Five Star Business Finance shines bright with 37% AUM growth in Q4 but risks remain

Five Star Business Finance Ltd, a non-banking financial company (NBFC), reported strong results with a 37% year-on-year (y-o-y) growth in assets under management (AUM) for the March quarter (Q4FY23). Growth in AUM, at 6,915 crore, was primarily driven by a 72% y-o-y increase in loan disbursals due to branch expansion and a rise in the average ticket size of loans. The management is optimistic about maintaining growth momentum and expects over 30% AUM growth in the medium term through branch expansion. Five Star aims to add 50-60 branches annually.

The company’s robust asset quality metrics offer further reassurance. Despite lending primarily to daily wage earners from tier 3 to tier 6 regions, Five Star’s gross stage 3 assets stood at 1.36% in Q4, lower than the 1.45% recorded in Q3. This is in part because the company’s loans are 100% secured, and its strong track record of collections means stable asset quality is likely to be maintained.

Following the announcement of results on Tuesday, the stock has risen about 2%. In fact, the share price has increased nearly 11% since its listing on the bourses on 21 November.

However, risks remain. Like other NBFCs, Five Star may be affected by rising cost of funds. Although the company’s average cost of borrowing dipped sequentially in Q4 due to repricing of older, higher-cost funds, further decline will likely be minimal. The management plans to pass the benefits of lower funding costs to customers through lower yields, and operating expenses may increase as the company invests in technology and branch expansion. Consequently, while the net interest margin (NIM) remained largely flat at 18.5% in Q4, it is expected to contract 200 basis points over the next two quarters.

Analysts also worry about the likely volatility in income. As Kotak Institutional Equities’ analysts point out, “Lending to the lower end of the market at high yields makes the business vulnerable to income vagaries; we expect its early bucket indicators to be more volatile as compared to affordable housing peers, even as asset quality parameters continue to improve for now. We build in 1% credit cost (0.3% in FY2023) and 1-year lagged gross stage-3 loans of 2-2.5%.”

Despite these concerns, Five Star’s diversified portfolio mix, focused branch expansion, strong local market presence, and robust underwriting and collections are key strengths that should support future growth.

According to Nuvama Institutional Equities, “Five Star’s market opportunity in lending secured, small-ticket loans to the unbanked, small entrepreneurs is huge at 22 trillion as per CRISIL Research against its low market share of 2.7%.” The brokerage has adjusted its earnings and revised the stock’s target price to 720 from 710, based on 3.6x book value FY25E. It is worth noting that Five Star’s shares have fallen approximately 21% from their high of 687.70 apiece on 7 December.

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