More shine left in gold financing companies

With interest returning to gold, Muthoot Finance and Manappuram Finance are among biggest beneficiaries

With gold coming back in flavour, stocks of gold financing companies Manappuram Finance and Muthoot Finance have delivered 20-37 per cent returns since June 1. But, despite the steep returns, analysts advise investors to remain invested in these stocks. The reasons for this bullishness stem from the improved outlook for gold prices and product diversification undertaken by these companies.

Gold has gained around 10 per cent since June 1. Given the tepid global outlook for equities market, gold is increasingly recognised as safe-haven investment, indicating that prices are expected to remain firm in the foreseeable future. While this is positive, the recalibration of gold loan business has also helped the two companies de-link their fortunes from fluctuation in gold prices.

Manappuram has introduced short-term products (three to six months) apart from reducing the loan-to-value from 75 per cent to 65 per cent on loans with 12 months duration. With these measures in place, fresh losses on auction in case of default is reduced to almost negligible levels against five per cent in the previous business model. Likewise, Muthoot, while maintaining its loan-to-book value at 75 per cent, has adopted monthly recovery of interest repayment.

Consequently, the accrued interest outstanding (default by customers; part of it already provided for by Muthoot according to norms) reduced from Rs 1,060 crore in FY14 to Rs 945 in FY16, while accrued interest as a percentage of the total loan book has been reduced from 4.9 per cent in FY14 to 3.9 per cent in FY16. The figure for Manappuram is Rs 344 crore. The risk is if the companies are not able to recover a large chunk of this amount.

With respect to new segments, Manappuram has branched out to micro finance operations, after the acquisition of a Chennai-based micro finance institution Asirvad. Consequently, against the entire revenues coming from gold loans in FY14, 88 per cent accrued from gold loan portfolio, while nine per cent came from MFI vertical in FY16. Shweta Daptardar of KRC Research expects 50 per cent of Manappuram’s loan book to be derived from non-gold loan categories in the next five years.

Muthoot, which currently is a pure-play gold financier, has recently diversified its portfolio. With the acquisition of an MFI and its interest in affordable housing segment, Muthoot aims to derive 25 per cent of its loan book from these businesses going forward.

The not-so demanding valuation of Manappuram (2.78x FY17 price-to-book value) and Muthoot (1.79x) adds to the investment conviction. In the longer-run, analysts expect further re-rating for the two stocks as earnings profile improves.