L&T Finance IPO - Evaluation

Background:

L&T Finance (LTF), a 100% subsidiary of L&T will launch a c.Rs. 1,245 crore (c.US$ 277 million) IPO, which will open on the 27th of July and will run till the 29th of July. c.99.5% of issued shares will be sold to the public. The IPO has been rated at 5 by CARE, indicating CARE's perception of strong underlying fundamentals. The IPO price band is Rs 51 to Rs 59 and will be through a book building process.

About LTF:

LTF, a wholly owned subsidiary of L&T, was established in 1994 and operates under a "Non deposit taking Asset Financing company" license. Headquartered in Mumbai, LTF has a network at over 200 locations. It services Corporate, SME and Retail sectors with its employee base of c.2,800.

Performance:

LTF balance sheet has grown strongly in the last three financial years, with a CAGR of 26%. Loan growth has also been robust at 24%. As LTF does not accept public deposits, its main source of funding is from institutions, with a 42% CAGR in secured borrowing. 80% of the lending is secured. A 3 year snapshot of its financial performance is shown below:

The NPL ratios are managed well, with Gross NPLs at 1.4% in 2009-10. However, provision coverage is inadequate, barely covering 33% of NPLs. Given a 100% default, this would translate into a credit loss of Rs. 639 million, which is 41% of 2009-10 profits.

LTF has shown robust profitability. With a Net Interest Margin of 9.1%, ROAE stood at 15.8% in 2009-10. Cost to Income Ratios have been managed well, except a spike in 2008-09. However, miscellaneous costs, which formed c. 50% of total administrative expenses in 2008-09 and c.41% in 2009-10, are of unexplained nature and needs to be kept under check.

Overall, the financial performance has been robust and the company has managed the years of recession quite well.

IPO Pricing:

The IPO pricing is attractive. With an EPS of 8x and P/BV of 1.1x (at the higher end of pricing band), the IPO has been rightly priced and in the presumed absence of any financial surprises, one is buying into the company at virtually no premium.

Recommendation:

LTF is a good offering. Given the strong brand, L&T's network and the captive client base available through L&T, strong economic growth, especially in the SME sector, the company presents a very good opportunity at a very attractive price.

Strategies for Mortgage Finance in Saudi- The choices for the Small and Medium Sized Players

Saudi Arabia has been the only market in the GCC (Gulf Co-ordination Council - Bahrain, UAE, Qatar, Kuwait, Oman and Saudi) which has not so far reaped the benefits of explosion of the Real Estate Industry- especially from the perspective of the suppliers of finance. The reasons behind this peculiar situation; despite the Kingdom being the largest economy in the GCC in terms of GDP, are manyfold. But the key reasons are:



1. Lack of a Mortgage Finance Law in the Kingdom implies there is a lack of legal framework to help the Mortgage Finance Companies to enforce their liens on the properties they finance. This essentially means that in the Kingdom, with the existing public and till date the administrative attitude against repossession of properties (if the Mortgagee does not pay his debts regularly) severly restricts the Financiers ability to take steps against non payment or defaults.



2. Non Participation of Expatriates in the Property Market; which has been a stricking feature of the growth of this sector in the other GCC economies, especially that of UAE and Bahrain. The lack of excitement from expatriates for the Kingdom's property market stems from the restrictive nature of the society and ambiguous ownership laws.

3. The lower rentals in comparison to the other GCC Markets, especially Qatar and UAE do not provide renters enough incentives to own property and hence seek finance.

4. The tendancy of the Saudi's to live in Joint families and with their parents mean lesser people owning their homes and lesser demand for property financing.

However, the winds of change are blowing in the Saudi Real estate and consequently in the Mortgage Fianance Market. I will deal with these in the next post and in the subsequent ones I will talk about the strategies that a typical Mid sized Mortgage Finance player in the Kingdom should adopt to respond to these changing circumstances.