Buy Rural Electrification Corp Ltd for the Target Rs. 465 by Motilal Oswal Financial Services Ltd
Muted loan growth due to higher prepayments; NIM declines QoQ
Earnings in line; asset quality stable
Rural Electrification Corp’s (RECL) 2QFY26 PAT grew ~10% YoY to INR44.3b (in line). PAT in 1HFY26 grew 19% YoY and we expect PAT in 2HFY26 to grow by 13% YoY. NII grew ~10% YoY to ~INR54.5b (in line). Other income stood at INR4.6b (PY: INR1.2b) due to higher fee and commission income of INR4.7b (PQ: INR1.4b and PY: INR483m).
* Opex rose ~12% YoY to ~INR2.2b and cost-income ratio was stable at ~2.5% (PQ: 2.5% and PY: ~3.1%). PPoP grew 16% YoY to INR56.9b (in line).
* Yields (calc.) declined ~5bp QoQ to ~9.95%, while CoB (calc.) was stable QoQ at ~7.2%, resulting in ~5bp QoQ decline in spreads (calc.) to 2.75%. Reported NIM for 1HFY26 declined ~10bp QoQ to ~3.64% (1QFY26: 3.74%).
* GS3 and NS3 were stable QoQ at ~1.05% and 0.25%, respectively. PCR on Stage 3 was also stable QoQ at ~77%. Credit costs stood at INR1.3b (in line). This translated into annualized credit costs of 2bp (PY: -11bp and PQ: -3bp). During the quarter, the company received ~INR114b from the Kaleshwaram Irrigation project, leading to a decline in its Stage 2 assets. However, the ECL provision reversal was limited, as the project was backed by the state.
* Management reiterated its commitment to become a net zero NNPA company by the end of FY26. It highlighted that its two key stressed projects, Hiranmayee Power and Sinnar Thermal, are in advanced stages of resolution, and both are expected to be resolved by FY26 end.
* AUM stood at INR5.82t, up ~7% YoY and flat QoQ. Management is confident of delivering 11-12% loan growth in FY26, despite muted growth in 1H, supported by a strong sanctions pipeline, healthy disbursements, and normalization of prepayments in 2H.
* We cut our FY26/FY27 EPS estimates by ~3% each to factor in lower loan growth and other income, offset by slightly lower credit costs from expected provision writebacks from stressed asset resolutions. We model a CAGR of 15%/13%/11% in disbursements/loans/PAT over FY25-28E. We estimate RoA/RoE of 2.6%/19% and a dividend yield of ~6.3% in FY28. Reiterate BUY with a TP of INR465 (premised on 1.1x Sep’27E BVPS).
* Key risks: 1) weak loan growth due to high prepayments and business loss to peers from refinancing; 2) rising exposure to high-risk power projects without PPAs; and 3) compression in spreads and margins amid high competition.
Key highlights from the management commentary
* REC receives regular monthly repayments of INR80-90b, with prepayments occurring only when DISCOMs have surplus liquidity. The company does not anticipate any significant prepayments over the next two quarters, apart from the normal repayments.
* REC’s borrowing profile remains well-balanced, with 80-85% comprising fixed-rate debt. About 20% of the borrowings mature each year, while the rest are staggered over the next five years, implying that the benefit of lower-cost funding will materialize only gradually.
* REC shared that ~99% of its foreign borrowings are hedged. The cost of borrowings rose by 8-10bp due to higher hedging costs; however, this provides the company with greater protection against currency volatility.
Valuation and view
* RECL reported a subdued performance during the quarter, with growth remaining soft primarily due to elevated repayments. NIMs contracted by ~10bp, though asset quality remained stable. Despite muted growth in 1H, management remains confident of achieving its loan growth guidance of 11-12% for FY26.
* RECL trades at 1x FY27E P/ABV, and we believe that valuations are attractive for this franchise, which offers decent earnings growth and ~20% RoE.The company is well equipped to achieve a loan book CAGR of ~13% and a PAT CAGR of ~11% over FY25-FY28. We estimate RoA/RoE of 2.6%/19% and a dividend yield of ~6.3% in FY28. Maintain BUY with a TP of INR465 (premised on a target multiple of 1.1x 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
