L&T Finance Holdings IPO Analysis

L&T Finance Holdings (L&TFH), promoted by Larsen & Toubro, is a holding company offering a diverse range of financial products and services across the corporate, retail and infrastructure finance sectors as well as mutual fund products and investment management services, through its direct and indirect wholly-owned subsidiaries. The company is registered with the Reserve Bank of India as an NBFC-ND-SI (systemically important non-deposit taking non-banking financial company)



L&T Finance Holdings was incorporated on May 1, 2008. On March 31, 2009, it acquired L&T Finance and L&T Infra. Prior to that, the company had various passive investments.

L&TFH is a holding company and has no direct operations. It provides financial services through direct and indirect wholly owned subsidiaries. L&TFH has applied for registration with the RBI as a core investment company.'

The company has presence in 23 states. As on May 31, 2011, the company had 837 points-of-presence across India, comprising 117 branch offices, 269 meeting centers, 37 KGSK (kisan gaurav seva kendra) centers and 414 customer-care centers across all its business groups and segments.

The company operations are arranged into four business groups: infrastructure finance, retail finance, corporate finance, and investment management.

L&T Infrastructure Finance Company (L&T Infra), a wholly-owned subsidiary, focuses on power, roads, telecommunications, oil and gas, urban infrastructure and ports sectors in India. The infrastructure finance group comprises project finance and corporate loans, equity investments and financial advisory services. L&T Infra is registered with the RBI as an NBFC-ND-SI and an infrastructure finance company.

L&T Infra's average cost of funds was 8.06% and the average yield on the loan portfolio was 11.56%, resulting in an average net interest margin of 4.95%, in FY 2011.


L&T Finance (L&T Finance), a wholly-owned subsidiary, is into retail finance and corporate finance. L&T Finance is registered with the RBI as an NBFC-ND-SI and an Asset Finance Company (AFC).

The retail finance group provides financing to retail customers for acquisition of income-generating assets and income-generating activities and comprises the segments of construction equipment, transportation equipment, rural products and microfinance. In addition, the group caters to the non-financing needs of its retail customers through the distribution of third-party financial products such as insurance and mutual funds

L&T Finance's average cost of funds was 8.40%, and the average yield on the loan portfolio was 15.19%, resulting in an average net interest margin of 7.88%, in FY 2011.

The corporate finance group provides financial products and services to its corporate customers and comprises the segments of corporate loans and leases (in the form of asset-backed loans, term loans, receivables discounting, short-term working capital facilities and operating and finance leases), supply chain finance (including vendor and dealer finance products) and capital markets products.

As on March 31, 2011, consolidated gross loans and advances outstanding were Rs 17943.18 crore. In FY 2011, the company made disbursements of Rs 24341.51 crore across the infrastructure finance, corporate finance and retail finance groups.

L&T Investment Management (L&TIM), a wholly-owned subsidiary of L&T Finance, operates in the mutual fund segment (including the management, administration and distribution of L&T Mutual Fund) and the portfolio management services segment (including portfolio management and sub-advisory services). L&TIM, formerly DBS Cholamandalam Asset Management, was acquired by L&T Finance on January 20, 2010, together with L&T Mutual Fund Trustee, formerly DBS Cholamandalam Trustees, the trustee company for L&T Mutual Fund. Its average asset under management (AUM) on March 31, 2011 was Rs 3334.41 crore.


India Infrastructure Developers (IIDL), a wholly-owned subsidiary of L&T Finance Holding, was incorporated in 1997, and is registered with the RBI as an NBFC-ND. IIDL was originally established as a special purpose vehicle for financing a captive power plant for Indian Petrochemicals. While the company does not currently conduct any material financing operations through IIDL, it intends to begin doing so in the course of FY 2012.

Furthermore, the company has made the following investments:

Hold less than 5% interests in Federal Bank as well as City Union Bank;

Hold an 8.90% interest in Invent ARC (with an equity investment of Rs 15.98 crore), an ARC (asset reconstruction company), which is permitted to resolve and/or reconstruct NPAs under and in terms of the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interests Act, 2002. The company held an 8.90% interest in the Invent/10-11/S3 Trust (with an equity investment of Rs 31.65 crore), which is aimed at raising funding for the acquisition of distressed assets from banks and financial institutions.

Holds a 30% interest in NAC Infrastructure & Equipment, which was formed as a joint venture between India Infrastructure Equipment, the National Academy of Construction, Nagarjuna Construction Company and L&T Finance, with the object of leasing equipment to the infrastructure and construction sectors. The joint venture also provides financing for the acquisition of construction equipment.

L&T Finance Holdings' capital adequacy ratios, based on audited standalone accounts as reported to the RBI, is 79.88% (RBI does not recognize capital adequacy ratios based on consolidated financial information). L&T Finance's CRAR was 16.34% on 31 March 2011, while L&T Infra CRAR was 16.5% as against the regulatory requirement of 15% each.

The company has applied to the RBI for classification of L&T Finance Holdings as a CIC-ND-SI. On approval, the company has to maintain CRAR of 30% against 15% now.

The company is coming with an IPO to raise Rs 1250 crore consisting of fresh issue of 24.4 crore shares at a lower price band of Rs 51 per share and 21.1 crore shares at the upper band of Rs 59 per share. The company has reserved Rs 120 crore of the issue size for L&T shareholders, while Rs 50 crore is reserved for L&T group employees. L&T employees are being offered a discount of Rs 2 per share.

The company had made preferential allotment to the promoter L&T in September 2010 for 6.3 crore shares at a price of Rs 67 per share.

The company intends to utilise the net proceeds for repayment of inter-corporate deposit issued by the promoter amounting to Rs 345 crore, infusion of capital in L&T Finance amounting to Rs 515 crore, infusion of capital in L&T Infrastructure Finance Company amounting to Rs 485 crore and for general corporate purpose.

Microfinance Business

As on March 31, 2011 loans and advances to the microfinance (MFI) segment were Rs 460.23 crore, which accounted for 4.53% of the total unsecured loans and advances of its retail finance group. As on March 31, 2011, there were no net NPAs in the microfinance segment of its retail finance group.

Strengths

Has a diversified business model covering a variety of business and customer segments including infrastructure finance, construction equipment finance, rural products finance, microfinance, corporate loans and leases, supply chain finance, capital markets finance, distribution of financial products and investment management products and services

Strong parentage and brand equity of L&T provides a significant competitive advantage, particularly in attracting new customers and talent and accessing capital.

Net NPAs of the infrastructure finance group, as percentage of net outstanding loans, was 0.53% as on March 31, 2011, while for the retail and corporate finance groups, the net NPAs as a percentage of total loans and advances was 0.78%.

Weaknesses

As on March 31, 2011, L&T Finance had borrowed Rs 2525.92 crore (representing 28.55 % of its total loan funds) from various banks under priority sector loans. However, RBI's recent Monetary Policy Statement provides that, with effect from April 1, 2011, bank loans to NBFCs other than NBFC-MFIs would not be reckoned as priority sector loans. This would have an adverse effect on the cost of funds received from banks for L&T Finance.

Higher interest rate scenario for a prolonged period could impact demand for credit and spread of the NBFCs could be under pressure as it would be difficult to pass on the entire rate increase.

Valuation

L&T Finance Holdings' FY 2011 EPS on post-issue equity works out to Rs 2.28 and Rs 2.33 on post-issue equity of Rs 1721.02 crore (lower band of Rs 51) and Rs 1688.02 crore (on higher band of Rs 59), respectively. At the price band of Rs 51 to Rs 59, P/E works out to 22.4 to 25.3 times.

Current book value of L&T Finance Holdings is Rs 19.6. Pre issue P/BV at issue price of Rs 51 comes out to 2.6, while at issue price of Rs 59 it is 3.0.

Post-issue BV works out to Rs 24.1 and Rs 24.5 at issue price of Rs 51 and Rs 59, respectively. P/BV at both the bands works out to 2.1 and 2.4 times, respectively.

Most of the other NBFCs in the listed space are specialised NBFCs focusing on niche areas, while L&T Finance is providing services across diversified sectors and businesses. Shriram Transport Finance is India's largest player in commercial vehicle finance, while Mahindra & Mahindra Financial Services is giving personalised finance for utility vehicles, tractors and cars, focusing on the rural and semi-urban sectors, IDFC is an integrated infrastructure finance player providing end-to-end infrastructure financing and project implementation services. REC is financing and promoting rural electrification projects all over the country and PFC is dedicated to power sector financing and committed to the integrated development of the power and associated sectors. Sundaram Finance is mostly into vehicle finance.

Shriram Transport Finance Company is trading at P/BV of 3.2, M&M Financial Services at 2.9, IDFC at 1.8, REC at 1.7, PFC at 1.6, and Sundaram Finance at 1.7