NBFCs justify high valuations; buy Bharat Fin: Digant Haria

Bharat Financial has a strong network across rural market in India and it will be a win-win if a bank like IndusInd Bank is able to acquire it, says Digant Haria, Antique Stock Broking.Haria anticipates more actions in the micro finance (MFI) sector and expects some big ticket acquisitions to take place as investors of small finance institutions are more open to getting acquired by larger banks.Among stocks in the sector, Haria tells CNBC-TV18, he is positive on Bharat Financial, which is a buy with a target of Rs 860. NBFCs justify their high valuations, he says, adding, they trade at a higher multiple than most private banks because of higher growth rate and return ratios.Below is the verbatim transcript of Digant Haria’s interview to Anuj Singhal, Latha Venkatesh & Sonia Shenoy on CNBC-TV18.Sonia: We were anticipating that the Bharat Financial Inclusion deal would take place over the weekend, but that has actually not come through so tell us hypothetically if and when that deal does come through how have you read into the limited data that we have so far and what is your positioning on the stock?A: Firstly, on the positioning on this stock, we have been a buy on the stock all through last many years even through the thick and thin of the demonetisation. We always thought that Bharat Financial is a very strong distribution franchise in India, one of the largest rural franchise you can get. So, definitely for IndusInd Bank or any other bank if they can manage to acquire someone like a Bharat Financial that is always a very good win-win situation. A stock like Bharat Financial you can probably only acquire when there is shock like demonetisation because the investors today think that everything is right with the microfinance sector except the political risk like how do you deal with the political risk.We saw that Maharashtra, Uttar Pradesh has lot of political interference for these microfinance companies. So, now Bharat Financial won’t be the only one. You will see a wave of merger & acquisition activity happening in the microfinance space. Some of it has already happened, so NBFCs like Manappuram Finance, Muthoot Finance, IIFL, IDFC Bank they have all gone out and acquired small micro finance companies. But the bigger ones you will see some action now because the investors are now more opened to getting their companies acquired by larger banks. Anuj: From stock point of view these stocks – some of them are trading at higher valuations than some of the top notch private banks, so is the risk reward still favourable even if the M&A buzz continues?A: If somebody has to invest in a standalone Bharat Financial today without this merger thing I think it is reasonably priced. We have a target of around Rs 860, so that does not leave upside in the near term. But if somebody has to take a long view may be two year- three year view I think it still makes sense. You have a stock which is growing at 40-50 percent which has return on assets (ROAs) of around 5 percent. So, you look at a private bank like IndusInd Bank. Their ROAs are closed to 2 percent, SKS Micro Finance ROAs are closed to 5 percent. Margins which IndusInd has is around 4 percent. Margins which Bharat Financial enjoys is closed to 12-13 percent.Plus, Bharat Financial has a huge tax shield, so they had written off around Rs 1,400 crore during the Andhra Pradesh crisis. Some of their tax shield is still available, so it is quite natural that they will trade at a higher multiple than the private banks because the growth is higher, the return ratios are higher. They are ideal acquisition candidates if at all they decide to sell themselves to these private banks. So, I don’t think that some high valuations of NBFCs aren’t justified. Yes in some pockets they aren’t justified, but some pockets they are fine.