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REC: Sees robust profit growth - Views on News from Equitymaster
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REC: Sees robust profit growth
Aug 1, 2012

Rural Electrification Corporation (REC) declared its results for the first quarter of the financial year 2012-13 (1QFY13). The institution grew its net interest income and profits at 28% and 32% YoY respectively.

Performance summary
  • Income from operations grows 30% YoY in 1QFY13, on the back of 24% YoY growth in its advances.
  • Net interest income (NII) also grew at a healthy pace, rising 28% YoY in 1QFY13, despite higher costs of funds.
  • Disbursements grow by 25% YoY, while sanctions grew by 3% YoY in 1QFY13.
  • Net interest margins (NIM) improved by 0.1% to 4.5% in 1QFY13.
  • Bottomline grows by 32% YoY in 1QFY13 on higher other income and NII, and despite higher forex losses.

Rs (m) 1QFY12 1QFY13 Change
Income from operations 23,129 29,968 29.6%
Interest expended 14,032 18,314 30.5%
Net Interest Income 9,097 11,654 28.1%
Net interest margin 4.4% 4.5%  
Other Income 600 959 59.7%
Operating expense 419 456 8.7%
Forex fluctuation loss 72 374 419.4%
Provisions and contingencies 250 -  
Profit before tax 8,956 11,784 31.6%
Tax 2,337 3,016 29.1%
Effective tax rate 26.1% 25.6%  
Profit after tax/ (loss) 6,620 8,767 32.4%
Net profit margin (%) 28.6% 29.3%  
No. of shares (m)   987  
Book value per share (Rs)*   158.2  
P/BV (x)   1.2  
* (Book value as on 30th June 2012)

What has driven performance in 1QFY13?
  • Despite rising interest rates, and a slowdown in infrastructure activity, especially in the power space, REC saw its loan book grow by 24% YoY in 1QFY13. Sanctions however saw muted growth, rising by 3% YoY in 1QFY13. Disbursement growth came in at 25%. Disbursements had a higher leaning towards T&D (Transmission and Distribution) with 38% going to the segment, compared to 34% previously. Generation projects got a 34% share (55% previously). 84% of the company's loan book continues to be exposed to state governments.

    Disbursement growth stays strong...
    (Rs m) 1QFY12 1QFY13 Change
    Sanctions 211,900 217,890 2.8%
    Disbursements 54,810 68,640 25.2%
    D/S ratio 25.9% 31.5%  
    Advances 857,820 1,066,320 24.3%

  • REC has witnessed an improvement in its net interest margin (NIM) in recent years. A rise in interest rates will not hurt REC as the institution's lending rate is not locked at the time of sanctioning the loan. The sanction runs for 3 to 4 years before it gets fully disbursed. Hence the rate of interest is charged on the basis of date of disbursement which takes care of the adjusted cost of borrowing at the particular point in time. Hence there are few downsides to REC's NIM even in a rising interest rate scenario. Also, its borrowings from banks stand at only 7% of its overall borrowing portfolio in 1QFY13. Thus, it may not be as exposed to bank's rising base rates, compared to other NBFC peers. However despite an overall increase in cost of funds, REC's margins improved marginally to 4.5% from 4.4% at the end of 1QFY12. Margins are expected to remain at the 4.4% levels in FY13.

  • REC had 0.46% gross NPA levels and provision coverage ratio of 13% at the end of 1QFY13; this is an increase from 0.31% gross NPA levels seen in 1QFY12. However, asset quality has remained stable since 4QFY12. While REC hasn't seen a further deterioration in asset quality, the risk factor of State Electricity Boards continues to remain high. A number of banks have already restructured these debts, taking significant provisioning for the same. Since the entity has not made additional provisions this quarter, we do expect REC to provide for risky assets in the coming quarters of FY13.

What to expect?
At the current price of Rs 189, the stock is valued at 1.2 times its trailing twelve months book value. As per the management, the company will try and maintain its asset quality as the Ministry of Power is building up pressure on various state governments in order to increase state electricity boards (SEBs) tariffs. This will help them meet their loan obligations. State governments are also likely to convert loans to SEBs into equity, helping them improve their weak balance sheets.

However, even in a high interest rate environment, REC is well equipped to manage NIMs and spreads, on account of its overseas borrowings, however forex losses can prove to be the dampener. The financer has also already increased its lending rates in order to offset higher costs. However sectoral risks still remain with regards to coal availability for power projects, slowdown in infrastructure growth, and absence of tariff revision. We reiterate our buy view on the stock on account of the reasonable valuations the stock is trading at.

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