Reliance Capital
Buy
Target Price: Rs585
CMP: Rs436
Upside: 29%
Phoenix rising again
Difficult business environment for equity linked businesses; sweeping regulatory changes in insurance (life & non-life) and a generally weak macro have led to significant erosion in return ratios of RCAP. However, the tide is gradually turning as individual business segments overcome sector specific challenges and macro is on the mend leading to improved outlook for capital market linked businesses. Current market price disregards long term value seen by strategic investors and under-appreciates a potent banking platform in making. We initiate coverage with a Strong Buy recommendation with an upside of ~30%.
m Life insurance business: restructuring underway: RLIFE has undertaken restructuring of its business model after dramatic regulatory changes in 2010 with strong focus on profitability vs growth earlier. Shifted product mix, shedding of inactive agents, incremental focus on Tier I locations and potential bancassurance tie-up should drive productivity gains and hence improvement in profitability.
m Capital market business: better times ahead: A dominant market share (12%), gradually improving sentiments towards equity and better participation from retail investors brightens the medium term prospects of the asset management business. In addition, the 25 bps hike in expense ratio and leeway to recover service tax on expenses should allow asset management companies to increase commissions and in turn improve AUM inflows – especially so for large funds such as RCAM.
m Gen. insurance business on brink of profitability: Dismantling of commercial third-party motor pool and anticipated firmness in insurance tariffs are expected to turn the fortunes of general insurance businesses. Effectively, the combined ratio (current industry average at ~120%) is expected to improve going forward. We expect RGEN to turn profitable in FY14 led by 1) absence of third party motor pool contribution in FY14 2) diversification of product mix and 3) gradual hike in tariff rates as PSU insurers aim profitability.
m Lending business gaining traction: Preference towards secured credit and niche focus on self-employed borrowers has endowed RCF with a healthy NIM and a strong hold on credit quality. We expect NIMs to improve going forward led by lower wholesale cost of funds (~50% of borrowings), which along with contained credit costs should drive expansion in return ratios even as loan book growth remains moderate (~15% YoY).
m Initiate coverage with Buy: Improving macro context and easing in business specific headwinds should drive expansion in return ratios for RCAP. In addition, unwinding of non-core investment to reduce debt should further improve profitability profile. At CMP, the stock is trading at a steep discount to its fair value of Rs585. We initiate coverage with a Buy rating.
m Capital market business: better times ahead: A dominant market share (12%), gradually improving sentiments towards equity and better participation from retail investors brightens the medium term prospects of the asset management business. In addition, the 25 bps hike in expense ratio and leeway to recover service tax on expenses should allow asset management companies to increase commissions and in turn improve AUM inflows – especially so for large funds such as RCAM.
m Gen. insurance business on brink of profitability: Dismantling of commercial third-party motor pool and anticipated firmness in insurance tariffs are expected to turn the fortunes of general insurance businesses. Effectively, the combined ratio (current industry average at ~120%) is expected to improve going forward. We expect RGEN to turn profitable in FY14 led by 1) absence of third party motor pool contribution in FY14 2) diversification of product mix and 3) gradual hike in tariff rates as PSU insurers aim profitability.
m Lending business gaining traction: Preference towards secured credit and niche focus on self-employed borrowers has endowed RCF with a healthy NIM and a strong hold on credit quality. We expect NIMs to improve going forward led by lower wholesale cost of funds (~50% of borrowings), which along with contained credit costs should drive expansion in return ratios even as loan book growth remains moderate (~15% YoY).
m Initiate coverage with Buy: Improving macro context and easing in business specific headwinds should drive expansion in return ratios for RCAP. In addition, unwinding of non-core investment to reduce debt should further improve profitability profile. At CMP, the stock is trading at a steep discount to its fair value of Rs585. We initiate coverage with a Buy rating.
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