Bajaj Finance – Is the stock price correction complete?

Bajaj Finance has been darling of the stock market for a very long time. While it has made money for the large investment firms (Indian and abroad), it has also done the same for unassuming retail investors, who are much less savvy while timing their investments. The consistency with which BFL has delivered growth is really commendable. Lately, though there has been much too pressure on BFL stock. 

• Will the inevitable slowness in growth hit the company – this year / next year / year after that? 

• What does it mean for the stock price?

• Can you still look at them as a blue-chip stock that covers for your principal and delivers low risk returns?

• How do you value Bajaj Finance stock?

Let us try to explore if we can find the answer to valuing Bajaj Finance stock over the coming years.

A – Using peers for comparison:

Looking at key metrics for select set of financial institutions (banks and NBFCs), Bajaj Finance stands out on all performance metrics by a huge margin: 

With the above performance in mind, it is difficult to justify any lower PE ratio for Bajaj Finance (a key method commonly cited for discovering market cap) compared to other financial institutions (table below). Price to book or price to revenue are more aligned to the perception of the different entities in the market, but when Price to Revenue is adjusted for the Growth (Revenue Growth YOY), Bajaj Finance does not look expensive. If their growth is half of the 55% YOY revenue growth posted in Sep 2022, the Price to revenue to growth ratio will stand at 52%. That is still cheaper than HDFC bank!

Thus, while industry metrics / peer comparisons are common methodology for price discovery, how do you adjust for myriad of nuances particular to a company. Bajaj Finance does not lead in just growth in revenue, its revenue translated to earnings is the most as well (least expense to revenue ratio). How do you adjust for all this in defining a simplistic ratio metric? Let us look at some more specific / innovative methodology.

B – Using BFL past performance and stock price: 

Another method to value the stock (if the stock has consistent metrics) can be valuing it against its own valuation vs. performance in the past. If the performance can be predicted in the future, the price (market cap) can also be predicted – given the other metrics (key performance ratios of the company / quality metrics) ball park remain similar to in the past. 

To this effect if one looks at the comparison of two metrics (a) PAT growth YOY, (b) Ratio of stock price to one year forward PAT for BFL – the value and trend in the two metrics is uncannily similar between FY13 and FY22 (barring FY21 where Covid suppressed PAT growth).

 

If the stock price to Fwd PAT ratio is established for BFL till FY22, the question becomes what will the ratio look like in FY23+. In the above figure, the PAT YOY for FY24 onwards has been dialled down gradually to come down to the long term PAT growth advised by BFL in its quarterly investor pack.

Assuming FY23 ending with 64% PAT growth over last year (based on already posted 3 quarter results), and stock price ending in May 2023 at 6440, this means it will be after more than a decade that the Stock price to Fwd PAT ratio will be below the PAT growth. Does this make it once in a decade chance to get the stock cheap? So what does this translate in terms of stock price? 

Below chart is how stock price will pan out with this conservative PAT growth assumption, and preserving the relationship of stock price to next year PAT over the coming years:

 

If one purchases stock at FY23 end at 6440, this translates to the below return in the coming years (CAGR):

 

The above returns do not look attractive for an equity investment, but I would see them as base line returns. There is likely upside on this in 4+ years. For investments that are targeting less than 3 years turn around, I believe there is a chance that the stock might give below market returns, but as you keep invested, the stock is likely to give higher returns. The short-term low returns can emerge if the company starts to slow down almost after FY23. Such a scenario is unlikely, and thus has been drawn above as a bottom base line. 

To give more comfort in terms of traditional valuation standards, the above stock price results in a PE ratio that gradually goes from current 30 (approximate calculations using stock price and PAT yielded PE ratio of 30 against 35 in above table taken from Google Finance) to 17 over the next 4 years. Can it be argued then that the pricing considered here is actually conservative? I think so.

 

That brings to the question, what are the assumptions the above analysis hinges on. The singular assumption (apart from the Stock price to fwd PAT ratio) is that the company makes good with its promise to deliver 23%-24% profit growth. 

Below are the various time period PAT CAGR company is likely to deliver at FY23 end:

 

There is good reason to believe that the company will be able to not just deliver but do better than the promised growth. Past performance is the best predictor of future performance. The CAGR 3Y growth is despite COVID slowing down the company in FY21.

What works to the advantage of BFL:

A. As far as slowing AUM is concerned, the higher estimated cross-sell rates by growing digital adoption, and estimated increasing aum per cross-sell base counters the decreasing new customer acquisition growth. 

B. The benefit of higher cross-sell will be seen in opex to NIM ratio, and this would deliver higher PAT to the company. Actually, the company did revise its ROA long term guidance upwards from 3.3%-3.5% to 4%-4.5% in the last 2 years. The other added cushion is that the company has raised its guidance for ROA despite putting more pressure on opex to nim ratio in the short term owing to investment in people and technology. As this investment starts to give non-linear return, the better opex to nim ratio is going to prove as an added lever to deliver the PAT growth. 

C. I believe, given the short term economic uncertainty in the country, the company is likely to carry the 1000cr management provisions to next year as well. If unused, this can help again to cushion the PAT growth in the short term.

So, what can be a spanner in the works?

A. The company cites competitive intensity being high, but does little to explain how it is fending the competition off. While BFL has been able to fend-off the competition from traditional players (banks) with traditional tools (more people, more rewards and offers); big-tech raises significant disruption risk to their new account acquisition model. 

B. A change in management at the highest level can slow down the execution machinery of the company. Mostly the company has incorporated this in the long-term growth guidance, cause this is a known risk.

C. The digital approach fails to increase the cross-sell growth. The company has created a functional super-app but that is far from the customer experience today’s consumers have come to expect. Significant investment needs to be made in this area by the company to ease this risk. Given digital adoption / cross-sell metrics are now reported quarterly by the company, how this is going can be monitored much more easily than making wild guesses.

D. RBI might suggest BFL to become a bank given it is systematically important NBFC. If that happens, BFL will need to navigate the waters. It will bring uncertain times, but the advantages and disadvantages might be balanced.

This still leaves a lot of room for uncertainties, but the attractiveness of the stock to a long-term investor at the current price might not be unjustified.

In the end, I would like to thank Rajeev (MD BFL) for sharing a rich investor pack every quarter. The intention to create transparency that encourages price discovery for the stock and thus stabilizes the same is really beyond commendable. All information in the above write-up are solely sourced from BFL investor packs and Google Finance.