Mahindra Finance’s offtake is healthy; margin squeeze a worry

While rural demand recovery has seen green shoots, the possibility of 2023 being an El Niño year is a risk given the company’s exposure to tractor financing. “Our rural outlook is bright for now, but we are watchful,” said Kaitav Shah, BFSI research analyst at Anand Rathi Institutional Equities.

Given that the company caters to customers mainly in rural and semi-urban areas, the asset quality had been volatile in the past due to delinquencies, particularly during the covid period. However, under its Vision 2025 plan, Mahindra Finance has taken multiple initiatives over the past few quarters to address investor concerns about its asset quality and operating performance. This includes diversifying product mix, changing the customer segment mix by focusing on affluent rural and semi-urban customer, and lowering operating cost ratios.

Motilal Oswal Financial Services estimates the opex-to-average asset ratio to fall to 2.8% by FY25 from 3.1% in FY23E. Further, better customer mix should help improve asset quality, although net interest margins (NIMs) may come under pressure. According to Krishnan ASV, lead analyst BFSI at HDFC Securities, “Catering to the competitive affluent category customers could result in lower yields and as such, NIMs are likely to see compression in the coming quarters.” It is a good trade-off as the quality of portfolio and earnings is likely to be stable going forward, he added.

As such, in terms of asset quality, the company expects its Stage-3 assets in Q4 at 4.6% versus 5.9% as of December 2022. Stage-3 assets are loans that are overdue for more than 90 days.

Meanwhile, investors are sitting on handsome returns. In the past one year, Mahindra Finance’s shares have risen almost 44%. The meaningful appreciation may well cap large upsides in the near-term. In any case, macroeconomic woes have meant shares of the company are down 12.5% from their 52-week highs seen in February. “We watch out for write-offs that have stayed elevated and has to fall sustainably for return on equity to improve further,” said Jefferies India analysts.