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BAJFIN and the entire Financial Services group set to benefit from the new AMC license in the parent entity

Bajaj Finserv has got an in-principle approval from SEBI for sponsoring a Mutual Fund (MF). While the opportunity is huge, given the under penetration and financialization of savings in the country, the competitive intensity in the industry is high with 44 players.

* Bajaj Finserv has inherent advantages in its business model, given its presence in the Retail Finance, Life Insurance, General Insurance, and Securities businesses. Strong brand presence and wide distribution reach are key pillars for garnering AUM, where BAGIC, BALIC, and BAF have proved their expertise. Cross-sell to the existing customers of these businesses is a huge opportunity.

* Technology investments will be a key differentiator, given the emergence of new-age Fintech players. Akin to the strong growth displayed in other lines of businesses, Bajaj Finserv will be able to deliver an industry-leading growth in the AMC business as well.

* Barring any new COVID-related disruptions, we expect BAF to deliver ~21% AUM growth in FY22E and 25% CAGR thereafter. This Financial Services group already had Lending products, General and Health Insurance, Life Insurance, and Broking services. With an AMC in the fold, the missing piece of a captive MF investment product (other than deposits/traditional savings/ULIP products) will also be complete. This should aid the fee and commission (particularly distribution) income of BAF, which was already exhibiting high growth until Mar’20 when COVID-19 struck.

* BAF’s return ratios have been consistent and also the highest in our Coverage Universe (excluding gold Financiers). Given the strong recovery post relaxation of the lockdowns and the healthy progress made in its digital transformation program (including wallets and payments), we reiterate our Buy rating, with a TP of INR7,700 per share (8x 1HFY24E BV)

The AMC business offers a huge growth opportunity

* India’s MF industry has come a long way, with assets under management (AUM) quadrupling to INR32t in the past decade (16% CAGR). At 12% of GDP, India’s MF penetration is significantly lower than that of other countries (UK: 62%, Brazil: 68%, and the US: 120%).

* Increasing per capita income, the gradual financialization of savings, a growing awareness with targeted marketing campaigns such as ‘Mutual Funds Sahi Hai’, and improving reach, with digital platforms, will lead to strong AUM growth ahead.

* While the number of PAN card holders in India has crossed the 500m mark, the industry has ~23m unique MF investors.

Distribution is key in the Asset Management business. The group already has this expertise in other businesses

* BALIC has 54 corporate agents and 88,000 individual agents. BAGIC has 130 corporate agents and more than 80,000 individual agents. BAF has an overall customer franchise of ~50.5m and cross-sell client base of ~27.4m.

* B30 is the key focus area for all AMCs owing to its huge under penetration and higher TER charge (30bp) that can be levied on inflows from B30. BAF derives ~34% of its AUM from rural areas, which gives it a strong brand presence.

* This experience will go a long way in building the IFA network, which is key to its MF distribution among retail investors.

Cross-sell opportunity and group investments offers an advantage over new AMCs

* BAF has investments of over INR110b in Mutual Funds at the consolidated level, which can be moved over the years to the new captive AMC.

* Cross-sell opportunities are large for the AMC business, with a huge retail customer base across the three lines of businesses.

Product strategy would be key

* New age AMCs largely focus on passive products, but these are low margin (ETFs earn 10-20bp as against 80-90bp/30-40bp/10-12bp for Equity/Debt/Liquid).

* Equity AUM growth needs three major elements: brand, performance and a strong IFA network. Both Bajaj Finserv and BAF have a strong brand and can build a strong IFA network, given their expertise in managing Retail distribution in other businesses. Its performance track record will evolve over the years (BALIC ULIP funds have closely tracked benchmark returns in largecap and index funds based on five year CAGR).

Valuation and view

* The COVID-related disruptions are known unknowns, and the quantum of impact on disbursements/asset quality is difficult to ascertain. In the context of the strong recovery seen in Jul-Aug’21, we expect BAF to be able to deliver a pre-COVID quarterly run-rate in AUM growth for the remainder of FY22. Provided there is no new COVID-19 wave, we expect BAF to contain credit costs ~2.6% in FY22E. Margin is likely to see a sharp improvement in FY22E on: a) lower cost of funds, b) reduced liquidity, and c) a favorable base due to interest reversals.

* While FY21 was an aberration, distribution income, as a proportion of total fee and commission income for BAF, has been on an increasing trajectory, improving to 43% in FY20 from 30% in FY18. With the digital ecosystem play and one-stop shop offering to its large cross-sell customer franchise, distribution income growth can quickly accelerate over FY23-24E. We estimate ~21% CAGR in fee and commission income over FY21-24E.

* We expect BAF to deliver ~4.8% RoA/23% RoE over the medium term. Given the positive outlook, we maintain our BUY rating, with a TP of INR7,700 per share (8x 1HFY24E BVPS).

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