Muthoot Finance Ltd: ‘Dominant player’

Largest gold financing company in the country
Muthoot Finance (Muthoot) is the largest gold financing company in India with a gross gold loan portfolio of Rs. 15.9bn as at March 2011 and a commanding market share (20% in FY10). Company’s AUM has witnessed a phenomenal 82% CAGR over the past four years driven by substantial network expansion, significant improvement in branch productivity, sustained rally in gold prices and strong brand recognition. Gold stock has increased from 23MT to 112MT over FY07-11 representing 49% CAGR. About 67% of the current ~2,900 branches are located in the southern region which contribute 74% to the gold loan portfolio.



AUM growth to moderate but balance sheet growth to be strong
We anticipate Muthoot’s AUM growth to slow down to a more normalized 37.5% pa over FY11-13 due to base effect, increasing penetration and competition in South (especially Kerala) and slower adoption of gold loan product in other regions. Further, if the gold rally were to halt, AUM growth would be purely volume driven. With limited incentive for assignments now, bulk of the incremental growth would be reflected on the balance sheet propping up the net loan CAGR to 57.5% over FY11-13. Business growth would be mainly driven by significant improvement in productivity of ~1,750 branches added in the past two years.

NIM to contract on sharp increase in funding cost
Notwithstanding the tailwind from IPO, Muthoot’s NIM is estimated to correct by 140bps in FY12 to 9.5% due to steep rise in the cost of funds. The cost of bank borrowings has increased by 150-200bps in recent months on account of lending rate hikes by banks and loss of PSL status for assignments. Any fresh retail secured NCD issuance by Muthoot would likely happen at elevated rates (11-12%) in-line with recent issuances by other NBFCs. The yield on loan portfolio is expected to remain firm during the year despite intensifying competition aided by the recent hike (100-150bps) in interest rate by the company.

RoA to marginally come-off; RoE to remain impressive though
Significant improvement in AUM/Branch (from Rs. 58mn to Rs. 80mn over FY11-13) and lower incremental marketing/promotion expenditure would drive some operating leverage. Resultantly, opex/average assets ratio is estimated to decline by 30bps over FY11-13 to 3.6% marginally cushioning the impact of NIM contraction on RoA. The recent IPO has augmented capital adequacy and reduced leverage. RoE, as a result, is likely to normalize to 30-35% from 51% in FY11. Considering the estimated robust earnings of 39% over FY11-13, we initiate coverage on Muthoot with a BUY rating and 9-month target of Rs. 202.