Hudco IPO: A low risk shelter for investors
In the loan book of Rs 36,386 crore - around 31 percent comprises loan to the housing sector and the rest for infrastructure. Close to 90 percent of loans have been granted to state governments and their agencies. Besides being an entity of the government that lends a lot of comfort to the investors, Hudco enjoys several other tailwinds.
Housing and Urban Development Corporation (Hudco) a wholly-owned Government Miniratna company is coming out with a public issue to divest 10 percent government stake. The company with more than 46 years of experience provides loans for housing and urban infrastructure projects in India is catering to areas with a promising future. Albeit the past baggage of non-performing loans and the slow growth, the valuation of the issue at 1.3X FY17 book makes it an attractive proposition for investors.
Hudco’s initial public offer of 20.4 crore shares (amounting to Rs 1,224 crore at the upper end of the price band) hits the market in Monday, May 8, and will be open for subscription till May 11. The price band is Rs 56 to Rs 60 per share. After reserving shares valued at Rs 23 crore for its employees the net offer to the public is Rs 1201 crore-Rs 600 crore for QIB, Rs 180 crore for HNIs and Rs 420 crore for retail. A discount of up to 5 percent on the issue price would be given to retail investors and Hudco employees.
In the loan book of Rs 36,386 crore - around 31 percent comprises loans to the housing sector and the rest for infrastructure. Close to 90 percent of loans have been granted to state governments and their agencies. Besides being an entity of the government that lends a lot of comfort to investors, Hudco enjoys several other tailwinds.
Increasing urbanization: Urban India is witnessing a massive inflow of working population. Hence, the requirement and investment in urban infrastructure is going to grow by leaps and bounds. In urban infrastructure, Hudco caters to several segments like water supply, sewerage, drainage, road etc and is well positioned to capitalise on the growth in the segment.
Housing for All: This migration to urban India is leading to a shortage of housing and according to government data, the shortage in urban housing between FY12 and FY17 was estimated at close to 19 million dwellings. Under the ‘Housing for All’ scheme, the government plans to build 20 million urban homes and 30 million rural homes by 2022. An attractive subsidy scheme has also been launched to make the dream of owning a house a reality. While Hudco has a limited retail presence through Hudco Niwas, it participates actively in housing projects in areas of social housing and residential real estate.
Competitive Cost of Borrowing: Hudco holds a credit rating of AAA, the highest credit rating, for long-term borrowings, which lowers its cost. The government has permitted the company to issue tax-free bonds from time to time. Hudco also has access to foreign currency loans from bi-lateral and multi-lateral agencies thereby diversifying its funding base.
Superior Margin Profile: Since September 2015, in order to reduce interest rate and liquidity risks, Hudco has been incentivising state governments and their agencies to avail fixed interest rate loans for all loans except Hudco Niwas by keeping the fixed interest rates lower than floating interest rates. These moves coupled with competitive funding costs has helped in spread management and the company has net interest margin in excess of 4 percent.
Healthy Provision Coverage: Lending to the private sector did not quite work well for the company. Provisions have been high on account of slippages in the private sector portfolio. From April 2013, the Board has decided to adopt a low-risk model of lending only to state government and their agencies. While provisioning will remain high till FY18, it is expected to decline from FY19 and will be a big driver of earnings. Provision coverage ratio stands at a healthy 79 percent now.
Poor Return Ratios to Reverse Once Leverage Improves: The excessive capital (capital adequacy ratio at 63.7 percent) and low leverage has depressed the return ratio (return on equity at 7.6 percent). Since there is no fresh equity infusion in this public offer and the company will leverage as it grows its loan book, and provision will gradually decline with the change in lending strategy, return ratios should improve going forward.
Attractive Valuation: The asset quality picture doesn’t really excite with gross and net NPL at 6.8 percent and 1.5 percent, respectively. Loan growth of 9 percent CAGR between FY14 and FY16 is also a tad subdued perhaps weighed down by past asset quality issues. However, the valuation of the issue at 1.3X FY17 book adequately captures these concerns and leaves enough on the table for the investors.