Bajaj Finserv Ltd

Bajaj Finserv Limited (‘Bajaj Finserv’ or ‘the Company’) is thefinancial services arm of the Bajaj group. This is the Company’s fourth annual reportto its shareholders

Bajaj Finserv is the holding company under which various businesses reside. These are:

• Protection

• Life Insurance, under the Bajaj Allianz Life Insurance Company (BALIC).

• General Insurance, under the Bajaj Allianz General Insurance (BAGIC).

• Lending

• Structured under Bajaj Finance Limited (BFL, earlier Bajaj Auto Finance), acompany listed on the Bombay Stock Exchange and the National Stock Exchange.

• Investments

• Asset Management. Bajaj Finserv plans to form an asset management company (AMC)with the Allianz group. In-principle approval has been received from the Securities andExchange Board of India (SEBI).

• Financial Advisory and Wealth Management

• Bajaj Financial Solutions Limited (Bajaj Finsol), which offers financialproducts and advises clients on financial and wealth management. The business has beenlaunched in four cities in FY2011.

In addition, the Company has wind-farm assets, comprising 138 windmills in Maharashtrawith an installed capacity of 65.2 MW.

The rest of this chapter gives details on each of these businesses and their rationale.Before doing so, it is useful to give a brief overview of the Indian economy during FY2011and the macroeconomic prospects for FY2012.

During FY2011, India’s GDP grew at 8.6%. It was the second highest growth rateamong major countries in the world, bettered only by China. Growth occurred across allsectors, of which the most heartening were the performance of agriculture – afrequent laggard – as well as industry. Unfortunately, India also faced severeinflationary pressures coming across the entire spectrum of goods – foodstuff,hydrocarbons, commodities and manufactures. To combat this, the Reserve Bank of India hasraised interest rates, often twice in a quarter – and in May 2011 upped to a hike of50 basis points, instead of the usual 25 bps. Thus, growth may be moderated in FY2012because of inflation and higher interest burden.

Bajaj Allianz Life Insurance Company Limited (BALIC)

Life insurance witnessed rapid growth from the time that the sector was opened up inFY2001 up to FY2010. Thereafter, it has slowed down largely on account of major regulatorychanges enacted in FY2011.

The new changes have been introduced by the Insurance Regulatory and DevelopmentAuthority (IRDA) for the benefit of policyholders and to impart greater transparency inthe disclosures made by insurance companies. Though these changes are welcome, they haveposed a tremendous challenge to the insurance industry in the short term – forcingcompanies to revisit their strategies and radically revise their business models. Some ofthe major regulatory changes are listed below.

• Capping of expenses at the end of fifth year, leading to reduction in commissionto agents and intermediaries.

• Lock-in period, including top-ups, extended from three years to five years

• Pension withdrawal/maturity to be compulsorily converted into annuity. All ULIPpension/annuity products shall offer a minimum guaranteed return of 4.5% per annum on thematurity date.

• Capping of surrender charges and time to revive lapsed policies reduced.

The Life Insurance Market

There is no doubt that these changes have resulted in a lower rate of growth for theindustry as a whole and, more specifically, the private sector players (see Table 1a).However, it is also a fact that the new business premium of the industry has increasedtwelve fold since inception — from Rs 9,707 crore in FY2001 to Rs 125,826 crore inFY2011, of which over 31.3% is accounted for by the private sector. Tables 1a and 1b givesthe past six year data on growth and market share in new business from FY2006.

Table1a: Growth in New Business Premiums, Life Insurance

Table1b: Market Share in New Business Premiums, Life Insurance

• During FY2011, the life insurance industry had a new business growth of 15.1%versus 25.5% in FY2010. The 23 life insurers mobilised a first year premium of Rs 125,826crore in FY2011 compared to Rs 109,290 crore in the previous year.

• The market share of LIC has increased from 64.9% to 68.7%, while that of theprivate players has reduced by 3.8 percentage points from 35.1% to 31.3%.

• The industry witnessed negative growth of 9.7% in the second half of FY2011versus the corresponding period in the previous financial year.

The regulatory changes became effective from1 September 2010, and these mainly affectedthe Unit Linked Insurance Products (ULIPs). Consequently, there has been a shift in thebusiness mix across the industry – and mainly among the private players – fromindividual regular premium business towards individual single premium business and groupbusiness. This occurred during the second half of FY2011. Thus, during H2,FY2011, theindustry saw a 26.8% decline in the individual regular premium business, with a 43.3%decline for the private companies. Tables 2 and 3 shows the growth across segments duringH1 and H2 of FY2011.

Table 2: Growth in New Business Premiums in H1, FY2011 (Apr-Sep 2010)

Table 3: Growth in New Business Premiums in H2,FY2011 (Oct 2010 – Mar 2011)

As mentioned earlier, for FY2011 as a whole, the life insurance industry registered agrowth of 15.1%, and garnered new business premium of Rs 125,826 crore. Table 4 gives themarket data.

Table 4: Industry Performance for the Year Ended 31 March 2011

The fall in new business premium growth has made most industry players review theirbusiness models. This has resulted in: l Shift in new business mix from regularpremium ULIPs to single premium ULIPs and the traditional life products.

• Fixed expenses have become a constraint, resulting in companies cutting down ontheir branches and distribution networks.

• Insurers are focusing more on ensuring that existing customers continue to paytheir renewal premiums.

• Some agents moving away from the industry due to lower commission levels.

Performance of BALIC

BALIC’s gross premium written for FY2011 was Rs 9,610 crore, which was 15.8% lowerthan Rs 11,420 crore of FY2010. Renewal premium reduced from Rs 6,969 crore in FY2010 toRs 6,144 crore in FY2011.

BALIC strategically chose not to chase new business (NB) at high costs. Thus, newbusiness premium for FY2011 was Rs 3,466 crore versus Rs 4,451 crore in the previous year.

Within the private sector, BALIC’s market share of NB premium was 8.8% for FY2011.The company is fourth among the private life insurers on NB premium for FY2011. It rankssecond among the private life insurers based on the number of new policies issued –1.54 million policies in FY2011 versus 2.23 million in the previous year.

ULIPs contributed 58% of BALIC’s NB premiums in FY2011, compared to 84% in theprevious year. In the first half of the year, ULIPs accounted for 69% of the NB premium(versus 80% in the same period last year); in the second half of FY2011, ULIP’s shareof NB premiums was 51% (86% in the same period last year).

Due to the new regulation, almost all ULIP products had to be re-filed.

Financial Performance

BALIC’s financial performance in FY2011 and FY2010 is summarised in Table 5.

Table 5: Financial Performance of BALIC

* Annualised Premium Earning (APE) = 10% of Single Premium and 100% of First Premium

** Shareholders’ profit for the year is Rs 1,057 crore – this comprises ofcurrent year Shareholders’ profit of Rs 122 crore, distribution of surplus frompolicyholders’ account to shareholder of Rs 825 crore and Rs 111 crore on account ofrelease from "Reserve for Lapsed unit linked policies unlikely to be revived".

For FY2011, thanks to tight control over operating expenses, BALIC posted ashareholders’ profit of Rs 1,057 crore, of which Bajaj Finserv’s share stood atRs 782 crore. The previous year’s figures were Rs 542 crore and Rs 401 crorerespectively.

During FY2011, the company wrote off the opening accumulated losses of Rs 18 crore.Accumulated profits as on 31 March 2011 stood at Rs 1,039 crore, and theshareholders’ net worth was Rs 2,249 crore.

As is evident from Table 5, despite a difficult year of the industry, the company hassucceeded in pursuing profitable growth with returns to all stakeholders. In fact, BALIChas been the most profitable life insurance company in the private sector.

In FY2012, BALIC will continue to focus on improving employee productivity, policypersistency, operational processes, customer service levels and also examine steps toincrease share of the agency channel in overall company premium.

Investments

As on 31 March 2011, BALIC’s assets under management (AUM) stood at Rs 39,330crore, which included unit linked funds of Rs 32,884 crore. The unit-linked funds haveincreased by 16%, from Rs 28,415 crore as on 31 March 2010. This has been due to thegenerally upward trend of the markets. Unit linked funds have performed well — withthe major funds yielding returns that were in line with the benchmark. Table 6 gives thedata.

Table 6: Performance of BALIC’s AUM

Note:

The funds given in Table 6 contribute 70% - 75% of total unit-linked AUM of BALIC.

The traditional portfolios are carefully managed, keeping in mind the regulatory assetallocation requirements. The yield on non-unit linked instruments invested in FY2011 was8.27%, versus 8.37% in the previous year.

Capital and Capital Adequacy

BALIC’s equity base (including share premium) was at Rs 1,211 crore, with no freshinfusions in FY2011. The company’s solvency ratio was 366% as on 31 March 2011,versus the minimum regulatory requirement of 150%. The company has one of the best capitalutilisation rates in the industry, as measured by the ratio of gross written premium tocapital infused.

Challenges

The recent changes in regulations and guidelines have made life insurance companiesre-think their strategy, mainly in terms of balancing growth with profitability. The majorchallenges for all companies are:

• Maintaining and improving persistency.

• Increasing productivity among agency force.

• Maintaining a balance between intermediary needs and profitability.

In addition, the industry may face some other challenges such as:

• Possibility of further regulations, mainly on the non-ULIP portfolio.

• Persistency linked agency termination.

• Guidelines on agency recruitment.

These might have an impact on the overall business of the industry.

General Insurance in India

Since the entry of private sector companies in general insurance from 2000, theindustry has grown from four public sector companies to 24 entities: 15 in the privatesector; four public sector corporations; three specialised health insurance companies; theExport Credit and Guarantee Corporation; and the Agricultural Insurance Corporation.

Gross written premiums of the industry, excluding the specialised insurers, have grownfrom Rs 12,390 crore in FY2002 to Rs 34,984 crore in FY2010, and have crossed Rs 42,569crore in FY2011. The compound annual growth rate is around 15%.

Nevertheless, penetration remains very low at 0.6% of GDP – versus 1.67% for Asiaas a whole, 3.1% for Europe and 4.9% for North America. Equally, the per capita spend ongeneral insurance remains below comparable emerging countries, leave aside the developednations.

With India’s real GDP expected to grow at a CAGR of 8% over the next five to sevenyears, spends on general insurance are bound to increase. The potential is vast, andinsurers need to figure out ways to profitably tap this growth.

The general insurance industry has been adversely affected in FY2011 because ofsignificant upward revision in the Motor Pool Loss Reserves. It needs explaining.

The Indian Motor Third Party Insurance Pool (or the Motor Pool) is an arrangement whereall general insurers cede the premium related to third party risks of commercial vehiclesand their related losses to the Motor Pool. These are then distributed back to the generalinsurers in proportion to their market share.

The IRDA has directed all general insurers to provide for the Motor Pool losses at153%, versus 126% that was provided in the past. In order to absorb this enhancedprovisioning, solvency requirements have also been relaxed at a reducing scale forfinancial years up to FY2013. This has hurt the industry.

For BAGIC, the good news is that even after absorbing this enhanced provisioning, thecompany has maintained its solvency ratio at 173% for the year ended 31 March 2011 —which is above the normal regulatory requirement of 150%.

The recent decision of IRDA to increase the premium on third party risks of commercialvehicles and indexing the future annual increase is a welcome move.

The general insurance industry posted a growth of nearly 22% for FY2011. Almost allcompanies achieved positive growth, and most were in the double-digit territory. Theindustry’s and BAGIC’s growth rates are shown in Table 7.

Table 7: Gross Direct Premium Written in India

Source: IRDA website and the IRDA Handbook of Insurance Statistics. Excludesspecialised insurers

BAGIC’s Business Performance, FY2011

Under testing conditions, BAGIC has focused on profitability by:

• Strong underwriting with careful selection of risk – and underwriting onlythose businesses which met its profitability hurdle rates.

• Emphasising uniformly high quality of customer services.

• Establishing a renewal vertical dedicated to analysing portfolios and activelyfollowing up on profitable renewals.

• Strengthening marketing efforts in retail channels such as agency andbancassurance.

The gross written premium, or GWP, for FY2011 (excluding premiums from the Motor Pool)was Rs 2,905 crore, compared to Rs 2,515 crore recorded in FY2010, or a growth of 15.5%with a market share of 6.8%.

The net earned premium for FY2011 (excluding premiums from the Motor Pool) was Rs 1,931crore versus Rs 1,671 crore in FY2010, or a growth of 15.6%. During FY2011, BAGIC sold 6.4million policies, compared to 6 million in FY2010. The number of claims reported in FY2011was 561,720 versus 525,258 in FY2010.

Business Mix and Channel Performance

BAGIC’s focus continues to be on retail business, where it has strengths indistribution and claims handling. The business mix is given in Table 8.

Table 8: BAGIC’s Business Mix

The channel-wise contribution to GWP is given in Table 9.

Table 9: Gross Written Premium From the Different Channels

Retail channels like multi-line agency and bancassurance continue to be the mainstay ofBAGIC’s channel mix, contributing to over 70% of the business. The broker channel,which largely caters to corporate segment, grew only marginally in FY2011 due toBAGIC’s conservative pricing strategy on group health and other relatively lessprofitable businesses.

BAGIC has one of the largest networks of independent partner banks including nationalbanks, those with strong regional franchises, and cooperative and rural banks. It also hasan effective online sales channel for off-the-shelf retail products like Motor and Health.

Financial Performance

BAGIC’s financial performance from FY2009 to FY2011 is summarised in Table 10.

Table 10: Financial Performance of BAGIC

• The Company recorded an underwriting profit (before considering share of lossesfrom the Motor Pool) of Rs 27 crore, compared to the previous year’s profit of Rs 6crore.

• After considering the share of losses from the Motor Pool, the Company’sunderwriting loss was Rs 219 crore in FY2011, compared to a loss of Rs 50 crore in FY2010.

• The combined ratio, excluding losses from the Motor Pool, was 98.6% as against99.6% recorded in FY2010. Including Motor Pool losses, the combined ratio increased from103% in FY2010 to 110% in FY2011. In a market where combined ratios are close to 120%,this is a creditable achievement and vindicates the company’s strong underwriting andcost management skills.

• On account of the additional provisioning of Rs 199 crore towards losses fromMotor Pool (over and above the normal provisioning for all the years), the PBT for theyear has reduced by 66 % to Rs 62 crore, against the previous year’s PBT of Rs 180crore.

• PAT for FY2011 was Rs 43 crore, compared to Rs 121 crore recorded in FY2010– a decrease of 64%.

• The return on average equity (ROE) for FY2011 was 5.3%, compared to 16.5%recorded in the previous year. However, if one were to calculate the ROE excluding theadditional provisioning due to Motor Pool losses, the ROE for FY2011 would have beenhigher at 20%.

Capital

BAGIC’s total capital, including share premium infused by shareholders, stood atRs 277 crore as on 31 March 2011. No new capital was needed in FY2011; and BAGIC’ssolvency margin was well above the required ratio as per IRDA’s regulations.

It is worth noting that BAGIC has the best utilisation of capital in the privatesector, as measured by the ratio of (i) GWP to capital infused, and (ii) GWP toshareholders’ equity. The shareholders’ equity of BAGIC stood at Rs 836 crore ason 31 March 2011, compared to Rs 793 crore a year earlier.

Investments

FY2011 was a strong year for debt markets, especially towards the latter half. TheCompany’s cash and investments as on 31 March 2011 stood at Rs 3,975 crore, versus Rs2,828 crore a year earlier.

Challenges

The general insurance industry is suffering from a crisis of profitability. Whiledemand is picking up, the challenge is to remain profitable in the face of highlycompetitive pricing. The taxation of profits on sales of investments as business incomefrom 1 April 2010 will put further pressure on insurance companies which rely on suchgains for their profitability. On the positive side, the recent increase in the thirdparty motor premiums proposed by the IRDA, coupled with an indexing for future increases,should alleviate the problems arising out of regulated third party pricing.

Improving penetration will be another major challenge. While potential for low costhealth insurance is vast, the industry needs to design and implement innovative models fortapping this market. The challenge here is the low ticket size of the policies –which increases the administration costs and hence puts pressure on margins.

Bajaj Finance Limited (BFL)

FY2011 was a good year for retail finance. After three years of low growth, theindustry is estimated to have grown by over 29% during the year. The competitiveenvironment remained benign owing to challenges faced by lenders between 2007 and 2009.However, competitive intensity is bound to increase in the years ahead.

With assets under management of over Rs 7,571 crore, Bajaj Finance Limited (BFL) is oneof the leading, diversified non- banking finance companies (NBFCs) in the country. Itdelivered excellent results in FY2011.

• Total income for FY2011 was up by 53% to Rs 1,406 crore.

• Profit after tax (PAT) was up 178% to Rs 247 crore.

• Deployment was up 106% to Rs 9,435 crore.

• Assets under management were at Rs 7,571 crore.

• Receivables under financing rose 80% to Rs 7,270 crore.

• Loan losses and provisions for the year reduced by 21% to Rs 205 crore.

• Capital adequacy as on 31 March 2011 stood at 20% – well above the RBInorms.

Loan Deployment Snapshot

Table 11 gives the loan deployment mix for FY2011 (compared to FY2010), while Chart Aplots BFL’s aggregate deployment over the last five years

Table 11: BFL’s Deployment mix

Receivables Under Finance

Table 12 gives the data of BFL’s receivables under finance.

Table 12: BFL’s Receivables under Finance

Two-wheeler financing

Riding on the back of a robust two-wheeler sales growth, loan deployment in thissegment grew by 49% to Rs 2,034 crore. BFL’s two wheeler financing is availableacross 351 dealership locations and 1,170 sub-dealers across the country. The companyacquired more than 522,000 customers in the year, representing a 38% growth over theprevious year. BFL’s Direct Cash Collection model, which was launched in FY2010,acquired over 157,000 customers in FY2011. This model caters to customers in thesemi-urban and rural markets with no banking habits.

Consumer durables financing

This business is present in 71 cities of India. Consumer durable financing deploymentgrew by 118% to Rs 2,262 crore in FY2011, versus an estimated industry growth of 31%. Thecompany acquired over 969,000 new customers, and is currently present in over 2,000 pointsof sale across the country. BFL’s strategy of focusing on relatively affluentcustomers and major dealerships has yielded benefits through lower operating costs andimproved risk performance. The company is currently financing one in every five LCD andPlasma televisions in the country and works with all leading consumer durablemanufacturers in boosting the sales of their products.

Personal loan cross-sell

This business is present in 81 cities of India. It targets customers with goodrepayment history of their two-wheeler and/or consumer durables loans to cross-sell apersonal loan. BFL grew this business in a cautious manner in FY2011. During the year,deployment under this category grew by 66% to Rs 375 crore. BFL financed 67,057 newcustomers in FY2011.

Personal and small business loans

This is present in 23 cities across India. Small business loan deployments grew by 51%to Rs 663 crore in FY2011. The Company’s strategy of focusing on affluent smallbusiness customers and its cautious approach has helped it to steadily grow this businesswithout unwarranted risks.

Vendor financing

BFL started to grow this new line of business in the current year. It focuses on shortand medium term lending needs of vendors of large auto manufacturers. The company deployedshort term loans of Rs 1,255 crore, and medium term loans of Rs 91 crore in FY2011.

Mortgage business

Present in 23 cities of India, the business targets affluent and high net worth smallbusiness customers, and offers loans against the mortgage of retail, residential andcommercial premises. Aided by strong revival in the mortgage business in the second halfof FY2011, the portfolio increased in line with the industry’s growth. Loan againstproperty grew by 35% to Rs 1,440 crore. The company also launched home loans for affluentand high net worth self-employed customers, and sold loans worth Rs 232 crore in its firsthalf year of launching.

Construction equipment finance business

The company launched its construction equipment finance business during FY2012. Itfocuses on financing small, mid and large strategic contractors for their constructionequipment financing needs. This is asset-backed financing collateralised by theconstruction equipment assets. During the first year of operation, the company deployed Rs694 crore and added some 2,900 customers.

Infrastructure Finance Business

The company has started its foray in infrastructure finance business towards the end ofthe financial year, and sanctioned loans worth Rs 250 crore.

Financial Performance

Table 13 gives BFL’s financial performance for FY2011 compared with FY2010, whileChart B plots the company’s profits after tax over the last five years

Table 13: BFL’s Financial Performance, FY2011 and FY2010

Chart B shows that FY2011 has been a landmark year for BFL – one in which thecompany has earned its highest ever PAT.

Risk Management and Portfolio Quality

As an NBFC, the company is exposed to credit risk, liquidity risk and interest raterisk. BFL has invested in people, processes and technology to effectively mitigate risksposed by external environment and by its borrowers. It has in place a strong riskmanagement team and an effective credit operations structure. It has further strengthenedits risk management by separating the functions of Chief Risk Officer and Chief CreditOfficer.

Sustained efforts of the company to strengthen the risk framework and portfolio qualityhave started bearing results. The overall portfolio quality has improved significantlyover the last financial year. The company’s Asset-Liability Committee (ALCO), set-upin line with the guidelines issued by the RBI, monitors asset-liability mismatches, toensure that there are no imbalance or excessive concentration on either side of thebalance sheet.

Fulfilment of the RBI’s Norms and Standards

BFL meets or exceeds all norms and standards laid down by the RBI pertaining torecognition and provisioning of non-performing assets, capital adequacy, statutoryliquidity ratio, and others. The capital adequacy ratio of the company is 20%, which iswell above the RBI norm of 12%.

Business Outlook

BFL expects to deliver strong performance in FY2012 owing to significant momentum inits lines of businesses and robust portfolio quality. However, as mentioned earlier, thehigh inflation environment resulting in steadily rising interest rates may dampen consumerdemand and lead to slower growth.

Asset Management, Financial Advisory and Wealth Management

In order to position itself as full-fledged financial services company, Bajaj Finservis entering the business of distributing financial products and services and offeringfinancial advisory as well as wealth management services. The Company is doing thisthrough two entities. These are Bajaj Financial Solutions Limited (Bajaj FinSol) and BajajFinancial Securities Limited (Bajaj FinSec).

Bajaj Financial Solutions Limited (Bajaj Finsol)

Having received its Association of Mutual Funds in India (AMFI) registration in 2009,Bajaj Finsol applied to the IRDA in August 2010 for a corporate agency licence todistribute insurance products of BALIC. IRDA approval was received in February 2011, andthe licence is valid for three years.

After getting the licence, the business was launched in Aurangabad, Chandigarh,Ludhiana and Pune in February 2011. The financial planning process, client risk profilingdocument and corresponding asset allocation models have been finalised and incorporatedinto the company’s core software platform to enable scalability of the business.

Bajaj Financial Securities Limited (Bajaj FinSec)

Bajaj FinSec had received its registration certificate from the Association of MutualFunds in India (AMFI) and has completed the empanelment process with all the major assetmanagement companies in India. Moreover, it has received the SEBI registrations for theBombay Stock Exchange (BSE) and the National Stock Exchange (NSE). These allow the companyto act both as a trading and clearing member of the exchanges.

The company expects to begin scaling up business from FY2012.

Wind Energy

Bajaj Finserv has 138 wind mills in Maharashtra with total installed capacity of 65.2MW. These mills were set up at a total cost of Rs 294 crore. During FY2011 the projectgenerated net wind energy of 837 lakh units of electricity, versus 908 lakh units inFY2010. The electricity generated in FY2011 was valued at Rs 42 crore, compared to Rs 43crore in FY2010. The wind energy generated was predominantly sold to Bajaj Auto Limited,to cater to power consumption requirements of its establishments at Akurdi, Chakan andWaluj. Surplus units were sold to third parties.

All 138 windmills have been registered with National Load Despatch Centre (NLDC)through REC Registry and are eligible for Renewable Energy Certificates (REC) from 1 April2011.

Standalone

The standalone results of Bajaj Finserv Limited are given in Table 14.

Table 14: Standalone Results of Bajaj Finserv

Sales tax deferral incentive/loan has been prepaid during the year at a discountedvalue of Rs 172 crore, thereby registering a surplus of Rs 139 crore. The said sum hasbeen reflected as an exceptional item and considered as a capital receipt.

Consolidated Financials

The consolidated results are given in Table 15. These include its subsidiaries,associates and joint ventures, in accordance with the accounting standards issued by TheInstitute of Chartered Accountants of India.

Table 15: Summarised Consolidated Results of Bajaj Finserv

Cautionary Statement

Statements in Management Discussion and Analysis describing the Company’sobjectives, projections, estimates and expectation may be ‘forward looking’within the meaning of applicable laws and regulations. Actual results might differmaterially from those expressed or implied.