Gold is always considered a hedge against uncertainties. Whenever there is prolonged economic uncertainties, gold value increases. Given that there has been very prolonged uncertainty in India, I was curious to look into Muthoot finance to play the gold theme. Let me try to explain more in -“Muthoot Finance Ltd- Analysis”.
Gold financing companies(Muthoot Finance Ltd) gives out loan on the basis of gold value of the jewelry kept as security and Gold is a traded commodity. So, it is very important to understand the gold price movement, which I have explained below:
Dependence on Gold Price
Historical GoldPrices in INR per Gram. Source: https://goldprice.org/spot-gold.html
Gold is used as a collateral for gold financing where the asset value changes every day.
If there is sudden significant drop in gold price, the asset value(gold value) can go below the loan value. And if this is frequent then, the gold finance business will become unviable. But this is not the case.
So, the assumption based on the historical data is Gold prices are mostly stable, inching upwards and the downward price movement is quite infrequent.
The drop in prices by 20% during a 6 month(Typical lending horizon for Gold finance company) horizon is hardly few in the entire history of gold. And such drop is taken care by the lower Loan to value ratio(max 75%).
There is a theory that gold prices cannot fall below the cost of exploration i.e. around $900/ounce. In terms of supply-demand, the supply is always scarce, it demands on the demand to push the gold prices up or down.
Also, gold is perceived to be the safest form of investment that provides a hedge against inflation and is highly liquid.
Muthoot Finance Ltd- Analysis
Putting Idle gold to economic usage
India has always been a capital starved country where credit score/ credit history is an alien word for people in rural or semi-urban area. Also, these people do not possess documents to prove their earnings. On the other hand India is the second largest consumer of gold in the world and 65% of these gold finds its way into semi-urban and rural geographies as ornaments.
These gold jewelry is mostly kept idle, the gold financing companies saw an opportunity there and started pursuing gold holders to pledge these ornaments as collateral and get short term financing. In the process they are putting these idle gold to economically productive usage. There exists unorganized gold financing sector that used to give out such loans but at a very high rates and there was no security of the gold pawned with these lenders.
The two listed gold financing NBFCs(Non- Banking Financing Companies) took the opportunity and grew like anything till 2012, when RBI’s regulations came into play.
Muthoot Finance Ltd- Analysis
The troubled years: 2012-14
In the year, 2012, all of a sudden RBI put on a lot of regulation on Gold financing NBFCs. The loan to value was capped at 60%( such cap did not existed earlier). But similar LTV cap was not applicable to banks giving out gold loans.
LTV= Loan to Value Ratio= (Amount to be borrowed/Value of collateral)*100
RBI’S CONCERN WAS THE RAPID GROWTH IN THE BUSINESS(7X growth in Gold Loan asset value in 2 years: 2010-12) AND DEPENDENCE ON A SINGLE COLLATERAL i.e. GOLD. I think RBI was right, in worst case, if the Gold prices drop by 25%, there would be mayhem for these companies. I would assume the LTV would be much higher for these companies before the RBI guidelines came in. The purpose of these guidelines was to be proactive and avoid any systematic risk to the economy.
But in India, whenever anything is done, it is done at the extreme, in particular from govt or regulatory authorities.
In addition to LTV , the disbursement of loans of ₹ 1 lakh and above compulsorily by cheque also affected the interest of customers as a normal cheque collection usually takes about three days whereas the purpose of gold loan(GL) is to get quick financing.
There were also restriction put on the fund raising from individual investors via NCDs(Non-Convertible Debentures). Not only that, gold financing NBFCs were removed from the priority sector lending list of Banks, hence increasing the cost of borrowings for Gold Loan NBFCs.
Also, 2013-14 was marred by falling gold prices.
Along with these regulatory uncertainties, the fall in gold prices, negative media commentary created doubts in the minds of stakeholders about the viability of gold lending business model.
That led to overall drop in industry growth as well as shift from Gold financing NBFCs to Banks and more so to the unorganized sector(As they would give higher amount of loan per unit of gold).
In early 2014, the RBI changed its stance and increased the LTV ratio to 75% and even the banks have to comply with the same, bringing a level playing field. But almost all other restrictions stayed.
Muthoot Finance Ltd- Analysis
Muthoot Finance Ltd- Growth pre & post 2012
Muthoot Finance Ltd- Growth of Gold Asset Under management & # branches
Muthoot Finance Ltd- Growth pre & post the year 2012
Muthoot Finance Ltd- Analysis
Indian Gold Loan NBFCs- Key Pointers
Key Pointers- Indian Gold loan NBFCs
Indian Gold Loan NBFCs- Key Pointers
Key Pointers- Indian Gold loan NBFCs
Muthoot Finance Ltd- Analysis
About the Company: Muthoot Finance Ltd
Muthoot Group has a very long history, being founded in 1887 in Kerala. The group pioneered gold loan financing in 1939.
As of 2019, Muthoot Finance Ltd is India’s largest gold financing company in terms of loan portfolio. They have a market share of close to 18% in the Gold loan Financing followed by Indian Bank, IOB and Manappuram Finance Ltd as in FY18.
The company lends out loan to customers that are primarily those individuals who do not have access to formal credit sources or can’t access formal credit within a reasonable time but possess gold jewelry. In the last 5 years, the company has been trying to diversify into other lending businesses such as microfinance, housing finance, vehicle & equipment finance. These businesses contributed 12% of Asset of management in 2019 while gold business still contribute the lion’s share of 88%.
Muthoot Finance Ltd had 4480 branches as of 31st March 2019.(61% in South India, 17% in North, 16% in west & remaining 6% in East India).North India and West India collectively possess 45% of India’s gold stock with minimal credit penetration. This market provides a high potential for the rise in gold loans in future.
Post the 2012-14 period, the growth of the business slowed down significantly because of the curbs put up by RBI. The AUM(Asset Under Management) growth slowed down from 70%+ to below 10%. In order to continue the growth momentum, the company focused to venturing into other forms of financing such as home finance, Micro finance & vehicle finance. I assume the idea is to focus more on the new business ventures for rapid growth whereas target moderate growth for the core gold loan business coupled with higher profitability. That is why the new branch addition has slowed significantly but Gold loan AUM per branch has grown impressively.
Muthoot Finance had 173T of gold jewelry kept as security as compared to RBI’s reserve of 618.2T.
Promoters of the company held 73.6% stake as of Dec 31st 2019. The company has consistent dividend payout ratio of more than 20%.
Higher credit rating helps firms in raising funds at competitive rates. Given the solid fundamentals of the company, the company has been waiting for an upgrade for quite sometime now.
NPA(Non Performing Assets)– The management maintains that the NPA is more of a just technical term to them as they would anyway recover the loan amount by auctioning the security kept with them. But anyway they are trying to keep the NPA % numbers low by improving the collection efficiency.
Net NPA: 2.35%(2019) | 3.76%(2018) | 1.69%(2017)
Both Manappuram & Muthoot have introduced an interesting new product where a person can pledge gold as collateral with their network branch and can withdraw available loan amount and renew eligible loans without visiting the branch again.
Increase in gold value bodes well for the company as it increases the value of collateral(improving ratios) and greater amount of loan can be given out per gram of gold.
Given the quantum of gold stored in Indian household and the Gold loan penetration being just 4%, offers lot of opportunity of growth.
Although, Gold financing have been able to snatch some market share from Banks post the difficult 2012-14 period, as of 2018, the market share in the organized space is still in favor of Banks at 56% and that of NBFC at 34%.
Indian organized Gold loan industry size is estimated to be around ₹3.1lakh crore by 2020. Unorganized sector is assumed to be twice of organized one and there is a fast shift happening from unorganized to organized.
Muthoot Finance Ltd- Financials
Muthoot Finance Ltd- Financial Analysis
Muthoot Finance Ltd- Liquidity Profile
Muthoot Finance Ltd- Operational Profile
Operating Efficiency-Muthoot Finance Ltd
Liquidity is not a concern for the company given the short term nature of lending. On the other hand that would require always finding new prospects to grow all the time.
Operational efficiency is Operating Expense(Opex) to Gross Loan Portfolio(GLP) ratio. The LOWER THE BETTER. Muthoot finance has bounced back strongly from the setback faced in 2012-14 bringing the curve down from 5.63% in 2017 to 4.89% in 2019.
The very limited expansion in GL branches is due to limited growth opportunities available.
Muthoot Finance Ltd- Margin Profile
The cost of borrowing has gone down(mainly due to drop in Repo rate- charged by RBI to banks) but the drop in interest charged by the company to its borrowers hasn’t dropped in the same fashion. Hence the higher margin. The company claims that their brand power enables them to charge 0.5%-1% higher than competitors. The NIM(Net Interest Margin) in Q3FY20 was quite high but the management has repeatedly said they expect to maintain such margins.
I WAS LISTENING TO Q1FY18 CONCALL AND IT WAS SAID IF YIELD OF 21% IS SUSTAINABLE. NOW THE SAME QUESTION IS BEING ASKED FOR 24%.
In general lower interest rate regime helps financial companies.
Loan disbursal process- Muthoot Finance Ltd
Muthoot Finance Ltd- Subsidiaries
Belstar Investment and Finance Private Limited (BIFPL): Added 155 branches during theyear FY19. Gross Loan Portfolio Assets Under Management (AUM) increased from₹11,38.1 Crores to ₹18,41.9 Crores, a growth of 62%. Revenue for the year stood at ₹368cr and profit of ₹73 crores.
Acquired 46% stake in 2016 and increased stake to 70% in 2019. Microfinance company operates primarily in TamilNadu & Karnataka.
Asia Asset Finance PLC: Listed on Colombo Stock Exchange(Srilanka).
Acquired the company in 2014. Company has 497.4 cr as Asset Under Management as of March 31st 2019. Had a revenue of 116.6 cr & PAT of ₹4.1cr.
Muthoot Homefin (India) Limited: Wholly(100%) owned subsidiary of the company. Increased its loan portfolio by ₹448.6 crore to 1907.5 cr in FY19. The company focuses on the affordable housing segment meeting the housing aspiration of Lower-and-Middle-Income (LMI) families. The subsidiary concentrates primarily on retail housing loans with an average ticket size of less than 10 lakh.
Incorporated in 2011, registered with National Housing bank in 2014 & became the wholly-owned subsidiary in 2017.
THERE IS LOT OF COMPETITION IN HOME FINANCE SEGMENT. THE MANAGEMENT CLAIMS THAT THEY HAVE 200 ODD FEET ON STREET AGENTS TO SOURCE THE LEADS. I AM NOT AWARE IF OTHER COMPANIES ALSO DO THE SAME.
Muthoot Insurance Brokers Private Limited: Wholly(100%) owned subsidiary of the company. The company has a licence to act as Direct Broker from Insurance Regulatory and Development Authority (IRDA) since 2013. It distributes both life and non-life insurance products of various insurance companies.
Muthoot Money Limited (MML): MML is a 100% subsidiary of Muthoot Finance Limited. MML commenced its vehicle and equipment finance operations in June 2018. Total loan portfolio of 310.7cr
Muthoot Asset Management: Wholly(100%) owned subsidiary of the company Private Limited. It hasnt commenced operation till 31st March 2019.
Muthoot Trustee Private Limited: Wholly(100%) owned subsidiary of the company Private Limited. It hasnt commenced operation till 31st March 2019.
The company has not paid anything out of ordinary in terms of acquisition of any of these subsidiaries.
Muthoot Finance Ltd- Sources of fund
The company borrows from different sources, adds its margins and then charges the same to its borrowers. Any increase in cost is usually passed on to the customers.
Muthoot Finance borrows around 50% from banks, 30 % from Secured NCDs(Non-Convertible Debentures) and the remaining via Commercial Papers.
The company borrows long term and lends short term, thus having positive Asset liability gap Thus prevents any liquidity issue.
Muthoot Finance Ltd- Risks
Since no gold purchase receipt is calculated while giving out loans to borrower, there exists a risk of stolen gold being pawned for money.
There has been increased cases of theft against Muthoot Finance branches: This increases impairment cost and hence reduces profit.
Since gold is the second largest imported item, every now and then Indian govt try to curb the gold import to stop the sustained fall of rupee.
Because of the very short duration of gold loan which is non-recurring in nature, the company needs to constantly generate new leads. Hence, have to constantly keep doing advertisement and all short of campaigns to be in the customers head. That is an additional cost. As the business grows, the advertisement cost is likely to continue growing.
Banks have an advantage of giving out loans at a significantly lower rate than gold loan NBFCs but specialized Gold Loan NBFCs provide the ease as well as quick turnaround time.
GL IS MAINLY USED BY SMALL BUSINESS FOR WORKING CAPITAL REQUIREMENT. THAT DEPENDS ON THE STATE OF THE ECONOMY. OUR ECONOMY HAS BEEN STRESSED FOR QUITE SOMETIME AND THE MAXIMUM BURDEN IS OVER THE SMALLER BUSINESSES. IT WOULD APPEAR TO BE A BIG NEGATIVE FOR THE COMPANY. 70% OF THEIR REPEAT LOANS ARE FROM SMALL TRADERS. LET US SEE HOW THIS PANS OUT.
Muthoot Finance Ltd- Analysis
The majority of growth in the future will be coming from the subsidiaries whereas the core business is likely to grow at a moderate rate but with higher profitability at a much high base.
Given the management’s strong track and having been successfully traversed over the difficulties, I am sure they will find ways to grow faster than the industry.
Current lower interest rate regime will bode well for the company, both in terms of volume and profitability growth. Also, higher gold prices also adds in the favor of the company. Higher advertisement spend along with association with stature like Amitabh Bachachan may help them bring more customers from the north.
In terms of valuation, the company is available at a reasonable valuation(22.04.20), at a PE of 11 and Price of Book value of 3.
Further reading: