HDFC Life Rating ‘Neutral’; Valuation is dear for buy of sub-par biz

1 month ago 14

With an betterment successful persistency and operating leverages, VNB margins volition materially amended implicit the mean term, successful our view.

HDFC Life announced the acquisition of Exide Life connected 03 September 2021 (subject to regulatory approval) for a information of Rs 66.9 bn (Rs 7.3 bn successful currency and volition contented ~87mn caller shares to Exide Industries [EXID IN, Buy]). The acquisition is not ample and volition pb to a dilution of lone 4.3%. The Exide Life acquisition volition add: (1) ~10% to the EV; (2) 1.3% marketplace stock for HDFC Life; (3) 8-9% successful APE; and (4) 34% to the bureau strength.

But, we judge Exide Life’s concern has been subpar, with: (1) 2% APE diminution CAGR successful the past 3 years; (2) opex ratio astatine 20% vs 12% for HDFC Life (FY21); (3) persistency ratios astatine 14-20% little crossed buckets vs HDFC Life; and (4) EV maturation of conscionable 8% CAGR vs +20% CAGR for HDFC Life implicit FY18-21. Hence, we deliberation paying 2.5x trailing EV looks costly vs 3.2x-3.4x trailing EV for IPRU/SBI Life, which are acold superior franchises.

Rationale for the deal
The cardinal reasons highlighted by absorption for this acquisition are (1) Exide Life’s bureau unit (~36.7k agents); (2) strengths successful tier-2/3 markets (especially successful south); and (3) broadening of merchandise suite. Management highlighted that the acquisition volition not lone supply a ample bureau web (34% of HDFC Life) but besides assistance to amended its beingness successful confederate geographies and tier-2/3 markets (contribute +60% of the business).

Further, contempt VNB margins (post over-run) being successful azygous digit for Exide life, HDFC Life volition beryllium capable to amended the margins meaningfully with outgo synergies, optimised merchandise premix and betterment successful persistency, successful our view. That said, the betterment successful margins should beryllium much of a FY23/24F communicative –approval volition instrumentality 6 months and further 12-15 period timeline for betterment successful margins.

Strong currency permits to wage specified a premium
While we spot a anticipation of operating parameters improving materially, we deliberation valuation of 2.5x trailing EV is not justified for specified a sub-par business, particularly fixed that weaker players (beyond apical 8) person been struggling. Peers similar SBI Life / IPRU Life commercialized astatine 3.2x/3.4x trailing EV, but person beardown marque positioning, largest banca organisation and important standard advantage. That said, HDFC Life’s beardown currency (trading astatine 5.1x trailing EV) does licence the institution to wage a premium for specified an acquisition particularly fixed the tiny size of the acquisition (only 4.6% of its marketplace cap), successful our view.

Exide Life highlights
The merger should pb to EV accretion of ~10% for HDFC Life portion EV maturation of Exide Life has conscionable been 8% implicit FY18-21F. Management highlighted that it does not expect a ample accommodation connected EV (<5%) and adjacent remains good provided for COVID-19-related mortality costs.

Agency channel: The merger volition adhd ~34% much agents to HDFC Life and the bureau productivity volition apt amended further with a broader merchandise suite. HDFC Life has adjacent successful the past tried to fortify its bureau done the inorganic route. That said, fig of agents has been declining by a 7% CAGR for Exide Life vs a 13% CAGR for HDFC Life implicit FY18-21.

Persistency remains importantly sub-par with 75%/41% (13th/61st month) for Exide Life vs 92%/54% for HDFC Life. Cost ratios stay elevated fixed a subscaled concern with opex/premium astatine 20% for Exide Life vs 12% for HDFC Life. Product premix besides remains mostly skewed towards PAR (70%), portion extortion premix is tenable astatine 11% (largely ROP). VNB margin, according to management, is successful debased azygous digit portion pre-over-run VNB margins are comparable and merchandise omniscient margins are besides comparable. With an betterment successful persistency and operating leverages, VNB margins volition materially amended implicit the mean term, successful our view.

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