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Weak quarter; challenging times ahead

ISEC printed degrowth (5% QoQ) in pure broking revenue, as cash volumes plunged 10% sequentially (illustrating dependence on cash volumes). While the customer addition run-rate has been impressive, we continue to be wary of the quality of ARPUs from digitally-sourced customers. We draw comfort from ISEC’s renewed focus on building digital capabilities, but given the high dependence on cash delivery volumes and tech-based handicap, we believe that its topline will remain cyclical and face headwinds from the new-age fintech brokers. We cut our FY22/23E APAT estimates by 3/6% to build in the impact on ESOP book, pressure on broking yields, and increased tech spends in the medium term. Given the macro lead indicators (rising retail participation and a healthy pipeline of primary issuances) and attractive valuation, we maintain our positive stance on ISEC; however, we trim our target multiple to 20x (from 23x) to build in the tech handicap and competitive intensity and maintain ADD with a revised target price of INR740.

Broking segment drives disappointment: Total broking revenue, at INR5.6bn (-3% QoQ), was 6% ahead of our estimates, mainly on account of a significant beat on MTF book. After four quarters of flattish trend, pure broking revenue de-grew 5% sequentially, as cash volume declined 10% QoQ, reflecting in blended yields at 0.44bps (-9bps YoY; a nine-quarter low!). Growth in the average MTF + ESOP book was impressive (+9% QoQ) and much ahead of pure broking revenue, suggesting that clients with prime and NEO plans are leveraging heavily, albeit not translating into broking revenue on account of lower rack rates. Retail market share in cash segment improved 30bps to 10%; however, loss in the derivative segment continues unabated as traders continue to prefer FinTech discount brokers. While the client acquisition run-rate fared well at 618k (Q3: 676k), customer quality and monetisation remain a major concern. Despite a slowdown in primary issuances, advisory service revenue was healthy at INR0.65bn (-41% QoQ).

Margins under pressure: Operating expenses improved by 7% sequentially; however, management has stated that tech spends (3% of net revenues in FY22) will remain a major focus area and increase ~2.5x in FY23E. This will keep EBITDA margins troubled in the near to medium term. Adjusted PAT came in at INR3.4bn (-11% QoQ) due to degrowth in broking and advisory business, partially offset by better-than-expected traction in the MTF portfolio. RBI’s new circular capping ESOP funding limits at INR2mn/customer may impact ESOP book by ~INR7bn by FY23E.

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