Asset quality concerns return to haunt M&M Financial's investors

While provisioning costs more than double, NPA levels may remain elevated until loan growth recovers

When a company has consistently increased its net profit quarter after quarter for almost two years and worked equally hard to keep a check on non-performing assets (NPAs or bad loans), even one quarter’s miss could sway sentiments significantly, especially when the overall mood is low. That’s exactly what happened with Mahindra and Mahindra Financial Services (M&M Finance). The stock shed over 10 per cent on Wednesday, reacting to June quarter (Q1) results that fell short of expectations. However, considering that M&M Finance is often viewed as an indicator of rural demand, some numbers put out by the company and guidance provided by it need to be looked at carefully. For instance, the management has guided for loan growth of 15 per cent for FY20, for the standalone entity. For a company with a run-rate of 20 per cent plus loan growth, the guidance does suggest that rural consumption may take a while to improve. 

Meanwhile, with loan growth slowing it needs to be seen if it would help the financier, which mainly lends to purchase vehicles, sustain its asset quality trends. In Q1, gross NPA ratio rose to 7.4 per cent from 5.9 per cent a quarter ago, though still better than a year-ago level of 9.4 per cent. With the management having met its asset quality guidance in the past, Q1 numbers took the Street by surprise. Provisioning cost also more than doubled year-on-year to Rs 620 crore and thus net profit plunged 74.6 per cent to Rs 68.4 crore in Q1, which was another shocker to deal with. 

Suresh Ganapathy of Macquarie Capital says NPAs have been volatile over the years and that makes predictability a big challenge. There’s more to it as well. Even if Q1 of any fiscal may be seasonally weak, the recent gone by quarter has seen a higher than historical sequential increase in gross stage 3 assets (loans identified as potential stress). With a 30 per cent increase compared to March’19 quarter, Shweta Daptardar of Prabhudas Lilladher says while there could be provisioning reversals, it may not significantly change the asset quality picture in the near-term, considering the concerns on loan growth. As a result, credit costs, which rose to 3.6 per cent in Q1 from 2.2 per cent a year ago, may not moderate materially. 

Therefore, a tepid asset quality and loan growth outlook may keep a check on the M&M Finance stock in the near-term. This means investors will have to significantly reduce their expectations from the stock, which still remains the preferred rural financier for the Street.