The Sector in play for this bull market is undoubtedly the NBFC space and AU’s IPO at mind blowing valuations is just an confirmation of the trend.
AU was valued at 1200 crores in Feb 2013 when Chrys bought Stake, it was valued at whopping 5,000 Crores in June 2016, just a year later in June 2017 at IPO its valued at 10,200 Crores.
The Grey Market Premium for AU is 100/Share i.e. it will list at a market cap of 13,000 Crores. We at Stallion Asset Believe that AU is a Sell on listing gains as EPS will drop from 12 in FY2017 to 7-8 in FY2018 due to conversion from NBFC to Small Finance Bank. There is very limited upside for next 2 years after listing gains. Our Calculation Suggest an optimistic fair value of 350/Share.
Below are the 10 Must know Things about AU Small Finance before you Subscribe for the IPO
Factor #1 About the Management & Business – I had gone to Attend AU Small Finance Bank analyst meet a week ago and met Sanjay Agarwal personally to understand the business, let me tell you with some conviction that Sanjay is very passionate and the company works like a Start up. He understands the business really well and understands the credit culture for SME’s really well.
AU was launched in 1996 as a retail-focused NBFC based in Jaipur. In December 2016 the company became the first asset-led NBFC to get a small finance banking license from RBI to kickstart their operations.
The Business is pretty Simple, they borrow at 9.6% and lend at 16.5%, there are two important cost 1) Credit Cost (NPA) and 2) Operation Cost.
AU was primarily in Vehicle Loans i.e Cars and Commercial vehicles loans from 1996 and expanded in MSME in 2007.
#Factor2 – Loan Book – 50% of the Total Loan book is toward Vehicle Finance and the rest toward SME and MSME. The Growth in SME & MSME is faster than vehicle segment. When i asked Sanjay (the Founder) about expected growth he said he can’t give out the numbers in public due to SEBI Guidlines but we expect 40%+ Growth in SME/MSME Segment.
The Company has growth its AUM at 30% CAGR for the last 5 years and we believe this is sustainable going forward as well. We expect that the Vehicle finance would grow at 20% and SME Segment at 40%.
Factor 3 – Secure Lender – The 3 rules of Credit are Character, Capacity and Collateral . Both Microfinance and SME finance grew at 40%+ for last 5 years but with SME finance the book is secured and MFI violates one of the most important rule of credit i.e. collateral. 99% of AU’s lending book is secured and AU SFB lends only for mostly productive assets.
Factor 4 – Complexity of Business – AU has displayed good understanding of its client’s business, on why the customer needs money and how he will repay. Evaluation is very difficult because data is not available and AU uses its own 120 points checklist that has helped them get an edge over competitors.
Factor 5 – Low Leverage – AU is leveraged 5x whereas leaders in both SME and Vehicle space are leverage 7-8.5x. AU has a mix of Vehicle Loans and SME. We believe AU can leverage itself 50% more from current level and AU will not dilute its equity for next 2 years as it can Increase its leverage and ROE further.
Factor 6 – ROE – AU has the highest ROE among its peers of 21.7%, v/s 12% for Capital First and 11.6% for Shriram Transport even without taking on a lot of leverage, suggest better management effectiveness compared to peers.
Factor 7 – NPA – Au Small Finance has an NPA of 1.6% v/s 8.16 for Shiram Transport (Vehicle) and 0.95% for Capital First (SME). The most important things about AU is the credit discipline that they have maintained, Mr Sanjay says that he personally focuses a lot on Credit Quality. The Management seemed confident that net Credit cost will be 1% in the long term which is reasonable.
Factor 8- Financials & Valuations – The company has doubled its revenue in last 2 years and the Profits have Increased 234% in the same time to 326 crores. The networth has Increased Sharply from 1000 to 2000 crores in one year as it sold 90% of its housing finance business for 828 crores. The Selling of Housing Finance business was required as RBI had given them a conditional Small Finance Bank license and the most important condition was selling controlling stake of housing Finance business. AU Continues to Hold 10% stake in the housing finance business.
The IPO is priced to perfection leaving no room for sustainable upside. At IPO price, the Company is valued at 30x FY2017 PE and 5.11x P/B for 2017. The Issue is very expensive and we are very confident that Capital First will beat the returns of AU SFB for next 3 years after listing.
Factor 9 – SFB Conversion – This is the biggest risk to the company as they will now have to invest in low yielding government securities and spend money on opening branches. Currently the Company in FY2017 has opex of 350 crores and the company has guided that the opex will increase to 700-800 crores in FY2018. We believe that this will hit the EPS from 12 in FY2017 to 7 in FY2018, but it will get back to 11-12 in FY2019.
Factor 10 – Conclusion – If Grey Markets are Right and the company list at 100/Share premium, the stock would trade at 6.5x FY2018 P/B and 60x FY2018 PE. We believe it would be a Great Sell at 460 and Assign Fair value of the Stock at no more than 350/Share.
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