Good question, one whose answer we will only get to know when the transformation is complete.
This is because the valuations are a factor of full cycle ROE/ROA and growth.
As the book becomes more secured, book yield will reduce, subsequently, NIMs will also contract, but across a full cycle credit cost, provisioning and LGD can also potentially reduce.
I write potentially because if one is doing risky lending in the secured segment the credit costs can still be high.
Modelling the above with incomplete information at the current juncture will not be right. There are a lot of moving parts.
The CEO is due to change, and while they may follow the direction of the old management which will be guiding from the BoD, the CEO could have their own direction as well.
If the “small” tag is removed, because they get a universal bank license, the OPEX, funding costs, and CAR, could change substantially.
Currently, the PAT, ROA, and ROE is at a cyclical high due to outlier credit costs. As the credit costs normalize next year the PAT may stagnate for that year (I use may because growth from the book will still be there, and higher NII will balance against higher provisioning costs), ROA, and ROE will reduce to cycle average, BVPS will keep growing.
How the market will react to the above is anyone’s guess, will it punish the valuations by focusing on PAT, or will the sector be in euphoria due to the growth potential, and bad memory of new market participants about COVID, and DEMON losses? Who knows?
Lastly, there is always the risk of the cycle turning bad and credit costs being elevated. That can happen anytime and needs to be watched like a hawk always. But if the cycle doesn’t turn for a 5-year period, it could be a golden period from an investment return perspective.
Many fingurus, have a recency bias and have been calling a credit cycle top for the past year. They have even taken a small data point for DEMON, and COVID which were man-made outlier events and modelled that such shocks come every 3 years. Go figure. They forget to look at the cycles from the 2000s.
To conclude, I am not saying something bad can’t happen, it can at any time. But if they don’t you will miss the opportunity of a lifetime.
Valuation premium you need to judge what is being priced in. Post-COVID at 0.7 PB the market was overpricing risk, IMO at 3x 1yr FWD PB the market will be underpricing risk for a 25% growth CAGR.
2x 1yr FWD PB may be fair valuations for a well-run MFI, SFB IMO. Well-run means they are transparent in reporting, aggressive in recognising NPAs, and write-offs and quick to turn around as the collection efficiency bounces back. All of which Ujjivan has displayed since its inception in 2006.
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