LIC Housing Finance's Q2FY20 results (Neutral) - Asset quality deteriorates again

Q2FY20 results highlights

• LICHF’s PAT of Rs7.7bn grew 26% qoq / 35% yoy beating the consensus estimate by a wide margin. The beat was largely on account of lower taxation. While the company has taken full benefit of a lower tax rate for 1H, it has not marked down deferred tax assets, which has led to a lower than expected tax rate of 10% for the quarter. Operating performance was weak on many counts 1) GNPAs rose sharply in both retail and developer loans 2) The proportion of variable loans dropped 9% to 82% just in a quarter 3) Disbursal growth remained weak at negative 15% yoy with a deceleration in LAP and developer disbursals. 4) Despite a sharp decline in bond yields, NIM improved 7bps qoq after declining sharply by 19bp qoq in 1Q, due to changing loan mix and competitive pricing.
• Total disbursals declined 15% yoy with retail growing 4% (lower than 8% in 1Q) and developer disbursals declining 85%. Within retail, core retail grew in high teens while LAP disbursals declined. Loans grew 14.5% yoy with retail growing 15% and developer loans growing 27% (versus 62% in 2Q). Core retail loans grew 13% yoy (similar to 1Q) while LAP grew 20% (versus 24% in 1Q).
• NIM improved 7bps qoq to 2.42% due to lower cost of funds. The sequential NIM improvement of 7 bps comes on the back of a sharp decline of 19bps qoq in 1Q. NII grew 20% yoy and 10% qoq.  The marginal cost of funds has declined 20bps qoq to 8.04% while the average cost of funds has declined 10bps qoq to 8.36%.
• Credit cost rose sharply by 29% yoy / 11% qoq to 0.56% on an already high base of 0.52% in 1Q20. Core PBT rose 15% yoy and 2% qoq.
• Gross stage 3 loans rose sharply by 25% qoq to 2.38% which is an increase of 40bps qoq over 1.98% in 1Q. It may be noted that gross stage 3 has been rising by 25% qoq since 4Q19. Further between 4Q18 and 2Q19, gross stage 3 has risen sharpy by 2x. The sharp increase in NPLs was driven by both developer and core retail loans. Developer NPLs rose sharply by 26% qoq to 15% of loans (11.6% in 1Q20), amongst the highest for any HFC. This is on the back of 74% sequential increase in 1Q20.  Retail NPLs also rose sharply by 23% to 1.5% of loans from 1.03% qoq. There has been a sharp increase in developer and retail NPLs over the last six quarters. Total retail NPLs have grown 3.2x while developer NPLs have grown 2x over 4Q18 – 1Q20. Total NPLs including developer and retail rose 24% qoq to 2.4% vs 2% in 1Q20.

Valuation and view:

We believe asset quality concerns will overpower the company’s AAA rating and strong liquidity profile. Given inexpensive valuation of 0.9x FY21 we retain Neutral. We cut TP to Rs411 as we cut target PBV to 1x, and cut earnings on higher credit costs.