On an upward trajectory Well-equipped for growth; return ratios on an uptrend
* We met the management of Mahindra & Mahindra Financial Services (MMFS) and came back encouraged by on-the-ground developments in its markets.
* Being one of the most widely levered NBFCs to the rural economy, MMFS is witnessing a clear turnaround in both growth and asset quality, with two successive normal monsoons (2016 & 2017) as well as the government’s focus on rural spending.
* Over the past five years, MMFS has almost doubled its branch count – however, most branches are yet to reach full potential. As the company looks to sweat its branch potential with an improving business environment, we expect 15-18% AUM CAGR over the medium term. In addition, credit costs are expected to decline ~100bp over the medium term from ~3% witnessed in FY17.
With the recent capital raise of INR21b, MMFS
is well equipped to support strong loan growth over the medium term. We increase FY18-20 BVPS estimates by 15-20%, while our EPS estimates are largely unchanged. We roll over our numbers to FY20E to arrive at a target price of INR562 (SOTP-based). BUY. Increased farmer cash flow bodes well for MMFS Over FY12-16, total agricultural production declined 3%, driven by 2% decline in agricultural area under production coupled with less-than-average rainfall in three out of the four years. This resulted in subdued farmer cash flows despite higher MSP for most crops. Consequently, MMFS’ AUM growth declined sharply from 37% in FY12 to 11% in FY16. At the same time, GNPL ratio increased from 3% to 8%+. However, in FY17, agricultural production increased 9% coupled with 6.6% WPI inflation. MSP increase for wheat/rice was 4%/7% in FY17, resulting in better cash flows for farmers. In addition, the farm loan waivers could provide respite to stressed farmers. This drove improvement in operating performance. AUM growth picked up to 14% in FY17 and has sustained at similar levels in 1HFY18. Asset quality, on an apples-to-apples basis, has improved over the past four quarters too. Number of NPL contracts declined 7% YoY to 165k, while GNPL ratio declined 70bp to 10.3% on a 120dpd basis in 1HFY18.
Investments in branch network to bear fruit
Over FY12-15, MMFS almost doubled its branch count from 607 branches to 1,108 branches. While the company did witness strong AUM growth over FY12-14, growth slowed down sharply over FY14-16. Our interaction with the management indicates that branches opened over the past two years are yet to reach optimum utilization levels. Hence, MMFS will go slow on branch addition – only 100 branches will be opened over the next two years. Additionally, there are around 200 collection centers today that will be converted to full-fledged branches going forward. Improving productivity of existing branches coupled with conversion of collection centers into branches should drive AUM growth over the medium term, in our view.
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