The stock of IndoStar Capital Finance, a non-banking finance company (NBFC), has lost 13 per cent since its listing last month as the market is worried that rising interest rates will affect margins of NBFCs, which typically borrow from banks and through instruments like debentures. This, along with subdued market sentiment, has pulled down IndoStar’s valuation (1.3 times of its FY20 estimated book value) to a level where it is now among the cheapest NBFC stocks. While there are reasons for this, analysts believe the equation will turn favourable, given the changing business mix, good management and track record, and the robust growth ahead.
The change in business mix, in particular, is important, as with an expansion of its retail business (vehicle, housing and SME loans, which are sticky in nature), the client concentration risk will decline. For instance, in corporate lending book (70 per cent of assets under management or AUM), the top 10 clients accounted for 50 per cent of loan portfolio as of end-December 2017.
Morgan Stanley (MS), in a report this week, estimates IndoStar’s share of retail AUM to double to 52 per cent by FY20. The company’s management, too, expects retail contribution to rise, reaching 75 per cent by FY23, led by the commercial vehicle (CV) segment. “We will achieve a Rs 15-billion CV loan disbursement target for FY19 through our 125 newly opened retail branches and would be a market leader in used-CV finance soon,” says R Sridhar, Executive Vice-Chairman and Chief Executive Officer of IndoStar. The government’s thrust on housing will also support IndoStar’s retail push. While the competitive intensity has also risen, analysts are confident of Sridhar’s (ex-MD of Shriram Transport Finance) leadership. Expecting an annual growth rate of 50 per cent in AUM in the next three years, MS expects the retail business to help expand IndoStar’s overall revenue by 40 per cent annually over FY18-21.
Though there is a risk of rise in funding cost, as IndoStar has 69 per cent of its borrowing through banks and debentures, Sridhar says, “Currently, for our vehicle finance, which is on fixed rates, the spread is very comfortable. If we see any pressure on the spread, we will pass on to new borrowers. And, our other segments are on a floating basis.” Apart from growth rates, retail expansion will improve return on equity, from 11.1 per cent in FY18, albeit gradually, given the initial costs of expansion. Ability to deliver on these expectations should reflect on shareholder returns, too.