REC: Powering ahead on strong results in Q4 and a healthy outlook

An improving NPA (non-performing asset) situation coupled with a higher loan disbursal has led to renewed interest in non-bank financier REC, which is the nodal agency for major central power programmes such as Revamped Distribution Scheme (RDSS), Saubhagya, DDUGJY, and Rooftop Solar (RTS). REC is a 52.63 per cent subsidiary of public sector listed power financier Power Finance Corporation (PFC).

REC has also diversified its loan portfolio with a mandate of up to 33 per cent of loans in infrastructure and logistics. It has exposure across healthcare, steel infra, IT infra, fibre optics, roads and highways, metro, ports, waterways, airports, and oil refineries.

The January-March quarter (Q4) of the financial year 2023-24 (FY24) earnings of Rs 4,000 crore were ahead of estimates, led by Rs 710 crore write-backs of provisions after two asset resolutions. The net interest margin (NIM) sustained at 3.6 per cent underpinned by effective liability management with 180 basis points (bps) quarter-on-quarter (Q-o-Q) rise in foreign currency borrowings priced at 6.4 per cent, 74 bps lower than overall cost of funds of 7.1 per cent.

The net interest income (NII) increased to Rs 4,490 crore (up 28 per cent year-on-year (Y-o-Y) & 4.6 per cent Q-o-Q) due to strong loan growth and stable margin. A decline in the yield on loans by 10 bps Q-o-Q (due to a change in loan mix) and moderation in the cost of funds by 14 bps Q-o-Q (due to increased foreign currency borrowing) are balancing factors. Disbursement dropped at Rs 39,400 crore (up 6.6 per cent Y-o-Y & down 15 per cent Q-o-Q). In FY24, REC disbursed Rs 1.6 trillion (up 67 per cent Y-o-Y).

The loan growth was 17.1 per cent Y-o-Y and 2.4 per cent Q-o-Q. The non-interest income was Rs 260 crore (due to market-to-market or MTM gains on derivative exposures). Operating expenses growth was at 131 per cent Y-o-Y. The pre-provisioning profit was Rs 4,440 crore (up 27 per cent Y-o-Y & up 6.4 per cent Q-o-Q). The reported PAT was Rs 4,020 crore (up 34 per cent Y-o-Y & 23 per cent Q-o-Q). The gross NPA declined to 2.4 per cent (down 35 bps Q-o-Q) and the net NPA dropped by 5 bps to 0.87 per cent.

The management guidance is 17 per cent top line growth Y-o-Y, with a steady NIM at 3.5 per cent and further reversal of provisions in FY25. The sanctions pipeline seems to tilt toward core power financing assets, namely, renewables (RE), generation and transmission.

Late Payment Surcharge (LPS) and small ticket distribution sanctions are lower than in the previous year, as REC is focussed on the generation portfolio due to the government of India (GoI) targets of 94,000MW capacity installation translating into Rs 3 trillion funding opportunity. Other growth areas include smart meters under the RDSS of DISCOM projects plus the renewables thrust. The GoI-led rooftop solar loan scheme also presents a Rs 30,000 crore funding opportunity. The compounded annual growth rate in loans could be around 18 per cent during FY24-26.

In terms of bad loans, there have been no new NPAs over the last 9 quarters. The likely write-backs in FY25 could include Rs 2,800 crore of asset resolutions which are in the offing (Lanco Amarkantak and Nagai Power). The Q4FY24 saw Rs 710 crore provision write-backs based on expected credit loss (ECL). While Stage 3 loan exposure was stable at 2.7 per cent, REC expects the resolution of nine projects with a dip in Stage 3 and the target is net NPA at nil by FY25-end.

The NPA down cycle - which has led to better asset quality, strong growth visibility and stable NIMs - makes REC quite attractive with provision write-backs adding to the bottom line.

Most analysts have upgraded valuation targets for FY25. Five out of six analysts polled by Bloomberg post-results are bullish on the stock, which has surged over 20 per cent since 29th April (results were announced on 30th April during market hours) to Rs 557.65 now. The remaining one analyst has a hold rating. Their average one-year target price is Rs 590.