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Strong beat on earnings led by margins, lower LLP

* Ujjivan SFB once again delivered a strong beat on PAT at Rs2bn (est.: Rs0.7bn), led by better NII growth (55% yoy) and negligible loan loss provisions, partly offset by higher opex. The bank expects healthy RoA in FY23, led by better growth/NIM and lower LLP, as it carries a healthy provision buffer.

* Fresh slippages moderated to Rs1.5bn/5% of loans, while better collections/w-offs led to a 59bps reduction in the GNPA ratio to 6.5%. MFI collection efficiency trended closer to 100%, but remained slightly lower for MSE at 85%. The restructured pool declined qoq to 4% and showed healthy collection efficiency. Higher specific PCR of 98% and a nearly fully provided restructured book should keep incremental LLP in check.

* We have raised our earnings estimates for FY23/FY24/FY25 by 112%/80%/37%, factoring in higher growth, better margins and lower LLP. We expect the overall RoA/RoE trajectory to improve to an average of 1.7%/17% (without factoring in the capital raise to meet the SEBI’s minimum public holding norms before the merger of holdco), after recovering from a loss in FY22 burdened by higher provisions.

* We raise TP to Rs18 from Rs14 (0.9x Jun’24E ABV). We also upgrade the stock to Hold from Sell. However, we believe the bank needs to fasten portfolio diversification away from MFI (69%) as it is prone to intermittent asset-quality shocks and sub-par liability profile (more so in a rising interest rate scenario). We upgrade Ujjivan Fin Services (holdco) to Hold as well, with a TP of Rs170 (Rs133 earlier), applying a 20% holdco discount.

Higher MFI growth, lower interest reversals support margins: Ujjivan SFB reported AUM growth of 38% yoy/7% qoq to Rs195bn, while net credit growth on B/S was 24% yoy/1% qoq. Strong AUM growth was mainly led by MFI (albeit on a lower base) and the affordable housing book. The bank still has a higher dependency on the MFI book (69% of gross loans), and thus remains a concern, which makes it vulnerable to asset-quality shocks. Thus, incrementally, the bank may need to focus on accelerating the growth of secured loans, including mortgages, which may weigh on margins. The CASA ratio improved by 65bps to 28%, but still remains sub-par vs. peers (Equitas ~ 52%). NIMs declined by 50bps, but remained healthy at 9.6% due to lower interest reversal and contained CoF.

Stress pool moderates as collection efficiency improves: Fresh slippages moderated to Rs1.5bn/5% of loans, which, coupled with higher recoveries/w-offs, led to a 59bps fall in the GNPA ratio to 6.5%. The restructured book further moderated to Rs6.5bn/4% of loans, while the MFI restructured book also reduced to 3.3% from 4% in Q4. Overall collection efficiency remained robust and at an elevated level of 99%, which in turn led to a decline in portfolio-atrisk to 7.9% from 9.6% in Mar’22 and 14.9% in Dec’21.

Outlook and valuations: We upgrade TP to Rs18 from Rs14 (0.9x Jun’24E ABV) and the rating to Hold from Sell, factoring in the improvement in asset quality and return ratios. However, we believe that the bank needs to fasten portfolio diversification away from MFI (69%) as it is prone to intermittent asset-quality shocks and a sub-par liability profile, more so in a rising interest rate scenario. We also upgrade Ujjivan Fin Services (holdco) to Hold with a TP of Rs170, applying a 20% holdco discount

Key risks: better-than-expected asset-quality experience and liability scale-up leading to better margins.

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