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Last Updated : Jun 01, 2018 09:24 AM IST | Source: Moneycontrol.com

Indostar Capital: A reasonably priced long-term bet

Indostar reported a subdued yet healthy earnings, with above industry average RoA of 3.5 percent, supported by high margins and low credit cost

Neha Dave @nehadave01
 
 
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Indostar Capital Finance, the latest non-banking finance company (NBFC) to list in May, posted subdued earnings growth with profit increasing by 6 percent on year for FY18. This was in line with our expectation. The management had earlier guided to rising operating expenses as it builds its distribution network.

Earlier in May, Indostar had raised about Rs 1,844 crore through its initial public offer (IPO). The company raised Rs 700 crore of fresh capital, in addition to an offer-for-sale from promoters and existing shareholders amounting to Rs 1,144 crore.

FY18 earnings at a glance

The company’s loan book stood at Rs 6,207 crore as at the end of March. Corporate lending constituted 74 percent of its total book, while loans to small and medium enterprises (SME) stood at 26 percent in the period under review. Going forward, the loan mix will slightly change as the NBFC has just forayed into vehicle and housing finance. The management intends to disburse around Rs 300 crore per month in new focus segments of housing, vehicle and SME.

Net interest income (NII, difference between interest income and expense) increased 14 percent YoY, led by 18 percent YoY growth in loan book, but partially offset by a slight  compression in net interest margin (NIM) to 6.3 percent.Despite the cost of borrowing reducing to 8.8 percent in FY18 from 10.3 percent in FY17, NIMs declined as yields softened on lender’s foray into low margin products like housing finance.

 Indostar Q4 fin

Operating expenses almost doubled on year pushing up the cost-to-income ratio to 29.6 percent, an increase of 1,200 bps YoY. With focus on new segments - vehicle and housing finance, Indostar started building retail infrastructure for the same. Expenses surged as the NBFC opened around 84 new branches during the fiscal. The management intends to open more branches only after achieving breakeven in newly launched branches. We expect operating expense to remain elevated in the near future as expenses on branches opened in the second half of FY18 gets fully recognised in FY19. Operating leverage will kick in with growth in the asset book improving profitability.

Indostar key ratios

The lender continued to maintain strong asset quality, with gross and net non-performing assets at 1.3 percent and 1.1 percent, respectively, as at end of March. Accordingly, loan loss provisions declined 28 percent YoY. The lender adheres to strong credit appraisal and risk management processes, especially in the real estate segment, which helps keep a check on asset quality.

Overall, Indostar reported a subdued yet healthy earnings, with above industry average return on assets (RoA) of 3.5 percent, supported by high margins and low credit cost. While the focus on new segments - vehicle and housing finance - is expected to put slight pressure on return ratios in the near term, we view the move as desirable as it will de-risk its loan portfolio. We don’t expect any significant fall in return ratios since scaling up in these segments will be gradual and measured. We expect RoE to improve gradually as the lender leverages capital raised in growing its asset book.

Valuation and outlook

The stock hasn’t moved much since its listing. At the current market price, the stock is trading at 2.1 times trailing book value. For a NBFC with a strong earnings growth potential and ability to generate RoA between 3.5 percent and 4 percent, valuation seems pretty reasonable. On a relative basis, valuations looks undemanding when compared to well-established NBFCs operating in the retail lending space. Given the sectoral tailwinds, experienced management along with a well-capitalised balance sheet, Indostar is well poised for the next leg of growth. It is a great long-term bet available at a reasonable price.

For more research articles, visit our Moneycontrol Research page
First Published on Jun 1, 2018 08:57 am
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