Initiating coverage: JM Financials (Outperformer) - Quality growth at an attractive price

We initiate coverage on JM Financial Ltd (JMF) with an Outperformer rating and sum–of-parts (SOTP)-based target price of Rs195 (3x PBV FY20E). We see strong growth opportunities in each of JMF’s key business segments. We believe the company’s recent QIP of Rs6.5bn strengthens its competitive position, especially in asset reconstruction and real estate financing. Post recent capital raise, low leverage and well–established management track record, JMF is poised to deliver strong 24% EPS CAGR over FY18E-FY20E and RoE of ~19% in FY20E.

JMFARC – Huge growth opportunity: RBI’s tightening bad debt rules and focus on a quicker resolution of stress loans have resulted in a never-before opportunity for the well-capitalised ARCs. Capital is a key entry barrier for this business. JMFARC is the third largest ARC by net-worth. The parent has planned an infusion of Rs4bn into JMFARC, which will lead to a total infusion of Rs6bn into the company over next 2 years, as the existing private shareholders will also contribute. With the capital infusion, JMFARC is geared to double its AUM by end FY19E and improve its RoE to 15% post-money in FY19 from 9.9% in FY17.

Demand for developer finance reviving: We believe demand for real estate has bottomed out, although RERA will provide enough opportunities for quality real estate financiers such as JMF to increase market share at the cost of banks and weaker NBFCs. We expect the real estate business will continue to generate high post-money RoE of 19% by FY20E.

Huge opportunity in corporate finance; new business launches will provide upside: There exists huge opportunity for well-established NBFCs like JMF to gain market share in structured finance from state banks with capital constraints and are under RBI’s prompt corrective action framework, which has restricted their lending operations. JMF has recently launched housing and SME finance, which will strengthen its lending growth and make the loan mix more granular.

Recent correction provides good entry point: At 2.2x P/BV FY20E, JMF trades cheaper than peers due to its relatively low leverage. We expect RoE to improve to 19% by FY20E from 17% currently, while RoAs will likely remain strong at 4% plus, as the new capital is used to gain share in key businesses. We believe the recent correction provides a good price point to own a company that has strong earnings prospects (24% EPS CAGR over FY18-FY20E), an improving RoE trajectory and strong management team.