Thanks for excellent post Kiran.
Excellent analysis T Anil Kumar, superb clarity and great flow of discussion.
Keep up the good work.
Kiran & T Anil,
+1 to what Rudra mentioned. Beautiful posts with great clarity and flow.
And this makes my entry in to financial stocks as well:)
couple of basic questions.
T Anil,
As you mentioned debt/equity of 4.5 for a NBFC is reasonable. That means the capital available is 5.5x (4.5x debt + x equity) and assuming all the capital is loaned that indicates a capital adequacy ratio (CAR) of x/5.5x= 18% which is close to min CAR NBFC should maintain. That means d/e ratio of 4.5 (or 5) is max, that a nbfc can afford to have. does that mean for financial companies having max d/e (stipulated by law) is reasonable ??
Kiran,
For a stock which has had a RoE of 33% in the past and now 17%-18% (due to rights issue), it should ideally quote around 2x P/B (assuming AAA bond yield 9%).
Could not make much out of it.Will appreciate if you can explain the logic behind the above calculation of 2x p/b based on AAA bond yield of 9%
Thanks,
Atul
Thanks Atul.
Currently, Indian Banks have a CAR requirement of 9%. Under Basel III, they have to move it to 11.5%. Inverting this ratio will give you D/E (roughly). So, currently max. leverage for Indian Banks can be 11x and under Basel III, it can be 8.7x.
However, for NBFCs, RBI has mandated a CAR of 15%, which implies a max leverage of 6.5x. Muthoot’s leverage is at 4x right now, but that was due to the rights issue. You’ll see that they’ll hit the max 6.5x pretty quickly (I think by end of calendar year 2013, if not earlier), ergo equity dilution not too far away. I actually just realised that they cannot do a warrants issue for pumping in equity because they are already at 75% in shareholding. So, another rights issue most probably (and most probably at par).
The AAA bond yield logic has worked pretty well with me so far, in one investing at undervalued levels and two, to quickly eliminate overvalued stocks. However, you need to be a little sure of the validity of the book value to use this logic. I wrote more about it here (pointing to the link, instead of explaining in a long winded manner 
) -
http://kiraninvestsandlearns.wordpress.com/2011/09/20/undervalued-companies-an-approach/
Hopefully, that helps.
Hi Atul,
Here’s a brief explanation_:
_
_"…For a stock which has had a RoE of 33% in the past and now 17%-18% (due to rights issue), it should ideally quote around 2x P/B (assuming AAA bond yield 9%). …"
_
When Roe is 18% and bond yield is 9% an investor can pay max 2x (18/9) to match the yield. Similarly if ROE is 27%, you can pay up to 3x (27/9) to match the yield.
Ideally you should have some safety for the additional risk taken and thereby pay a lesser price for a higher yield. Hence, Kiran mentions
_"…Since it’s a small cap, at the very minimum, it should quote at 1.5x P/B."
_
A more detailed explanation
Assuming bond yield = 9%, stock with a book value of Rs 100 ( networth per share) is
earning a ROE of 18% i.e. EPS of Rs 18.
You would want stock yield ( 1/ P/E i.e. EPS/Price) to be at least 9%
Hence, for stock earning 18 Rs per share you would pay max price of Rs 200 or less which is 2x P/B ( At 200, yield is 18/200 i.e. 9%)
Being a midcap you obviously want safety over bond yield, hence you would be paying up to 1.5 times P/B meaning Rs 150 per share.
Where yield becomes 18/150 i.e. 12% a 4% safety over bond yield for the additional return.
Kiran,
Great work and excellent analysis. The main cause of concern for banks and NBFCs is the additional capital requirement going forward. The markets will be flooded with rights issues from PSU banks, private banks and NBFCs, left right and center.
The main difference between a premium bank/ nbfc to a minor one is the levels at which you dilute the book. Smaller regional players are forced to dilute the book at 2x-2.5x book, while larger pan India players dilute their books at 4x+ which is way better for equity shareholders.
This is the reason I am a bit skeptic to invest in regional /sectoral NBFCs / banks and prefer larger pan Indian banks. Under the current markets, even promising names like Yes Bank are deferring book dilution for the want of better valuation and putting in perpetual debt to feed to maintain CAR along with moderating advances growth and postpone equity raising. ICICI Bank is somewhat better placed since they raised large equity at 4x+ P/B in the hay days of 2007-08.
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Kiran and Rudra,
Thanks for making it look like pretty simple.
Also interpretingthe p/b with bond yield as areferencepoint is prettyinteresting and can give fairassessmentof the valuations.
Thanks,
Atul
Hi Kiran,
Nice Work!! This is why I keep pushed you to be more active on valuepickr
The best thing about this co is backing of the strong group. From what I have heard, the Muthoot group is quite honest and capable. They have a lot of brand value in south.
Another good thing is high dividend yield.
Ayush
Yes Muthoot group have lot of brand value in south especially kerala. But I have doubt about their quality (good will and capability) of second generation if we compare to first generation.Still I belive they dont do anything aganist small investors becasue they know well it will affect entire business in kerala( reputation)
Most of the banks have exited two wheeler loan (spoken to one of my friend who works in a private bank) and those who are still there, their rate of interest is around 15-16%. Now the fact that most of the banks have exited the sector in itself gives lot ofopportunityto players like Muthoot. Also banks may find it cumbersome to handle loans of 40-50K and I guess this is the reason why NBFCs like Muthoot Finance, Manapurram Finance etc which deal in small ticket loan are doing well. Rate charged by NBFC are in the same range as Muthoot Capital, so there should not be any competition on rates front.
Rate of interest being charged by some of the players
|
Rate of interest |
Loan to value |
Min Income |
|
|
Tata capital |
24% pa |
75% |
60,000 |
|
ICICI bank |
No loans for two wheeler |
NA |
|
|
Bajaj Finsrv |
27-30% (Per website) |
NA |
NA |
|
Bank of Baroda |
15% |
75% |
NA |
|
HDFC Finance (Hero Motocorp) |
20% |
60% |
80,000 |
|
Muthoot Capital |
22-25% |
70-80% |
60,000 |
Some more points…
I suspect that Muthoot Capital is operating from the same premises as Muthoot Fincorp and may not have any independent branches. I think so mainly because of the following reasons a) Muthoot Capital website does not contain any details of its branches while Muthoot Fincorp does. Now if they have branches what is the problem in giving address over website and infact you would like to give address of your branches so that its easy for your customers to find you out. b) Secondly the help line number given on Muthoot Capital ( 0484 4161653) gets connected to Muthoot Fincorp and from then the call is transferred to Muthoot Capital. c) Total rent paid for FY12 is 60 lakhs and out of this 56 lakhs paid to promoters. This gives an indication that MCSL opened its branches at some entity owned by promoters which most likely has to be Muthoot Fincorp. Donât get me wrong, I am not questioning the integrity of management, but there is definitely lack of clarity from company on this aspect.
I had a quick look on prompting by a few members:)
Though there are positives likeoperating in a segment with low competition,strong and stable asset quality, healthy earnings profile, and the recent track record I will stay away for following reasons:
a) Very small AUM size. Ability to scale up on its own for next 2-3 years is questionable. Significantly (completely??) dependent on Banks for Funding
b) Group may have a good loyal base in the South, but RBI has been pretty critical and has highlighted regulatory, governance and process issues for the Group; The Regulatory and Legislative framework for NBFcs is pretty dynamic and MCS will be susceptible to dynamic changes; Their “strength” on riding Fincorp branches may turn out to be a liability
c) Frequent Dilution at their size is not a good option - they will not get a 2x Bv or even a 1.5x BV if it comes within the next 2 years - which looks likely at the moment
d) I don’t like the out-n-out Aggressive plans; Financial sector players need to play conservative; else, you might easily land up in a situation where you are stretched too thin; on top of this dynamic regulatory changes can thrown in more uncertainty, esp. for a player of this size.
In my opinion upsides are not too exciting, and downsides can be HUGE. Why take such high risks? There are much better safe plays going around. A 5% allocation is also RISKY here for the kind of visibility you have going forward.
There are bigger, safer, better plays in the financial sector. Some names have already been mentioned.
Hi
Went through last four to five years MD&A under annual report and found that company has loosely announced many business plans which never took off or started under their flagship company Muthoot Fincorp. Going by the trend, we should be little sceptical of management targets and plans
|
Annual |
What they said in annual report |
Status |
|
Rights doc |
Company was listed in 1995 and raised around INR 1.6 crs for the purpose of establishing merchant banking operations. |
Exited |
|
2008 |
The Company also has plans to become more active in capital markets activities, merchant banking activities etc.â. |
Never started |
|
2010 |
Company plans to introduce many more new products in retail and SME segment. |
Not to my knowledge/ Not material |
|
2011 |
I am happy to say, has ambitious plans for growth in new geographies and in new markets in the financial year 2011 - 2012 we have embarked, such as loans against Gold ETF, loans against shares, loans against landed properties, loans for SME sector etc. |
Not to my knowledge/ Not material |
|
2011 |
Considering the bright future of the automobile sector in the country and the resultant huge demand, your Company is shifting its focus from the gold loans portfolio to the auto loan portfolio. |
Yes, now 98% auto loan |
|
2011 |
Under the Smart Plus Auto Loan, the full cost price of the vehicle is given as a loan, enabling the borrowers to leverage their gold ornaments against the margin requirement. The Company expects a very good response to this product from the market. |
Started under Muthoot Fincorp, confirmed from call centre |
|
2011 |
Another innovative product to be introduced by the Company in the near future is loan against Gold Exchange Traded Funds (ETF). |
Not sure, but possibly under Fincorp |
|
2012 |
INR 690 cr of AUM for vehicle loans, more than double of FY12 Conclusion: This investment seems to be more like venture capital investment in a company with substantial untapped market. My main concern is on management and whether they will be able to scale it up properly while maintaing loan standards. For next 6-9 months I will keep allocation at 1-2% (I invest max of 5% in a single stock). |
Hi
Growth looks good for company , But i have doubt like bajaj , M&M and TVS are leaders in 3wheeler manufacturing and all this company are in auto finance ,then why one should go for MCS. secondly company is using facilities of Muthoot finance to increase the customer reach this is not a issue that can be raised by stakeholders.
Thanks
MCS mostly finance two wheelers I think Bajaj finance is also a good bet. Some one from Kerala can clear whether they are using muthoot fincorp services or not . Meanwhile Muthoot fincorp IPO may come this year or in 1st half year of 2013 .
i think mcs looks expensive at current valuation if we look at L&T and Family Credit deal
http://www.moneycontrol.com/news/business/lt-finance-buys-familycredit-for-rs-120cr_771893.html
Q2 results out…
“Muthoot Capital Services has reported results for second quarter ended September 30, 2012. The company has reported 50% rise in its net profit at Rs 5.07 crore for the quarter ended September 30, 2012 as compared to Rs 3.38 crore for the same quarter in the previous year. Total income of the company has increased by 65.12% at Rs 24.24 crore for quarter under review as compared to Rs 14.68 crore for the quarter ended September 30, 2011.”
Vinod, thanks for the update. Lets do a detailed analysis of the results.
I am a beginner, but will throw my few cents if I could. If some one has the full details of the results plz post, then we can look at each of those numbers and digest, never the less, thanks for the update.
Hi Mahesh,
Please find details here:
Q2 results out…
“Muthoot Capital Services has reported results for second quarter ended September 30, 2012. The company has reported 50% rise in its net profit at Rs 5.07 crore for the quarter ended September 30, 2012 as compared to Rs 3.38 crore for the same quarter in the previous year. Total income of the company has increased by 65.12% at Rs 24.24 crore for quarter under review as compared to Rs 14.68 crore for the quarter ended September 30, 2011.”
Vinod, the link only has the financial numbers. Numbers look good, company is on track.
Having said that, let’s gather the information about if they grew the market share aggressively, how much the AUM grew, how many customers they added. If they continue the same trend, it will no less than a multibagger.
I agree with the previous posts that the company does not share vital financial info publicly which is the norm for financial companies. Anyways thanks to the digging done by the members, we have details like LTV and NIMs.
Just thinking about the credit profile of the customers of the company…these are people who are taking a loan for a two wheeler which will cost in the range of 50 to 80K…while paying interest rates of 24% and upwards. The fact that these people are willing to pay so much interest is because they cannot get loans from banks which was mentioned earlier. There is lot of inherent risk in lending to such customers and requires significant prudence in the lending process and risk models while selecting the customers to whom the company will lend. A name like STFC immediately comes to mind and we know the quality of management they have. So far the NPAs do not reflect it but we only have few years worth of data to go by.
I would take a small position and wait for the management to prove itself and also be more forthright with sharing detailed information. I agree that in the finance sector you need to be conservative rather than ultra aggressive. HDFC bank has delivered growth year after year yet it has the best asset quality for a bank of its size. On the other hand most debt restructuring cases will have SBI as one of the bankers because it lends to majority. That is why I would any day prefer a HDFC bank over SBI provided the valuations are in favour.