Stock Review: Power Finance Corporation (PFC)

The current valuations do not fully discount PFC's growth potential. Investors with a long-term perspective can consider this stock

   WITH a market cap of 37,761 crore, Power Finance Corporation (PFC) is one of the leading non-banking finance companies (NBFCs) in India. Set up in 1986 as a financial institution, the company was later registered as an NBFC by the Reserve Bank of India. The company was conferred the status of a navratna public sector undertaking in June 2007.

BUSINESS:

PFC is mainly in the business of financing power companies. While PFC focuses on companies that generate power, it also lends to firms that transmit and distribute power. It was given the status of infrastructure finance company (IFC) in July 2010. Now, PFC can obtain higher bank and overseas funding and also raise additional capital through issuances of long-term bonds. This will help it curb rising costs of borrowing when interest rate increases.

FINANCIALS:

PFC has an average net sales growth of around 21.6% over the past four quarters year-on-year on the back of high disbursement growth of the company. Disbursements have grown at an average of 57.4% during the same time. However, this has not trickled to its bottom line as the net profit has grown by an average of 13.4% in the past four quarters, mainly due to higher interest and employee costs. The company's asset quality is one of the best in the non-banking space. Nonperforming assets are negligible at the gross level. This leads to lower provisions for bad loans thereby helping the company make better use of its funds elsewhere. Net interest margin (NIM) of the company has been hovering around 4% for the past eight quarters. NIM measures the difference between the company's costs of borrowing and lending. As per the management, 88% of the company's assets are floating in nature and 73% of them get re-priced every three years. On the liability side, almost a third of its funds come from banks. Thus there could be short-term pressures on its NIM, if banks raise the interest rates on the loans extended to the company.

GROWTH PROSPECTS:

The company has a pipeline of 1,63,666 crore of loan sanctions as on September 30,2010. This will drive the disbursements of the company further. Moreover, it is also consciously increasing the share of private clients in its portfolio. This will increase the yields, which will help it maintain spreads between borrowing and lending costs in a rising interest rate scenario. It has shown good asset quality till now. However, this shift in the client mix could lead to a rise in bad loans. As per the management, the company plans to expand its business by creating subsidiaries. PFC has already proposed separate subsidiaries for renewables financing and consortium lending. It is also looking to foray into the banking space and is in the process of appointing a consultant to advice it on its entry into the banking domain. The company has been chosen as nodal agency for development of ultra mega power projects and restructured – accelerated power development and reforms program (RAPDRP) launched by the ministry of power. Moreover, it has also signed a memorandum of understanding with Nuclear Power Corporation of India (NPCIL). Under this, PFC would help NPCIL in getting both debt and equity financing along with the consultancy services for NPCIL's large capacity addition program. These will drive profitability by generating high fee-based income or other income of the company.

VALUATION:

PFC's stock is trading at its all time high valuations of 2.4 times of its book value. However, the stock is still trading at a discount compared to its peers such as Rural Electrification Corporation, which stands at 2.5 times its book value. The stock, hence, is relatively cheap. Moreover, the stock's beta stands at 0.6. This means that the stock is less volatile compared to the benchmark indices and therefore is less risky. The company has reported robust performance in the past four quarters on the back of a strong disbursement growth, high margins and a superior asset quality. Thus the current valuations do not fully discount the company's growth potential. Investors with a long-term perspective can consider the stock.