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Journey towards retailisation at attractive valuation

About the stock: L&T Finance Holding (LTFH) is a leading NBFC catering to the diverse financing needs of underserved customers in urban and rural areas. LTFH is engaged in consumer loans, 2wheeler loans, home loans, MFI, farm & SME loans.

• Backed by a strong parent, LTFH has been assigned "AAA" rating

• Distribution network remains strong with substantial dealer penetration (2500+ dealers in farm equipment & 6500+ tie-ups in 2 wheeler segment), 2 crore customers (database) spread across 21 states & one union territory.

Investment Rationale

• Re-orientation of balance sheet towards retailisation: In April 2022, LTFH announced “Lakshya 2026”, which was targeted towards retailisation with customised products in mature markets [farm equipment, rural group loans (MFI) and two wheeler finance] and focus on newer retail segment (consumer loans, home loans, LAP and SME loans). Accordingly, in the last quarters, the share of retail loans has increased from 51% to ~82% while the proportion of wholesale book has declined from 49% to ~18%.

• Leaner business structure and change in leadership: LTFH's transformation process includes a leaner, simpler organisation structure and hierarchy to enable improved focus on performance. LTFH has exited unfocused business lines, stopped growing real estate vertical and is in the process of consolidating L&T Finance and L&T Infra Credit wherein NCLT approval is awaited. LTFH has announced superannuation of current MD & CEO and appointment of Mr Sudipta Roy as new MD & CEO from Jan 2024; which remains in-line with focus on retailisation target articulated earlier.

• RoAUM trajectory to improve to ~2.7-2.8% in FY25E: Increase in retail proportion will continue to aid NIMs trajectory (calculated NIMs at 7.5% in FY23), and is expected to improve to ~8-9% levels. Sustainable retail AUM growth (31%/ 24% YoY in FY24E/ 25E) to aid gradual improvement in efficiency, though CI ratio could remain elevated at ~40-41% in the initial phase. Provision buffer of ~2% is expected to keep credit cost largely steady, thus aiding earnings momentum. We expect return on AUM (RoAUM) to improve from ~2% in FY23 to ~2.7-2.8% by FY25E.

Rating and Target price

• With retail loan book gaining traction to almost >90% of outstanding AUM by FY24E, valuation multiple should witness a re-rating. Further, contained GNPA, NNPA guidance of <3%, <1%, respectively, provide comfort.

• At the CMP, LTFH currently trades at ~1.2x ABV offering room for further expansions as RoE, RoA are expected to reach ~10%, ~2.1%, respectively, in FY23-25E. Hence, we assign a target price of | 160/share, valuing at ~1.6x FY25E ABV and recommend BUY rating on the stock.

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