Reliance Capital (RCFT IN, INR 1808, Book Profits)
Three-fold increase in stock price in a span of six months...
Reliance Capital has outperformed almost all stocks in the financial services space during the past six months. The stock rose three-fold during this period (we initiated coverage in March 2007 at INR 640) and has outweighed our and Street's expectations over the past two quarters.
...led by exponential growth in its existing businesses and strong traction in new businesses
We believe, key triggers of Reliance Capital's stupendous performance on the bourses were:
Ø Exponential growth in existing businesses
· 46% YTD growth in mutual fund AUM; it has crossed the INR 670-bn mark (compared with 34% YTD growth for Pru ICICI and 17% for UTI MF).
· Improving market share in life insurance to 5.8% (from 4.9% in FY07), recording APE of INR 3.7 bn YTD (compared to INR 7 bn for FY07).
· Writing 17.5% of YTD industrywide gross premium in the general insurance segment (10% in FY07) and registering 200% YTD growth in GWP to INR 8.1 bn (INR 9.1 bn of GWP for FY07).
Ø Newly launched businesses gaining strong traction
- Reliance Capital's retail broking business (since its launch in April 2007) has gained strong traction; it is registering average daily trading volume of INR 11 bn (equivalent to volumes of India Infoline and compares favorably with other established players). Its retail customer base is in excess of 100,000.
- The consumer finance business has been launched in four metros and the company plans to have a pan-India presence in the near term.
Ø Another key trigger has been active investor interest created through increased coverage on the stock by a number of brokerage houses in the past few months, supported by phenomenal returns the stock has generated in the past one year. Many investors now view Reliance Capital as a pure play on the rapidly expanding financial services space (ex-banking).
Ø Boost from group company stock price rally: 75-80% of the current value of Reliance Capital's quoted investments flows from Reliance Group companies, viz., Reliance Industries, Reliance Communication, Reliance Natural Resources, Reliance Industries Infrastructure, the stock prices of which have seen a sharp rally, thereby boosting Reliance Capital's valuations.
What lies ahead?
Undoubtedly, we are positive on the company's overall business performance. We expect its asset management segment to grow by 45% over FY07-10E, market share in life insurance to improve significantly to 10% by FY09E and 11% in FY10E, and the GWP in general insurance to grow aggressively at 100% plus over FY07-09E. Moreover, we expect the company's retail broking business to generate a profit of INR 1,050 mn by FY09E and INR 1,575 mn by FY10E, and its consumer finance book to grow to INR 94 bn by FY09E and INR 153 bn by FY10E.
Do current valuations capture medium-term visibility in its businesses? Yes
Despite being positive on its business growth, the concern that current valuations defy near-term growth targets dominates our thought process at the price of INR 1,850 plus. We believe the stock's recent performance has priced-in aggressive growth targets in existing businesses and its endeavor to be the leader in the financial services space. The price also captures the possibility of the company venturing into complementary businesses like investment banking, institutional broking, asset reconstruction, etc. Our sum-of-the-parts (SOTP) framework gives us the fair value of INR 1,553 on FY09E and INR 1,835 on FY10E. Even considering the best-of-estimates, we arrive at a fair value of INR 1,913 on FY09E basis. We, therefore, recommend investors to book profit at these levels and re-enter at lower levels. We believe Reliance Capital's stock price has always included some "sure execution premium", which has increased significantly.
What you are likely to miss if you book profits now
· The company currently owns 100% of the life insurance, general insurance, and AMC businesses. These businesses have achieved significant scale and the company could now possibly resort to minority stake sale and get in new partner(s). This may act as a positive trigger and provide some benchmark valuation; but we believe this has been factored in in the price. Moreover, listing or strategic stake sale of its broking arm may be a possibility.
· We have not built in the valuation of expected-to-be-launched businesses--investment banking, institutional broking, asset reconstruction, and re-insurance business. Again, visibility on the same is not lacking at this moment.
· Venturing into complementary markets/businesses has not been factored in at the current stage.
· Reliance Capital has huge exposure to the media/entertainment industry through investments in Adlabs Films, ENIL, Global Broadcasting, Inox Leisure, TV Today etc. Any integration/consolidation of investments in various verticals of the media industry or other similar developments could act as a positive trigger.
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