REPCO Home Finance Limited

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REPCO Home Finance Limited

Company Analysis: REPCO Home Finance Limited Posted on 30th August 2013 About

Repco home finance is a home loan company headquartered in Chennai, Tamilnadu and promoted by Repco bank limited. The company is focused on the tier 2 and tier 3 cities with a specific focus on the self-employed borrower (Who is generally ignored by the larger banks and HFCs) The company is currently concentrated in the south and has majority of its branches in Tamilnadu, Karnataka Karnataka and the other southern states. The company has a total of 92 branches and satellite centres and has started expanding its distribution foot print to the western states of Maharashtra, Gujarat and in the east to Odisha and West Bengal. Financials

The company has been able to maintain an ROE of 18-24% in the last six years. The company c ompany has been able to deliver a return on asset of 2.5-3% in the last few years which points to an above average level of profitability. This above average level of profitability has been achieved with comparatively low NPA (gross NPA of around 1.5-2% and net NPA of .8-1.5%). The company has been able to grow its net income and profits at a CAGR of 40%+ in the last 6 years. In addition, the loan book has grown at the same rate. Finally, the company has one of lowest cost of income ratios of around 16-18%, which helps it to achieve above average profitability at comparatively lower risk. Positives

The company has a focus on tier 2 and tier 3 cities where the growth opportunities are much higher with a lower level of competitive intensity. In addition, the company is focused on the self-employed borrower, who is generally shunned by the banks and HFCs due to a lack of documentation on income. These borrowers have a high volatility in income, which results in much higher reported NPA. The true NPA are however much lower as the company has had a write off (true losses) of just .07% on cumulative disbursements till date and in addition the company has a very conservative loan to value ratio of 65% (meaning the loan amount is around 65% of property value resulting in a high buffer against losses)

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The company is currently focused on the southern states and is planning to expand to the other states too. This provides additional growth opportunities. Finally, the company has a low cost structure and seems to have a conservative management (very low pay even for the MD) Risks

The main risk faced by the company is the slowdown in the economy which can hit the selfemployed much harder. As a result, the NPA and write offs can increase in the near term. In the long run, this should even out if the company continues to maintain a good credit appraisal process in place. The other risk faced by the company is a squeeze in the net interest margins due to a rise in the short term rates. The company should be able to reduce the impact of the rise as a majority of its loans are variable in nature. Finally, an overall slowdown in the economy is likely to impact the growth of the company in medium term – though the company should do well in the long term due to the low mortgage penetration rates in its target market Competitive analysis

The company faces competition from banks and other HFC (housing finance companies such as HDFC, LIC housing etc.). A majority of these banks and HFCs are focused on the urban centres and especially on the salaried borrower segment. Repco on the other hand is focused on the Tier 2 and tier 3 cities and the self-employed borrower. In that manner, the company is quite similar to Gruh finance (which dominant in the western states) You can find the comparative analysis of the company on the ‘industry analysis’ tab of the valuation template. The company has a higher ROE and growth than all the other HFCs except Gruh finance. The company however has a higher NPA (though low write offs) than other companies in the same space. Management quality checklist

Management compensation: The management compensation seems to be conservative. For ex: the managing director is paid his salary by repco bank and is provided an additional compensation of just 10 lacs by Repco home finance. Capital allocation record: The management has delivered good performance in the past and has been investing capital into the business at a 20%+ rate of return.

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Shareholder communication: adequate in the form of quarterly earnings report and presentation. The annual report however does not cover the various performance metrics in more depth (even lesser than the quarterly presentations) Accounting practice: Seems conservative, though the provisions ratio is much lower than the recommended 75%. Conflict of interest: None obvious ones Valuation

I prefer a price to book analysis for financial firms. A DCF based valuation is not helpful as financial firms typically use the free cash as a raw material to grow business and usually end up reinvesting most of it. We cannot use the past valuation as the company recently got listed and hence we do not have much history on the stock. The company has an ROE of 20%+ and should be able to maintain a 15-20% growth rate in the future. In view of this, the fair value can be taken as 3-3.5-time book value. At an approximate book value of 102, the fair value can be taken as 310-355. Conclusion Repco home finance is a well-managed firm which is developing a strong position in home finance in its niche segment.

The company enjoys a certain level of competitive advantage over banks and other financial firms due to the focus on non-salaried segment and Tier II and tier III cities. The company is building its strength by expanding its distribution network to additional locations and states and should be able to grow at an above average rate for a considerable period of time. We are unlikely to see a substantial revaluation of the stock and returns should come through the growth and expansion of the company.

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Q2 – 2014 Results Review Posted on 21st November 2013

The company reported a fairly good set of numbers for the quarter and half year. The interest income for the quarter rose by 31% and net profit was up by 36% during the period. Sanctions are up by 29% and disbursements rose by 37% during the second quarter. The loan book grew by 30% during the second quarter and now stands at 4035 Crores. The company has been able to improve the NIM to around 4.7% driven by improving spreads. The company now has a AA rating and should be able to borrow at lower rates from the market. The gross NPA dropped to around 1.67% and net NPA dropped to .92% in the current quarter. The company has improved its coverage ratio to 45% (from 32% in previous quarter) and has a CAR of 25.6%, which means that it can grow for some time without raising any equity capital. The company currently borrows around 30% of its funding need from NHB, which may change in the future as NHB has indicated a cap of 2% margins on lending under the rural housing fund. As a result, the company is planning to reduce the funding from NHB and preserve its margins. Overall the company is doing well and increasing its intrinsic value at 20%+ rates.

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Q3 – 2014 Results Review Posted on 12th February 2014

The company reported a fairly good set of numbers for the quarter and YTD. The interest income for the quarter rose by 62% and net profit was up by 63% during this period. Loan sanctions are up by 61% and disbursements rose by 57%. The loan book grew by 32% during the third quarter and now stands at 4319 Crores. The company has been able to improve the NIM to around 4.6% driven by improving spreads. The company now has a AA rating and should be able to borrow at lower rates from the market. The gross NPA dropped to around 2% and net NPA dropped to 1.3% on a year on year basis. The company has a coverage ratio of around 37% and has a CAR of 25%, which means that it can grow for some time without raising any equity capital. The company currently borrows around 26% of its funding need from NHB, which may change in the future as NHB has indicated a cap of 2% margins on lending under the rural housing fund. As a result, the company is planning to reduce the funding from NHB and preserve its margins. Overall the company is doing well and increasing its intrinsic value at 20%+ rates as it operates in a field with limited competition (small ticket lending, especially to non-salaried in Tier II and Tier III locations) and considerable opportunities.

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Q4 – 2014 Results Review Posted on 17 th May 2014

The company reported a fairly good set of numbers for the quarter and year. The interest income for the quarter rose by 37% and net profit was up by 14% during this period. Loan sanctions are up by 26% and disbursements rose by 31%. The loan book grew by 32% during the third quarter and now stands at 4661 Crores. The company has reported a 52% growth in net interest income and 38% growth in net profits for the year. The loan book is up 32% during the same period. The company has been able to improve the NIM to around 4.7% driven by improving spreads. The gross NPA dropped to around 1.47% and net NPA dropped to .72% on a year on year basis. The company has made higher provisions during the year (which impacted the net profit growth). This has led to a higher coverage ratio of around 51.5%. In addition, the company has a CAR of 24.5%, which means that it can grow for some time without raising any equity capital. The company currently borrows around 25% of its funding need from NHB, which may change in the future as NHB has indicated a cap of 2% margins on lending under the rural housing fund. As a result, the company is planning to reduce the funding from NHB and preserve its margins. Overall the company is doing well and increasing its intrinsic value at 20%+ rates as it operates in a field with limited competition (small ticket lending, especially to non-salaried in Tier II and Tier III locations) and considerable opportunities. The company has expanded its presence to 122 locations in 2014 from 92 locations in the previous year. The company has now started expanding its presence beyond south to other states such as Maharashtra, Orissa, West Bengal and MP. I think the company has good growth opportunities and should be able to do well for quite some time. We will continue to hold the stock in the model portfolio for the long term.

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2014 - Annual Results Review Posted on 17 th May 2014 Key risk (identified earlier) and their current status

Slowdown in demand – The real estate market has slowed down due to high interest rates and a slowdown in the economy. It was expected that the market would improve with a drop in the interest rate. However, the RBI raised the short term rates to defend the currency, which hurt the overall demand in the economy. Ashiana was able to fare quite well during the year and has been able to show an 18.8% growth in area booked and a 45% growth in area constructed. The company expects to book around 24 Lac Sq. Ft during the current year which would be a 10% rise in the bookings. Clearance/ approval risks – The company continues to face approval issues across projects. However, there was progress on some of these projects and hence the company was able to achieve a 45% growth in area constructed. This should translate into higher revenue in the current fiscal as these flats gets delivered to the customer. The company is also trying to reduce this risk by expanding into new cities/ states and has developed internal processes to track this expansion closely (target one new location each year) Interest rate risk – The interest rate levels continue to be high, though steady at the current levels. Once inflation rates drop, interest rates could follow the same and should provide a tailwind for real estate demand. Overall this factor may not be an issue in the medium term, unless we see a sudden spike in rates.

New opportunities

The company has now started focusing on two important variables to drive the growth. The first is the scale of operations. Management has written extensively on the plans to scale the execution capability of the company. Although this is not a new opportunity, it is an important factor to take the company to the next level

The demand side of the equation is being de-risked by expanding into new cities and states. The company has launched a project in halol, Gujarat in the current year and is building the process and capability to target one new location each year.

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Changes to fair value

There is just one reason for me to be optimistic about the future of the company – Management. The company is managed by the brothers – Vishal, Ankur and Varun. They are young (not always a qualification), focused and transparent. In the last two years I have followed the company, I have seen them take decisions which hurt the company in the short term, but is beneficial in the long run (accounting change, diversification of locations etc.).

As I have stated in the past updates, the key aspect for the company to focus now is execution capabilities and in the current year’s annual report, the management has detailed on how they are planning to enhance the same. This along with geographic expansion, should help the company grow for the next few years.

The reported numbers continue to look bad and if you look at the current PE ratio (65+), the company appears to be wildly overvalued. That is far from the truth. Although it is difficult for me to put a number here due to the complicated accounting, it is easy to see the large opportunity ahead of the company in the space of affordable housing. We will continue to hold the stock for the long term in the model portfolio and I will share a buy price once I update the portfolio creation document.

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Q1-2015 - Results Review Posted on 19th August 2014

The company reported a fairly good set of numbers for the quarter. The interest income for the quarter rose by 25% and net profit was up the same during this period. Loan sanctions are up by 35% and disbursements rose by 24%. The loan book grew by 31% during the third quarter and now stands at 4892 Crores. The net interest margins dropped from 4.7% to 4.4%. The gross NPA increased from 2.22% to 2.49% and net NPA rose by a small amount from 1.52% to 1.6%. The provision coverage ratio improved from 32% to 36.4%. Overall the company reported a good set of numbers and minor drops not important as these numbers are volatile from quarter to quarter. Overall the company is doing well and increasing its intrinsic value at 20%+ rates as it operates in a field with limited competition (small ticket lending, especially to non-salaried in Tier II and Tier III locations) and considerable opportunities. The company has expanded its presence to 128 locations and started operations in Madhya Pradesh during the last fiscal. I think the company has good growth opportunities and should be able to do well for quite some time. We will continue to hold the stock in the model portfolio for the long term.

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Q2-2015 - Results Review Posted on 12th November 2014

The company reported a fairly good set of numbers for the quarter. The interest income for the quarter rose by 30% and net profit was up by 24% the same during this period. Loan sanctions are up by 23% and disbursements rose by 26%. The loan book grew by 30% during the first half of the year and stood at 5238 Crs. The net interest margins dropped from 4.7% to 4.5%. The gross NPA dropped marginally from 1.67% to 1.65% and net NPA dropped from 0.92% to .81%. The provision coverage ratio improved from 45.3% to 51.5%. Overall the company reported a good set of numbers and minor drops are not important as these numbers are volatile from quarter to quarter. The company is doing well and increasing its intrinsic value at 20%+ rates as it operates in a field with limited competition (small ticket lending, especially to non-salaried in Tier II and Tier III locations) and considerable opportunities. The company has expanded its presence to 134 locations and started operations in Madhya Pradesh during the last fiscal. I think the company has good growth opportunities and should be able to do well for quite some time. We will continue to hold the stock in the model portfolio for the long term. Additional point: There is an entry – Deferred tax liability on special reserve for 6.8 Crs for the first half of the year, due to which the reported profit growth is around 12%. This is an accounting entry and I would still like to think of the profit growth at the 25% levels. I cannot give an accounting lesson here, so to simplify think of this entry as the tax saving for creating a special reserve (kind of a rainy day saving) – similar to the tax deduction we get for putting money in a PPF.

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Q3-2015 - Results Review Posted on 10th February 2015

The company reported a fairly good set of numbers for the quarter. The interest income for the quarter rose by 25% and net profit was up by the same during this period. Loan sanctions are up by 19% and disbursements rose by 7%. The loan book grew by 27% during the nine months of the year and stood at 5500 Crs. The net interest margins dropped from 4.6% to 4.5%. The gross NPA dropped marginally from 2.03% to 1.99% and net NPA dropped from 1.28% to 1.16%. The provision coverage ratio improved from 37.3% to 42.1%. Overall the company reported a good set of numbers and minor drops are not important as these numbers are volatile from quarter to quarter. The only blemish to an otherwise good quarter was 7% growth in disbursement. We will continue to watch this number as this is a lead indicator for loan book and income growth. The management has indicated that this slowdown is just a timing issue in disbursing the loan and the annual sanction and disbursements are expected to grow at a 20%+ rate in the future. The company is doing well and increasing its intrinsic value at 20%+ rates as it operates in a field with limited competition (small ticket lending, especially to non-salaried in Tier II and Tier III locations) and considerable opportunities. The company has expanded its presence to 137 locations and started operations in Jharkhand during the current fiscal I think the company has good growth opportunities and should be able to do well for quite some time. We will continue to hold the stock in the model portfolio for the long term. Additional point: There is an entry – Deferred tax liability on special reserve for 10 Crs for the year, due to which the reported profit growth is around 12.3%. This is an accounting entry and I would still like to think of the profit growth at the 25% levels.

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Q4-2015 - Results Review Posted on 25th May 2015

The company reported a fairly good set of numbers for the quarter and the year. The interest income for the quarter rose by 23% and net profit was up by the same during this period. Loan sanctions are up by 55% and disbursements rose by 47%. The loan book grew by 29% during the year and stood at 6012 Crs. The net interest margins dropped from 4.7% to 4.5%. The gross NPA dropped marginally from 1.48% to 1.32% and net NPA dropped from 0.99% to 0.5%. The provision coverage ratio improved from 51.5% to 62.4%. The quality of the growth is also high as the company has been consistently bringing down the GNPA and NPA numbers with improving coverage ratios. The management hopes to achieve a 75% coverage by 2016 and 100% coverage in the next few years. It should be remembered that the true losses due to NPA are much lower for REPCO due to the profile of the customers. As the company lends to the non-salaried class, there is a slippage in timely payments, which leads to such loans being classified as NPA from time to time. However most of these payments are received in due course and hence the overall bad loan losses are much lower than the GNPA/NPA numbers. The provisions which the company is making will act as a cushion in case, the loan losses increase for any reason. The company reported a 7% growth in disbursement in the previous quarter which has now recovered to 47% resulting in a 27% growth in disbursements for the year. We will continue to watch this number as this is a lead indicator for the loan book and income growth. The management has indicated that the annual sanction and disbursements are expected to grow at a 20%+ rate in the future. The company is doing well and increasing its intrinsic value at 20%+ rates as it operates in a field with limited competition (small ticket lending, especially to non-salaried in Tier II and Tier III locations) and considerable opportunities. The company has expanded its presence to 142 locations and started operations in Jharkhand during the current fiscal. The management plans to keep adding around 15 new locations every year for the next few years. I think the company has good growth opportunities and should be able to do well for quite some time. We will continue to hold the stock in the model portfolio for the long term. Additional point: There is an entry – Deferred tax liability on special reserve for 14.2 Crs for the year, due to which the reported profit growth is around 12%. This is an accounting entry and I would still like to think of the profit growth at 25% levels.

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2015 – Annual Results Review Posted on 1st September 2015 The company operates in an attractive segment of the finance industry – housing loan and concentrates on a specific niche, namely the non-salaried segment in the Tier II, III and smaller towns. This enables the company to earn a good return on capital on account of lower competitive pressure. In addition, the opportunity size is large as mortgages are under-penetrated in India at around 8-9% of the GDP. Key risk and their current status

The commonly believed risks of Interest rate and NPA are not the true risks of the company. Interest rate is a common cost for all financial firms and hence a high or low rate does not disadvantage Repco home any more or less than its competitors. In addition, the company has almost 80% of its lending at variable rate, which reduces the risk of the asset liability mismatch (funding long term loans with short term assets like CP and NCD). The company does have a disadvantage compared to larger HFC such HDFC in terms of cost of funds. The cost of fund for Repco is around 9.7% compared to 9.1% for HDFC. This difference will narrow as the company continues to improve its ratings and is able to access additional sources of funding due to a larger scale of operations. If the interest rates in the economy go down, then all the better as we will have an additional tailwind to the business. The other common risk for finance companies is NPA or non-performing assets. This is a critical risk for a business like Shriram transport finance. However, it is not key risk for Repco home finance (as of today) due to the nature of lending. The company lends to individuals (salaried and non-salaried) for home loans at an LTV of around 65-70% of the asset. Due to the appreciating nature of the asset and the tendency of the borrower to avoid defaulting on a home loan (due to social stigma and pressure), the actual loss rate has been very small (less than .1% till date) The true risk to the business is from current and emerging competition. Housing finance is one area of lending which has grown consistently over the last 10 years and should continue to grow in the future. In addition, the lending losses (NPA) are quite low and hence the risk adjusted returns are quite good. Almost all the companies focused in this space are able to earn 15%+ return on capital. Due to the highly attractive nature of the market, we are likely to see higher competitive pressure. Repco should do well in spite of these pressures due to the focus on tier II and below markets and especially the non-salaried segment, where lending is more specialized in nature.

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Cost are overstated If one looks at the 2015 annual report, it would seem that the company reported a drop in margins from around 20.6% to 17.7 %. However, the underlying margins have remained steady and should improve in the future Employee costs have gone up by around 50% during the year. Almost 30% of the increase was due to expensing of options granted to employees during the year. This cost would be eliminated from 2017 with completion of the options program The company had to account for additional deferred tax liability based on an NHB mandate. This was a one-time hit and will have no impact going forward In addition to the above short term hits, the company has several long term drivers which will reduce the costs further Funding costs are on the higher side as a large part of the borrowing is done from banks at around 10%. In the future, with increasing scale and better ratings, the company should be able to fund the business with NCD and other market borrowings. This should drive the funding costs lower over time The company has a cost to income ratio of around 18.5% compared to a 7.5% ratio for HDFC ltd. HDFC was able to reduce its cost to income ratio from the 30% levels in 1990s to 11% by early 2000. It is not difficult to see that this number will trend down for Repco over time Finally, the company has been making higher provision to provide a 100% coverage for the GPA. However, the true losses for the company are close to 0 and these provisions are more from an accounting standpoint, than a true economic cost. As a result, we could see reduction in provisions going forward – provided the company is able to maintain its lending discipline. 

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Changes to fair value

The company continues to grow at a 25%+ rate and should be able to deliver this kind of growth for the next few years. The market has recognized the quality of the business and I think the company is priced close to its fair value. The future returns should track the top line and profit growth of the company.

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Q1-2016 –Results Review Posted on 1st September 2015 The company reported a fairly good set of numbers for the quarter. The interest income for the quarter rose by 25% and net profit was up by 22% during this period. Loan sanctions are up by 38% and disbursements rose by 40%. The loan book grew by 27.3% during the quarter on y-o-y basis and stood at 6344 Crs. The net interest margins dropped from 4.4% to 4.3%. The gross NPA dropped from 2.49% to 2.22% and net NPA dropped from 1.6% to 1.3%. The provision coverage ratio improved from 36.4% to 42.4%. Some of the numbers like NPA move around from quarter to quarter due to the cash flow changes of the customers. We should not read too much into these quarterly swings as the long term trend continues to be intact.

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Q2-2016 –Results Review Posted on 12th November 2015 The company reported a fairly good set of numbers for the quarter. Interest income for the quarter rose by 25% and net profit was up by 19% during this period. Loan sanctions are up by 53% and disbursements rose by 43%. The loan book grew by 31% during the quarter on y-o-y basis and stood at 6848 Crs. The net interest margins dropped from 4.5% to 4.4%. The gross NPA rose from 1.65% to 1.8% and net NPA increased from 0.81% to .92%. The provision coverage ratio dropped from 51.5% to 49.5%. Some of the numbers like NPA move around from quarter to quarter due to the cash flow changes of the customers and we should not overanalyse them. On broad a level the following seems to be happening 

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The company continues to grow at around 20%+ rate in its mature markets such as Tamilnadu The company continues to grow at 40%+ rate in the new markets such as Gujarat and Maharashtra. In addition, the company will continue to expand into new territories and will achieve higher growth in these new areas. Although there is sustained competition from banks and new sources of housing finance, the management expects to do well due to the focus on a niche segment. In addition, the opportunity space is quite big and hence it is likely that the company will continue to grow at 25%+ for some time. The NPA levels keep moving around due to the nature of the end customer, but there is no additional pressure on the asset quality as the company has a fairly low LTV and an appreciating asset to back the loans (real estate is not in a very bad shape in Tier 2 and lower towns). The management expects to improve the overall coverage ratios in the next 2-3 years through extra provisions Finally, the cost of funding is coming down as the interest rates drop and the company diversifies its source of funds. The funding cost was 9.5% for the year

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Q3-2016 –Results Review Posted on 16th February 2016 The company reported a fairly good set of numbers for the quarter. Interest income for the quarter rose by 33% and net profit was up by 26% during this period. Loan sanctions are up by 20% and disbursements rose by 26%. The loan book grew by 30% during the quarter on y-o-y basis and stood at 7154 Crs. The net interest margins dropped from 4.5% to 4.4%. The gross NPA rose from 1.99% to 2.3% and net NPA increased from 1.16% to 1.36%. The provision coverage ratio dropped from 42.1% to 41.3%. Some of the numbers like NPA move around from quarter to quarter due to the cash flow changes of the customers and we should not overanalyse them. On a broad level the following seems to be happening 

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The asset book continues to grow at 20%+ due to an increase in demand for housing, higher ticket size and finally new geographies The asset quality was not impacted by the Chennai floods and is fluctuating due to the nature of the end customer (non salaried). The management expects to keep reducing the level of NPA over the next few years and plans to improve the coverage levels to around 60%+ in the current year and to 100% in the next 2-3 years. The cost of funding for the company is reducing due to improved ratings and new sources of funding such as NCD. This will help the company reduce its lending rates and remain competitive with bank The company continues to maintain a CAR ratio of around 24%, which means the company can continue to grow without raising fresh capital for 2-3 years and also improve its ROE by increasing the leverage ratios.

The company seems to be performing well as it is lending in Tier 2 and Tier 3 cities where the demand for housing from the end consumer remains good. In addition, the company is tapping an unmet need of a customer segment – mortgage for the non-salaried, due to which the demand remains good and hence the current slowdown has not impacted the company yet.

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Q4-2016 –Results Review Posted on 16th May 2016 The company reported a fairly good set of numbers for the quarter. Interest income for the quarter rose by 29% and net profit was up by 21% during this period. Loan sanctions are up by 12% and disbursements rose by 20%. The interest income is up 28% for the year and net profit is up 22%. The loan book has grown by 28% on a y-o-y basis and stood at 7691 Crs. The net interest margins are steady at 4.4%. The gross NPA is steady at around 1.31% and net NPA dropped from 0.5% to 0.48%. The provision coverage ratio increased from 62.4% to 63.5%. Some of the numbers like NPA move around from quarter to quarter due to the cash flow changes of the customers and we should not overanalyse them. On a broad level the following seems to be happening The asset book continues to grow at 20%+ due to an increase in demand for housing, higher ticket size and finally new geographies The asset quality is slowly improving, but keeps fluctuating due to the nature of the end customer (non salaried). The management expects to keep reducing the level of NPA over the next few years and plans to improve the coverage levels to 100% in the next 2-3 years. We can get a sense of the quality of asset from the fact that the company wrote off just 30 lacs in 2016 and the cumulative write offs since inception of the company is 1.8 Crs. As a % of assets that’s a rounding error. The cost of funding for the company is reducing due to improved ratings and new sources of funding such as NCD. This will help the company reduce its lending rates and remain competitive with banks. In addition to these new sources, there is now a new development which will help the company improve its cost of funding even further. Some of you may recall, that Repco, which borrows from NHB, had to reduce the borrowing levels as NHB decided to cap the margins at 2% for the rural loans funded through it. The impact of this decision was that REPCO found the margins too low to make a reasonable return and hence reduced the borrowing from NHB. The government (NHB) has now changed the policy to increase the maximum margin to 3.5%. This higher level of margin means that Repco can now increase its borrowing from NHB for rural lending and due to the lower interest rates charged by NHB, will find its cost of funding drop. This should help the company improve its competitiveness against banks. The company continues to maintain a CAR ratio of around 20%, which means the company can continue to grow without raising fresh capital for 2-3 years and also improve its ROE by increasing the leverage ratios.

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There is a difference in this position compared to the others we hold in the model portfolio. The company is not cheap by any measure, however the consistency of its performance and its ability to grow at 20%+ levels at low levels of risk means that our returns should be good (though not spectacular) if the same level of performance continues. Such stocks have their place in the portfolio too.

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2016 – Annual Results Review Posted on 2nd September 2016

The company operates in an attractive segment of the finance industry – housing loan and concentrates on a specific niche, namely the non-salaried segment in the Tier II, III and smaller towns. This has enabled the company to earn a good return on capital on account of lower competitive pressure. In addition, the opportunity size is large as mortgages are under-penetrated in India at around 8-9% of the GDP. There is a common misconception that repco home finance should be impacted by the slowdown in real estate. The reality is that India is short of housing at the lower end of the market and the slowdown is limited to the upper end of the market, in the metros and Tier I cities. Repco lends to the lower end of the market and outside of the major metros. In addition, it is focused on the non-salaried segment which is under-served by the current financial institutions. This segment of the market has a lot of un-met need and continues to grow. This is apparent from the recent growth rate of Repco home Key risk and their current status

The commonly believed risks of Interest rate and NPA are not the true risks of the company. Interest rate is a common cost for all financial firms and hence a high or low rate does not disadvantage Repco home any more or less than its competitors. In addition, the company has almost 80% of its lending at variable rates, which reduces the risk of the asset liability mismatch (funding long term loans with short term assets like CP and NCD). The company does have a disadvantage compared banks in terms of cost of funds. The cost of funds for Repco is around 9.3% compared to 4-6% for most banks. This differential is likely to continue as bank can raise deposits directly from the general public. The entry of new types of banks and financial institutions is now raising the competitive intensity and is likely to put pressure on the spreads for the company. We are already seeing the impact of higher competition from the drop in lending rate by the company for the salaried segment. I think the competitive pressure is likely to increase further in the future. We need to keep a close eye on this risk. The other common risk for finance companies is NPA or non-performing assets. This is a critical risk for a business like Shriram transport finance. However, it is not key risk for Repco home finance (as of today) due to the nature of lending. The company lends to individuals (salaried and non-salaried) for home loans at an LTV of around 65-70% of the asset. Due to the appreciating

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nature of the asset and the tendency of the borrower to avoid defaulting on a home loan (due to social stigma and pressure), the actual loss rate has been very small (less than .1% till date) New opportunities

The company is still concentrated in Tamilnadu with the state accounting for 62% of the loan book. In spite of the high penetration, the company has yet to cover the state fully and will continue to expand further in TN. In addition, the company has a small presence in other states and plans to continue expanding in these states for the foreseeable future. Thus the company has a considerable opportunity in the area of home finance and can grow at a high rate for several years. The company is also focused on reducing the cost to income ratio which stands at around 16% and this should help the company maintain its spread while reducing the lending rate to the more competitive segments of the market. Changes to fair value

The company appears to be slightly overvalued on standard metrics of valuation. At the same time, if the company can maintain its growth rates, the returns should track the profit growth. However, an increase in competitive intensity would mean that growth could become weak in the future and hence we need to keep a close eye on the competitive risks.

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Q1-2017 –Results Review Posted on 2nd September 2016 The company reported a fairly good set of numbers for the quarter. The interest income for the quarter rose by 23% and net profit was up by 31% during this period. Loan sanctions are up by 3% and disbursements rose by 3%. As per the management, the weak growth in sanctions and disbursements is due to the elections and consequent slowdown in Tamilnadu. I am finding this point hard to believe and think that the company could be facing a much higher competitive intensity which is leading to lower growth. We will have to track this point in the coming quarters The loan book grew by 25% during the quarter on y-o-y basis and stood at 7959 Crs. The net interest margins continue to be steady at 4.3%. The gross NPA is steady at 2.22% and net NPA dropped from 1.3% to 1.2%. The provision coverage ratio improved from 42.4% to 46%. Some of the numbers like NPA move around from quarter to quarter due to the cash flow changes of the customers. We should not read too much into these quarterly swings as the long term trend continues to be intact.

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REPCO Home Finance Limited

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