Suresh Krishnamurthy

Shriram Investments: Buy Shriram Transport Finance: Buy

From pre-owned truck lending, the Shriram Group has now emerged as the biggest player in the business.

AS THE Reserve Bank of India put in place a stringent regulatory framework in 1997 and made it difficult for non-banking finance companies to access resources, it appeared to be the endgame for NBFCs.

More so, as banks, armed with low-cost funds, encroached into their territory. However, a few NBFCs managed to survive, building and managing relationships with their customers and, in the process, competing effectively with the banks.

A few such as the Shriram group are betting on a business model which makes the NBFCs complimentary, and not competitive, to the big lenders such as banks.

Leveraging on their network and expertise, they are now specialist third-party originators and managers of loans for banks and other financial institutions. Specifically, the Shriram group manages funds given to truck operators on behalf of Citicorp Finance and UTI Bank, among others.

This business model has found many takers and as many as eight major investors have picked up stake in Shriram Investments and Shriram Transport Finance; notable among them being Citicorp Finance, UTI Bank, Reliance Capital and a private equity fund, ChrysCapital.

ChrysCapital, with 20.6 per cent, is set to emerge the single largest stakeholder as it is also making an open offer for another 20 per cent.

Complicated business structure

The entry of these investors into Shriram is encouraging and smaller investors can pick up exposures in both these firms. The confidence booster in the form of the presence of stronger investors is necessary, given the high-risk business and the complicated organisational structure of the group.

The Shriram group, which is now said to do business of about Rs 6,000 crore in commercial vehicle financing, has four companies headquartered in the four major metros overseeing the commercial vehicle lending business. The business operates through 53 divisions spread across 179 locations throughout India.

Of the four companies, Shriram Investments, Shriram Transport Finance and Shriram City Union are listed, while Shriram Overseas Finance is not. The unlisted firm is, however, the largest in size. Shriram City Union, which is listed only on the Bombay Stock Exchange, is the smallest and none of the institutional investors has picked up stake in this company. It is possible that the four firms will be merged.

Financial twins

Among the listed firms, institutional investors have picked up stake in Shriram Investments and Shriram Transport Finance at identical prices, which is not a coincidence. Both these firms are almost financial twins — in terms of scale of operations, profitability and other financial parameters such as book value, earnings per share and even market price. Both the firms also own windmills, generating revenue of about Rs 3 crore through sale of electricity.

Shriram Investments' net worth is about Rs 212 crore and that of Shriram Transport Finance about Rs 215 crore. The lending portfolio of both the companies was a tad lower than Rs 1,000 crore at end-March 2004. Lending under portfolio management is roughly about 40 per cent of the total advances. Both these firms reported substantial growth in business and profits in the year ended March 2004. The proportion of bad loans to advances is about 0.5 per cent.

In the first nine months of the present financial year, the momentum in business growth has been sustained. The net interest income rose 24 per cent and earnings 20 per cent. The per share earnings has remained almost stagnant due to the expansion in equity following preferential allotments to Reliance Capital, UTI Bank and Shriram Chits (owned by the promoter group).

The per share earnings for the year-ended March 2005 may even dip below that of last year due to the 25 per cent expansion in equity, as ChrysCapital has entered as a major stakeholder.

Value buy

Based on the expanded equity capital and the profits for the period ended December 2004, the price-to-earnings multiple for both firms work out to about five. The dividend yield of more than 5 per cent is also attractive. The return on net worth of the firms, which was in excess of 30 per cent in the year-ended March 2004, is another attractive factor.

If the firm earns 25 per cent on its present net worth, that is just in excess of Rs 200 crore, the earnings per share would grow by about 25 per cent even on the expanded equity base.

The risk involved is higher compared to that of a bank, which would have a diversified lending profile. The opportunities for growth in the case of commercial vehicle financing are, however, encouraging.

The sustained recovery in industrial growth, the investments in roads and the need for replacement of ageing trucks point to a few years of robust growth in the demand for commercial vehicle. Banks and other financial institutions are gearing to lend actively to this sector. The outlook for earnings growth is promising.

Beyond a few years, however, the business model of the group would come under renewed scrutiny. If the network and expertise of banks improve and the ability of NBFCs such as Shriram group to access cheaper sources of credit is affected, then survival would come under a cloud.

These issues enhance the risks and investors need to keep a watch on business and regulatory developments. Now, there are several positives in favour of these two companies and investors can buy into the stock.

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