31).
Page 39 of 54
Fig 31: Maturity profile of loans in Rmn and as % of total loans. High concentration on ST
2,500 35%
2,265
2008
2009
2008 30%
2010
2,000 2009 26%
1,635
2010 25%
1,500
20%
19%
1,063
1,049
1,019
R,mn
15%
1,000
12% 12%
646
12%
10%
494
473
500 7%
5% 6% 5%
‐ 0%
1m 3 m 6m 12m 18m 24m 36m 48m 0 3 6 9 12 15 18 21 24 27 30 33 36 39 42 45 48
months months
Interest rate risk analysis – The gap is positive and will benefit
from rising interest rates: The Bank’s liability duration is longer than
its asset duration. The objective of an asset sensitive balance sheet is
the flexibility in liquidity and credit risks management. Management’s
strategy of trying to reduce deposit volatility by attracting long-term
deposits intensifies the gap. R1.035bn of the R2.522bn deposits raised
between March 2008 and November 2009 carries a floating interest rate,
which is linked to the JIBAR 90-day rate. The positive gap is
unconstructive to interest rate declines as more assets are exposed to
re-pricing risk than liabilities, negatively affecting NII. The consoling
factor is that further interest rate decline probabilities have significantly
reduced, in our view. As interest rate start going up, the bank will
benefit from this positive gap.
Positive gap could aid profitability by about R36.5mn should
rates go up by 2.0%. We simulate the gap effect to NII by a 200 basis
points upward interest rate change. Our calculations indicate that the
positive gap will enhance profitability by about R36.5mn, should interest
rate rebound by 2% this year. (see Fig 32).
Page 40 of 54
Fig 32: The positive Gap will enhance profitability if interest rates rise.
<1m 1m‐3m 3m‐12m >12m

Assets, Rmn 2,680 1,663 3,151 2,013
Liabilities,Rmn ‐3,062 ‐523 ‐849 ‐3,495
Periodic Funding gap,Rmn ‐382 1,140 2,302 ‐1,482
Cumulative gap,Rmn ‐382 758 3,060 1,578
Rate change 2.0% 2.0% 2.0% 2.0%
Impact to NII,Rmn ‐7.33 12.67 31.02 0.09
Cumulative NII,Rmn ‐7.33 5.34 36.36 36.45
Balance sheet funding and dividend policy: The bank’s ability to

finance growth is important. The balance sheet is currently 78% deposit
funded (vs. 66% in FY09). As we already mentioned, the bank’s
deposits, especially loans and bonds are fairly of long-term nature,
providing stability to funding. Some of the long bonds include 1) R90mn
with 14 years to maturity 2) R250mn unlisted bond with a 12–year
tenor and 3) a R150mn 7-year bond.
Ordinary equity makes up 17% while preference shares form 2%. (see
Fig 33).
The dividend payment policy is guided by a 2.5X earnings coverage
ratio. This means a retention ratio of 60%. We believe this will be an
important source of funding for the bank’s balance sheet as well.
Page 41 of 54
Fig 33: Deposits/total liabilities and equity has increased from 66% in FY09 to 78% in FY10
2% 4%
5%
3%
17%
25%
66%
78%
Deposits Ordinary equity Preference shares Other Deposits Ordinary equity Preference shares Other
CAMEL indicators are strong, in our view: Below we present some of

the CAMEL analytical ratios. In our opinion, the CAMEL ratios are strong,
despite the fact that the bank’s asset quality is worse than the
mainstream banks. The management of bad debts is tighter and the
efficiency ratio has improved considerably. (see Fig 34)
Fig 34: Selected CAMEL ratios. The bank strong in our view
CAMEL Ratios 2005 2006 2007 2008 2009 2010 2011F 2012F 2013F
C: Total Assets/Total Equity 1.7 2.2 2.0 2.4 3.5 5.5 5.8 6.2 6.5
C: Equity/Total loans 228% 124% 139% 60% 47% 33% 29% 24% 22%
A: Recoveries/Bad debts 33% 38% 14% 17% 10% 20% 20% 20% 20%
A: Impairment charge/Loans 19% 21% 20% 11% 16% 10% 9% 8% 8%
M: Cost/Income (banking activities) 73% 66% 60% 59% 54% 54% 53% 52% 51%
M: Efficiency ratio 74% 70% 66% 66% 61% 62% 63% 62% 62%
E: NIM 65% 59% 41% 22% 19% 13% 13% 13% 12%
E: Fees and comm./Op. income 1% 2% 11% 51% 52% 50% 50% 50% 50%
L: Loans/Deposits 74% 76% 90% 132% 90% 71% 75% 85% 90%
L: Cash & Equiv./Total assets 45% 47% 48% 21% 30% 27% 25% 20% 18%
Source: Company reports, Legae Calculations. Total Equity includes preference equity
Page 42 of 54
ROE decomposition: Our ROE calculations show a different ROE, lower
than reported by the company. We calculate our Du-Pont ROE based on
year-end figures instead of average values or beginning values. While
average and beginning values are theoretically more robust for purposes
of performance measurement, ending values are consistent with
industry practice. The equity multiplier increased from 1.7X in FY05 to
6X in FY10 while the ROA has gradually decreased from 8% in FY05 to
5% in FY10. The asset turnover component of the ROA has fallen faster
than the expense ratio between FY05 and FY10, hence the falling ROA.
The ROE improved from 14.2% in FY05 to 28.6% in FY10 due to the
rising equity multiplier. We expect the ROE to increase slightly to 31.8%
by FY13 due to further leverage. (see Fig 35)
The interest spread has declined from 89% in FY05 to 16% in FY10. We
expect the spread to reduce to 13% by FY13. (see Fig 35).
Fig 35: ROE decomposition and interest rate spreads. Leverage has been constructive to ROE.
2005 2006 2007 2008 2009 2010 2011F 2012F 2013F

Operating income/Total assets 61% 54% 39% 37% 31% 21% 21% 21% 19%
Expenses/Total assets ‐49% ‐40% ‐28% ‐26% ‐22% ‐15% ‐14% ‐14% ‐13%
Taxes/Total assets ‐4% ‐4% ‐3% ‐3% ‐3% ‐2% ‐2% ‐2% ‐2%
ROA 8% 9% 8% 8% 6% 5% 5% 5% 5%
Total Assets/Equity 1.7 2.2 2.3 2.8 4.0 6.0 6.3 6.6 6.8
ROE 14.2% 20.4% 17.3% 21.6% 25.5% 28.6% 31.5% 32.9% 31.8%
Interest spread
Interest income/Earning assets 95.3% 75.6% 52.4% 28.1% 27.0% 22.6% 23.0% 22.5% 21.3%
Int. expense/Int. bearing liabilities ‐6.0% ‐6.7% ‐7.8% ‐6.6% ‐8.1% ‐6.7% ‐8.0% ‐8.3% ‐8.3%
Interest spread 89.3% 68.9% 44.6% 21.4% 18.9% 16.0% 15.0% 14.3% 13.0%
Source: Company reports, Legae Calculations. Equity excludes preference equity
Expense decomposition: Looking at the bank’s cost structure, the

major highlight is the increase in the interest expense/total assets ratio
from 2.1% in FY05 to 5.4% in FY09. The ratio declined marginally in
FY10 to 5.2%. The provisions/total assets ratio also went up to 9.4% in
FY09 from 7.9% in the previous year, but reduced significantly in FY10
to 5.8%. The non-interest expense/total assets ratio improved from
24.3% in FY09 to 16.7% (see Fig 36)
Page 43 of 54
The cost/income ratio (banking activities) remained constant at 54%
(compared to FY09) although it has improved substantially from the
73% level in FY05. We expect the cost/income ratio to continue to
decline gradually on efficiencies and rising revenues and settle at 51%
by FY13. We calculate the efficiency ratio at 62% for FY10, just 2pp
above the generally accepted 60%. Loans per branch ratio increased
from 1.039mn in FY05 to R13.03mn in FY10. Deposits per branch also
went up materially from R1.403mn to R18.305mn. However, in
percentage terms, loans and deposits grew by a higher CAGR than the
loans/branch and deposits/branch ratios respectively.
Fig 36: Expense decomposition, liquidity and efficiency ratios
Expense Decomposition 2005 2006 2007 2008 2009 2010 2011F 2012F 2013F
Interest expense/Total assets ‐2.1% ‐3.2% ‐3.2% ‐3.5% ‐5.4% ‐5.2% ‐6.3% ‐6.5% ‐6.6%
Non‐interest expense/Total assets ‐48.9% ‐42.3% ‐30.4% ‐29.0% ‐24.3% ‐16.7% ‐16.7% ‐16.2% ‐15.5%
Provision/Total assets ‐4.9% ‐7.6% ‐7.4% ‐7.9% ‐9.4% ‐5.8% ‐5.3% ‐5.6% ‐5.6%
Liquidity ratios
LDR 74% 76% 90% 132% 90% 71% 75% 85% 90%
Cash and equivalents/loans 174.5% 128.1% 129.9% 30.6% 50.8% 49.1% 43.2% 29.5% 24.8%
Cash & equivalents/Total assets 45.1% 46.5% 47.6% 21.0% 30.5% 27.1% 25.5% 19.9% 17.7%
Efficiency ratios
Efficiency ratio 74% 70% 66% 66% 61% 62% 63% 62% 62%
Deposits/employee, rand,000 164 313 421 546 972 1,772 2,295 2,974 3,704
Loan/employee, rand,000 122 239 377 721 873 1,258 1,722 2,528 3,334
Loan/branch,rand,000 1,039 1,797 2,869 6,100 8,214
13,030 15,912 22,496
29,154
Deposits/branch, rand ,000 1,403 2,352 3,202 4,617 9,137
18,355 21,216 26,466
32,393
Page 44 of 54
1.3 Financial Forecasts and Valuation
1.3.1 The basis of our valuation
Revenue and earnings outlook: Capitec’s earnings have grown

strongly from FY05 to FY10, with a CAGR of 46%. Management
indicated that there is consideration to entering markets outside South
Africa when they build optimal management capacity. We believe that
expansion into international markets is not a medium-term matter
hence we do not incorporate such likelihood in our revenue and earnings
estimates. We expect earnings growth rate to slow, but to continue to
be above industry average.
We assume that interest spread will narrow: We estimate yields on
interest earning assets to reduce from 23% to 21% by FY13. We expect
interest expense-to-interest paying liabilities ratio to rise marginally
from the current 6.7% to 8.3% by FY13. Within our forecast period, we
do not expect mainstream banks to have had made material
encroachment into the industry, hence the gradual narrowing of the
interest spread.
We expect loan fee income as a ratio of loans to moderate: The
loan fee income/total loans ratio was 18.9% for FY10. We reduce it to
15% for FY11 and 13.0% for FY12 and FY13.
Transaction fee as a ratio of loans and deposits should remain
stable: We did not alter this ratio materially. In FY10 it was 4%. We
slightly reduced it to 3.8% for FY11 and FY12 and kept it at 4% for
FY13. We believe that the bank has little room to increase its fee
charges, but the resilience of this ratio is motivated by management’s
eagerness to increase customer numbers and transactions.
Our impairments/loan ratio humped in FY2011 at 12% and
reduced to 10% by FY13: The impairment/loan ratio was 15.7% in
FY09, and reduced to 10.5% in FY10. We believe that impairments will
peak this year at 12% and recede to 10% thereafter. Some “bad stuff”
could still come through given the loft growth in loans in FY10 and this
year.
Page 45 of 54
We increased banking costs/deposit ratio on management’s
guidance of increased headcount: Management is of the view that
efficiency will be key in protecting its market share. Key to efficiency is
IT costs and human resources. The ratio is 14.3% for FY10, and we
increase it to 17.8% for FY11 before dropping to 17% and 16% for FY12
and FY13 respectively.
Deposit growth to reduce but remain “high” and LDR to be
capped at 90%: We reduced deposit growth rate materially, because
1) the industry liquidity position is worsening 2) some competition in the
micro-finance industry, albeit low, but building up, and 3)
management’s indications that they might not need to raise funds
through bond issues this year. Given the bank’s conservative liquidity
principles, we capped the LDR at 90% for our forecast period.
Major assumptions: Fig 37 below highlights our major forecasting
assumptions. Fig 38 shows our earnings model.
Fig 37: Salient assumptions
2005 2006 2007 2008 2009 2010 2011 2012 2013

Interest income/Earning assets 95.3% 75.6% 52.4% 28.1% 27.0% 22.6% 23.0% 22.5% 21.3%
Interest expense/Earning liabilities 6.0% 6.7% 7.8% 6.6% 8.1% 6.7% 8.0% 8.3% 8.3%
Loan fee income/Loans 5.5% 0.0% 9.6% 28.5% 30.1% 18.9% 15.0% 13.0% 13.0%
Transaction fee income/Loans & Deposits 0.0% 4.2% 5.5% 4.7% 4.5% 4.0% 3.8% 3.8% 4.0%
Fee expense/deposits ‐2.5% ‐4.9% ‐6.6% ‐5.9% ‐4.3% ‐2.9% ‐3.5% ‐3.5% ‐3.5%
Deposit growth n/a 141.8% 50.7% 70.4% 117.1% 121.9% 30.0% 30.0% 25.0%
Deposits/TA 27.6% 43.0% 38.4% 50.3% 66.4% 77.6% 78.7% 79.2% 79.5%
Loan/Deposit ratio 74.1% 76.4% 89.6% 132.1% 89.9% 71.0% 80.0% 85.0% 90.0%
Impairment charge/loans ‐18.9% ‐21.0% ‐20.1% ‐11.4% ‐15.7% ‐10.5% ‐12.0% ‐10.0% ‐10.0%
Page 46 of 54
Largely, our forecasts are based on conservative assumptions.
Major income statement and balance sheet lines show significant
reductions from historical levels. This strengthened our conviction on
long-term earnings outlook versus the valuation argument we presented
before.
Fig 38: Our forecasts are materially lower than history
2009 2010 2011F 2012F 2013F

Net Interest income 47.7% 35.0% 25.5% 28.6% 18.1%
Net fee income 58.5% 23.7% 25.2% 27.6% 20.0%
Operating income 40.0% 32.4% 27.4% 25.5% 17.5%
Profit After tax 39.4% 40.7% 35.3% 27.9% 17.6%
Loans and Advances 47.7% 75.2% 37.3% 47.3% 32.4%
Total assets 69.2% 90.9% 28.1% 29.2% 24.6%
Total deposits 123.5% 123.1% 30.0% 30.0% 25.0%
Total liabilities 107.3% 117.8% 29.8% 30.9% 25.4%
Total equity 15.5% 22.9% 20.6% 20.9% 20.3%
Earnings model: We forecast income from operations at R3.8bn for

FY13 and we expect profit for the year to be R913mn by that year.
Fig 39: Earnings model

2005 2006 2007 2008 2009 2010 2011F 2012F 2013F
Interest income 543,982 783,902 967,528 740,063 1,212,896 1,763,966 2,363,267 3,080,953 3,709,783
Interest expense ‐16,890 ‐40,079 ‐69,836 ‐101,449 ‐269,621 ‐490,636 ‐765,474 ‐1,026,213 ‐1,282,767
Net interest income 527,092 743,823 897,692 638,614 943,275 1,273,330 1,597,794 2,054,740 2,427,017
Net fee income 4,423 14,942 111,557 653,400 1,035,709 1,281,573 1,604,505 2,046,985 2,456,692
Loan fee income 11,338 ‐ 76,943 574,584 897,502 986,199 1,076,448 1,374,504 1,819,196
Transaction fee income ‐ 44,314 93,671 168,361 281,548 507,438 862,952 1,107,844 1,181,700
Fee expense ‐6,915 ‐29,372 ‐59,057 ‐89,545 ‐143,341 ‐212,064 ‐334,895 ‐435,363 ‐544,204
Dividend income 75 1,015 1,469 15,392 1,099 519 ‐ ‐ ‐
Net impairment charge ‐39,249 ‐95,625 ‐161,271 ‐230,879 ‐467,727 ‐547,731 ‐638,128 ‐879,108 ‐1,095,319
Net movement in financial instruments ‐6,001 1,431 ‐857 7,818 2,197 1,011 ‐ ‐ ‐
Non‐banking gross profit 4,464 6,563 8,025 10,938 18,218 20,750 21,903 22,999 24,149
sales 118,039 131,368 134,888 159,122 208,915 208,604 219,034 229,986 241,485
cost of sales ‐113,575 ‐124,805 ‐126,863 ‐148,184 ‐190,697 ‐187,854 ‐197,131 ‐206,987 ‐217,337
Other income 6 4 75 8 280 43 ‐ ‐ ‐
Income from operations 490,810 672,153 856,690 1,095,291 1,533,051 2,029,495 2,586,074 3,245,615 3,812,538
Banking operation expense ‐386,589 ‐500,075 ‐606,705 ‐762,540 ‐1,063,672 ‐1,368,324 ‐1,698,395 ‐2,114,621 ‐2,487,790
Non‐banking operating expense ‐5,172 ‐5,965 ‐6,808 ‐8,405 ‐12,696 ‐18,815 ‐19,713 ‐20,699 ‐19,319
Operating income before tax 99,049 166,113 243,177 324,346 456,683 642,356 867,966 1,110,295 1,305,430
Income tax expense ‐31,670 ‐50,832 ‐76,253 ‐95,281 ‐137,351 ‐193,132 ‐260,390 ‐333,088 ‐391,629
Profit for the year 67,379 115,281 166,924 229,065 319,332 449,224 607,576 777,206 913,801
Page 47 of 54
1.3.2 Valuation and Recommendation
Valuation – our 12-month price target is R122: We use the

Justified PER method as our primary valuation model. It provides a fair
value of R122 per share. We use the CoE of 17.5%, a sustainable ROE
of 24.9% and a growth rate of 14.9% to get our Justified PER of 17.8X.
We multiply the PER by our FY11 EPS forecast of 683 cents to get our
price target of R122. This offers a potential capital gain of 20.4%. We
estimate the forward dividend yield at 2.7%, expanding the potential
return to 23.1%.
Cost of Equity estimation: We estimate the CoE at 17.5%, being sum
of the risk free rate of 8.60% (R207 yield), the equity risk premium of
6% and the company specific risk premium of 2.9%. This compares
satisfactorily against a 17.6% implied by the DDM.
ROE and sustainable growth rate inferences: We calculate our
sustainable ROE as the average from FY05 to FY13 (24.9%). We
estimate the sustainable growth rate (14.9%) as the product of our
sustainable ROE and the retention ratio of 60%.
TV estimation for our DFE method: We grow our FY13 earnings by
our growth rate (14.9%) and capitalise it by our exit PER of 13X.
Our secondary method shows lower upside potential: Our
secondary valuation method, the DFE produces a fair value of R113. We
use the CoE of 17.5% to discount future earnings. This fair value
provides a potential total return of 14.7%.
Page 48 of 54
Fig 40: Justified PER method
Payout Ratio 40.0%
Cost of Equity 17.5%
LT growth rate 14.9%
PER 17.8
2011 EPS 6.83
Value Per share 122
Current share price 101.0
Potential capital gain 20.4%
Dividend yield 2.7%
Potential total return 23.1%
Fig 41: The DFE valuation model
2011 2012 2013 Terminal Value

Earnings 567,071 725,393 852,881
Terminal Value n/a n/a n/a 12,741,394
Total Earnings 567,071 725,393 852,881 12,741,394
Present Value of Earnings 482,613 525,409 525,744 7,854,225
Value 9,387,992
Value per share 113.1
Current price 101.0
Potential capital gain 12.0%
Dividend yield 2.7%
Potential total return 14.7%
Implied PER 22.2
Number of shares 82,983.0
Cost of Equity 17.5%
Terminal Value ‐ Exit PER method
Exit PER 13.0
Terminal Value 12,741,394
Excess or Abnormal earnings analysis
2011 2012 2013
Forecast earnings 607,576 777,206 913,801
Total Equity 2,084,059 2,519,294 3,031,022
Cost of equity 364,710 440,876 530,429
Excess earnings 242,866 336,330 383,372
PV of excess earnings 206,694 243,607 236,323
Source: Company reports, Legae Calculations. Total equity includes preference equity.
Page 49 of 54
1.4 Corporate Governance and Other ESG Issues
We note the following about the Board and other Committees.
The Board is dominated by non-executive directors with only 2 out

of 10 being executive directors;
The Directors’ Affairs Committee is responsible for the recruitment
and selection of new directors. All non-executive directors are
members of the committee. The Chairman of the Board chairs this
committee.
A third (1/3) of the board retires each annual general meeting and
is subject to re-election;
The Audit Committee is chaired by an independent non-executive
director with a minimum of 5 years banking experience.
The board meets 6 (six) times per annum.
Our impression and conclusion on governance: In our opinion, the

board’s non-executive majority conforms to best principles of corporate
governance. The Directors’ Affairs Committee provides independence in
selection of directors to a reasonable extent. The separation of the
Chairman and the CEO duties affords the balance of power. The Audit
Committee’s Chairman should be an experienced banker, which in our
opinion is important, in addition to being non-executive. The Board
possesses strong experience and capacity to lead strategy development.
Directors’ and Associates of directors’ dealings in Capitec shares:

Below we highlight material dealings by the Bank’s directors or their
associates for the recent six months. Given the obvious information
asymmetry between investors and management, the latter’s actions
may provide some material information, in our view.
8 April 2010 - CEO’s associate sell shares worth R10.55mn
at 105.5 per share: An associate of Mr R Stassen, the CEO sold
100,000 shares at a price of R105.5. The value of the deal was
Page 50 of 54
R10.55mn. Following this sale, the share price remained resilient
and closed the day at R106.
15 January 2010 – Non Executive Director, Mr MC Mehl sold
16,000 shares at R76 for a total consideration of R1.126mn.
17 December 2009 – CEO sold 30,796 shares for a total value of
R3.679mn.
24 November 2009 - Associate of CFO sold 4,800 preference
shares for a total value of R412,800.
11 November 2009 CEO’s associate sold shares for a total value of
R5.919mn
Between November 2009 and now, we fail to pick up any
material purchase of shares by directors in the open
market.
Fig 42: The Board is strong and experienced in our opinion.

Name Position Experience Age (years) Qualification
Founder of the group and was CEO of the bank until 2004. He was
M Scholtz du pre Roux Chairman held Managing Director positions for Distillers Corp, Boland PKS, 60 B.Comm, LLB
NBS Boland and BoE Bank
He is Chairman of Triple L Academy. Serves on several boards.
M Claude Mehl Non‐Executive He was chancellor of Peninsula Technikon ad CE of Independent 67 PhD Physics
Development Trust.
She runs her own investment company. She was advisor to the
N Mjoli‐Ncube Non‐Executive Deputy President of South Africa. She sits on the boards of Cadiz 51 MA
holdings, Wilson Bayly, Pioneer Foods and WBHO among others.
He is an Executive Director of stockbrokers Independent
J Goerg Solms Non‐Executive 54 B.Acc, CA(SA)
Securities Holdings. A member of the JSE since 1981
He is an experienced retail banker. Worked for Boland Bank,
J P van der Merwe Non‐Executive 61 BA, CA
Volkskas Bank and Bankorp and ABSA
He is CEO Pan African Infrastructure Development Fund and
deputy Chairman of Circle Capital ventures. He boast more than
T D Mahloele Non‐Executive 15years of experience in project finance, private equity and 43 B Proc
corporate finance. He worked for PIC,DBSA, CDC, Rand Merchant
Bank and National Breweries.
He is an Executive Director of PSG Group. Serves as Non‐
P J Mouton Non‐Executive executive director of Thembeka Capital, a BEE controlled 33 B Maths
investment company.
He was an Executive Director of PSG Group since its formation
C A Otto Non‐Executive and assumed non‐executive position since Feb. 09. He has been 60 B Comm, LLB
a non‐executive of Capitec since its formation
BCOmm (Hons) ,
R Stassen Chief Executive Joined as MD in 2000 and was appointed CEO in 2004. 56
CA (SA
Joined Capitec in 2000 as an Executive Officer in Financial
Management. Was appointed FD in 2002. Worked for Boland
A P du Plessis Financial Director 48 B Comm, CA(SA)
PKS, NBS Boland and was a partner at Arthur Andersen from 1986‐
1996
Source: Company reports
Page 51 of 54
Other ESG issues: Management indicated to us that they are aware,
and they take cognisance of ESG issues. The fact that the banks plays
in the micro-finance sector, providing banking services and access to
finance to the so-called “unbanked and unbankable” by the mainstream
banks has significant social implications, to include poverty alleviation
and empowerment of poor societies. Employee skills development is also
a key factor in sustainability, and all new recruits at Capitec go through
five-week training. The Capitec Bank Bursary Scheme provides financial
support to employees who intent to obtain secondary and tertiary
education in relevant business disciplines and IT.
Environment-wise, the operations have limited impact. Lending is
centred on individuals and not directly to projects that can materially
impact the environment.
Loan providers such as Norfund and FMO also monitor ESG
issues: In our view, the above loan providers offer an “external auditor”
role in terms of compliance with the ESG investment policies. We believe
the bank ranks fair in most ESG issues.
Page 52 of 54
Disclosure & Disclaimer
Legae Securities (Pty) Ltd
Member of the JSE Securities Exchange
1st Floor, Building B, Riviera Road Office Park, 6-10 Riviera

Road, Houghton, Johannesburg, South Africa
P.O Box 10564, Johannesburg, 2000, South Africa
Tel +27 11 551 3601, Fax +27 11 551 3635
Web: www.legae.co.za, email: research@legae.co.za
Analyst Certification and Disclaimer

I/we the author (s) hereby certify that the views as expressed in this
document are an accurate of my/our personal views on the stock or sector
as covered and reported on by myself/each of us herein. I/we furthermore
certify that no part of my/our compensation was, is or will be related,
directly or indirectly, to the specific recommendations or views as expressed
in this document
This report has been issued by Legae Securities (Pty) Limited. It may not be
reproduced or further distributed or published, in whole or in part, for any
purposes. Legae Securities (Pty) Ltd has based this document on information
obtained from sources it believes to be reliable but which it has not
independently verified; Legae Securities (Pty) Limited makes no guarantee,
representation or warranty and accepts no responsibility or liability as to its
accuracy or completeness. Expressions of opinion herein are those of the
author only and are subject to change without notice. This document is not
and should not be construed as an offer or the solicitation of an offer to
purchase or subscribe or sell any investment.
Important Disclosure
This disclosure outlines current conflicts that may unknowingly affect the
objectivity of the analyst(s) with respect to the stock under analysis in this
report. The analyst(s) do not own any shares in the company under analysis.

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April 19 2010 Equity Report

RECOMMENDATION CAPITEC BANK

32% could grow to R500bn by 2012. The Loan-to-deposit ratio

0% 50% 100% 150% 200%

1.1 We loath high penetration, but we like high H-Index 5

1.2 Credit risks: Slower NPL formation to aid profitability 11

1.3 Liquidity risks: Funding gap is increasing 15

1.4 Capital risks: Adequate capital levels 19

1.5 Profitability: We carry loan growth worries 20

1.6 Why the micro-market could be the winner 23

1.7 The macro story: So far so good 27

2.1 Capitec Bank: Initiating with a BUY 31

2.2 Company Analysis 34

2.3 Financial Forecasts and Valuation 45

2.4 Corporate governance and other ESG issues 50

 Initiating with a BUY, our 12-month price target is R122: We

The South African banking industry is highly penetrated. Both the

Nigeria Turkey Russia Brazil Chile RSA

Source: IMF, UNCTAD, Bloomberg, SARB, Legae Calculations

Source: SARB, Legae Calculations

Source: SARB, IMF, Legae Calculations

Despite the relatively poor profile of the South African borrower,

60% 2,500 115%

Source: SARB, Legae Calculations

Source: SARB, Legae Calculations

South Africa’s three major loan growth factors screen poorly, in

The system’s credit quality deteriorated starting CY07. Credit

Fig 6: Overdue accounts/advances went up in 2008... ...and in rand-term it reached R87.3bn

2004 2005 2006 2007 2008

Source: SARB, Legae Calculations

20% 41.4% 41.9% 44.5%

Source: SARB, Legae Calculations

25% 26% 30%

Source: SARB, Legae Calculations

Source: SARB, Legae Securities

Source: SARB, Legae Calculations

Source: IMF, UNCTAD, SARB, Legae Calculations

Interbank assets increased from CY04 levels, but reduced in

Fig 12: Interbank assets/total deposits ratio Non-residents deposits/total deposits

2003 2004 2005 2006 2007 2008 2009

Source: SARB, Legae Calculations

Source: SARB, Legae Calculations

Profitability was strong between 2004 and 2008. The system

Source: SARB, Legae Calculations

Average system NIM is 3.3%. System NIM has shown a steady

Source: SARB, Legae Calculations

Major long-term profitability factors screen indifferently. The

System earnings could rebound impressively this year. We,

1.6 Why the micro-market could be the winner?

The micro-finance institutions principally provide financial services to

Fig 16: The Banking phases and relationships to income levels

Phase 1 Phase 2 Phase 3 Phase 4

• Savings and loan accounts • Current accounts • Credit cards • Wealth mngmnt

Source: Legae Securities

Source: FirstRand results presentation, Legae Calculations

Defensiveness of assets: Micro-banks’ assets tend to be defensive

There are risks nonetheless. The major risks we perceive are:

0.0% EM 6.1% 2.1% 6.0% 6.3%

Source: IMF, Bloomberg, Legae Calculations

...and GDP recovery should see some recovery in loans

0.15 0.03 2.0

2000 2001 2002 2003 2004 2005 2006 2007 2008

Initiating with a BUY, our 12-month price target is R122: We

The Board is dominated by non-executive directors with only 2 out