Prime Stock Recommendation: An affordable housing finance stock at affordable valuation

1. 

   Vijay P

   September 11, 2023 at 3:16 pm

   Dear Chandra,

   Very well analyzed and know about this company through its business model like Cholamandalam as MD worked in there and Manappuram..etc., but have noticed few concerns in terms book expansion and business model.

   1. As you stated above there was PE exit but it is fully focusing on rural areas and book expansion (sales) is low compare to market capitalization (valuation)

   2. When it comes to housing finance, but here, interest rate/ spread is little bit higher side and not sure margin will sustain?

   Thank you ,
   Vijay
   1. 

      N V Chandrachoodamani

      September 11, 2023 at 3:57 pm

      Welcome your query sir,

      Your questions are very relevant and valid

      It is the rural focus that enables the Co to earn 15-16% lending yield on this housing finance biz. Otherwise it’s capped at 11% for salaried and urban. Plus since the Co is expanding through a cluster based approach, it is also lending to SME and reverse mortgage in those geographies – all on home as collateral

      This enables to earn higher yield and in-turn higher RoA. Market is now valuing it based on the earnings potential than the book value.

      Imagine that it is available at 1 times book value of Rs.67 per share. But then its PE will be 6 times on an EPS of Rs.11 per share

      Can a Co. with 25% earnings and superior RoA trade at such valuations in this market? NO.

      So because of its superior earnings potential it is getting superior valuation based on its earnings which makes the valuation look much higher compared to its AUM or book.

      Btw, its book (AUM) is also expanding at 25%+ CAGR and may continue so on this lower size

      You can see the similar valuation characteristic in Bajaj Finance or Cholamandalam and Gruh Finance in the past.

      Based on their target segment, cluster-based approach (deep understanding of its geography) and high lending yield, we think the company can sustain this rich valuation going forward as well.

      Even if something goes marginally wrong on asset quality, it can hurt valuations (as happened for Repco in the past)

      Of course, there may be issues related to succession planning also.

      Considering all these, we have also given it as a high risk recommendation.
      One may have to play through lower allocation to this stock compared to other financial stocks that may appear safer than this.

      Hope this clarifies

      Thank you
      1. 

         Vijay P

         September 12, 2023 at 11:42 am

         Thank you Chandra,
2. 

   Anandkumar Mehta

   August 30, 2023 at 6:44 pm

   Thank you sir.
3. 

   Anandkumar Mehta

   August 28, 2023 at 9:07 pm

   Dear sir,

   Thank you for the analysis. I am holding the stock for 6 months. During this period, the stock hasnt done anything. In fact the whole sector was under performing wrt the smallcap index. I wanted to have your opinion on a few aspects:

   a. What’s the repco story due to which it couldnt perform? What lessons are to be drawn from that?
   b. Succession planning is an issue with the company. How do you see that?
   c. Of late, we saw some long timer exit the stock at discounted valuations to the prevailing market price. How do you see that?
   d. What is the reason for underperformance of the sector in your eye?

   Thank you
   Anand
   1. 

      N V Chandrachoodamani

      August 29, 2023 at 10:45 am

      Welcome your queries sir.

      Your questions are very relevant and so let me address point by point.

      a. Repco was a set-back story, but we have also seen success stories like Gruh & CanFin. The founders/mgmt. will have to build the business with immense focus and discipline.

      Take the cohort of regional private banks. Only one has graduated to mid-cap while others (7 banks) are still small-caps. But the mid-cap ones trajectory has been decided solely by the focused efforts of management over a decade. Meanwhile a newly born AU SFB has even become a large cap on top of all 8 listed regional banks.

      Ultimately it boils down to the focus and discipline of mgmt. and doing this business with consistent RoA and RoE (final outcomes) over longer period of time.

      At this point of time, we think Aptus is building a predictable business around lending based on home as collateral (housig loans, LAP & small biz loans) and following a cluster-based approach (understanding deeply each market) and centralised underwriting capabilities. We can only ride on a model and expect a certain outcome and lot of which is known only in hindsight

      We only have Gruh and Canfin as evidence for success stories. Canfin has grown its book 10X in 10 years and still going strong with superior asset quality (Pl see AUM growth data).

      b. As of now, CFO has been elevated to MD role, which is a welcome move. And every financial Co has this issue to deal with.

      Experience also tells us that NO financial Co can ride on a CEO for long unless its business model itself develops into a machine that takes certain input (deposits, AUM building, qualitative aspects of its book, etc) and delivers a predictable output (Yield, Asset Quality, RoA) across cycles.

      c. There is an exit spree among PE investors at this point of time. The long-time investors have much lower cost as well, I guess. We have seen it with Aptus’s peers also.

      And in all sense, PE investors are getting an exit valuation (Price to book) that is superior to their entry valuation.
      Stock market investors are always offered performing stocks at rich valuation after listing.

      d. The underperformance may be largely due to rich listing valuation. Meanwhile segment grwoth slowdown coupled with rising cost of funds also added to the woes. This has made the entry valuation significantly attractive now Vs at the time of IPO as mentioned in the report while still maintaining very high capital adequacy.

      Hope this clarifies our queries.

      Factoring in all these, we have categorized it as a “high risk” recommendation. The idea here should be to play it with an appropriate allocation.

      Thank you.

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