Buy Shriram Finance Ltd For Target Rs. 730 By JM Financial Services
Asset quality disappoints; growth trends in-line
Shriram Finance (SHFL) reported a PAT of INR 21.4bn (+3% QoQ, +10% YoY), 3% below our estimates resulting in RoA/RoE of 2.9%/15.6%. The miss was largely due to higher than expected credit costs at 2.4% (vs our estimate of 2.1%). GS3/NS3 declined -83bps/-5bps QoQ to 4.6%/2.7%, though driven by technical write-offs which also led PCR declining to 43% from earlier 50%+ levels. Excluding the impact of technical write-offs, GS3 would have been 5.4% (+3bps QoQ). Margins declined -23bps QoQ which led to NII growth of (+12% YoY, +3% QoQ) mainly due to excess liquidity coming in from recent ECB transactions. Opex growth during the quarter was largely steady at +19% YoY, +2% QoQ which led to PPoP of INR 43.4bn (+11% YoY, +6% QoQ, +2% JMFe). AUM growth also remained steady at +3% QoQ/ +17% YoY driven by healthy disbursements of ~INR448bn (+14% YoY, +2% QoQ). Mgmt guidance remains consistent with 15%+ AUM growth, ~2% credit cost and margins benefit to come in with decline in incremental borrowing rates going forward. The total ECL cover for SHFL still remain strong amongst peers at 5.6% of AUM, which we believe, offers sufficient cushion against credit volatility. However, we continue to remain watchful on asset quality of the company as slippages increased over the quarter. Though, higher share of secured assets (~93%), high ECL cover and consistently strong disbursement/AUM growth post-merger provides comfort. We increased our credit cost assumptions by ~15-20bps over FY26-27E leading to EPS cut by ~4.5% for FY26/27E leading to avg RoA/RoE of ~3.2%/17% in FY26-27E. We maintain BUY with a revised TP of INR 730 (valuing at 1.9x FY27E BVPS).
* Steady growth momentum: AUM grew +3% QoQ/ +17% YoY to INR2.6trn driven by healthy disbursements of INR 448bn (+14% YoY, +2% QoQ). Growth in AUM was led by MSME (+43% YoY, +8% QoQ), farm equipment (+40% YoY, +9% QoQ), passenger vehicles (+25% YoY, +4% QoQ), commercial vehicles (+11% YoY, +2% QoQ), personal loans (+7% YoY, +11% QoQ) and construction equipments (+5% YoY, flat QoQ). Gold loans de-grew -12% QoQ, as redemptions outpaced disbursements but management remains confident on scaling up its gold loan up to 10% of total AUM in next 5 years. Management also guided for MSME book to continue to grow at 18-20% growth going forward. We build in AUM CAGR of 16% over FY25-27E.
* In line operational performance: SHFL reported largely in-line NII of INR 59bn (+12% YoY, +3% QoQ) led by reduction in reported NIMs by -23bps QoQ to 8.25% due to excess liquidity in the balance sheet which came in from INR 70bn ECB transaction during the quarter. The excess liquidity is expected to be utilized in next 1-2 quarters. The incremental CoFs (8.8% vs blended CoFs of 8.95%) have now lowered as banks are currently offering 8-10bps lower cost of borrowings which should aid in margins expansion going forward. Mgmt guided for 8.5-8.6% NIMs in FY26. On overall basis, 86% of the borrowings are fixed rate anf 14% are floating vs 100% assets at fixed rate. Opex growth during the quarter was largely steady at +19% YoY, +2% QoQ which led to PPoP of INR 43.4bn (+11% YoY, +6% QoQ, +2% JMFe). Credit cost was a tad higher at 2.4% of total AUM (vs +28bps QoQ) which led to an largely inline PAT of INR 21.4bn (+10% YoY, +3% QoQ). We expect CoFs tailwinds to aid in healthy margins going forward and expect EPS CAGR of 19% over FY25-27E.
* Elevated write-offs led to increased credit cost: GS3/NS3 improved -83bps/-5bps sequentially to 4.6%/2.7%. However, PCR on stage 3 declined 835bps QoQ to 43.3% as the company wrote off certain assets on which it had provided for 100%. Excluding the impact of technical write-offs, GS3 would have been 5.4% (+3bps QoQ). Company does not plan to increase its PCR back to 50%+ going forward. SHFL carries 3.8% provisions on stage 1 & 2 book which offers sufficient cushion on incremental credit costs while its total ECL cover also continue to remains high at 5.6% of total book despite write-offs during the quarter. We build in an average credit cost of ~2.2% for FY26E/27E.
* Valuation and view: SHFL's robust products portfolio, characterized by higher share of secured assets (~93%), has exhibited a consistent record of strong growth and profitability post-merger. We increased our credit cost assumptions by ~15-20bps over FY26-27E leading to EPS cut by ~4.5% for FY26/27E leading to avg RoA/RoE of ~3.2%/17% in FY26/27E. We maintain BUY with a revised TP of INR 730 (valuing at 1.9x FY27E BVPS).
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SEBI Registration Number is INM000010361
