Home / Industry / Demonetisation: NBFC stocks are no longer shining stars

Shares of non-banking financial companies or NBFCs have lost their sheen, at least temporarily, as demonetisation has cast a shadow over their business.

While the structural growth story of the sector is likely to remain intact in the long term, the ones that are overly dependent on cash transactions may find it difficult to transition to a digital or less-cash economy, experts say.

“If demonetisation actually encourages digital transactions, banks can improve their underwriting skills with this poorly banked community—this could impair the long-term (economic) moat for some of these NBFCs who have thrived in this cash economy," said Nirav Sheth, head of equities at SBICap Securities Ltd.

On 8 November, the government scrapped Rs500 and Rs1,000 banknotes in a surprise move intended to eliminate black money and counterfeit currency notes.

Before demonetisation, NBFCs had scripted a success story. In an April report, PricewaterhouseCoopers and Assocham said their contribution to the economy has jumped to more than 14% in March 2015 from 8.4% in 2006.

In terms of financial assets, NBFCs have recorded a healthy growth—a compound annual growth rate of 19% over the past few years—comprising 13% of the total credit, the report had said.

The demonetisation drive has at least temporarily disrupted the business model of these companies. “For NBFCs, this dislocation can also increase NPLs (non-performing loans) in the near term, though unlikely to be a major stress area. The big question though is how long will it take to come back to pre-monetization growth levels? If you don’t have these answers, valuations are pricey," Sheth said.

NBFCs were among the most favoured stocks among investors before the demonetisation move. According to data from Bloomberg, of the 19 NBFCs in the BSE 200 index, six had registered gains of more than 50% since the start of the year until 8 November. All 19 stocks had posted positive returns from the start of the year until 8 November.

Post-demonetisation till date, around seven of the 19 firms have seen more than 15% of their value eroded.

Pre-demonetisation, the top-performing NBFCs in the index were Cholamandalam Investment & Finance Co. Ltd, which had gained 73% until 8 November. It has fallen 14.64% since then. Bharat Financial Inclusion Ltd followed next with a 65% rise until 8 November. This stock has fallen 15.34% since 8 November.

From the start of the year up to 8 November, BSE’s benchmark Sensex rose 5.64%, but it has since fallen 4.93%.

“Post-demonetisation, those NBFCs which have cash collections and cash disbursals—such as MFIs (microfinance institutions) or rural financiers—have been hit the most, and are the most vulnerable," said Ajay Bodke, chief executive officer and chief portfolio manager (portfolio management services) at Prabhudas Lilladher Pvt. Ltd.

Bodke pointed that one of the segments that had shown very strong traction and grown significantly for NBFCs was loan against property or LAP.

“Most of the LAP loans are given to businessmen. Because of demonetisation, business cash flows come under strain, risk goes up for lenders. LAP business becomes vulnerable," he said.

The demonetisation move led to economists cutting GDP estimates for Asia’s third-largest economy, and analysts also looked to revise the earnings estimates downwards.

Interestingly, earnings recovery was expected to be round the corner, before the government scrapped the high-denomination notes, on the back of a good monsoon after two years of drought.

Currently, these NBFCs in BSE200 trade between 0.71 times to 7.18 times price to book value (P/B). In comparison, private banks in the BSE 200 list trade between 0.58 times to 4.38 times P/B.

“Even at current corrected prices, NBFCs seem to be too expensive. Private banks are a better bet in the financials pack at this point," Bodke said.

Parag Jariwala, vice-president of institutional research at Religare Capital Markets Ltd, does not think there is a question mark on the structural story. “Though we agree that stock will impact flow to certain extent, we don’t agree to the thesis that large part of small/SME (small and medium enterprises) borrowers will move to banks. Many SME units may still do some business in cash," Jariwala said in a note on 17 November.

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