Improvement in tractor sales after monsoons and the possibility of winning a banking license is exciting investors.

Mahindra & Mahindra Financial Services, which is primarily into vehicle finance apart from insurance broking and rural housing finance, has attracted interest as a second-line play to the auto boom and strong tractor sales after the good monsoons this year. The stock is up almost 15% in the last month, soaring higher after the Reserve Bank of India released a discussion paper on guidelines for issuing a limited number of new banking licenses which appear favourable to M&M Financial.
 
In the June 2010 quarter, its advances increased 31% y-o-y to nearly Rs 9,149 crore and disbursals have increased 76% in this period to Rs 2,854 crore. Consolidated revenues in the quarter were up 22% y-o-y to Rs 401 crore with profits rising 85% to Rs 74 crore. There was a sequential dip in most financial parameters (income, profits and portfolio quality necessitating higher provisioning) given the seasonality in cash flows which are correlated to rural spending patterns and typically stronger in the post-monsoon second half of the year which also has the festival season.
 
Net spreads improved by about 170 basis points on a y-o-y basis to 4.4%, boosted by improved portfolio quality requiring lower provisioning costs compared to Q1 FY10. Gross NPAs are down to 6.9% of total assets compared to 9.8% in June 2009. Provisioning coverage has improved to 82.4% from 70.5% in June 2009 with net NPA ratio of 1.3% compared to over 3% last year. However, there has been a sequential upward tracking of both gross and net NPAs (50 and 40 bps respectively) compared to March end numbers. This has mostly been in the less than 12 months bucket, according to management, attracting provisioning of about 10% of loan value. Management expects the portfolio quality to improve going ahead, given the healthy monsoons.
 
Spreads could come under some near term pressure as banking interest rates trend up especially as RBI has restricted access to the short-term market, according to management. Thus, managing spreads will depend upon how much of this rate increase it can pass on to the borrower, as competition increases in the segment.
 
The other talking point is the company’s intention to apply for a banking license. With RBI’s thrust on extending financial inclusion, it presents a strong proposition with good rural reach (and 22% of total disbursements is for tractors) and a presence in rural housing finance through a joint subsidiary with NHB. However, the group has a presence in real estate sector through Mahindra Lifespaces which is a negative.
 
The capital adequacy ratio is about 17.4% against RBI’s requirements of 12% with Tier I capital of 15.37%. A Brics research report estimates an equity dilution of 6.75% through capital issuance of about Rs 375 crore going ahead to boost Tier I to 18% levels in FY12.
 
The stock trades at about Rs 583 levels - a relatively expensive 2.9 times estimated FY11 price-book value per share.