Home Loan And SME Expansion Into New Geographies Will Improve Earnings Stability And Reduce Cyclicality

Key Takeaways

• Strategic expansion into non-South markets and staff increase could boost revenue and improve net margins.
  
• Portfolio diversification aims to reduce earnings cyclicality, supporting stable growth and potential stock revaluation.
  
• Deteriorating asset quality and slowing disbursement growth in main segments could pressure margins and overall earnings amid external economic challenges.

Catalysts

Operates as a non-banking finance company in India.

• Cholamandalam Investment and Finance has shown significant growth in disbursements across multiple segments, like loan against property (LAP) with a 35% increase in Q2, which could drive future revenue growth.
  
• The company's strategic focus on expanding their home loan and SME business into non-South markets suggests potential for increased revenue from these new geographies.
  
• The company has added 7,000 new employees, enhancing their sales and collections capabilities, which could lead to higher revenue and improved net margins due to better collections.
  
• Cholamandalam's capital adequacy is comfortable with Tier 1 capital at 15%, suggesting a strong foundation to support future growth and potentially higher earnings.
  
• Diversification of their portfolio by expanding product lines and geographic reach may reduce cyclicality and improve earnings stability, which can lead to a revaluation of the stock.

Cholamandalam Investment and Finance Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Cholamandalam Investment and Finance's revenue will grow by 31.0% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 39.0% today to 34.7% in 3 years time.
• Analysts expect earnings to reach ₹77.0 billion (and earnings per share of ₹90.3) by about December 2027, up from ₹38.5 billion today. However, there is some disagreement amongst the analysts with the more bearish ones expecting earnings as low as ₹56.3 billion.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 26.4x on those 2027 earnings, down from 29.4x today. This future PE is greater than the current PE for the IN Consumer Finance industry at 12.6x.
• Analysts expect the number of shares outstanding to grow by 0.46% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 15.99%, as per the Simply Wall St company report.

Cholamandalam Investment and Finance Future Earnings Per Share Growth

Risks

• The increase in Gross Non-Performing Assets (GNPA) and Net Non-Performing Assets (NNPA) suggests a deterioration in asset quality, particularly in the vehicle finance and consumer and small enterprise loans (CSEL) segments, which could impact net margins due to higher provisions needed.
  
• Moderate disbursement growth and the guidance on future growth moderation, influenced by RBI caution, indicate potential challenges in maintaining high revenue growth rates in the coming quarters.
  
• Rising slippages in specific segments like vehicle finance and the small commercial vehicle segment could lead to increased credit costs, impacting overall earnings.
  
• A potential slowdown in the disbursement growth of vehicle finance, the company's major revenue contributor, due to external factors such as economic conditions and competition, might lead to a lower revenue scale.
  
• The elevated cost of funds and limited reduction in cost of funds due to a higher reliance on bank borrowings linked to rates not directly pegged to rapid market rate changes could pressure net interest margins and overall profitability.

Valuation

• The analysts have a consensus price target of ₹1525.55 for Cholamandalam Investment and Finance based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of ₹1850.0, and the most bearish reporting a price target of just ₹1078.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be ₹221.9 billion, earnings will come to ₹77.0 billion, and it would be trading on a PE ratio of 26.4x, assuming you use a discount rate of 16.0%.
• Given the current share price of ₹1348.4, the analyst's price target of ₹1525.55 is 11.6% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.