@jvembuna
Good article Jana. Keep writing and keep sharing.
I’ve also penned down my thoughts on Repco Home finance here http://goo.gl/1kxww9 though I’ve tried to stay away from valuing and assessing the merits of investing in it because I think that really depends on one’s investment philosophy and conviction based on fundamental research.
Gruh has similar characteristics as Repco with an added benefit of HDFC pedigree.
One thing I’m struggling with (may be due to confirmation bias) is to get better understanding of the risks for housing finance companies apart from valuation and slow down in growth. Any thoughts on those lines will be much appreciated.
There is lot of talk about housing sector slowdown in Tamilnadu and it’s impact being severe on the number of transactions etc etc and it’s impact on Housing finance & Repco. So I was searching for some data to make sense out of these talks and here is what I came across.
Year | No. of Property Registration in TamilNadu
2013-14 | 26.53 lacs
2012-13 | 26.9 lacs
2011-12 | 35 lacs
2010-11 | Couldn’t find data
2009-10 | 27.39 lacs
2008-09 | 28.32 lacs
So, seems like over a period of 6 years when no. of property transactions were essentially flat in TN, Repco did a fantastic job and continues to do so.
On moat, low cost to income is a differentiator when compared with banks; however the same may not be true when compared with other NBFCs (say Gruh or LIC) which have lower cost to income ratios.
As you have mentioned, the opportunity size itself is so huge that several players can operate while generate decent RoAs/ RoNW.
The returns on this investment would depend so heavily on exit multiple assumption (and this is tricky), There are 2 schools of thought, assuming an exit multiple based on conservative P/E (say 15x) or P/B (say 2x). Valuation wise, currently markets have almost ignored P/B as metric in case of Gruh and Repco, and mostly value them based on P/E. It would be interesting to see how markets value these companies going forward !
Disclaimer: Hold and positively biased (I am in P/E camp when valuing these NBFCs)
Yes I agree that valuation is a tricky part. Business with leverage are prone to negative black swans. However great the management or your analysis this can’t be avoided. When you’re making a choice on buying a business one should always be conservative on the exit multiple. Even after conservatism if the expected returns looks great then one should buy the stock. The decision to buy should be as simple as shooting-a-fish-in-a-barrel-type which Munger used in the latest DJCO meeting.
Thanks. Some of the risks I can think of are (1) Banks don’t lend money to self-employed segment. What if CIBIL checks becomes dependable over time and banks gets interested in this segment (2) Business with leverage are prone to negative black swans and it can wipe out the equity. Look at what happened to Shriram Construction Equipment. The same thing can happen here (3) What happens when the local Tamil Nadu economy gets affected to adverse events. REPCO will be affected as it’s heavily concentrated on this segment.
Thanks for highlighting your thoughts on risk. I’ve tried to think about these myself and my thoughts are:
Even today, Banks could easily lend to self-employed category if they really wanted to do so. They could easily build a robust credit assessment model (given that they have branches in rural India) or outsource the whole process to a third-party but I think banks does not have interest in small-ticket loans. As and when economy turns, banks may reduce their consumer/housing loan even further to go after the big corporate tickets, which will continue to provide opportunity to specialist NBFC such as Bajaj Finance, REPCO etc.
Black swan events are unavoidable irrespective of the research one does. Nestle is a classic example though STFC is more of a case of going outside the circle of competence and bad timing. It is very difficult to encapsulate black swam events in risk analysis. One way to cover such scenario is to buy a dollar for fifty cents. So one has to make a call if you are happy to pay a fair price or even a marginal higher price for quality companies.
REPCO has been trying to diversify the business, but a downturn in TN housing market will certainly hurt. In that context, I think understanding economic cycles can be very insightful in making right investment decisions. If you still haven’t read yet, I recommend a letter from Howard Marks “You cant predict but you can prepare”
Very well written. Lending companies don’t have a lot of capacity to suffer. When you have a debt-equity ratio > 5 then there is little room for any error. If there are non-lending businesses available I would prefer them. If not then I would depend on margin-of-safety and portfolio level diversification.
R Varadarajan, MD, Repco Home Finance expects his loan book to grow above the current rate of 25-30 percent. 80 percent of the company’s loan book is under affordable housing.
The problem these days is of a heavy load of newsflow on most of listed securities. Its often difficult to make sense of so much newsflow and its impact on the individual investor’s investment. And its often difficult not to get swayed by such newsflow.
I tend to ignore all these published articles in the newspapers and take an independent view based on numbers reported and management commentary in AR and concalls.
Good strategy but what about company’s which doesn’t do concalls. Do you still ignore articles related to company/industry and only review positions based on quarterly financial numbers/yearly Annual reports.
Also is your strategy applicable for medium term plays as well or only for long term best quality business’s?
I came across this today in one of the articles that i was reading. I don’t know who said this but is very apt.
“Whenever anyone asks me for investment advice, I tell them to buy a diversified portfolio heavily tilted toward stocks, especially if they are young, and then scrupulously avoid reading anything in the newspaper aside from the sports section. Crossword puzzles are acceptable, but watching cable financial news networks is strictly forbidden.”
There is so much noise in the media that it is almost impossible for an average investor to reach any kind of a rational conclusion.
In the outlook article, it is argued that the whole housing sector is slowing down and the HFC’s will face increasing competition from the banks. It treats the whole housing sector as one amorphous lot with no difference between a person borrowing Rs 5 lacs to build a small room in semi-urban area and a person borrowing Rs 1 crore to buy a third flat in urban India. The first is a need and the other is a so called investment and the drivers for the demand are totally different.
For people who are following the Kaveri seeds thread would notice that every day there is an article or two saying that the monsoons have progressed or stalled, the cotton acerage has gone up while the next day the same paper declares that it has gone down.Now as an investor how do you make any sense of the plethora of information being thrown at you?
In my opinion that best would be to ignore it and as Hitesh suggests, look for the facts and figures and management commentary. Most of the news is short term driven anyway.
These articles is typical recipe of media coverage with sensational titles and no substance.
The author, for the most part of the article articulates how HFC has grown phenomenally over the last few years and why they command premium. By the end of the article the author reminds himself that he is supposed to justify the title, so throws in a dash of valuation scare and slower growth rates.
He makes a detailed investment case for gruh finance.
About companies that dont do concalls etc, one has to first check his investment thesis and see how the company is doing based on quarterly results and if things are going as expected then thats all that is needed.
Just to add an example, we can look up avanti thread and see lots of posts on the worries plaguing the shrimp sector and so on and so on…
And just look at stock price which has gone up during all this time from 1500 odd levels to 1800 plus levels. Now if I were to worry everyday about the newsflow how would I take an investment call for next few years? On another note, technically the stock has broken out of a triangular consolidation. ( I read Nooresh’s post on that one also.)
@hitesh2710 Thanks for the link. He has made a good case for Gruh.
I had recently read this beautiful Zen proverb;
" Since it is all too clear, it takes time to grasp it "
I think that investors have a lot to learn from the above quote. The human mind keeps complicating the most basic of things as conquering the easy or simple is devoid of any challenge and human beings like to be pushed or there is no thrill.
The low cost housing finance to me seems to be one of these all too clear opportunities which people are not willing to accept at this stage or looking for holes in the story. How this unfolds, only time will tell but a story worth keeping a track of.
@piy_sharma most of the people are getting confused with the problems the real estate sector is facing and they are extrapolating it to the low cost HFCs, But just looking at the huge scope for growth and the niche area that these low HFCs are in especially Gruh and Repco we need to take call thinking about how the market capital can multiply from here instead of paying attention to the noise
Interesting quote in the article which highlights that big banks will continue to focus on big tickets in metros, leaving ample room for specialist HFC to grow in smaller towns/cities.
A valuation of 4400cr means ICICI home finance is valued at P/B of 2.95x and P/E of 22x. The company probably has loans of less than 6500cr. If ICICI home finance does manage to get these valuations, then REPCO and Gruh suddenly does not look too rich on relative basis.
If you visit smaller towns/cities no one knows or cares about ICICI and HDFC as a brand name. They will go to viable options who are able to evaluate their creditworthiness and provide them loans at a competitive rates (compared to individual lenders). Repco and Gruh does exactly that because lending to self-employed in small loan tickets is a completely different ball game. The intangibles of Gruh and Repco is much higher than many other players including ICICI home finance (though I’ve to admit that I don’t know the details of ICICI home finance business quality)
P/B is a very flawed mechanism in many ways if not looked upon holistically. Take an example of Gruh - Its book value is understated to the extent of the dividend payout which is north of 40%, probably highest in the industry. Second, Gruh can easily ramp up its book value though equity capital raising which is typically the game played by firms such as Yes Bank because they know most investors are looking at P/B. Thirdly book value is only relevant to the extent of the quality of your assets. If you do look at P/B as your valuation metric than you also have to look at ROE, and you will see Repco and Gruh has much better ROE.
I prefer looking at ROA and P/E for Gruh and Repco, or for that matter most HFCs
On a separate note, the book value of HDFC is vastly understated because many of its subsidiary investments such as HDFC bank, Gruh, insurance arm etc are valued at cost on the books which is much lower than the market value.
Very nice thought which should clear all the doubts about the valuation of Gruh and Repco. It also indicates why Mr. Market will always assign more premium to them
