Many growth triggers for RCap

But the strong rally in its stock seems to price in most positives, including the performance of the insurance business

Reliance Capital (RCap) scrip, which has risen 113 per cent in a month, made a 52-week high of Rs 645 on Thursday, driven by its plans to raise funds via non-convertible debentures (NCDs) and issue of securities to qualified institutional buyers (QIBs). The stock has outperformed the BSE Sensex since May, given a) improving performance of life insurance business, b) turnround of general insurance business which reported first full year profit (Rs 64 crore) in FY14 and c) other businesses to benefit from a potential improvement in economy and capital markets.

Kunal Shah, analyst at Edelweiss Securities, says, "RCap's core businesses, asset management and commercial financing, are stabilising. Life and general insurance businesses, after some dip, too, are stabilising after regulatory hurdles and write-down of third-party motor provisions. In view of the inherent value in core businesses, we maintain buy rating on the stock."

Increased investor focus on domestic cyclicals and financials, with expectations of an increase in foreign direct investment (FDI) limit for insurance companies, has also fuelled the stock's rally to some extent. The company stands to benefit a lot from economic revival given most of its businesses, insurance, asset management, consumer finance and broking, are linked to the economy and/or capital markets.

Though most analysts remain positive on the stock, the current valuations factor in near-term positives. Of eight analysts polled by Bloomberg in 2014, five have buy, two hold and one sell rating on the stock. While their average target price is Rs 471, the most recent recommendation (June 5) of Espirito Santo Securities has a target price of Rs 692. This, at best, suggests limited upside from current levels of Rs 648. Investors can thus consider the stock on dips.

Likely stake sale in its general insurance business this financial year could be a key catalyst for the stock. On the flipside, high investments book and non-core investments (such as media company) are key concerns. Analysts say if the company monetises these, it could ease concerns as well as provide further upside trigger.

After two years of consolidation, Reliance Life posted 15 per cent growth in new business premium (NBP) led by stronger focus on high-margin products. Analysts expect this metric to grow 10-15 per cent. But 45 per cent of FY14 profit before tax of Rs 359 was surrender profits and hence unsustainable, say analysts. Santosh Singh, financials analyst at Espirito Santo, says, "We expect statutory profit to fall in FY15 to Rs 265 crore from Rs 359 crore in FY14, due to significant reduction in surrender penalties. But on a fundamental basis we expect cost overruns to subside." On the other hand, the company has made full provisioning towards motor pool loss in FY14 and hence profits of its general insurance business are likely to improve a lot.

RCap asset management business was focused on high margin retail debt segment (33 per cent of assets under management) in FY14 which enabled it to maintain profitability in this segment despite the financial year being tough for equity markets. With the revival in equity markets as well as economic growth, the business could witness improved growth and profits, believe analysts.

In the lending segment, the company has been slow in growing its business given the weak macro and has focused on improving profits. RCap management expects growth to pick up in the second half of this financial year (versus 0.12 per cent loan growth in FY14) as economy revives. Despite the flattish loan book, this segment's profits grew 25.6 per cent to Rs 430 crore. A small contribution to profit growth though came from the reversal of provisions worth Rs 13 crore in the March 2014 quarter due to the resolution of two large stressed accounts - excluding this profit growth was 22 per cent. RCap's broking business is most volatile in earnings, given its high correlation with capital markets. The business remained weak in FY14 due to low volumes in commodities and equity markets. But this, too, should change for the better with market sentiments improving.