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REC: Cost efficiency recoups provision losses - Views on News from Equitymaster
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REC: Cost efficiency recoups provision losses
Apr 7, 2015

Rural Electrification Corporation (REC) declared its results for the quarter ended December 2014. The institution grew its net interest income by 21% YoY and profits by 12% YoY during the quarter.

Performance summary
  • Net interest income rises by 21% YoY in 3QFY15; disbursements increase by 6% YoY, while sanctions up by 34% YoY.
  • Net interest margins expand by 0.2% YoY to 5.1% during the quarter.
  • Non-interest income rises by 37% during the quarter.
  • Operating expenses decline by 37% YoY led by lower employee expenses.
  • Provisioning costs rise by 274% YoY during the quarter.
  • Net NPAs for the quarter come in at 0.65% in 3QFY15 from 0.25% a year ago.
  • Net profits up by 12.4% YoY in 3QFY15, performance marred by higher provisioning.
  • During 9mFY15, net interest income and net profits are up by 19% YoY each.
  • Board announces interim dividend of Rs 8 per share for FY15 (dividend yield of 2.4%).

Financial summary
(Rs m) 3QFY14 3QFY15 Change 9mFY14 9mFY15 Change
Income from operations 43,766 52,053 18.9% 125,755 148,961 18.5%
Interest expended 25,938 30,449 17.4% 74,151 87,516 18.0%
Net Interest Income 17,828 21,604 21.2% 51,604 61,445 19.1%
Net interest margin (%) 4.9% 5.1%   4.9% 5.1%  
Other Income 286 390 36.6% 553 1,212 119.0%
Operating expenses 849 533 -37.2% 2,149 2,767 28.7%
Provisions and contingencies 504 1,887 274.0% 1,172 2,210 88.5%
Profit before tax 16,760 19,575 16.8% 48,836 57,680 18.1%
Tax 4,484 5,777 28.8% 13,915 16,046 15.3%
Profit after tax/ (loss) 12,277 13,798 12.4% 34,921 41,634 19.2%
Net profit margin (%) 28.1% 26.5%   27.8% 27.9%  
No. of shares (m)         987  
Book value per share (Rs)         243  
P/BV (x)*         1.3  
* (Book value as on 30th December 2014)

What has driven performance in 3QFY15?
  • REC's disbursements rise by 6% YoY with short term loans and transmission segment seeing more traction. However, when it came to sanctions, the same were up by about 34% YoY largely driven by the generation segment. The latter formed about two-third of the sanction given out during the quarter. It may be noted that growth was largely due to a lower base of last year. During the nine month period ended December 2014, the total sanctions stood at Rs 472 bn a figure lower by about 15% YoY. Total disbursements during this period was up 9.7% YoY..

  • As compared to the previous year, REC's total borrowings increased by 16% YoY during the quarter as compared to a year ago. The borrowing profile for REC continues to remain in good stead with more than 83% borrowings coming through bonds, thereby indicating that the company would remain less affected with fluctuations in interest rates.

  • Spreads improved to levels of 3.78% during 3QFY15, as compared to 3.69% in same quarter last year. This is largely due to yield on loans rising to 12.42% while cost of borrowings stood at 8.64%. The same stats a year ago stood at 12.32% (yield on loan) while cost of borrowings stood at 8.63%.

  • The operating expenses for the company fell by 37% YoY led by lower employee expenses.

  • REC's profit before tax rose by 17% YoY during the quarter, The growth would have been stronger had it not been for the sharp 274% YoY rise in provisions and contingencies.
What to expect?
At the current price of Rs 324, the stock is valued at about 1 time our estimated FY17 adjusted book value.

While historically REC has maintained the quality of its asset book, the year so far has been exception it seems. Bad loans jumped higher and net NPAs stood at 0.65% in 3QFY15 from 0.25% in 3QFY14. While the apprehensions with respect to the power sector issues continue to persist, few government initiatives such as bailing out ailing discoms and resolution of fuel supply issues have augured well for power financiers such as REC.

REC continues to remain one of the most fundamentally resilient stories in the power finance sector. However, the upside in the stock remains largely dependent on favorable regulations, adequate fuel supply and improved financials for SEBs, which could warrant a revision in valuations. We recommend investors to buy the stock at current price or lower. A gentle reminder that no stock should comprise more than 5% of your overall portfolio.

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