Better times ahead for Shriram Transport Finance

Improving sales, good monsoon to boost earnings and return ratios

The Shriram Transport Finance (STFC) stock has surged 46 per cent since February, even as the S&P BSE Sensex is up only 7.3 per cent. This out-performance captures a host of positive developments for the company.

Improved traction in new vehicle loans (especially high tonnage) boosted its assets under management (AUM) growth in the quarter ended March. This trend is a structural long-term positive. With cash flows of truck operators increasing, it also means lesser defaults and better asset quality for STFC.

Second, if the monsoon turns out as good as predicted, it will boost rural demand, which has been impacted by two consecutive years of below-normal rainfall.

Third, recent media reports suggest Piramal Enterprises, the largest shareholder in the Shriram group with 10 per cent in STFC, is looking to de-merge its health care and financials businesses. Reports suggesting that Piramal could also look at merging all its financials businesses together, have perked up sentiment. Any such merger will lead to economies of scale and improve profitability of the combined entity, believe analysts.

While it is still early days to forecast whether Shriram group (or STFC) will apply for a banking licence, this has not enthused analysts as it may prove to be a drag on return ratios initially.

Improving utilisation levels of commercial vehicles (CVs) as well as higher production of key commodities such as steel, cement, fertilisers, etc, indicates early recovery on the macro-economic front. This augurs well for STFC, which is engaged in the business of financing CVs (largely pre-owned as well as new). The company, thus, could witness improvement in growth, profitability and asset quality as economic recovery gathers steam.

"With healthy recovery expected in the equipment division, STFC's gross NPA is likely to come down to Rs 500 crore in FY17 from Rs 900 crore in the fourth quarter of FY16, driving Rs 300 crore of provision reversal. As a result, we expect overall credit costs to fall to 2.3 per cent from 3.2 per cent in FY16," says Pradeep Agrawal, an analyst at PhillipCapital. However, as STFC transitions to 90-day NPA recognition level by FY18 from 150-day currently, it will keep provisions at elevated levels. However, such an increase is because of the company complying with regulations and need not indicate rising risk of bad loans.

Most analysts remain positive on the company. According to Bloomberg consensus estimates, STFC is likely to post 37 per cent growth in net profit in FY17. However, the average target price of analysts at Rs 1,122 is lower than current price.