M&M Financials Services' Q2FY19 results (Outperformer) - Strong growth, declining credit cost

Q2FY19 result highlights

• MMFS reported a strong quarter. PAT of Rs3.8bn was substantially higher than the consensus estimate of Rs3bn due to lower than expected credit cost. Strong 43% disbursal growth, 19% AUM growth, dividend from subsidiaries and decline in credit cost were the key positive highlights. GNPA / stage 3 grew at a low 2% qoq. Also number of NPL contracts remained almost flat qoq.
• Management remains bullish on growth, liquidity and asset quality. On a high base of 2H, disbursal growth in 2H will decelerate but still remain strong at 20% yoy. MMFS has enough liquidity over the next six months to fund this growth. Credit cost will decline further as 2H is seasonally strong. With lower credit cost in 2H, mgmt. believes the company will move closer to an RoA of 3% from 2.3% in 2Q19. 
• MMFS has adequate liquidity with a positive ALM of 130% in the 1-mth bucket against RBI cap of negative 15%. Post crisis, MMFS has raised money from group companies at market rates. Marginal cost of funds which was 8.4% pre-crisis has increased to above 9%. MMFS will pass on some proportion of higher borrowing cost to borrowers.
• Disbursements grew strongly at 43% yoy and 5% qoq led by CVs and pre-owned vehicles. AUMs grew 19% yoy and 1% qoq. In terms of geography-wise demand, rural is better than urban and most states are seeing good growth except Maharashtra where demand was sluggish. Further, demand in Maharashtra which is usually strong in the festival of Navratri (that happened over Oct 10-Oct 18) remained sluggish this year.
• Increase in GNPAs was restricted to 2% qoq which is very healthy for a seasonally weak quarter. Number of NPL contracts declined marginally by 1% qoq.  Credit cost declined sharply by 21% qoq due to lower slippages.
• Gross spread rose 60 bps qoq to 8.2% with better recoveries. NII grew 49% yoy and 8% qoq. Operating expenses grew 28% yoy and 10% qoq. Other income rose sharply due to dividend from subsidiaries. Operating profit grew strongly by 133% yoy and 42% qoq.

Valuation and view

With continued traction in growth and bad loan recovery in the last three quarters, we believe MMFS has entered a strong phase of earnings growth and recovery. We reiterate MMFS as our top pick. We have revised our higher-than-consensus earnings and expect steeper revisions by consensus.