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Turning the corner with better predictability of earnings Asset quality improvement along with sectoral tailwinds the key enablers

* LIC Housing Finance (LICHF) delivered a healthy FY24 where (except for muted loan growth) it reported a good improvement in NIM and credit costs. This led to an improved RoA of ~1.7% (vs. a decadal average of ~1.3% over FY14-FY23).

* Loan growth was muted in FY24 primarily because of upgradations in the technology platform done by LICHF in 1HFY24. With the teething issues behind, it demonstrated an improvement in disbursement momentum in 2HFY24. LICHF will sustain this momentum going forward in FY25 as well. We estimate a disbursement/AUM CAGR of ~18%/10% over FY24-FY26.

* NIM was at an all-time high of ~3.1% in FY24, aided by re-pricing of existing loans as well as write-backs of interest income on NPA accounts, which were upgraded to standard. In line with management guidance, we believe that there will be a NIM compression in FY25 driven by moderation in yields as well as a rise in the CoB. We model a NIM of 2.9%/2.7% in FY25/FY26.

* LICHF also reported healthy asset quality improvement, with Gross Stage 3 declining ~1pp YoY to ~3.3% as of Mar’24. While a large part of this improvement was driven by (technical) write-offs of ~INR26b in FY24, this led to a significant reduction in the stressed loan exposures of the company. LICHF is also doing a pilot on achieving resolutions through sale to ARCs. It has a technical written-off pool of ~INR40b, and we expect more resolutions to come through in FY25. We estimate its credit costs to decline to ~45bp/ 40bp in FY25/26 (vs. ~60bp in FY24).

* Over the last four to five quarters, LICHF’s earnings predictability has improved, with fewer surprises on asset quality, credit costs, and operating expenses. We expect LICHF to deliver stronger loan growth over FY25-26, which can offset NIM compression. The company reported a PAT growth of ~65% YoY in FY24. Against this base, we forecast only ~4% PAT CAGR over FY24-26. However, we expect this to translate into an RoE of 1.6%/14% in FY26. A low volatility in earnings and better loan growth can potentially translate into a re-rating of the valuation multiples for LICHF. Reiterate BUY with a revised TP of INR930 (based on 1.3x FY26E P/BV).

* Key downside risks: 1) any significant impact from the RBI guidelines to HFCs – to charge interest only when the Cheque/DD is encashed – could result in a steeper NIM compression; and 2) inability to deliver better loan growth due to high competitive intensity from banks and other large HFCs.

Focused efforts to accelerate loan growth

* After a muted FY24 where loan growth was only ~4% YoY, LICHF is making focused efforts to accelerate its disbursement engine and deliver stronger loan growth over FY25-26. It has invested in technology, marketing, and underwriting over the last one year, to improve its sourcing that we expect would drive better loan growth over FY25-26.

* LICHF has also created alternate souring channels such as Direct Marketing Executives (DME) and has even tied-up with a few lead management companies. Unlike in the past, LICHF now has a team, which monitors the leads and followup on them. The company has also added 44 new cluster offices, which process and underwrite loans for further sanction and disbursement. By aligning its back offices to cluster offices, the company has managed to deliver a faster TAT to its customers. We estimate a loan CAGR of ~10% over FY24-26.

NIM to moderate but remain comfortably higher than its historical levels

* LICHF’s reported FY24 NIM of ~3.1% is unlikely to sustain going forward given that the company benefitted from: 1) the interest rate hikes on its back book; 2) the recoveries (~INR1.2-1.3b in FY24) from NPA accounts in the last fiscal year; and 3) the astute liability management, wherein the reported CoB for LICHF rose ~13bp in FY24 (vs. ~20-85bp for its peer HFCs).

* NIM is likely to contract in FY25, due to moderation in yields (because of a change in product mix towards lower-yielding home loans, competitive pressure, and pursuing stronger loan growth), and rise in borrowing costs. In addition, any recoveries (through resolutions/settlements) from the written-off pool will not boost NIM but will instead improve profitability. If there is a cut in repo rates in 2HFY25, it could result in further pressure on yields. We expect NIM to moderate to ~2.9%/2.7% in FY25/FY26.

Stressed asset resolutions around the corner; credit costs to moderate

* LICHF has implemented the policy of taking technical write-offs and building management overlay (in addition to ECL provisions) ~12-18 months back. LICHF took technical write-offs of ~INR26b in FY24. It has a total written-off pool of ~INR40b as of Mar’24. It also has a management overlay of ~INR17-18b.

* LICHF has been making targeted efforts at stressed asset resolutions (across both wholesale and retail segments) through a combination of auctions as well as pilots on sale to Asset Reconstruction Companies (ARC). Management shared that any ARC transaction that LICHF will undertake will be an all-cash deal (with associated hair-cuts) rather than the typical 85:15 SR:Cash structure.

* Targeted efforts being made by the management will lead to asset quality improvement and credit costs are likely to decline to ~45bp/40bp in FY25/26.

Candidate for a valuation re-rating if loan growth picks up; reiterate BUY

* LICHF’s valuation of ~1.1x FY26E P/BV reflects the muted loan growth, frequent one-offs in operating expenses, and NIM volatility. We believe that the company will demonstrate more predictability in its NIM trajectory and earnings profile going forward. LICHF is a potential candidate for a valuation re-rating if it is able to provide investors with higher confidence in double-digit loan growth over FY25-26.

* LICHF has strong moats in both retail mortgages and on the liability side. We estimate an RoA/RoE of 1.6%/14% in FY26 and reiterate our BUY rating with a TP of INR930 (based on 1.3x FY26E BV).

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