What Bajaj Finance's Record Profits Mean for Investors...

Gone are the days when you had to prove that you are worthy of financial credit. Back then, either your assets or earnings or future earnings had to be the collateral.

Creditworthiness now comes easy. Signing up for a payment app is all it takes to get instantly credit worthy.

I wrote this when I explained to you why Buy Now, Pay Later (BNPL) could be the cause of the next financial bubble.

BNPL is a payment option where a shopper can make a purchase without having to pay for it instantly. Rather she could pay within a stipulated interest-free period.

The company providing the facility settles the bill outright with the merchant on behalf of the buyer. The buyer gets to gradually repay in three or more instalments.

Yes, this sounds similar to a credit card facility. But remember, most users of BNPL are not even eligible to get a credit card.

So, it is natural to assume that a company that has BNPL at its core can flounder. Whether its an economic crisis or a steep rise in interest rates, a company in the BNPL space can be most vulnerable.

However, the record profits of Bajaj Finance in the third quarter of financial year 2023 does not fit into that pattern. Of course a quarter is too small a tenure to draw conclusions. However, it certainly suggests the company is doing something differently.

One of the key moats of Bajaj Finance is the pipeline of innovative financing products. What also differentiates Bajaj Finance from banks and other NBFCs the nature of its credit offerings. The company has financing schemes which are product-wise as opposed to plain vanilla finance offered by competitors.

The key reason why Bajaj Finance has been able to retain its credit quality is the use of AI in its financing scheme. The customer is allowed a six month credit based on EMI. The company selling the product offers a discount, which it accounts as marketing cost.

Bajaj Finance acts as financing intermediary in the interim and makes an attractive yield over a shorter loan tenure. This allows the NBFC to fetch significantly higher annualised margins than its peers. The steep margins also provide for possible loan loss provisions, if any.

It also maintains a data rich inventory of its customer base. Bajaj Finance creates clusters of customers based on some of the data points captured. It captures data points such as repayment history of the customer, banking relationships, age, profession, city of residence, educational qualification etc, all using these data points.

Bajaj Finance has created hundreds of clusters for every segment that it lends to. And the result is an AI based credit module that allows the company to use the BNPL model to its advantage. This not only results in premium margins but also keeps asset quality intact.

It also leverages technology to make the most of its existing 'good quality' customers.

Over the decade, the company has added many new offerings such as e-commerce consumer finance, e-commerce seller finance, and warehousing receipt finance. In addition, the company has launched a housing finance subsidiary, Bajaj Housing Finance, to cater to the housing finance opportunity for existing clients.

As the company goes more digital, it has added more categories of financial offerings like mutual funds, pocket insurance, payment, securities, etc. These could continue to offer diversified growth in the coming years.

The point I am trying to make is that even the riskiest business models could be advantageous to companies that exploit the ecosystem well.

Back in 2018, Bajaj Finance envisaged that it will take about four years to build a complete app-based ecosystem. The pandemic phase temporarily put pressure on asset quality and slowed down disbursals. However, thanks to its investments in technology, the company has come out stronger than its peers.

So, the risk in the BNPL ecosystem stays. However, the upside in the fintech megatrend cannot be denied. Being selective about the best players riding this trend can be an attractive mode of wealth creation.

Watch my video on this for more...

Warm regards,


Tanushree Banerjee
Editor, StockSelect
Equitymaster Agora Research Private Limited (Research Analyst)

PS: In tomorrow's edition of the Profit Hunter, watch out for our views on the Union Budget after the Finance Minister's speech.