Is Bajaj Housing Finance Perfectly Priced? Here’s What Could Happen Next

On September 12, the company conducted its initial public offering (IPO) at a price ₹70 per share. That’s a valuation of 3.72 times book value.

The closing price on the quotation day, September 16, was ₹$165 per share, or 8.77 times book value.

The closing price on September 17 was ₹$181 per share, or 9.6 times book value.

This means that in about five months, Bajaj Housing Finance Ltd went from 1X its book value to 10X its book value!

With a price to book ratio of 10, BHFL’s market capitalization has reached a staggering level ₹1.5 trillion. This is the combined market capitalization of the 10 largest housing finance companies, excluding HUDCO.

Here are some more details that prove this is absurd.

BHFL’s Assets Under Management (AUM) is 21% of the total AUM (total loans advanced) of these 10 housing finance companies. BHFL’s Return on Equity (ROE) of 15.1% is roughly the same as the average ROE of the top 10 housing finance companies. However, the average Price to Book ratio of the top 10 HFCs is 3, while BHFL trades at 8.7 (as of market close on September 20).

Here’s why valuations are high and unlikely to stay that way.

The valuation of a housing finance company is influenced by many factors, including:

• Good asset quality (low gross non-performing assets and low net non-performing assets).
• Profitability (ROE).
• Increase in earnings per share or book value per share.
• Pedigree of the promoters.

Let us discuss each factor in the context of Bajaj Housing financing.

Asset quality

Bajaj Housing Finance has five business segments with a total value of ₹97,000 crore in AUM at the end of June. AUM has grown at a staggering 40% compound annual growth rate (CAGR) since 2019.

Mortgage lending grew at a healthy pace, but other segments contributed to the high growth in assets under management over the past two years.

During this period, the structure of assets under management changed in favour of discounted lease payments and development financing.

Rent discounting is a loan to property owners. It is secured by the expected future rental income from leased properties. Development financing is a loan to property developers. It finances the construction of residential or commercial projects until the units are sold.

BHFL has grown both these segments in terms of both value and volume.

So far, asset quality in both these segments has been near perfect. In the June quarter, gross non-performing assets were 0% for LRD, 0.15% for development finance and 0.28% for mortgages. This is the best it can be. GNPA measures the percentage of loans that are past due more than 90 days.

Profitability (return on equity)

The company has increased its ROE from 11% in FY22 to 15.2% in FY24. This is in line with the average ROE of top 10 housing finance companies, excluding HUDCO. However, many housing finance companies have higher ROE than BHFL, so it does not stand out in terms of profitability.

According to a report by PhillipCapital, a firm with an optimistic view on equities, the expected return on equity (ROE) for fiscal year 27E is 12.4%. Does a housing finance company with an expected return on equity (ROE) of 12% over a three-year horizon deserve a valuation of 8-10 times book value?

Growth

Without a doubt, growth is an important part of BHFL’s story. Growth in the past has been extraordinary. In FY19, just a year after the commencement of operations, AUM stood at ₹15,000 crore. At the end of June 2024, the AUM stood at ₹97,000 crore, representing a 40% CAGR in sales over about five-and-a-half years.

While the red herring prospectus does not provide book value per share data going back to 2018, it has been growing at 14.8% over the past two years. AUM growth has averaged 30% during this period. According to a report by PhillipCapital, BVPS is expected to grow at a CAGR of just 8% from FY24 to FY27.

Investors buying at these levels need to acknowledge these shortcomings. AUM growth has been remarkable, but book value per share growth has not been as impressive. It is also not expected to grow more than 8% over the next three years. That makes sense. At 15% ROE, a housing finance company should be growing close to 15%, not more. The company needs to get outside growth capital. But that would dilute the shares of current shareholders.

However, if BHFL manages to raise capital at 8 times the book price, it would be great for the shareholders as they would get ₹8 for every Re 1 of book value it dilutes.

The promoters’ reputation is also excellent. But will savvy investors pay 8 times book value for a quality housing finance company? And if the stock is priced perfectly, earnings growth will have to do all the hard work to justify the valuation.

Note: The purpose of this article is to provide interesting charts, data points, and thought-provoking opinions only. It is NOT a recommendation. If you wish to consider investing, we strongly recommend that you consult with an advisor. This article is for educational purposes only.

For more analyses like this, read on Profit Pulse.

Rahul Rao has been investing since 2014. He has helped lead financial education programs for over 150,000 investors. He helped set up a family office for a 50-year-old conglomerate and worked at AIF, focusing on small and mid-cap opportunities. He evaluates stocks using an evidence-based approach and first principles rather than comforting narratives.

Disclosure: The author and his dependents do not own any shares mentioned in this article.