Sundaram Finance. Asset quality over growth remains the mantra. August 2016

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1 Sundaram Finance Asset quality over growth remains the mantra August 2016

2 Sundaram Finance CMP Target Rating Asset quality over growth remains the mantra Rs. 1,436 Rs. 1,548 ADD While we view Sundaram Finance (SUF) as a strong multi-year compounding opportunity in the asset and home financing segments, we take note of the recent moderation in the profitability of the core business led by intensifying competition Date 29 Aug, 2016 (specifically the cars segment), under-performance in the home finance subsidiary and lacklustre performance of the insurance business. Though the company s performance in the CV segment has been in line with the strong recovery in the Market Data overall industry, the core profitability has been impacted due to the pressures in the NIM dilutive cars segment. These SENSEX challenges may, in the medium term, continue to weigh on the qualities which still make SUF a superior franchise in the asset financing space viz. Clear cut emphasis on asset quality over growth at all times, an enviable repeat customer base (~6), Nifty 8573 end to end understanding of the market led by the group s positioning (auto manufacturer, OEM supplier and financier) and a seasoned management team placing the business in an exalted position. Despite transitioning to 90 day NPA recognition in Bloomberg SUF IN FY16, (2 years ahead of regulatory requirement), GNPAs remain best in class by a wide margin - even as other NBFCs nudge Shares o/s themselves towards 90 DPD recognition. Notably, SUF hasn t raised capital over the last 4 decades, with other businesses 111mn such as housing finance, insurance and asset management all being built through internal accruals standing testimony to Market Cap stellar capital allocation. SUF remains uniquely poised in our coverage universe - in a sweet spot of not needing to overhaul Rs. 160bn the business model for long periods and unlikely to raise capital in future but generating moderate ROEs of ~15-16%. We 52-wk High-Low Rs. 1,604-1,106 continue to value the business on the basis of earnings as a) there is no capital dilution b) limited impairment to book with stable earnings. Maintain ADD with a TP of Rs. 1,548 valuing core earnings at 25x FY18E and HFC at 18x FY18E earnings. 3m Avg. Vol Rs. 76mn Key Thoughts: Latest Shareholding (%) Growth outlook remains muted: SUF reported a modest 1 AUM growth for FY16. Though traction in CV disbursements (55% of the book) which clocked 29% yoy growth remained robust, growth was reined in by a benign performance in the cars segment where Promoters disbursements remained flat yoy. We estimate 12-13% growth in FY17 and marginally higher growth rates in the medium term on the 36.2 back of healthy CV recovery yet constrained by management s conservative approach to growth, prioritising asset quality at all times. Stable asset quality outlook: Despite transitioning to 90DPD recognition and a sticky operating environment, SUF reported sub Institutions % slippages over FY15/16, with FY16 GNPAs at 2.08%. With CV NPAs at 1.9% being the best in the industry and the NPA Public 47.9 transition completely done, we believe SUF should benefit disproportionately as CV operators especially in non-mining segments start seeing increased utilisation and profitability. This should imply reduction in credit costs (factor in ~10-15bps reduction between FY16-19E) and growth catching up over FY We expect ROAs of 2.2% and 2.3% for FY17E and FY18E respectively. Stock Performance (%) Excellent customer franchise, lean opex structure: With 6 repeat customers on the asset side and a sticky deposit franchise (15% of liabilities) with 83% roll-over rates, SUF remains well positioned across business cycles. Industry leading employee 1m 3m 12m productivity numbers and 42% of employees on contractual basis should help contain cost to income ratios at ~38% over FY SUF Housing and insurance business under-perform: While the housing finance business remained affected by the downturn in the -5% 6% -1% real estate sector and specifically the Southern India region, the insurance business was impacted by the Chennai floods which Sensex -1% 5% 8% reported claims in excess of Rs.1bn during FY16 for the company. We believe the prolonged downturn in the real estate sector may continue to result in moderate growth rate for the HFC and hence continue to bake in 2. ROAs in the4 medium term as against its Bankex 2% 12% 13% heyday ROAs of % reported during FY Year NII (Rs. mn) PAT (Rs. mn) ROE (%) ROA (%) ABV (Rs.) P/E (x) FY16 10,947 4, % 2.4% FY17E 11,716 5, % 2.2% FY18E 13,309 5, % 2.3% FY19E 15,267 6, % 2.4% ABHINESH VIJAYARAJ abhinesh@sparkcapital.in NISHANT RUNGTA nishant@sparkcapital.in NAVIN BABU E S navin@sparkcapital.in Find Spark Research on Bloomberg (SPAK <go>), Thomson First Call, Reuters Knowledge and Factset Page 2

3 Industry Page 3

4 Thoughts on CV Financing Business #1. Demand recovery remains robust in the MHCV & LCV segment Marked shift towards higher tonnage vehicles continues, >16 tonnage currently at 63% against 53% in FY13 MHCV sales on a rebound with FY16 clocking 32% growth in volume and 35% growth in tonnage led by replacement demand. 1QFY17 slowdown seasonal % 28% 28% 39% 43% 39% 26% 25% 27% 25% 22% 24% 2 22% 2 17% 17% 18% 14% 18% 18% 13% 12% 12% 8% 8% 7% 6% 6% 6% FY12 FY13 FY14 FY15 FY16 4MFY ,58,488 2,21,833 1,95,903 1,61, % 35% 21% 11% 1 76,494-26% -27% -28% -26% FY13 FY14 FY15 FY16 4MFY17 3,00,000 2,50,000 2,00,000 1,50,000 1,00,000 50, to 10 Tonnes 10 to 12 Tonnes 12 to 16.2 Tonnes 16.2 to 25 Tonnes Above 25 Tonnes YoY Vehicles Growth Number of Vehicles Sold (RHS) YoY Tonnage Growth LCV segment has also witnessed a growing preference to switch to tonnage segment as against <2 tonnage segment reflected in tonnage creation of 4% yoy vs -1% in volume. LCV goods carriers volumes increase by 13% in 4MFY % 2% 3% 3% 9% 6% 5% 4% 4% 6% 7% 7% 26% 4 61% 52% 5 52% 55% 56% 43% 39% 35% 33% FY12 FY13 FY14 FY15 FY16 4MFY17 < 2 Tonnes 2 to 3.5 Tonnes 3.5 to 6 Tonnes 6 to 7.5 Tonnes 25% 2 15% 1 5% -5% -1-15% -2-25% 4,76,825 19% 3,89,312 16% 3,37,453 3,32,773 13% 14% 4% -13% -1-1% -18% -12% 1,06,222 FY13 FY14 FY15 FY16 4MFY17 YoY Vehicles Growth YoY Tonnage Growth Number of Vehicles Sold (RHS) 6,00,000 5,00,000 4,00,000 3,00,000 2,00,000 1,00,000 - Page 4

5 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Sep-15 Oct-15 Nov-15 Dec-15 Jan-16 Feb-16 Mar-16 Apr-16 May-16 Jun-16 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Sep-15 Oct-15 Nov-15 Dec-15 Jan-16 Feb-16 Mar-16 Apr-16 May-16 Jun-16 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Sep-15 Oct-15 Nov-15 Dec-15 Jan-16 Feb-16 Mar-16 Apr-16 May-16 Jun-16 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Sep-15 Oct-15 Nov-15 Dec-15 Jan-16 Feb-16 Mar-16 Apr-16 May-16 Jun-16 Thoughts on CV Financing Business #2. Tractors segment looking up while PC sales continue to remain sluggish PC: Growth is yet to pick up to meaningful levels in the PC segment PV: Healthy growth in UVs have contributed to an overall better growth nos. in PVs even as PCs continue to languish 2,50,000 2,00,000 1,50,000 1,00,000 50, ,00,000 2,50,000 2,00,000 1,50,000 1,00,000 50, Passenger Cars Growth YoY 3Ws: Growth is slowing down in FY17 after a healthy FY16 performance Passenger Vehicles Growth YoY Tractors: Sales growth is looking up after a very challenging FY16, an outcome of healthy monsoon 60,000 50,000 40,000 30,000 20,000 10, ,000 60,000 50,000 40,000 30,000 20,000 10, Three Wheelers Growth YoY Tractors Growth YoY Source: RBI Spark Capital Research Page 5

6 Aug15 Sep15 Oct15 Nov15 Dec15 Jan16 Mid - Jan16 Feb16 Mar16 Apr16 May16 Jun16 Jul16 Aug16 Jan12 Mar12 May12 Jul12 Oct12 Dec12 Feb13 Apr13 Jun13 Aug13 Oct13 Dec13 Feb14 Apr14 Jun14 Aug14 Oct14 Dec14 Feb15 Mar15 May15 Jul15 Sep15 Nov15 Jan16 Feb16 Apr16 Jun16 Aug16 Thoughts on CV Financing Business #3. Freight rate increase > diesel linked cost indicated better utilisation Freight Rate Movements vs Diesel Price Movement for a roundtrip from Delhi (indexed to Jan -12) Mumbai Nagpur Kolkata Guwahati Hyderabad Chennai Diesel (RHS) Truck rentals decrease in July Truck rentals across all routes decreased by % in July with rentals on the Delhi-Mumbai route at Rs. 88,600 (Rs.90,000 in June), Delhi-Kolkata at Rs. 91,700 (Rs.88,600) and Delhi-Hyderabad at Rs. 126,500 (Rs.122,200) for round trip for truck with GVW of 25.2T. This was driven by weak cargo offerings, with steep decline in arrival of fruit and vegetables to APMCs coupled with weak activity in core and manufacturing sector, and fall in diesel prices by Re.1 in July Diesel costs account for ~5 of freight rates and considering the movement of freight rates, we see that freight operators have passed on the entire increase in diesel prices on the back of a gradual improvement in freight demand (freight costs up 14% in Aug yoy and diesel up 2 yoy). Freight operators have passed on almost the entire diesel price benefit 8% 4% -4% -8% -12% -2.1% % 5.2% 0.6% % 1.9% % % % % 1.5% -2.9% 6.2% 5.5% 3.5% -1.4% -0.7% -1. Freight Rate (Sequential) % Diesel (Sequential) % Source: IFTRT, Spark Capital Research Page 6

7 May/12 Jul/12 Sep/12 Nov/12 Jan/13 Mar/13 May/13 Jul/13 Sep/13 Nov/13 Jan/14 Mar/14 May/14 Jul/14 Sep/14 Nov/14 Jan/15 Mar/15 May/15 Jul/15 Sep/15 Nov/15 Jan/16 Mar/16 May/16 May/12 Jul/12 Sep/12 Nov/12 Jan/13 Mar/13 May/13 Jul/13 Sep/13 Nov/13 Jan/14 Mar/14 May/14 Jul/14 Sep/14 Nov/14 Jan/15 Mar/15 May/15 Jul/15 Sep/15 Nov/15 Jan/16 Mar/16 May/16 Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13 Sep-13 Nov-13 Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15 Jan-16 Mar-16 May-16 Jul-16 May/12 Jul/12 Sep/12 Nov/12 Jan/13 Mar/13 May/13 Jul/13 Sep/13 Nov/13 Jan/14 Mar/14 May/14 Jul/14 Sep/14 Nov/14 Jan/15 Mar/15 May/15 Jul/15 Sep/15 Nov/15 Jan/16 Mar/16 May/16 Thoughts on CV Financing Business #4. Rising demand for diesel, cement, steel & electricity hint at economic turnaround on the ground #1: Rising fuel demand: Diesel consumption growth has gone up in the last five months, indicating a rise in economic activities Diesel Consumption Growth (volume, % YoY, 3MMA) 11.3% 3.8% #2: Improving cement demand: Cement production growth picking up from the lows of Apr 15, led by higher demand in infra sector Cement Production Growth (Volume, % YoY, 3MMA) 13.3% 5.7% Source: GoI, Spark Capital Research #3: Pick up in domestic steel demand: Steel production growth picks up to a 15 month high of 3.9% in Jun Steel Production Growth (Volume, % YoY, 3MMA) 3.9% Source: CEIC, Spark Capital Research #4: Growing power demand: Electricity production growth picks up in recent months after falling to low single digit in mid Electricity Production Growth (Volume, % YoY, 3MMA) 9.1% Source: GoI, Spark Capital Research Note: * Steel production net of exports & imports Source: GoI, Spark Capital Research Page 7

8 Thoughts on CV Financing Business #5. Commercial Vehicles Industry structure: Brokers are the key link between demand and supply of trucks The road freight transportation industry Moderate fixed asset intensiveness and heavy WC intensiveness ~5 of fleet Brokers Heavy fixed asset intensiveness CORPORATES Contracts with Large Transport Companies (LTCs) (~2 owned fleet) Attached Vehicles ~3 of fleet Truck owners/small Fleet Operators (SFOs) Provide Freight Services Source: Spark Capital Characteristics of the industry segments Large Transport Companies Relationship with Corporate (demand side) ~9 of the business is driven by contracts with corporate with freight rates indexed to diesel prices Moving towards an asset light model prompted by hassles in dealing with drivers Highest working capital intensiveness in the industry Moderate asset intensiveness (75% of fleet requirements supplied by brokers and SFOs) Diesel price indexed contracts with corporate beneficial during low freight demand Higher barriers to entry Brokers Market makers, the most thriving and profitable link in the industry. Commission based on % of freight or fixed rate per trip Typically specialize in specific routes Takes responsibility in case of accidents / emergency Zero asset model (highest RoIC in the chain) Easily scalable business Truck owners/small Fleet Operators Undergo most pain in the system have to deal with drivers, check-posts, police etc. At the mercy of brokers and LTCs for business Freight rates highly impacted by seasonality and freight load factor Heavy asset intensiveness operate only on the owned vehicle model. Moderate entry barriers Diesel price indexed contracts with corporate onerous during high freight demand Working capital intensive on account of low bargaining power with corporate and advance payments made to brokers /SFOs Higher overheads Drivers switch loyalty to other brokerages if steady business is not ensured Limited entry barriers Have to bear risk of untoward happenings (theft etc.) in the transportation process No direct contracts with corporate due to fragmentation/small size Apart from diesel prices, load factor is the key determinant of profitability Scalability issues Pressure to meet loan repayment obligations Source: Spark Capital Page 8

9 Company Section Page 9

10 Sundaram Finance A strong story characterized by single minded focus on asset quality over growth SUF s prudence in the CV business is evident in the stable movement in disbursements even during challenging times Strong group linkages holds SUF in good stead; presence across the auto value chain has helped SUF considerably % 7% SUF pulled out in time before underwriting started deteriorating -3% 21% 32% -1% -18% -13% -26% FY13-27% FY14 FY15 FY16 MHCV Sales Growth (yoy) SUF Disbursements Growth (yoy) 3% LCV Sales Growth (yoy) 14% Axles India (manufactures axles for MHCV) Sundaram Finance Wheels India (manufactures wheels for PVs, CVs) Qualitative perceptions of a lender outweigh lending rate as the only driver of customer preference. S No Key Reasons for which existing customers prefer SUF over other financiers 1 Considered a stamp of approval of the customer s business capabilities 2 Transparent pricing of loans 3 Hand-holding & guidance in difficult times; not harassing customers regarding recovery unlike many other players in the industry 4 Present in the market consistently both in the up cycle and down cycle 5 Considered lucky as the first vehicle would have been financed with them Our channel checks suggest that Sundaram Finance customers are the most difficult to poach. SUF enjoys the highest proportion of repeat customers (~6) giving them an edge in maintaining portfolio quality over peers, especially in downturns. Our discussions with various players reveal that if a customer has served adequate time as a SUF customer, that gives tremendous confidence in terms of taking lending decisions on such customers and the asset quality associated with such accounts. Page 10

11 Sundaram Finance Disbursements Trajectory Robust increase in CV disbursements, challenges in cars segment In FY16, SUF reported a stellar 29% yoy growth in CV disbursements which was however constrained by a tepid performance in other segments FY16 Disbursements - Rs.114,440 mn Others, Tractors, 3% 3% Constructi on Equipment s, 6% 29% FY16 increase in disbursements in various segments 11% 14% 1QFY17 Disbursements - Rs.32,170 mn Constructio n Equipment s, 9% Tractors, 4% Others, 3% Cars, 32% CVs, 55% Cars, 3 CVs, 55% CVs Cars Construction Equipments -5% -11% Tractors Others Overall CV and PV financing continues to dominate the business of SUF in line with macro trends and uptick in overall CV volumes. However, SUF has been losing market share in the PV segment giving the intense pricing pressure due to increased focus by banks in this segment. Constructio n Equipments & Others, 12% Cars/UV, 37% Portfolio Break-up - FY15 CVs, 46% Constructi on Equipmen ts & Others, Cars/UV, 11% 33% Portfolio Break-up - FY16 CVs, 52% Constructi on Equipmen ts & Others, 11% Cars/UV, 3 Portfolio Break-up - FY17E CVs, 55% Tractors, 5% Tractors, 4% Tractors, 4% Page 11

12 Sundaram Finance Portfolio Mix Growth outlook remains modest led by focus on asset quality over growth SUF s portfolio has grown at a CAGR of 8% over the last 5 years and is expected to grow at a CAGR of 14% over the next 3 years Uptick in the CV segment; the Cars segment continues to face pressures with AUM declining in FY % % % % % % % % 1 5% -5% -1 AUM Split (Rs.mn) 162, ,980 8,477 9,269 7,692 7,643 10,832 10,732 58,868 60,166 71,112 74, ,950 8,769 7,337 11,453 58,875 92,517 - FY12 FY13 FY14 FY15 FY16 FY17E FY18E FY19E -15% FY14 FY15 FY16 AUM (Rs. Bn) YoY Growth (RHS, in %) CVs Cars Construction Equipments Tractors Others South India continues to remain a dominant region for SUF; Northern India continued to gain in FY16 North, 18.8% West, 14.1% FY15 Geographic Mix in AUM East, 3.9% North, 19.3% West, 13.8% FY16 Geographic Mix in AUM East, 3.5% North, 19.1% 1QFY17 Geographic Mix in AUM West, 13.7% East, 3.6% South, 63.2% South, 63.4% South, 63.6% Page 12

13 Sundaram Finance Portfolio Performance Growth lags peers SUF s portfolio is significantly skewed towards new CV/CE financing.. which along with a retail Car financing focus, results in one of the lowest blended yields in the industry AUM Break-up - FY % 16% 28% 8 12% 58% 6 72% 39% 4 55% 2 33% 23% 23% 4% 1 17% 5% SUF CIFC SHTF MMFS Tractors Cars & UVs CV & CE Pre-owned Vehicles and Others Average Yield on On-Book Assets 16.7% 15.2% 15.5% 13.5% SUF CIFC SHTF MMFS ; * Only vehicle finance AUM considered for CIFC SUF s loan growth continues to lag that of the peers given its conservative ideology in approaching the markets YoY Growth in AUM over the last 5 Years % 14% 27% 48% 41% 22% 37% 35% 22% 23% 15% 23% 22% 16% 1 9% 11% 11% 8% 9% 8% 4% -11% SUF CIFC SHTF MMFS 9% 3 25% 2 15% 1 5% FY12 FY13 FY14 FY15 FY16 5 Year CAGR (RHS) Page 13

14 Sundaram Finance Portfolio Performance Market share gains in the CV business offset by the cars portfolio Gains in the MHCV financing market share has been largely Avg. Yields and Spreads in Cars segment have collapsed over the last 5 years Market Share Estimates in New MHCV Financing (FY16) 9.3% 2.8% % SUF CIFC SHTF MMFS In FY16, SUF is estimated to have gained about 1% market share in the new MHCV financing (civilian sale of MHCVs); most other players increased their focus on this segment on the back of a revival in sales led by replacement led demand and ABS implementation % % 9.9% % SBIN ICICIBC HDFCB SUF FY12 Lending Rates FY16 Lending Rates Max Spread over base rate (SBI) FY12 Max Spread over base rate (SBI) FY ; News clippings offset by the loss of market share in the PV financing segment With increasing competition in the PV financing segment from banks, SUF faced the heat in terms of narrowing margins and consequently lost market share in this segment. SUF continues to price the PV products at a competitive 9.75% p.a. However, the segment continues to remain ROA dilutive for the company. ; Company website Page 14

15 Sundaram Finance Liability Mix Strong liability franchise, robust ALM SUF has the highest proportion of funding from NCDs (FY16) amongst its peers thereby translating into one of the lowest cost of funds (FY16) amongst peers in the industry % 16% 18% 5% 1 7% 1 6% 16% 15% 1 3% 13% 13% 35% 46% 33% 49% 18% 27% 35% SUF CIFC SHTF MMFS % 1 9.5% % 9.8% 10.8% 9.5% Debentures Bank Loans Fixed Deposits Commercial Papers Others Subordinated Debt Securitization 8.5% SUF CIFC SHTF MMFS With 61% of its debt maturing within 1 year, SUF is best positioned to take advantage of the softening interest rate environment (FY16) SUF continues to have one of the best managed ALM profiles in the industry (FY16) % 11% 22% 22% 31% 37% 42% 4 61% 52% 35% 38% SUF CIFC SHTF MMFS ALM Mismatch 2 6% 3% 11% 8% 1% 5% -2% -17% -3% -21% -11% SUF CIFC SHTF MMFS < 1 Year 1-3 Years > 3 Years < 1 Year 1-3 Years > 3 Years Page 15

16 Sundaram Finance Concentration data Concentration data suggests granularity in the balance sheet SUF has unparalleled goodwill as a deposit franchise with 83% of the deposits being rolled over on maturity. The retail nature of the deposit franchise is also evident from low concentration percentages at 3.8% in FY16. One of the highest roll-over rates for FDs among NBFCs 6,000 5,000 4,000 3,000 2,000 1,000-3,729 82% 84% 4,144 4,914 83% FY14 FY15 FY16 85% 84% 84% 83% 83% 82% 82% 81% 1, % FY15 3.8% FY % 3.8% 3.8% 3.7% 3.7% 3.6% 3.6% 3.5% 98,350 74,720 82,160 FY14 FY15 FY16 Total Deposits mobilized during the year (Rs. Mn) Renewal of deposits as a % of matured deposits Total Deposits of twenty largest depositors (Rs. Mn) % of Twenty largest depositors Total CPs issued during the year (Rs. Mn) ; Company filings Concentration of advances remains granular with top twenty borrowers constituting only 1.7% of the total advances. NPA concentration remains low with top four NPA accounts constituting 7.5% of the total GNPAs in FY16. 2,250 2,200 2,150 2,100 2,050 2,000 1,950 1,900 1, % 2,185 FY15 1.7% 1,962 FY16 2.5% % % 6,000 5,000 4,000 3,000 2,000 1, ,497 FY15 3.2% 4,541 FY16 4.5% % % % % % 116 FY15 7.5% 220 FY Total Advances to twenty largest borrowers Total Exposure to twenty largest borrowers Total Exposure to top four NPA accounts % of Twenty largest borrowers % of Twenty largest borrowers % of Total NPAs ; Company filings Page 16

17 Sundaram Finance Profitability Profile Large repeat customer base continues to support yields and profitability Large low yielding proportion of SUF s portfolio amongst various players in the industry is more than made up for by highest amount of repeat customers for SUF, thereby preserving its asset quality % % 65% 6 55% 35% 25% 1 1 SUF CIFC SHTF MMFS High Yield (> 16%) Medium Yield (14-16%) Low Yield (< 14%) % 15% SUF CIFC SHTF MMFS Although SUF s NIM and Spread appears to be low amongst relevant peers the risk adjusted return (NIM - credit costs) continues to be comparable with the peers in the industry % 3.8% 7.8% 7.9% 5.5% 4.8% 9.2% 7.2% SUF CIFC SHTF MMFS Spreads NIM (RHS) % 6.3% 4.6% SUF CIFC SHTF MMFS Page 17

18 Sundaram Finance Cost Profile Lean opex structure Despite SUF s annual cost per employee being the one of the highest in the industry employee productivity is one of the healthiest amongst comparable peers 4,00,000 3,50,000 3,00,000 2,50,000 2,00,000 1,50,000 1,00,000 50,000 - Annual Cost per Employee (Rs.) 3,56,334 3,53,206 3,07,293 1,86,864 SUF CIFC SHTF MMFS AUM Per Employee (Rs. Mn) SUF CIFC SHTF MMFS SUF has one of the lowest opex/assets (on+off) in the industry (FY16) SUF also has amongst the highest proportion of contractual / nonpermanent employees in the industry which helps control costs 3.5% % % 2.4% 2.8% 2.1% 3.2% 7,000 6,000 5,000 4,000 3,000 2,000 6,260 6,488 2,766 2, % 5, % 2, , % % SUF CIFC SHTF MMFS - FY14 FY15 FY16 Total Employees Contractual Employees % of Permanent Employees (RHS) 53. Page 18

19 Sundaram Finance Asset Quality Best in class asset quality GNPAs continues to remain the best in the industry, despite recognizing NPAs on 90DPD and remains low across most segments, with CV NPAs of 1.89% being the best in the industry by a wide margin % 57% 1.23% 1.04% 64% 64% 1.45% 2.08% 56% 0.92% 0.59% 0.45% 0.45% 0.52% 0.09% FY12 FY13 FY14 FY15 FY16 GNPAs NNPAs Provisioning Coverage (RHS) % Truck Operators 1.4 Auto Loans FY16 - Segmental GNPAs 3.62% Infrastructure Loans 8.07% 2.81% 2.08% Agriculture Others Overall Consistently low slippages despite the transition to 90 day NPA recognition indicates superior underwriting skills % % % % 0.09% 0.19% 1.14% 0.03% 0.15% 1.36% 0.26% 0.02% 0.12% 1.59% 0.17% FY14 FY15 FY % SUF transitioned to 90DPD in Mar 16, two years ahead of schedule, even as other peers grapple with an onerous transition 90 DPD NPA Recognition Days 120 DPD 120 DPD 150 DPD Bad Debts Written off Provisions against Repossessed Assets Loss on Assets Sold Gross Slippage (RHS) SUF CIFC MMFS SHTF Page 19

20 Sundaram Finance No concerns on dilution, steady compounding business Has one of the highest Return on Retained Earnings among peer group % Wealth creation through compounding effect 5Y CAGR FY % 10.9% 10Y CAGR 10.2% SUF CIFC SHTF MMFS Sundaram Finance has not raised capital in over four decades and is unlikely to do so in future as well. Book value compounding at ~15% coupled with minimal dilution risks and improving operating environment should hedge any downside risk to valuation multiples. BVPS 17% 14% EPS 1 17% Dividend -5% Source: Spark Research, Company Page 20

21 Sundaram BNP Paribas Home Finance Ltd Page 21

22 Pan India units launched (4Qtr MA) based to 100 Real Estate Sector Continues to Underperform Challenging real estate environment has resulted in waning project launches and shift in savings to financial assets Real estate sector continues to face a difficult time: New home launches have fallen 3 in Dec Real estate: New Launches Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15E 4Q15E 1Q16E Source: News, Spark Capital Research Prolonged under-performance in real estate sector has led to a shift in savings moving away from physical assets to financial assets Cumulative MF inflows in equity during Sep'04-Jun'14 = Rs. 950bn ( (MFs inflows in last 23 months are 1.5x of what they got in a decade) Rs 1.5tn Net equity flows in MFs (Rs. bn) Source: GoI, Spark Capital Research Page 22

23 Sundaram BNP Paribas Home Finance Ltd Product Profile SHF offers products across the housing finance spectrum at competitive rates Diversified Product Profile Lending Rates remain competitive in the housing finance segment Plot Loans Purchase / Constructi on Housing Loans Home Improvem ent Loans LAP Loans on existing property Non Housing Loans LAP loans for purchase of commercial property* Lending Rates in the Housing Finance Company 15.15% % % 10.3 Housing Loans Plot Loans LAP Home Extension Loans Minimum Maximum Prime Lending Rate Loan Features LTV and Tenor Documentation Home Loans 85% up to Rs.2mn, 8 between Rs mn; 75% for loan >Rs.7.5mn 20 Years 3 months salary slips Latest Income Tax Return Plot Loans 75% of the property value 10 Years Salaried 6 months bank statements Age, identity & residence proof LAP NRPro* 5 of the property value 5 of the property value 10 Years 10 Years Self- Employed P&L, BS of 3 years 6 months bank statement 3 Year IT returns KYC; Business continuity proof *Non-Residential Property Loan Page 23

24 Sundaram BNP Paribas Home Finance Ltd Portfolio Mix Disbursements and loan growth continue to taper down on the back of a challenging real estate environment Growth in disbursements and overall loan book has been declining over the years with growth in housing loan portfolio slowing down considerably & LAP portfolio growth remain broadly flat yoy % 32% 14% 8% 3% -3% -1-22% FY13 FY14 FY15 FY % 41% 17% 12% 3% 9% 3% FY13 FY14 1% FY15 FY16 Overall Loan Growth Disbursements Growth Housing Loan Portfolio Growth LAP Portfolio Growth The changing mix in the portfolio over the last few years coupled with pricing pressure on housing loans % 33.3% 30.7% 30.7% 65.5% 66.7% 69.3% 69.3% FY13 FY14 FY15 FY16 Housing Loans Loans against Property has resulted in softening of NIMs from 5.1% to 4.3% % % 4.3% 13.7% 13.6% 13.1% 11.9% 9.6% 9.9% 1 9.6% FY13 FY14 FY15 FY16 Yield Cost of Funds NIMs (RHS) 5.2% % 4.6% 4.4% 4.2% % Page 24

25 Sundaram BNP Paribas Home Finance Ltd Balance Sheet Quality Optimal liability mix and healthy blend of salaried and self-employed FY16 Portfolio break-up highly concentrated in South India and equally distributed across Salaried and Self-Employed segment SHF has a well-diversified borrowing profile compared to its peers (FY16) Rest of India South India Self-employed Salaried % 3% 2% 8% 14% 31% 16% 28% 77% 8 51% 29% 14% 3% 13% 18% SHF Repco LICHF HDFC Term loans NHB NCD FD CP Sub Debt Incremental stress in the book being contributed by LAP segment; however coverage continues to remain healthy Peer Comparison % % 7 66% 2.89% 2.46% 2.82% 1.77% 1.28% 1.53% % 0.87% FY13 FY14 FY15 FY ROA Tree SHF LICHF REPCO HDFC GRHF Net Interest Income 4.1% 2.4% 4.4% 2.9% 4.2% Total Income 4.2% 2.6% 4.8% 3.9% 4.7% Opex % 0.9% 0.3% 0.8% PPOP 3.2% 2.2% 3.9% 3.6% 3.8% Provisions 0.2% 0.1% 0.6% 0.2% 0.2% PAT % 2.2% 2.4% 2.4% Leverage Housing Loan GNPAs LAP Portfolio GNPAs ROE 18.6% 19.6% % 31.5% Overall Gross NPAs Provisioning Coverage (RHS) Overall GNPA 2.82% 0.45% 1.31% % Page 25

26 Royal Sundaram General Insurance Company Ltd. Sundaram Asset Management Company Ltd. Page 26

27 Royal Sundaram General Insurance and Sundaram Asset Management Tepid performance in subsidiaries portend limited upside for valuations The growth in GWP in the insurance business has been sub-optimal over the last few years compared to industry growth of 10-12% with the business losing market share amongst the private players in the general insurance industry 18,000 17,000 16,000 15,000 14,000 Royal Sundaram General Insurance Co. Ltd. 29.4% 16,941 15,600 15, % 14, % 14, % Indicative Market Share amongst Pvt. Players % 8.4% 7.7% 6.7% 6.7% % 13,000 FY12 FY13 FY14 FY15 FY16-1 ICICI Lombard Bajaj Allianz HDFC Ergo Royal Sundaram Gross Written Premium (Rs. Mn) Growth (RHS) FY15 FY16 ; Company filings The steady growth in the average AUM of the asset management company has however not kept pace with the industry growth as witnessed in the falling market share over the years for the company 2,50,000 2,00,000 1,50,000 1,00,000 50,000 - Sundaram Asset Management Co. Ltd ,36,640 1,95, % 1,42,260 1,35,740 1,52, % % FY12 FY13 FY14 FY15 FY Market Share in the Mutual Fund Industry 2.18% 1.94% 1.85% FY12 FY13 FY14 FY15 FY16 Average AUM (Rs. Mn) Growth (RHS) ; Company filings Page 27

28 Sundaram Finance Valuation Page 28

29 Valuation Trading Bands P/ABV Multiple Range No. of Days Traded % no. of days Cumulative No. of Traded days % of Cumulative no. of days Under 1.5x % % 1.50x x % % 1.70x x 155 8% 1,025 56% 2.20x x 36 2% 1,061 58% 2.70x x 70 4% 1,131 61% 3.20x x 43 2% 1,174 64% 3.70x x 95 5% 1,269 69% 4.20x x % 1, Total Days 1,845 1,845 1-yr Fwd P/ABV multiples Aug-11 Aug-12 Aug-13 Aug-14 Aug-15 Aug x 5.0x 4.0x 3.0x 2.0 x 1.0 x Valuation SOTP (on Earnings) Rs. Per Share Core business 25x FY18E 1,077 Housing 18x FY18E 140 5% FY18E AUM x FY18E GWP 148 Other 4x Investments 54 Total Value per share 1,548 SOTP (on Book Value) Rs. Per Share Core business 4.2x FY18E 1,076 Housing 3x FY18E 141 5% FY18E AUM x FY18E GWP 148 Other 4x Investments 54 Total Value per share 1,548 Particulars FY12 FY13 FY14 FY15 FY16 NII Growth (%) 23% 2 7% 3% 1% PAT Growth (%) 2 15% 8% 3% 5% ABV growth (%) 17% 15% 15% 24% 1 RoA (%) 2.4% 2.2% 2.3% 2.4% 2.4% RoE (%) 21% 21% 2 17% 15% Peak Multiple 1.86x 1.86x 1.78x 6.26x 6.32x Trough Multiple 1.43x 1.19x 1.16x 1.47x 3.28x Opening Multiple 1.61x 1.28x 1.58x 1.47x 5.99x Closing Multiple 1.81x 1.55x 1.47x 5.93x 3.93x Average Multiple 1.60x 1.48x 1.49x 3.91x 5.05x Page 29

30 Crystal Ball Gazing Credit costs to FY11 FY15 FY16 FY17E FY18E FY19E FY20E remain low at NIM 5.9% 6.8% 6.4% 6.2% 6.2% 6.2% 6.2% Over FY16-19, SUF is expected to clock a 12% CAGR in loan book translating into a loan book size of Rs.262bn a 1.45x Expect NIMs to continue to taper to 6.2% over the next two years with limited scope for upside current levels due to relentless focus on asset quality by the management Provisions 0.4% 0.6% 0.5% 0.3% 0.4% 0.4% 0.4% Credit Costs 0.4% 0.6% 0.5% 0.3% 0.4% 0.4% 0.4% ROA 2.3% 2.4% 2.4% 2.2% 2.3% 2.4% 2.4% Entry = Rs. 3.7x FY18E increase in loan book from current levels (loan book of Rs.179bn in FY16). SUF s conservative approach in terms of prioritizing asset quality over loan growth will continue to act as an overhang on the AUM growth in the medium ROEs to remain at similar levels with growth lagging RoEs to remain flat at ~15% and be primarily a function of value unlocking in investments FY11 FY15 FY16 FY17E FY18E FY19E FY20E ROE 20.8% 16.9% 15.2% 14.4% 14.7% 15.5% 15.7% Leverage T1 CAR 10.2% 17.2% 14.8% 14.8% 14.7% 14.6% 14.6% ABV (Rs.) Cumulativ e Dividend of Rs.35.5 TOTAL RETURN OF 1.4x term, thus continuing to lag the industry average. Moreover, we believe that monetization of the investments will remain a key variable for SUF. Monetizing investments and revival in growth may lead to a A possible sustenance in valuations P/ABV Multiple FY20E Core ABV Core ABV Valuation SOTP Valuation Price Target , , , ,050 ABV CAGR of 12%, exit multiple of 4.2x Page 30

31 Financial Summary Abridged Financial Statements Key Metrics Rs.mn FY16 FY17E FY18E FY19E FY20E FY16 FY17E FY18E FY19E FY20E Profit & Loss Growth ratios Net Interest Income 10,947 11,716 13,309 15,267 17,623 ABV per share 1 11% 11% 13% 14% Other Income 1,626 1,396 1,578 1,804 1,795 AUM growth 1 13% 14% 15% 16% Total Income 12,573 13,112 14,887 17,071 19,419 Borrowings 14% 14% 15% 16% Operating Expenses 4,930 5,238 5,773 6,358 7,082 NII 1% 7% 14% 15% 15% Pre-Provisioning Operating Profit 7,643 7,873 9,114 10,712 12,337 PAT 5% 5% 13% 18% 14% Provisions ,184 EPS 5% 5% 13% 18% 14% PBT 6,832 7,293 8,254 9,742 11,153 Asset-Liability Profile PAT 4,773 5,020 5,695 6,722 7,696 Leverage (x) Balance Sheet Leverage (x) (Incl Off B/S) Networth 33,126 36,612 40,703 45,820 51,910 Core Tier 1- CAR 14.8% 14.8% 14.7% 14.6% 14.6% Paid Up Capital 1,111 1,111 1,111 1,111 1,111 Profitability and Efficiency Reserves 32,015 35,501 39,592 44,709 50,799 Net Interest Margin 6.4% 6.2% 6.2% 6.2% 6.2% Others Capital Instruments ROA (incl Off B/S) 2.4% 2.2% 2.3% 2.4% 2.4% Borrowings 125, , , , ,455 ROE 15.2% 14.4% 14.7% 15.5% 15.7% Total Liabilities & Networth 173, , , , ,420 Cost/Income 39.2% % 37.2% 36.5% Advances 178, , , , ,458 Dupont Analysis Fixed Assets 2,784 2,472 2,135 1,769 1,374 NII/Total Assets (On+Off) 5.4% 5.2% 5.3% 5.4% 5.5% Net Current Assets 8,882 12,959 13,485 14,032 14,602 TI/Total Assets (On+Off) 6.2% 5.9% 5.9% Total Assets 173, , , , ,420 Opex/Total Assets (On+Off) 2.4% 2.3% 2.3% 2.2% 2.2% Off Balance Sheet Assets 36,574 44,294 50,303 57,722 66,761 PPOP/Total Assets (On+Off) 3.8% 3.5% 3.6% 3.8% 3.8% Total Assets (incl. Off B/S) 210, , , , ,181 Provisions/Total Assets (On+Off) 0.4% 0.3% 0.3% 0.3% 0.4% Shares outstanding (mn) Valuation PAT/Total Assets (On+Off) 2.37% 2.2% 2.3% 2.4% 2.4% Current market price (Rs.) 1,436 1,436 1,436 1,436 1,436 Book Value per share (Rs.) Market capitalization (Rs. mn) 159, , , , ,523 Adj Book Value per share (Rs.) Earnings per share (Rs.) P/ABV (x) Dividend per share (Rs.) P/E (x) Page 31

32 Spark Disclaimer Rs Sundaram Finance 3 Year Price and Rating History Report Date Price Target Reco. 02/Aug/16 1,468 1,546 Add 06/Jun/16 1,432 1,509 Add 03/Feb/16 1,360 1,464 Buy 03/Nov/15 1,520 1,640 Buy 26/Aug/15 1,467 1,611 Buy 05/Jun/15 1,470 1,650 Buy 15/Sep/14 1,100 1,320 Buy 0 Sep-13 Mar-14 Aug-14 Feb-15 Aug-15 Feb-16 Aug-16 Price Target Spark Capital Advisors (India) Private Limited (Spark Capital) and its affiliates are engaged in investment banking, investment advisory and institutional equities and infrastructure advisory services. Spark Capital is registered with SEBI as a Stock Broker and Category 1 Merchant Banker. We hereby declare that our activities were neither suspended nor we have defaulted with any stock exchange authority with whom we are registered in the last five years. We have not been debarred from doing business by any Stock Exchange/SEBI or any other authorities, nor has our certificate of registration been cancelled by SEBI at any point of time. Absolute Rating Interpretation BUY Stock expected to provide positive returns of >15% over a 1-year horizon ADD Stock expected to provide positive returns of >5% <15% over a 1-year horizon REDUCE Stock expected to provide returns of <5% -1 over a 1-year horizon SELL Stock expected to fall >1 over a 1-year horizon Spark Capital has a subsidiary Spark Investment Advisors (India) Private Limited which is engaged in the services of providing investment advisory services and is registered with SEBI as Investment Advisor. Spark Capital has also an associate company Spark Infra Advisors (India) Private Limited which is engaged in providing infrastructure advisory services. This document does not constitute or form part of any offer or solicitation for the purchase or sale of any financial instrument or as an official confirmation of any transaction. This document is provided for assistance only and is not intended to be and must not alone be taken as the basis for an investment decision. Nothing in this document should be construed as investment or financial advice, and nothing in this document should be construed as an advice to buy or sell or solicitation to buy or sell the securities of companies referred to in this document. Each recipient of this document should make such investigations as it deems necessary to arrive at an independent evaluation of an investment in the securities of companies referred to in this document (including the merits and risks involved), and should consult its own advisors to determine the merits and risks of such an investment. This document is being supplied to you solely for your information and may not be reproduced, redistributed or passed on, directly or indirectly, to any other person or published, copied, in whole or in part, for any purpose. This report is not directed or intended for distribution to or use by any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction, where such distribution, publication, availability or use would be contrary to law, regulation or which would subject Spark Capital and/or its affiliates to any registration or licensing requirement within such jurisdiction. The securities described herein may or may not be eligible for sale in all jurisdictions or to a certain category of investors. Persons in whose possession this document may come are required to inform themselves of and to observe such applicable restrictions. This material should not be construed as an offer to sell or the solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be illegal. Spark Capital makes no representation or warranty, express or implied, as to the accuracy, completeness or fairness of the information and opinions contained in this document. Spark Capital, its affiliates, and the employees of Spark Capital and its affiliates may, from time to time, effect or have effected an own account transaction in, or deal as principal or agent in or for the securities mentioned in this document. They may perform or seek to perform investment banking or other services for, or solicit investment banking or other business from, any company referred to in this report.

33 Disclaimer (Cont d) This report has been prepared on the basis of information, which is already available in publicly accessible media or developed through an independent analysis by Spark Capital. While we would endeavour to update the information herein on a reasonable basis, Spark Capital and its affiliates are under no obligation to update the information. Also, there may be regulatory, compliance or other reasons that prevent Spark Capital and its affiliates from doing so. Neither Spark Capital nor its affiliates or their respective directors, employees, agents or representatives shall be responsible or liable in any manner, directly or indirectly, for views or opinions expressed in this report or the contents or any errors or discrepancies herein or for any decisions or actions taken in reliance on the report or the inability to use or access our service in this report or for any loss or damages whether direct or indirect, incidental, special or consequential including without limitation loss of revenue or profits that may arise from or in connection with the use of or reliance on this report. Spark Capital and/or its affiliates and/or employees may have interests/positions, financial or otherwise in the securities mentioned in this report. To enhance transparency, Spark Capital has incorporated a disclosure of interest statement in this document. This should however not be treated as endorsement of views expressed in this report: Disclosure of interest statement SUF Analyst financial interest in the company Yes Group/directors ownership of the subject company covered No Investment banking relationship with the company covered No Spark Capital s ownership/any other financial interest in the company covered No Associates of Spark Capital s ownership more than 1% in the company covered No Any other material conflict of interest at the time of publishing the research report No Receipt of compensation by Spark Capital or its Associate Companies from the subject company covered for in the last twelve months: Managing/co-managing public offering of securities Investment banking/merchant banking/brokerage services products or services other than those above in connection with research report No Whether Research Analyst has served as an officer, director or employee of the subject company covered No Whether the Research Analyst or Research Entity has been engaged in market making activity of the Subject Company; No Analyst Certification of Independence The views expressed in this research report accurately reflect the analyst s personal views about any and all of the subject securities or issuers; and no part of the research analyst s compensations was, is or will be, directly or indirectly, related to the specific recommendation or views expressed in the report. Additional Disclaimer for US Institutional Investors This research report prepared by Spark Capital Advisors (India) Private Limited is distributed in the United States to US Institutional Investors (as defined in Rule 15a-6 under the Securities Exchange Act of 1934, as amended) only by Auerbach Grayson, LLC, a broker-dealer registered in the US (registered under Section 15 of Securities Exchange Act of 1934, as amended). Auerbach Grayson accepts responsibility on the research reports and US Institutional Investors wishing to effect transaction in the securities discussed in the research material may do so through Auerbach Grayson. All responsibility for the distribution of this report by Auerbach Grayson, LLC in the US shall be borne by Auerbach Grayson, LLC. All resulting transactions by a US person or entity should be effected through a registered broker-dealer in the US. This report is not directed at you if Spark Capital Advisors (India) Private Limited or Auerbach Grayson, LLC is prohibited or restricted by any legislation or regulation in any jurisdiction from making it available to you. You should satisfy yourself before reading it that Auerbach Grayson, LLC and Spark Capital Advisors (India) Private Limited are permitted to provide research material concerning investment to you under relevant legislation and regulations. ABHINESH