Mahindra Finance has good leverage; margin squeeze a concern

While the revival in rural demand has seen green shoots, the possibility of 2023 being an El Nino year is a risk given the risk appetite for the company’s tractor financing. Kaitav Shah, BFSI research analyst at Anand Rathi Institutional Equities, said, “Our rural outlook is bright at the moment, but we are cautious.”

Given that the company primarily serves customers in rural and semi-urban areas, asset quality has been volatile in the past due to defaults, especially during the Covid period. However, as part of its Vision 2025 plan, Mahindra Finance has taken several initiatives in the last few quarters to address investor concerns about its asset quality and operational performance. This includes diversifying product mix by focusing on affluent rural and semi-urban customers, changing customer segment mix and reducing operating cost ratios.

Motilal Oswal Financial Services estimates that the opex-to-average assets ratio will fall to 2.8% by FY25 from 3.1% in FY23E. Besides, better client mix should help improve asset quality, though net interest margin (NIM) may come under pressure. According to HDFC Securities Principal Analyst BFSI Krishnan ASV, “Catering to the competitive affluent category customers may result in lower returns and thus, NIM is likely to see contraction in the coming quarters.” Going forward, the portfolio quality and earnings are likely to remain stable, he added.

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

Meanwhile, investors are basking in the handsome returns. In the last one year, shares of Mahindra Finance have gained nearly 44%. Meaningful appreciation could prevent a bigger rally in the near term. In any case, the macroeconomic woes mean the company’s shares are down 12.5% ​​from their 52-week high seen in February. “We are watching write-offs, which remain high, and return on equity to continue falling for further correction,” said analysts at Jefferies India.