Robust earnings growth likely over next few years; ‘Buy’ rating with TP at Rs 350.
Edelweiss hosted analyst day focused on wealth management (WM), asset management (AM) and distressed assets businesses. EDEL believes that while these businesses have seen good growth in recent years, most of the businesses still have long room for growth. It continues to invest in people and technology to capture the future growth. With improving scale, profitability should also improve. Across businesses they are trying to leverage the strength of EDEL platform for origination and cross-sell.
WM growth outlook positive
WM in India has matured over the past few years and is now no longer only about investment management. New areas like estate planning, ESOP financing, etc. are emerging. EDEL is focusing on growing UNHI as well as Affluent segments. As of Q3FY18 EDEL is among the top three in WM with AuA of ` 847 bn. EDEL expects advised wealth AuM in India could grow 4x from $250 bn in 2018 to $1 trn by 2025.
Alternatives to drive profitability in AM
EDEL AMC AuM rank has improved to 23 as of March 2018 from 36 three years back. Over the next 12-18 months EDEL expects to move into top 15. While MF business is growing at a healthy pace, alternatives are also gaining prominence. In Alternatives, EDEL is now a leading player in the private debt space across special opportunities, real estate credit and distressed asset credit. EDEL believes that in terms of profitability, 1 dollar of alternative AuM is equivalent to 3-4 dollars of MF AuM.
Distressed assets not “dead assets”
In distressed assets the focus has been on acquiring operating assets with viable business models. EDEL does pricing with an intention of making 17-18% p.a. IRR. It believes that this is achievable from a combination of management fees and regular interest servicing. The key is to acquire an operating asset at adequate haircuts, such that collection and carry can potentially add to IRR. In some of the IBC cases from the first RBI list which are being discussed currently, recoveries are likely to be higher than their initial estimates. EDEL remains confident of delivering 4-5% RoA in this business.
We rate Edelweiss Financial Services as Buy. We see a strong earnings growth trajectory over the next few years, led by higher operating leverage from non-credit businesses. We also see a strong growth runway in its credit businesses. A rising return profile should also support additional re-rating in the stock.
We value EDEL on a 2-stage Gordon Growth valuation model. Key assumptions
are: cost of equity of 13%, normalised RoE of 17%, growth during stage-one of 24%, and steady state growth of 4%. This gives us a target multiple of 4.2x PBV/26x PE, which we multiply by Mar’19e adjusted BVPS (adjusted for net NPLs)/Mar-19 EPS to get to our target price of `350. Key downside risks that could cause EDEL shares to trade below our target price include: (i) asset quality pressures, (ii) slower than expected credit growth, and (iii) headwinds in the capital markets and asset management businesses.