Bajaj Finance Ltd Management Discussions.
A macroeconomic overview
Financial year 2016-17 (FY2017) began on a positive note. India had closed FY2016 with growth in real GDP of 7.9% and a growth in gross value added (GVA) of 7.8%. Despite two disconcerting facts namely, the high level and proportion of the banking sectors non-performing assets coupled with a muted growth in bank credit there were expectations of India achieving a GDP growth rate somewhere between 7.5% and 8% in FY2017.
Unfortunately, that has not occurred. The second advance estimates of national income forecast by the Central Statistics Office released on 28 February 2017 suggest a real GDP growth of 7.1% for FY2017; and a real gross value added (GVA) growth of 6.7%. Both estimates are significantly lower than what the economy achieved in the previous year. Table 1 gives the data over the last four financial years.
Table 1: Growth in Real GDP and GVA, India
|Real GDP growth||6.9%||7.3%||7.9%||7.1%|
|Real GVA growth||6.6%||7.2%||7.8%||6.7%|
Source: Government of India, Central Statistics Office (CSO). (E) denotes estimate.
On 8 November 2016, the Government announced demonetisation of Rs. 500 and Rs. 1,000 banknotes, which represented 86% of the currency in circulation. Contemporary evidence suggested significant disruption arising out of unprecedented cash constraints throughout the economy. For lending institutions in particular, the impact of lower collection efficiencies was quite severe, and resulted in poorer credit growth.
However, the national income data published by the CSO does not suggest any significant reduction in GDP or GVA growth in the third quarter of FY2017 which could have been correlated with the demonetisation drive. The third quarter traditionally tends to be muted. In FY2016, the growth rate of real GVA in Q2 was 8.4%; and in Q3 it was 7%, or a sequential drop of 1.4 percentage points. In FY2017, GVA growth in Q2 was 6.7%, and in Q3 it was 6.6%. In other words, despite the effects of demonetisation for over 60% of Q3 FY2017, the negative effect as reported by the CSO has been only 10 basis points. We need harder evidence to clearly quantify the impact of demonetisation on real GDP or GVA growth. What the data so far suggests is that it was more moderate than the naysayers claimed it would be. And that the effects would be transitory.
If demonetisation was not the prime cause for the lower estimate of GDP and GVA growth in FY2017, then what were the other determinants? There are two.
The first is insufficient investments, especially over the last five years. Gross fixed capital formation (GFCF) for FY2017 is estimated to be only 0.6% higher than what it was in FY2016. The share of GFCF to GDP has steadily fallen from 31.7% in FY2015 to 31.1% in FY2016 to a low of 29.2% in FY2017. Unless investments rapidly pick up in FY2018 and the following year, it is difficult to envisage how India can achieve a sustained real GDP growth of 7.5%, leave aside an aspirational target of 8%.
The second is also related to investments and linked to the state of our banks, especially many of those under Government ownership. Data for the quarter ended 31 December 2016 shows that for the 27 public sector banks which account for the vast majority of the nations loans and advances, gross NPAs were estimated at Rs. 647,759 crore, a 140% increase over what it was two years earlier. Today, such NPAs constituted 12% of total loans and advances. The proportion may indeed be higher still. In any event, with these banks being so badly stressed, there is no appetite for advancing term loans without which, it is impossible to envisage the investment spends required to transit to a higher growth path.
Consequently, it is not surprising that several sectors of the economy have seen a reduction in growth. Real GVA in mining and quarrying is estimated to grow by only 1.3% in FY2017 versus 12.3% in the previous year. Manufacturing growth for FY2017 is pegged at 7.7%, which will be 290 basis points lower than what it was a year ago. GVA from trade, hotels, transport, communications and broadcasting services are expected to grow by 7.3% compared to 10.7% in FY2016. And GVA from financial, real estate and professional services is estimated to grow at 6.5% in FY2017 versus 10.8% a year before.
Having said this, it needs to be emphasised that 7.1% real GDP (or 6.7% real GVA) growth happens to be among the highest in the developed world and across all major emerging markets, including China. From a cross-country perspective, therefore, we seem to be doing well enough. The issue is internal to India: Is such growth sufficient to significantly increase incomes and employment and reduce poverty in the country? And the answer is straightforward: we need to do much more.
What about inflation? The Consumer Price Index (CPI) inflation varied month-to-month between 3.2% and 6.1% during FY2017. Excluding food and fuel, however, core CPI inflation has remained at around 4.9% since September 2016, which is somewhat higher than what the Reserve Bank of India (RBI) is comfortable with. Thus, in February 2017, the RBI changed its monetary policy stance from accommodative to neutral. With core inflation remaining firm in the neighbourhood of 5%, the RBI in its first monetary policy statement for 2017-18 (FY2018) has justified maintaining a hawkish stance.
Growth in bank credit continued to be subdued. Thanks to the overhang of NPAs, it grew only by 5.2% in FY2017 versus 10.2% in the previous year. On the liability side, demonetisation led to an unnatural growth in bank deposits, which increased by 11.9% in FY2017 compared to 9.1% in FY2016. Awash with post-demonetisation liquidity, the banks significantly reduced their incremental marginal cost based lending rates in January 2017. This, we believe, has created a potentially alarming situation in the banking sector, especially for the public sector banks. On the one hand, these institutions remain saddled with high levels of NPAs from which they earn little or no returns and need quarterly provisioning to the detriment of their profits. On the other hand, extra liquidity has forced a reduction in lending rates which, in turn, reduced the net income margin from new lending. Without exaggeration, it is fair to say that the state of most banks continue to be alarming.
How FY2018 plays out depends upon two factors: the investment appetite of the country and a perennial annual variable called the monsoons. Regarding the former, there is still no sign of even a modest upsurge in private investments as firms continue to leverage efficiency improvements and squeeze the best out of existing capacities. As far as the latter is concerned, the India Meteorological Department has come out with an initial forecast of a normal monsoon. That remains to be seen. It will only be after August 2017 that we know how ample the south west monsoon was.
On the positive side, the roll out of the nation-wide Goods and Service Tax (GST) in FY2018 ought to aid growth. To be sure, a task as monumental as the GST will have teething troubles in the first two quarters. We believe that it is only in FY2019 that the country will begin to see the overall benefits of this key economic reform. Equally, the Insolvency and Bankruptcy code ought to finally create a market for stressed assets; and, all other things being equal, reduced bank lending rates should make borrowing more attractive than before.
Despite these positives, it is difficult to see a quantum jump in GDP growth in FY2018. From our perspective, if we see Indias real GDP growing at around 7.4% to 7.5% in the coming year, it will be a creditable achievement. Anything higher will be a bonus.
Non-Banking Finance Companies (NBFCs) continued to grow their share in the financial services industry. As per data published by RBI in its Financial Stability Report of December 2016, NBFCs have outperformed Scheduled Commercial Banks (SCBs) on growth in advances and in asset quality. Table 2 gives the data.
Table 2: Comparison of growth in advances and asset quality of NBFCs and SCBs
|31 March 2016||30 September 2016|
|Growth in Advances||16.6%||8.8%||10.5%||7.8%|
|Gross Non-Performing Assets||4.6%||7.8%||4.9%||9.1%|
Source: Reserve Bank of India, Financial Stability Report, 29 December 2016 and 28 June 2016.
We believe that the growth momentum of NBFCs will result in their share in the financial services sector increasing in the near future.
Bajaj Finance Ltd. (Bajaj Finance, BFL or the Company) enjoyed yet another strong year of performance aided by a diversified product mix, robust volume growth, prudent operating cost and effective risk management. With assets under management of Rs. 60,194 crore, BFL has emerged as one of the leading diversified NBFCs in the country today. Given below are some highlights of the results for FY2017.
Bajaj Finance: Performance highlights, FY2017
New loans booked exceeded 10 million in numbers, which is a first for the Company.
Assets under management: up 36% to Rs. 60,194 crore.
Receivables under financing: up 33% to Rs. 56,832 crore.
Total income: up 36% to Rs. 10,003 crore.
Total operating cost: up 35% to Rs. 2,564 crore.
Loan losses and provisions: Rs. 818 crore. Even so, BFLs net NPA at 0.44% was among the lowest in the NBFC industry.
Profit before tax: up 43% to Rs. 2,818 crore.
Profit after tax: up 44% to Rs. 1,837 crore.
Capital adequacy as on 31 March 2017 was 20.30%, which is well above the RBI norms.
BFL focuses on six business verticals: (i) Consumer Lending, (ii) SME Lending, (iii) Commercial Lending, (iv) Rural Lending, (v) Deposits, and (vi) Partnerships and Services.
During FY2017, the authorised share capital of the Company was increased from Rs. 75 crore (consisting of 75,000,000 equity shares of face value of Rs. 10 each) to Rs. 150 crore (consisting of 750,000,000 equity shares of face value of Rs. 2 each). Accordingly, 53,872,190 equity shares of face value of Rs. 10 each as on the record date, i.e., 10 September 2016 (end of the day), were sub-divided into 269,360,950 equity shares of face value of Rs. 2 each. Further, on 14 September 2016, the Allotment Committee of the Board of Directors allotted 269,360,950 equity shares of face value of Rs. 2 each as bonus shares in the proportion of one bonus equity share for every one equity share of face value of Rs. 2 held as on the record date, by capitalising an amount of Rs. 538,721,900 from the securities premium account.
In FY2017, Bajaj Finserv Ltd. (the Promoter) exercised the option to convert 9,250,000 warrants, issued on preferential basis, upon payment of Rs. 306.08 crore being the balance 75% amount of the issue consideration. Accordingly, 9,250,000 equity shares of the face value of Rs. 2 each were allotted to Bajaj Finserv Ltd. on 23 November 2016 at a premium of Rs. 439.20 per equity share. Hence, the revised shareholding of Bajaj Finserv Ltd. in BFL stood at 57.80% as at the end of the reporting year versus 57.28% earlier.
The Companys capital adequacy stood at a healthy 20.30%. Its tier I capital adequacy was 14.56%.
BFLs loan book continued to remain strong due to its robust risk management practices. The Companys net NPA at 0.44% is among the lowest in the NBFC industry. This was despite portfolio quality pressures on account of demonetisation in Q3 FY2017. There was also a marginal deterioration in portfolio quality of the mortgage businesses owing to the stressed real estate market and elevated competition in the segment.
It is worth noting that the strength of BFLs financials and robust risk management enabled it to not opt for the 90 day relaxation extended by RBI to NBFCs for recognition of loan accounts as NPA post-demonetisation.
Prudent asset liability management (ALM) and a judicious mix of borrowings among banks, money markets and deposits helped BFL drop its cost of borrowings by around 47 bps in FY2017. As of 31 March 2017, BFLs total borrowings stood at Rs. 49,250 crore.
Table 3 breaks down the AUM across the major business verticals.
Table 3: Assets Under Management
|Assets Under Management||FY2017||FY2016||% Change|
BFL continued to be the largest consumer durables lender in India in FY2017.
With presence in 318 cities across India and approximately 14,100 dealer counters across the country, it financed 5.9 million purchases in FY2017 versus 4.7 million in FY2016, a growth of about 28%.
Its unique Existing Member Identification (EMI) card, with cards in force of over 6.9 million, enables customers to avail instant finance after the first purchase. It financed 2.5 million purchases in FY2017 through EMI card versus 1.5 million in FY2016, a growth of about 67%. Wide geographic presence coupled with a loyal EMI card base provides BFL with an inherent growth platform.
BFL was the largest financier of Bajaj motorcycles and three-wheelers in FY2017.
It operates at the premises of approximately 3,661 Bajaj dealers and sub-dealers across the country.
Gross deployments in FY2017 were Rs. 4,519 crore a growth of 36% over FY2016.
Approximately 36% of Bajaj Autos domestic sales of motorcycles and 23% of three-wheelers were financed by BFL in FY2017 up from 32% and 16% respectively in FY2016.
Having said so, auto-finance was one of the few businesses which was impacted due to demonetisation.
In April 2016, BFL expanded its EMI card financing propositions for its customers in new retail categories like fashion, travel, insurance and small appliances. The business is operational in 35 locations with a footprint of approximately 10,000 partner stores across India in the first year of operations alone.
Over the years, BFL has expanded its EMI financing business to digital products and lifestyle products. It has tie-ups with leading digital product manufacturers for its digital products financing. The Company operates through more than 9,750 dealers in India for its digital products financing. It financed approximately 1.3 million digital product purchases in FY2017 versus 561,000 in FY2016, representing a growth of 132%.
In FY2017, the lifestyle products finance business financed approximately 237,000 purchases, which represented a growth of 47% from FY2016. It has a distribution footprint of over 7,500 counters across all categories. The business has also expanded its EMI finance offerings in the healthcare segment. Covering certain elective procedures through 2,500 clinics in tie-ups with leading industry players, BFL financed some 30,000 elective procedures in FY2017.
E-commerce finance was launched in April 2016 to address the EMI financing needs of BFL customers shopping online with major e-commerce giants. It financed approximately 167,000 purchases on e-commerce platforms in the course of FY2017.
Personal Loans Cross-sell and Salaried Personal Loans deployments grew, respectively, by 56% and 25% over FY2016; and their AUMs by 62% and 35%. Enhanced product proposition through salaried personal loans flexi-offering, growing distribution and customer franchise, investment in advanced analytical capabilities, increased focus in expanding business in emerging cities coupled with robust risk management have enabled this strong growth.
The Salaried Home Loans business deployment and AUM grew by approximately 137% and 107% respectively. Growing customer franchise, significant development in analytical capabilities and increased focus on providing better product proposition have enabled this strong growth. The business launched its Property Search Model to help customers buy their chosen home and get it financed by BFL.
SME lending offers secured and unsecured loans to its customers.
Secured lending is done through three product offerings: Loan Against Property, Lease Rental Discounting and Home Loan. Secured SME lending continued to be in a hyper-competitive state throughout FY2017 as it was a year earlier, with loan sourcing being dominated by various cost-cutting intermediaries.
The Company has now fully transitioned its retail mortgage business to cut out intermediaries in favour of a 100% Direct to Customer model, which delivers lower costs and creates a sustainable return on equity.
Unsecured lending is done through two product offerings: Business Loans and Professional Loans. BFL has enhanced the product proposition for its SME unsecured customers through the introduction of a flexi loan facility. This has been received well by customers and now contributes significantly to incremental deployments.
The Relationship Management business focuses on multiproduct distribution, across lending, insurance and deposits to its SME customers.
Table 4 gives the summary of assets under management of SME businesses.
Table 4: Assets Under Management of SME businesses
|Assets Under Management||FY2017||FY2016||% Change|
In FY2017, BFL expanded its rural footprint by setting up branches in two new states and penetrating deeper in existing states. At the end of FY2017, it had presence in 538 locations across seven states in India. This business caters to the needs of consumer and MSME customers in rural markets. It had an AUM of Rs. 3,072 crore compared to Rs. 1,339 crore in FY2016, representing a growth of 129%.
The Rural MSME business offers unsecured and secured loans to self-employed clients in rural markets. Unsecured loans are offered through Business Loans and Doctor Loans while secured loans are offered as Loans Against Property (LAP).
The Commercial Lending business closed FY2017 with an AUM of Rs. 7,881 crore. This was a growth of 51% over FY2016. IPO Financing was started in FY2017 to add another product offering in the Loan Against Securities business. Three new industry verticals, viz. Corporate Finance, Financial Institutions Group (FIG) lending business and Light Engineering, which were launched in FY2016, have delivered an AUM of Rs. 1,639 crore as on 31 March 2017.
As at the end of FY2017, BFL had a deposit book of Rs. 4,128 crore, representing a growth of 84% over the end of FY2016. The deposit books contribution to BFLs overall borrowing was 8%.
Partnerships and Services
In FY2017, BFL partnered with one more general insurance company for distribution of insurance products. It currently has insurance distribution partnerships with six insurance companies.
BFL launched a co-branded credit card distribution business with RBL Bank. It has many customer-friendly features including no-cost EMI options at point of sale, accelerated rewards for high savings and a feature of no interest on cash withdrawals up to 50 days. The card, branded as SuperCard, is offered to existing customers of BFL.
Table 5 gives BFLs financial performance for FY2017 vis--vis the previous year. Chart B plots profit after tax over the last five years.
Table 5: BFLs financials
|(Rs. In Crore)|
|Interest and finance charges||3,803||2,927||30|
|Net interest income||6,200||4,406||41|
|Sourcing and credit cost||132||91||45|
|Loan losses and provisions||818||543||51|
|Profit before tax||2,818||1,965||43|
|Profit after tax||1,837||1,279||44|
|Earnings Per Share (EPS) basic, in H||34.01||24.23||40|
|Earnings Per Share (EPS) diluted, in H||33.67||23.88||41|
|Book value per share, in H||175.73||138.70||27|
Risk management and portfolio quality
As an NBFC, BFL is exposed to credit, liquidity and interest rate risk. The Company has invested in people, processes and technology to mitigate risks posed by external environment and by its borrowers. It has in place a strong risk management team and an effective credit operations structure. Its risk management policies continue to segregate the functions of a chief risk officer and a chief credit officer to focus on portfolio management and underwriting respectively. Sustained efforts to strengthen the risk framework and portfolio quality have yielded significant results over the last few years.
BFLs conservative approach to portfolio management coupled with a rigorous portfolio review mechanism has enabled it to get early stress signals in the infrastructure sector and take corrective action in its infrastructure and construction equipment business.
As mentioned before, BFL ended the year with a net NPA of 0.44%. The Company continues to have a conservative provisioning policy, which is more stringent than RBI norms.
Operational risk management
BFL has also commenced the identification of various operational risks inherent in its business model. The operational risks are risk of a loss resulting from inadequate or failed internal process, people and systems, or from external events. It has dedicated a new pillar the Operational Risk Management Framework within its risk management framework to effectively identify, measure, report, monitor and control such operational risks.
BFL continues to evolve on a journey where analytics and technology are integral to business strategy. It uses analytics capabilities for making appropriate product offerings to customers, marketing campaign management, risk management and customer experience. It has built a comprehensive range of predictive models including propensity to purchase, application scorecards, behavioural scorecards, collection scorecards and fraud scorecards.
The Company has, and will continue to, actively invest in analytics to create customised cross-sell propositions for its customer franchise, deliver attractive yet suitably differentiated propositions and enhance productivity, efficiency, as well as profits.
In FY2017, BFL developed a real-time machine learning based fraud analytics model. This has replaced the traditional score based model and uses machine learning algorithms to detect frauds.
Asset liability management
BFL had a total borrowing of Rs. 49,250 crore as on 31 March 2017. The Companys Asset-Liability Committee (ALCO), set up in line with the guidelines issued by the RBI, monitors asset-liability mismatches to ensure that there are no imbalances or excessive concentrations on either side of the Balance Sheet. BFL continued to raise longer tenor borrowings in FY2017 as well, which included Rs. 3,338 crore of Tier-II subordinated debt as on 31 March 2017.
Till date, BFL has assigned Rs. 7,065 crore of its receivables including Rs. 3,054 crore assigned in FY2017. The net receivables due as on 31 March 2017 amounted to Rs. 3,362 crore. The Company continues to closely monitor liquidity in the market; and as a part of its ALCO strategy maintains a liquidity management desk to reduce its liquidity risk. The Company maintained a liquidity management buffer of Rs. 3,123 crore as on 31 March 2017.
Prudent asset liability management (ALM) and a judicious mix of borrowings between banks, money markets and deposits helped BFL drop its cost of borrowings by around 47 bps in FY2017.
BFL has been a leader in technology adoption among NBFCs. It continues to leverage technology across businesses to launch new products, enhance customer acquisition and servicing processes along with simplifying the back-office.
In order to strengthen its IT security, BFL has developed and implemented a security governance framework to tackle growing cyber security risks. It has also established a Security Operations Centre to monitor security threats and minimise their impact on the Company and its operations. It has implemented various security initiatives like regular vulnerability assessment and penetration testing of core applications, continuous monitoring of cyber-attacks, carrying out employee awareness programmes and subscription to anti-phishing services to shut down phishing sites as and when noticed. BFL has fully functional Disaster Recovery (DR) data centres to ensure business continuity for customer acquisition, loan processing and servicing.
BFL continues to remain customer centric in its policies and practices. It places the customer at the centre of its product, policy and processes. The Company monitors customer interactions and provides mechanisms to customers to have a superior experience through the design of its product, process and service mechanisms. It has a customer life-cycle mapping to define the proactive communication needs of customers to drive engagements and provide a superior experience. It provides its customers multi-channel engagement options across call centre, IVR, bi-directional SMS, email, online portal, mobile applications and branch.
In FY2017, the Company has refined its customer experience assessment from its earlier customer experience surveys to Net Promoter Score (NPS) to gauge its customer efforts. The NPS is a more robust methodology to measure customer loyalty.
BFL continues to lay emphasis on people, its most valuable resource. In an increasingly competitive market for human resources, it seriously focuses on attracting and retaining the right talent. It provides equal opportunity to employees to deliver results. During FY2017, BFL added 3,602 employees, taking the total employee strength to 11,479.
September 2016: TISS LeapVault CLO GOLD Shield: BFLs Human Resource department won this award in the Best Simulation Based Program category for its Super Manager Studio Online and Offline Training Program.
January 2017: Best Audit Committee Award 2016: The Companys Audit Committee was awarded the Best Audit Committee Award 2016 by the Asian Centre for Corporate Governance and Sustainability at the 4th Asia Business Responsibility Summit in January 2017.
March 2017: Young Business Leader of the Year: Sanjiv Bajaj, Vice-Chairman, was awarded the Young Business Leader of the Year by Hello! Magazine.
March 2017: Entrepreneur of the Year Award: Sanjiv Bajaj, Vice-Chairman, was awarded the Entrepreneur of the Year award by Bombay Management Association (BMA).
Internal control systems and their adequacy
BFL has an independent internal management assurance function that is commensurate with the size and scale of the Company. It evaluates the adequacy of all internal controls and processes, and ensures strict adherence to clearly laid down processes and procedures as well as to the prescribed regulatory and legal framework. The Company has further strengthened its internal audit function by investing in domain specialists to increase the effectiveness of controls. The Audit Committee of the Board of Directors reviews the internal audit reports and the adequacy and effectiveness of internal controls.
Fulfilment of the RBIs norms and standards
BFL fulfils and often exceeds norms and standards laid down by the RBI relating to the recognition and provisioning of non-performing assets, capital adequacy, statutory liquidity ratio, etc. The capital adequacy ratio of the Company is 20.30%, which is well above the RBI norm of 15%.
Consolidated financial statement
Table 6 gives a summary of the consolidated financial performance for FY2017, consolidating the results of its wholly owned subsidiary Bajaj Housing Finance Ltd., which received a certificate of registration dated 24 September 2015 from National Housing Bank to carry on the business of (non-deposit taking) housing finance and its wholly owned subsidiary Bajaj Financial Securities Ltd. The operations of the subsidiary in FY2017 were not significant and hence the consolidated profits of BFL almost equal its standalone profits.
Table 6: BFLs Consolidated Financials
|(Rs. In Crore)|
|Interest and finance charges||3,804||2,927||30|
|Net interest income||6,203||4,407||41|
|Loan losses and provisions||818||543||51|
|Profit before tax||2,817||1,965||43|
|Profit after tax||1,836||1,279||44|
Statements in this Management Discussion and Analysis describing the Companys objectives, projections, estimates and expectations may be forward looking within the meaning of applicable laws and regulations. Actual results may differ from those expressed or implied.