Buy Cholamandalam Investment & Finance Company, target Rs 300: ICICI Securities

ThinkstockPhotos-187046318ICICI SecuritiesNSE -1.35 % has upgraded Cholamandalam Investment & Finance Company to ‘buy’ from ‘add’, with a target price of Rs 300.

Shares of Cholamandalam Investment traded at Rs 265.25 around 11:55 am on 1 August, 2019. The brokerage has set a one-year horizon for the stock to hit the target price.

Investment rationale by the brokerage:

Market share accretion in new vehicle finance (VF) segments
While it predominantly works with the likes of Mahindra, Maruti and Hyundai in the Car & MUV segment, it saw its market share in the segment increase from 2 per cent to 3 per cent.

Because of decrease in competitive intensity in some of the new vehicles segment like tractors and two-wheelers, it is able to gain share in those segments while continuing its focus on SCV/LCV and used vehicles/refinance.

HCVs continue to de-grow as a segment.

NIM under pressure from higher borrowing costs and drag from liquidity buffer on the balance sheet 
Q1FY20 NIM on AUM (calculated) stood at 6.75 per cent, down 60 bps/12bps YoY/QoQ. Costs of borrowings (CoB) were up 20bps/10bps YoY/QoQ.

“We expect the CoB to have peaked and directionally it should either remain stable or reduce from here,” said the brokerage. The change in product mix should result in higher yields which will become evident by Q3/Q4.

Drag from cash/bank balance/fixed deposits will continue to remain even as the company evaluates steps it needs to take to become compliant with the liquidity coverage ratio (LCR) norms which might become a reality soon.

Higher dependence on ECB and securitization 
When the debt markets dried-up, Chola leveraged its banking relationships to maintain a strong liability book.

Banks now form nearly 52 per cent of the borrowing mix, up from nearly 38 per cent in FY18.

However, going forward, the brokerage expects that the company’s reliance on external commercial borrowings (ECB) and securitization will increase.

Depending on market conditions, ECBs could be a dearer or cheaper source of borrowings compared to the bank term loans.

Growth outlook and asset quality 
Q1FY20 GNPA in VF and HE (home equity) segments stood at 2 per cent and 5.5 per cent, respectively.

While credit costs remained benign in FY19, the brokerage estimates it to be slightly higher (nearly 75bps) over FY20E-FY21E.

“We model a VF/HE/total AUM growth of 22 per cent/15 per cent/21 per cent respectively over FY19-FY21E,” the brokerage said.

Valuations and risks
“We cut our PAT estimates by 3-5 per cent over FY20E-FY21E. This is because of the slightly higher operating expense from branch expansions that we model now,” said the brokerage.

Current valuation at 2.7 times FY20E P/B is at a premium (nearly 50-55 per cent to most of its asset finance NBFC peers) and reflects its relatively superior asset quality and higher earnings predictability.

“Our unchanged target multiple of 2.6 times FY21E P/BVPS leads to a target price of Rs 300,” said the brokerage.

Slippages in collection efficiency and deterioration in home equity portfolio remain the key risks, the brokerage added.