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Wrath of The DeMon

NBFCs have been badly hit by demonetisation. Who should you bet on?

RA Chandroo

NBFC stocks have come crashing down following the government’s decision to demonetise the Rs.500 and Rs.1,000 notes. As several NBFCs cater to the cash-intensive segments, the resultant liquidity crunch is hampering the businesses of these NBFCs.

However, analysts feel that certain NBFCs are better placed to weather the disruption brought about by demonetisation and recover faster. The believe NBFCs offering products to the salaried class should be less affected by this move.

For instance, a player like LIC Housing Finance would be less affected due to the favourable portfolio mix it has. Bulk of LICHF’s mortgage loans (85%) and loan against property book (75%) is accounted for by the salaried class. The clampdown on cash would have an impact on the self-employed borrowers, but salaried borrowers are less likely to face a major challenge in meeting their EMI obligations. Within the overall loan book, individual loans account for 87%, LAP is 10% and developer loans are just 3%.

The stock has corrected 6% since the announcement on November 8 and 14% in the past month. The stock trades at 1.8X FY18 BV and is expected to report a 20% RoE over FY17-19E, as per estimates by Kotak Institutional Equities. The brokerage house has increased the weight of the stock to 400 basis points from 200 bps in its model portfolio.

The impending 7th Pay Commission disbursement is also good news for LICHF as 50% of its borrowers are Government employees.That said, housing finance companies, especially those with sizeable LAP book and self-employed borrowers could come under stress. Unlike its peers, LICHF’s LAP book accounts for relatively smaller share of its loan book (10%) and with loan-to-value ratio as low as 25%, the housing financier looks well insulated against any erosion to its collateral. With yields expected to fall further due to excess liquidity in the banking system, LICHF looks well poised to capture any pick-up in the demand.

However, HFCs like Repco Home Finance are expected to be hit harder due to their high exposure to non-salaried borrowers, who make up for 60% of the company’s loan book. Meanwhile, LAP constitutes 20% of its loan book. The higher loan-to-value ratio of 65% also makes the firm more vulnerable to a correction in property prices. Its stock is down 21% since the demonetisation announcement. The pain in the HFC space could be structural for certain players if the likely correction in property prices fails to spark a revival in demand.

In contrast, analysts feel micro-finance NBFCs may only face near-term headwinds and normalcy would return soon. “Presently, MFIs are not allowed to collect money in old notes. However, the pain should ease over a quarter as currency comes back into the system. Remember, these are small-ticket loans (monthly repayments not more than Rs.5,000-6,000) and as borrowers are unlikely to default as loans are taken for livelihoods,” says Shibani Sircar Kurian, head - equity research at Kotak Mahindra AMC.  

Some MFIs have already started disbursing new loans. During a recent conference call on the demonetisation issue, Samit Ghosh, CEO, at Ujjivan Financial Services, informed the participating analysts that his company had started disbursing new loans with borrowers coming forward and making their loan repayments in legally acceptable currency.

Analysts at Morgan Stanley believe that the demonetisation drive is actually structurally positive for MFIs as it would stop the supply of credit from informal channels like moneylenders. Recommending Bharat Financial Inclusion (previously SKS Micro) to their clients, its analysts are of the view that the lower monthly instalments per borrower (Rs.300-500) should help BHAF to manage the situation better compared to other MFIs. The stock is currently trading at 2.4x FY18 book value as against its trailing 5-year average of 3x. The stock has corrected 17% since November 8.

“MFIs that have converted to SFBs should be less impacted as they are allowed to accept the old Rs.500 and Rs.1,000 notes,” Shibani adds. Equitas, which started its SFB operations in September, has been accepting collections in old notes and is making 70% of its fresh loan disbursements through the banking channel. The SFB is encouraging the remaining borrowers to share their Jan Dhan Yojana account details to disburse the remaining loans due to the cash crunch. The stock has corrected 10% since November 8.

NBFCs which have large exposure to consumption-related sectors may also face less difficulty as consumers are unlikely to defer their white goods purchases for long. The discretionary spending in terms of consumer durables and two-wheelers may slowdown in the near-term, but these small-ticket items should be back in demand soon. Additionally, as consumer loans have PDC or ECS mandates, the cash crunch shouldn’t have any significant bearing on asset quality in this segment.

Bajaj Finance, which has 46% of its Rs.52,300 crore loan book exposed to consumer-facing sectors, should continue to see growth in this space. For the quarter ending September, Bajaj Finance’s consumer book stood at Rs.24,058 crore, up 52% YoY. Amid the ongoing wide-based selling of NBFC stocks, Bajaj Finance has corrected 16%. “The impending disbursement of 7th pay commission and the one rank one pension scheme bode well for NBFCs catering to the consumption-led demand,” says Payal Pandya, research analyst, Centrum Broking.

However, the company in a regulatory filing observed that there could be some trouble in the 2- and 3 wheeler portfolio as 30% of repayments in this segment were collected in cash. To mitigate the risk, the company is accepting old currency notes and is also encouraging such borrowers to issue cheques. One will have to wait and watch the impact of the move on the company’s SME book, which accounts for 39% of the overall AUM. Here again, given the company’s focus on high net worth SMEs with an average annual sales of Rs.15 crore, strong financials and proven repayment track record, the impact might be limited.

For now, demonetisation seems to have put the brakes on the unbridled rally witnessed by NBFC players on the Street. However, the sharp correction might present itself with selective opportunities as NBFCs now trade 30%-40% below their 52-week highs.

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