IGI Logo

Soft quarter; visibility improving on AUM growth and asset quality

Weak disbursements in face of calibration; asset quality deteriorates

* Five Star Business Finance’s (FIVESTAR) 2QFY26 PAT grew 7% YoY to INR2.86b (in line). PAT in 1HFY26 grew 6% YoY and we expect PAT in 2HFY26 to grow by 15% YoY. NII grew ~15% YoY to INR5.9b (in line), while PPoP rose ~14% YoY to INR4.3b (in line). Other income rose 26% YoY to INR334m (vs. est. of INR290m), primarily because of higher fee income during the quarter.

* Opex grew ~19% YoY to INR1.94b (in line). Credit costs stood at INR510m and annualized credit costs stood at ~1.35% (PQ: 1.3% and PY: ~70bp).

* AUM grew 18% YoY/3% QoQ to ~INR128b. Management shared that disbursements were weak primarily due to stricter underwriting controls and layered checks implemented in the quarter. These measures led to an increase in the rejection ratio from 23% in 1Q to 41% in 2Q, reflecting a deliberate tightening in risk assessment. However, the company has maintained its AUM growth guidance of ~25% for FY26, expecting a pickup in disbursements in 3Q and a much stronger momentum in 4QFY26.

* Five Star has launched housing loans with first few logins recorded in Sep’25. The product has been rolled out across 175-200 branches with a targeted ATS of INR600k–800k and yields of 16-18%. The company expects its housing loan segment to evolve into a meaningful growth driver from FY27 onward.

* Management maintained its credit cost guidance at 1.25-1.3%. The focus remains on curbing forward flows and stabilizing 30+dpd buckets. The company expects delinquency trends to stabilize in 3QFY26 and show meaningful improvement in 4QFY26, supported by tighter underwriting, enhanced collection efforts, and robust legal recovery measures.

* Management indicated that portfolio performance has stabilized across most geographies, with Karnataka remaining a relatively weaker pocket (~5-6% of AUM). Both Andhra Pradesh and Tamil Nadu have shown notable improvement, with Tamil Nadu expected to see further traction in disbursement growth in the coming quarters.

* The asset quality weakness in the micro-LAP segment stemmed from stress in unsecured small-ticket loans, gradually spilling into the smallticket secured space. Credit cycle in micro-LAP (particularly in loans below INR500k) is lagging the MFI credit cycle by 6-9 months. With MFIs now exhibiting early recovery, we expect even micro-LAP lenders to exhibit recovery within the next six months.

* Five Star remains well-positioned to manage this period of volatility, supported by: 1) its tighter underwriting on fresh disbursements and 2) robust recovery infrastructure, including the effective legal followthrough. We estimate the company to post a CAGR of ~25%/~14% in AUM/PAT over FY25-28. Despite a moderation in NIM and slightly higher credit costs, Five Star can deliver healthy RoA/RoE of 6.7%/17% in FY28E. Reiterate BUY with a TP of INR710 (based on 2.2x Sep’27E BV).

Reported spreads decline due to moderation in yields

* Reported yield declined ~30bp QoQ to 23.2%. CoB also declined QoQ ~25bp QoQ to 9.3%. Reported spreads fell ~5bp QoQ to 13.95%. Reported NIM was stable QoQ at ~16.4%. Incremental CoF was broadly stable QoQ at ~8.55%.

* Management indicated that the moderation in yields will be offset by a reduction in its CoB, supported by lower incremental CoB. However, NIMs are likely to moderate with improvement in leverage when growth picks up. We model NIM to contract to 18.7%/17.6% in FY26/FY27E (FY25: 19.6%).

Asset quality deteriorates but visibility of stabilization trends ahead

* GS3/NS3 rose ~20bp each QoQ to ~2.65%/1.45%. S3 PCR declined ~5pp QoQ to ~45.2%. ? Overall collection efficiency (CE) stood at 96.7% (PQ: 96.3%). Unique loan collections (due one, collect one) stood at 95.1% (PQ: 95.1%). Cash proportion in collections declined to ~18% (PQ: ~19% and PY: ~28%).

* Current portfolio declined to 81.7% (PQ: 82.4%). Stage 2 rose 70bp QoQ to 9.5%. 30+ dpd rose ~85bp QoQ to 12.2% and 1+dpd increased ~80bp QoQ to 18.3%. We model credit costs (as a % of avg. assets) of 1.2% each in FY26/27E.

Disbursements decline ~4% YoY; capital adequacy strong at ~51%

* Disbursements fell ~4% YoY and ~7% QoQ to ~INR12b.

* 2QFY26 RoA/RoE stood at 7.5%/16.9%, and capital adequacy stood at ~51% as of Sep’25.

Highlights from the management commentary

* Management highlighted that 2QFY26 marked a phase of stabilization, with gradual improvement expected in 3Q and a strong recovery anticipated in 4Q. The company continues to enhance its credit underwriting framework, which is expected to yield visible benefits in the subsequent quarters.

* Five Star continues to refine its customer mix by focusing on the INR300-500k and INR500k-INR1m ticket segments, while targeting borrowers with stronger credit profiles.

* Management indicated that as operating systems stabilize and recently implemented controls gain traction, growth momentum is expected to accelerate, supported by a diversified product portfolio, stronger collection efficiency, and stability in credit costs.

Valuation and view

* Five Star reported a soft operating performance during the quarter, marked by muted disbursements and weak AUM growth. Asset quality deteriorated further, as evident in the increase of 30+dpd, leading to elevated annualized credit costs of ~1.35%. Spreads and margins also contracted, primarily due to lower yields. Management guided for a turnaround on the horizon and expects growth and asset quality to improve in 3Q and strengthen further in 4Q.

* The stock currently trades at 2x FY27E P/BV. We estimate Five Star to post a CAGR of ~25%/14% in AUM/PAT over FY25-FY28, along with RoA/RoE of 6.7%/17% in FY28E. Reiterate our BUY rating on the stock with a TP of INR710 (premised on 2.2x Sep’27E P/BV).

For More Research Reports : Click Here 

For More Motilal Oswal Securities Ltd Disclaimer
http://www.motilaloswal.com/MOSLdisclaimer/disclaimer.html
SEBI Registration number is INH000000412