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L&T Finance Holdings (LTFH) delivered 1QFY23 PAT of INR 2.6bn (+47% YoY/ -23% QoQ) as operating performance was moderated (PPOP at INR 11.5bn, +1% YoY/ +1% QoQ). CIR remained elevated at 36% (vs. 32% YoY/ 36% QoQ) as the company focuses on digital initiatives, expanded employee strength and added new MFI meeting centres. Other key highlights for the quarter: i) disbursements (INR 105bn) declined 29% QoQ due to sharp drop in wholesale disbursements (-77% QoQ) as the company focuses on retail (+10% QoQ), ii) focused loan book stood at INR 876bn (+2% YoY/ +1% QoQ), driven by consumer loans, iii) reported NIM + Fee Income was at 8.2% (71bps YoY/ 6bps QoQ), attributed to higher retailization and drop in cost of funds (-37bps YoY/ -7bps QoQ), iv) in 1QFY23, collection efficiency remained healthy across retail businesses; GS3 ratio was steady QoQ at 4.1%, v) restructured assets (OTR) declined to 2.3% (-110bps QoQ) of loans – partly on account of write-off and slippage into GS3, vi) coverage ratio was at 55% (vs. c.53% QoQ) while total additional provisions stood at 1.7% of standard book (2.1% QoQ). In 1QFY23, leverage contracted to 4.1x (vs. 4.4x, as of 1QFY22). Management believes retail can organically comprise 60% of the book in FY23 and is on track to form >80% by 2026. Also, mgmt. intends to reduce real estate lending business through inorganic structure or partnership with other financiers. We forecast loan book CAGR of 12% and earnings CAGR of 59% over FY22-FY24E, with RoA/ RoE of 2.2%/ 11.4% in FY24E. Maintain BUY with a TP of INR 90 valuing the company at 0.9x FY24E BVPS.

Retail loans continued to steer the business: In 1QFY23, disbursements (INR 105bn) declined 29% QoQ due to sharp drop in wholesale disbursements (-77% QoQ) as the company remained focused on retail (+10% QoQ), which formed 85% of disbursements. In retail, micro loans constituted 36% of total disbursements and consumer loans were also in good stead (constituted 10%). As of 1QFY23, focused book stood at INR 876bn (+2% YoY/ +1% QoQ), driven by consumer loans (3.9x YoY/ +32% QoQ) and rural business+micro loans (+27% YoY/ +8% QoQ) while housing finance (-8% YoY/ -1% QoQ) remained a drag. However, in wholesale, iinfrastructure book reduced 10% YoY due to repayments and prepayments (prepayment of INR1.6bn in 1QFY23) and real estate book shrunk ~INR26bn in the last one year due to continued focus on project completion. Focused book formed 98.3% (up 120bps YoY) of total loan book, retail formed 54% of the loan book (vs. 45% in 1QFY22). Mgmt. believes retail can organically comprise 60% of the book in FY23 and is on track to form >80% by 2026 by strengthening existing products, cross-selling, growing geographical presence, app & digital based channel expansion and launching new products (warehouse financing to be launched in FY23), while having asset light model in wholesale. We estimate loan book CAGR of 12% over FY22-FY24E driven by retail segment

Steady asset quality; OTR book declined: In 1QFY23, collection efficiency remained healthy across retail businesses. GS3 ratio was steady QoQ at 4.1% while NS3 declined ~10bps QoQ to 1.9%. Coverage on GS3 improved 270bps QoQ to 55%. Restructure assets (OTR) declined to INR 20.2bn (2.3% of the loan book) from INR 30.4b. Credit costs of INR 8bn (3.4% of avg. loans) included INR 2.5bn of OTR-related provisions and INR 5.4b of normalized credit costs. LTFH utilized INR 2.1bn of management overlay for the OTR book that was written-off (majorly micro and 2W loans) and slipped into GS3. Additional provisions stood at INR14.5b (1.7% of standard assets).

Housing book had ~INR 10bn in OTR, with home loans of ~INR 6.4bn (where moratorium of up to 2yrs is given and is secured against mortgage) and rest in LAP

Micro loans had ~INR 7bn in OTR for which provisions will be taken in 2QFY23 post which credit cost should normalise

Management overlay will be gradually reduced, however a large portion of it will be conservatively carried into next year

Operating performance was muted: In 1QFY23, operating performance was moderated (PPOP at INR 11.5bn, +1% YoY/ +1% QoQ). NII grew 2% YoY to INR 15.3bn. Reported NIM + Fee Income was at 8.2% (71bps YoY/ 6bps QoQ), attributed to higher retailization and drop in cost of funds (-37bps YoY/ -7bps QoQ). CIR remained at elevated levels at 36% (vs. 32% YoY/ 36% QoQ) as the company focuses on digital initiatives, expanded employee strength and added new MFI meeting centres.

Investment management – volatility in capital markets impacted AUM: As of 1QFY23, average AUM declined 5% QoQ to INR716b. This was driven by a 7% QoQ reduction in average equity AUM. LTFH saw inflows in the Liquid categories, but witnessed net outflows in the fixed income and hybrid categories.

Expect RoA/ RoE at 2.2%/ 11% levels by FY24E: We believe digitization will drive the operations (sourcing, cross-selling, disbursement, underwriting and collections) going forward. The company also intends to launch new products and expand geographically (branches and employee strength) which would keep costs at elevated levels. Retail book growth will continue to accelerate while wholesale book will be contracted, hence total loan growth will be muted for 2-4 quarters. We will closely monitor the execution of the retail portfolio and the corresponding asset quality. We forecast loan book CAGR of 12% and earnings CAGR of 59% over FY22-FY24E, with RoA/ RoE of 2.2%/ 11.4% by FY24E. The growth will be driven by increasing higher margin business owing to retailisation and credit costs normalization. We value LTFH at 0.9x FY24E BV to arrive at our TP of INR 90.

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