Investors can consider an exposure to the LIC Housing Finance stock at its current price of about Rs 175 with a one/two-year perspective. Improvements in vital business parameters over the last few quarters coupled with strong positive outlook for the domestic housing finance market point to encouraging business prospects.
Improvement in margins
For LIC Housing Finance (LICHF), high cost of funds and, consequently, lower spreads had impacted profitability in FY 03-06. Intense competition from banks had put pressure on the company's ability to raise lending rates, thereby straining its margins.
However, this trend appears to be slowly changing now. For the quarter-ended September, margins rose from 1.8 per cent to 2.6 per cent on a year-on-year (Y-o-Y) basis, thanks to the rate hike of July. LICHF has close to 90 per cent of loans linked to floating interest rates while about 60 per cent of its own borrowings are also so contracted. What this essentially means is that, even if LICHF re-prices about 60-70 per cent of its outstanding loan portfolio, it is likely to have a positive impact on its margins. A chunk of LICHF's funds (over 35 per cent) comes through bank borrowings. Refinancing from the National Housing Bank and debentures account for about 40 per cent. Of late, its dependence on LIC has been reducing and it now forms about 17 per cent of the total borrowings.
As sourcing funds is becoming increasingly difficult amidst hardening interest rates, containing costs is likely to hold greater significance for the industry, in general, and LICHF, in particular. Though LICHF has brought down its funding costs over the last couple of years, the weighted average cost at close to 7 per cent remains high compared to the likes of Gruh Finance and HDFC.
The company intends raising public deposits to improve its cost structure. Being an NBFC, it has a leeway to raise deposits up to five times its net-owned funds.
However, with banks vying for retail deposits and short-term rates showing an upward bias, LICHF may find it tough to corner a share in the pie. Hence, its dependence on wholesale debt market is expected to remain fairly high.
Disbursals to pick up
LICHF's performance on business disbursements has not been very encouraging. On a five-year CAGR basis, sanctions have grown 25 per cent and disbursals 26 per cent. However, there has been some pressure over the last quarter. Total disbursements fell to Rs 1,172 crore in September 2006 from Rs 1,236 crore a year ago. This was primarily on account of the internal restructuring. In the last three-four quarters, the company was focussing on streamlining its processes and systems that impacted its business operations. With the exercise almost stabilised now, growth is likely to pick up.
The management expects a growth of 26-28 per cent in disbursements over the next year. For LICHF, 95 per cent of the new disbursements come from the retail sector, while loans to builders (projects) forms the balance. With the construction sector expected to remain buoyant, the projects business is likely to pick up faster. Some of the projects in the pipeline are expected to mature over the next few months. This is likely to be reflected in higher disbursements in the second half of FY-07.
The average size of the LICHF loan has also risen from Rs 5 lakh to about Rs 6 lakh, but is still below the industry average of Rs 7 lakh. The improvement has come on the back of a boom in real-estate market and increased exposure to builders. The disbursement-to-sanctions ratio has remained stable at 90 per cent. Any improvement on this front is likely to prove beneficial to the company. Through sharper focus on recoveries and adequate provisioning, LICHF has been able to bring down the level of net non-performing assets (NPAs) from over three per cent a year ago, to 2.1 per cent now.
The company has provisioning in excess of the mandatory requirement to the tune of 5 per cent. If it manages to sustain the pace of recoveries and prevent fresh non-performing assets, the provisioning levels could remain low, thereby boosting profitability. This would also help it attain the target of one per cent fixed for net NPAs by FY-08.
Valuations
At its current price, the stock is valued at a price-to-book value of 1.1 and a price-to-earnings multiple of about 6.5 times its trailing 12-month earnings. This, in our view, is undervalued when compared to a P/BV of 1.5 for its peers. Further, the return on equity at 16 per cent is also healthy and is likely to remain around this level over the next couple of years. Assuming that disbursements rise by 20 per cent on a conservative basis, the company is likely to turn in an earnings growth of 15-18 per cent over the next year. This is likely to translate into an expansion of close to 20 per cent in per share earnings.