Shriram Transport – Safe play on SME finance

This is a long overdue post. I completed my analysis somewhere in Feb 2014, but could never find time to post. There is a popular saying that often one thing leads to another. That is how I discovered STFC [Shriram Transport Finance]. When I begin my value investment journey two years back, there were few sectors which were strictly in the restricted list. Banking and NBFC were one among them. Then three things happened. First as part of my special situation investments, I came across an interesting open offer of a  micro cap company called Intec Capital.  This situation was providing pre-tax return of 15%, which was excellent for an open offer. So before making a big bet, I decided to do little extra analysis. I was very impressed after reading their annual report. The most interesting point was that they were financing standard machinery for SME WITHOUT any guarantee and security. I decided to study all the NBFCs which lend for COMMERCIAL purpose to MSME [Micro, Small & Medium enterprises]. This exercise lead to the discovery of Shriram City Union & Shriram Transport [I did not like other NBFCs like Bajaj Finance, Mahindra & Mahindra Finance, Magma Fincorp etc for various reasons, which is a matter for another post]. Secondly I came across an article in Forbes India, which explained that despite being a commodity business, how banking sector has created huge wealth for shareholders over last few decades and explained how this sector provides a natural hedge against inflation. Finally I read Prof Bakshi post on STFC, which provided few clues to the excellent business model of STFC.

I shortlisted three NBFCs for detailed study 1) Intec Capital 2) Shriram City Union Finance [SCUF] & STFC and ended up liking STFC the most.

SCUF:

SCUF has excellent management and size of opportunity is huge for SCUF. Now that I am following a concentrated portfolio, my key criteria is that even in the WORST CASE scenario the probability of company going down should be very low. There is no debate about the size of opportunity but I am not sure how SCUF will cope in a severe credit crisis. You can view management interview of SCUF on Valuepickr [You need to register to read interview.]

You can download SCUF mindmap from here. Below is the summary of my key concerns on SCUF

SCUF vs STFC

[Click on the image to enlarge]

I prefer businesses like Gruh Finance, where company takes pain to analyse business of each of its customers. Read this article. Let me highlight an excellent para from this article

What helps GRUH is its decade worth of experience in dealing with such buyers. It knows how much a taxi driver would make. So, if a taxi driver says he owns the taxi, GRUH can check prior loans to see if what he makes sounds accurate. If he doesn’t own but rents the taxi, his salary is different. Different weightages are given in each case. The value of the taxi permit is also counted.” – I would say, Gruh is checking base rate of probability.

You can download summary of my comments on SCUF from here, which I posted on few public forums.

Intec Capital:

This is still a work-in-progress. Management is not very open to interact. But as explained by experienced investors here, this should NOT be chief reason NOT to invest. You can download mindmap summary from here.

You can also download summary of comments which I made on various public forums from here.

Main concern of many investors is around management. I have reviewed last 10-15 years annual report of Intec and have not come across any action which is blatantly against minority shareholders. I have also not come across any related party transactions or instances of excessive pay. I would like to reproduce a quote of Mr. Basant Maheshwari from his excellent book “The Thoughful Investor”

While is is important to be cautious on management pedigree it is also essential not to be unduly suspicious unless an investor has serious reasons to doubt the integrity of his senior business partners (promoter). In the absence of any indication to the contrary an investor while evaluating the management should generally follow the theory that a person is innocent till proven guilty because most of the debate on management quality happen around the small caps whose potential for gains remain multifold and hence the costs of exiting an investment due to faulty judgement is very high.

Shriram Transport Finance:

 has done a good post on STFC. If you are not aware of the company, take your time to read about the company here. 

You can download the complete mindmap summary of STFC from here…[certain figures like PB are little dated]

Below are few highlights from the STFC mindmap

Reasons to buy

STFC_Reasons to buy

[Click on the image to enlarge]

AuM continue to grow despite deep contraction in heavy CVs in 1992, 1998 & 2008

STFC_AuM continue to grow

Even after more than 30 years, where is the competition ?

STFC_Where is compeition

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How do you make lending to DEPRECIATING, CYCLICAL AND MOVING asset profitable? STFC numbers speaks for themselves. 

Despite lending to so-called sub-prime lenders, credit costs [bad debts plus provisions] average for last 10 years is less than 2%. Bad debts as % of gross AuM is less than 1%.

STFC_Strong moat reflected in profitability

[Click on the image to enlarge]

What can kill the idea

STFC_What can kill the idea

[Click on the image to enlarge]

You can download STFC data dump from here. It has extracts of annual reports, transcripts and some data from analysts reports, which I found interesting. Few interesting stuff in the data dump are 1) Opportunity Size and growth drivers – page no. 56 onwards 2) Accounting of Securitized assets, its provisioning and how off-balance sheet items make reported NPA figures misleading – page no. 78 onwards.

Conclusion

My main reason for preferring STFC over SCUF is STFC focus on the earning capacity of the asset, whereas entire focus on SCUF is on the security provided by the borrower. I am constantly reminded of the following words of the father of value investing, Benjamin Grahim

Safety is measured not by specific lien or other contractual rights, but by the ability of the issuer to meet all of its obligationsThe bondholder usually has a lien on a railroad line, or on factory buildings and equipment, or on power plants and other utility properties, or perhaps on a bridge or hotel structure. These properties are rarely adaptable to uses other than those for which they were constructed. Hence if the enterprise proves a failure its fixed assets ordinarily suffer an appalling shrinkage in realizable value. For this reason the established practice of stating the original cost or appraised value of the pledged property as an inducement to purchase bonds is entirely misleading. The value of pledged assets assumes practical importance only in the event of default, and in any such event the book figures are almost invariably found to be unreliable and irrelevant.

This ability [ability to service loan & interest]should be measured under conditions of depression rather than prosperity.

Disclaimer

  • None of the material posted should be regarded as advice to buy/sell any stock. I do not have any proven stock performance record to talk about.
  • As a professional investor, I may or may not have positions in stocks discussed.
  • Main objective is to seek contra views and not to recommend any particular stock as buy or sell.
  • All the posts on this blog, including this one, are for educational and discussion purposes only.
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5 Responses to Shriram Transport – Safe play on SME finance

  1. journoshiv says:

    interesting perspective on Shriram Transport. Awaiting your take on Bajaj Finance which i hold. also what do you think of Repco Finance. Well known investor Basant Maheshwari has a lot of positive things to say about Repco. Am looking for a contrarian view since the company is on my watchlist.

    Like

  2. Hey, Excellent post Anil, quite informative, your mind maps are excellent – how do you prepare them.

    Like

  3. Pingback: Sustainable Moat: Five force analysis is NOT Enough | ContrarianValue Edge

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