L&T Finance: Retail shift slowly playing out, credit cost remains a concern

While disbursements improved in Q3, asset quality trend remains an uncomfortable patch

After over five per cent decline on Monday in reaction to its results, announced after market hours on Friday, the L&T Finance Holdings stock gained over seven per cent on Tuesday. The gain was primarily on account of the rights issue priced at Rs 65 a share that will open later this week.

While the attractively priced rights issue provides an opportunity for existing investors to increase their holdings at lower costs, the important aspect to take note of is the gradually changing construct of the lender’s balance sheet in favour of retail assets.

In the December quarter (Q3), disbursements rose by 13 per cent year-on-year (YoY) to Rs 10,070 crore. This is after seven straight quarters of decline in disbursements. On a sequential basis, loan disbursements almost doubled, though they were led by the wholesale segment. However, even focus areas such as tractor loans, microfinance (MFI) loans, housing loans and rural loans saw a healthy pickup, though they are yet to touch the year-ago level.

Nonetheless, with the share of retail book increasing to 51 per cent of total loan book (due to 190 basis points, or bps, YoY increase in focused book) and the wholesale book shrinking by 34 per cent YoY, the long-drawn aspiration of L&T Finance to reinvent itself as a retail lender appears likely.

The strategy to onboard infrastructure loans, primarily in sectors such as roads, renewables and power transmission, and subsequently sell-down the exposure, is helping the firm grow its non-wholesale portfolio in a profitable manner. Net interest margin in Q3 stood at 7.4 per cent (the highest in seven years), owing to lower cost of funds and higher fee generated from loans sold down. In the tractor financing space, L&T Finance has emerged as the number one player, whereas in segments such as MFI and rural housing, the company ranks among the top three.

However, what investors should also be careful about is the steady accumulation of stress. While the gross stage-III assets or assets over 90 days past due (DPD or gross non-performing assets, NPA) reduced by 82 bps YoY to 5.1 per cent in Q3, credit cost remained unabated at 4.3 per cent, indicating that asset quality pressures continue. According to analysts at Kotak Institutional Equities, adjusted for write-offs, gross NPA would have been 6.3 per cent in Q3, up from 5.1 per cent in Q2. “We remain neutral on the stock post the sharp rally; further comfort on asset quality trends will make us more assertive,” the analysts add.

The stock, despite the recent rally, trails its year-ago price by 16 per cent and valuation at 1.2x FY21 estimated book is also compelling. Yet, it may be prudent for investors to wait for a brisk pickup in its retail strategy before turning optimistic on the stock, given the asset quality pressures.