Muthoot Finance: Research Report By Prabhudas Lilladher

Paragon of gold lending

We initiate coverage on Muthoot Finance (MUTH), with a BUY rating as it is a 1) market leader (18% market share) and proxy play on gold financing market in India 2) carries robust capital (Tier I of 24%) 3) maintains low leverage(4x) and 4) comes at reasonable valuations at 2.2xPBV (FY23E). We expect MUTH to maintain market leadership in gold lending underpinned by pricing power, improved productivity and insulation from underlying collateral price fluctuations. A low risk (0.3% credit costs/ 2% NPA), high return business (RoA/RoE: 6%/22%), MUTH is expected to clock healthy growth momentum (19% CAGR) over FY22-23 defying pandemic challenges. We recommend BUY based on SoTP metrics assigning PBV multiple of 2.6x to core book at Rs1,330 value per share and subsidiaries at Rs34 per share arriving at price target of Rs 1,364.

 Pandemic and gold price momentum place MUTH in sweet spot; 19% AUM CAGR: We expect MUTH to clock 19% consolidated AUM CAGR (19% gold CAGR, 25% non-gold) over FY21-23E led by: (a) buoyancy in gold loan business during pandemic as other asset classes suffer (b) tailwinds of steady gold price momentum (c) aggressive marketing initiatives positioning gold loan as a push product (d) non-South geographic expansion and (e) granular book focus with non-gold expansion (gold: non-gold mix at 80:20 over 3-5 years).

 Pricing power to be maintained; steady NIMs: While gold price uptick aids yield expansion and higher realizations, MUTH’s spreads (~11% spreads over FY15-20) are relatively stable to price fluctuations given its pricing power. Despite high competitive intensity and slower non-gold uptick, NIMs are expected to stabilize at ~14.3% over FY21-23E led by (a) customer stickiness and brand recall, (b) high churn model (60% of book runs off in < 6 months) (c) liquidity sufficiency (Rs79bn: Sep’20) (d) diversified borrowings backed by stable credit ratings and (e) comfortable ALM position.  Paring costs- operating leverage to play out: MUTH’s superior business productivity versus peers as reflected in double the AUM per branch (Rs85mn), higher AUMs/employee (Rs15mn) and avg opex/loan assets (~4.5%; 200-300bps lower than peer) continues to aid operating efficiencies. With meaningful investments in branch, brand, customer relationships and digital make-shift in place, we expect opex to AUM to decline from ~5% (5 year avg) to 4.1% over FY21-23E.

 Premium asset quality- high return profile to stay: With 90% business revolving around secured gold lending coupled with 75% LTV cap and highly liquid collateral, MUTH is expected to maintain low asset quality risk. Therefore, despite gold price fluctuations, ultimate credit losses for MUTH have been restricted to <10bps over past few years. We envisage 2.1% GNPA for standalone gold lending and 3-5% GNPAs for non-gold lending business over FY21-23E. While non-gold lending stands restricted to 10% of business mix and the core underlying demographics remaining healthy, MUTH’s business stands resilient. MUTH’s high margin and low asset quality risk oriented business model stands poised to clock 6%RoA/22%RoE by FY23E.