Cholamandalam Financial Holdings Limited (CHOLAHLDNG) Earnings Call Transcript & Summary

Ladies and gentlemen, good day, and welcome to the Q1 FY '23 Earnings Conference Call of Cholamandalam Financial Holdings Limited hosted by DAM Capital Advisors Limited. [Operator Instructions] Please note that this conference is being recorded. I now hand the conference over to Mr. Pritesh Bumb from DAM Capital Advisors. Thank you, and over to you, sir.

Yes. Thank you, Rochelle. Hi, good afternoon, everyone. We, on behalf of DAM Capital, would like to welcome the management of Cholamandalam Financial Holdings Limited. Today, we have with us Mr. Sridharan Rangarajan, Director; and Mr. N. Ganesh, Manager and CFO of Cholamandalam Financial Holdings; along with Mr. V. Suryanarayanan, MD; and Mr. S. Venugopalan, CFO, Chola MS. Now without further ado, I will hand over the call to Mr. Sridharan for his opening remarks. Thank you, and over to you, sir.

Yes. Thank you. Good morning to all of you. And hopefully, everyone is safe. Your family is fine, and kindly take care. So just a few initial remark. As you know that, it's a consolidation of Chola Finance and Chola Insurance at the Chola Financial Holding level. And to start with, I think the consolidated results consist of Cholamandalam Investment and Finance Company and Chola MS General Insurance as subsidiaries and Chola MS Risk as JV. The total income for the quarter ended June '22 increased by 10% to INR 3,963 crores, while profit after tax increased by 63% to INR 582 crores, primarily due to reduction in impairment charges on loans. The -- on a stand-alone basis, the quarter ended March '22 is -- sorry, June '22 is INR 210 crores. That's against INR 212 crores in the corresponding quarter of the prior year. Profit for the quarter ended June '22 is INR 0.26 crores as against INR 0.93 crores in the corresponding quarter of the previous year. Cholamandalam Investment and Finance Company is well covered, and you have all the required details in the presentation as well as the earnings call. I'll move to Cholamandalam MS General Insurance. Q1 FY '23 witnessed an industry growth of 22.3%, and private sector grew by 33%. Chola MS registered a GWP of INR 1,292 crores in Q1 FY '23 with an increase of 43.3% for the prior year, driven by growth across products, channels and partners. The previous year, the slower growth was also due to the lockdown situation in Q1 of last year. Motor, representing 61% of the portfolio, grew by 35%. Commercial, representing 17% of the portfolio, grew by 44%. And health, accident, travel, representing 11% of the portfolio, grew by 67%. Within motor, 2-wheeler and passenger car share has gone up to 22% and 32%, respectively, compared to 20% and 29% last year. Commercial vehicle has come down from 59 -- 51% to 46%. Volume from new channels, new verticals, OEM and financial channels had a very good growth. The company is continuing to maintain its leadership position in Tamil Nadu and Chhattisgarh and bettering its performance in Andhra and Telangana. Chola MS is one of the leaders in the compromise settlement and be able to save more than 50% level in terms of average [indiscernible]. We have increased the repo rate continuously, which resulted in substantial improvement in the yield for the first investment deployment. However, the NTM value of the existing book would have a negative impact on the profit bookings. The company's long-term policies growth was more. And as per the IRDA direction, the company needed to upfront absorb the full costs for the -- all long-term policies. However, the UPR gets earned over the long-term policies, creating an embedded value in the balance sheet. So with this, I will open up for Q&A, and we will take your questions.

[Operator Instructions] Our first question is from the line of Devansh Nigotia from SIMPL.

So just a couple of questions. Sir, one is, again, when we look at our operating expenses as a percentage of net written premium, so it continues to stay elevated. The run rate is around 41% of net written premium. And when we compare it against Lombard, that's around 30% to 33%; against Allianz, that is 28%; against Royal Sundaram, that is 25%. So I'm just trying to understand. And even like for us before -- 2 years before, we used to do around 30% to 33% of net written premium and operating expenses. So this sharp jump even in Q1 when our operating expenses have been a slog, this run rate is still at a very elevated level. So if you can just give a perspective of where we are doing these investments, that would be really helpful.

Yes. To -- first, let me explain in relation to the past. So since you mentioned about our own past ratios, our past ratios were when we were having the cost spread over the period of the policies. As you are aware, last year, IRDA directed us to absorb it upfront, and we are following the revised method effective April '22. So the number -- our own numbers from the past that you are mentioning may not be really comparable to our rates of last year or the rates of this current year. So that is one. Second is, as I have mentioned even in the earlier calls, strict comparison with the industry players may not be really appropriate, considering that many of them have a larger proportion of crop business, employer-employee group health business and government health business. All these businesses are either on tender basis or because of the inherent high loss ratios that these businesses have, have very low acquisition costs, as in the case of group health employer-employee. This proportion is high for many players in the competition. For us, our presence in all the segments that I've mentioned is very marginal, very, very marginal. And even in the group health employer-employee, our total volume in quarter 1 was only about INR 36 crores of INR 1,290 crores of volumes that we have done. So therefore, we do not have the advantage with respect to the cost to GWP or NWP as others may have. So that is where the difference between competition and us are like.

Sir, but when we -- let's say, if I look at even Lombard, okay, for that, if I look at the sales mix, right, very much similar because they have a very small book of crop insurance. And even within health insurance, which is 20% of their mix, there is a, let's say, 7% to 8% of difference. So at least for Lombard, their mix is very much comparable or probably it is not at such a deviation where we are spending at least 10% higher as a percentage of operating expenses -- as a percentage of net written premium. And even when I look at, let's say, a Bajaj Allianz, even for that, if you look at -- the mix is around 40%, 45%, of that, 20% is health. And within that, some part is your group health. And for crop, there is some portion in there. But if I look at the difference from Allianz, that is -- the difference is around 13%, 14%. For Royal Sundaram also, even if I adjust it for the group policies and crop insurance, even then the difference is staggeringly high. So I'm not able to really understand that -- why there is such a big difference. And even for us, if based on historical numbers, if I adjust 10% of operating expenses and if I elevate it, then what is the ROE targets that we have going forward? If we have to actually increase the operating expense by 10% as a percentage of NWP, that increases our combined ratio structurally by 10%. So if you can just share a perspective here.

Yes. If you were to look at crop, yes, some players have a much larger proportion, some players have in smaller proportion. And it is not my intent to name any player in this call as this is only about Chola MS, but more to give a perspective. Many players have a group health business which are in the range of INR 300 crores to INR 350 crores. These are available in the public domain that both the regulator and the insurer puts out, the accountant puts out. And our numbers in comparison to that is what I mentioned. It is only about 10% of the size of other players in terms of the group health business that they have put up. And as I said, the group health business employer-employee, that's what I'm referring to, generally, at even a cash expense structure, only at 7.5%. So that inherent advantage will always be there, but which advantage is always squared up by a higher loss ratio on the claims spend. So that is the picture there. We do not write the business more as a Board policy in view of the volatility as well as the adverse loss ratios. And therefore, that advantage may not reflect in our cost structure. That is partly in relation to the broader competition comparison. The second is our own business profile is something that I can talk about as good proportion of long-term business. Of course, a long-term business would also get reflected in the net written premium, I don't deny that. It is there, but that proportion has been growing fast. And under the new dispensation of the IRDA guideline, directive, we are absorbing those costs upfront. And as we grow faster, our growth rate on a lawyer base was, as Mr. Sridharan mentioned, was at 43%. But we don't expect that growth rate to sustain at 40% or 43% as we go along. The numbers for even July is out, and we are growing at about 21%. So the full year growth as it stabilizes to a moderate level, we will find that this structure -- expense structure will also moderate.

Sir, for the next 1 or 2 years, if you can -- can you share the target for the combined ratio for next 1, 2 years of the growth and the ROE profile for next 1, 2 years?

While we don't generally make forward-looking statements for the company as such, but then we are looking at end of the year ROE in the range of about 12.5% to 13% is what we will have for the year, considering the -- our own growth plans and the level of growth that we would have by the end of the year. This is the estimation now that has been made by the management internally.

But if you look at, let's say, our investment leverage currently is around 6.5x, which I think the solvency has decreased. And if we are looking at 12%, 13% ROE, then to play the recovery of auto cycle over the next 2, 3 years, the investment leverage will keep expanding because I think our ROE will be lower than the expected growth. So how will this interplay, if you can just share a perspective, considering all the news flow around the recovery in auto cycle and we have a large mix of auto insurance book in our own business? So how do you think this would play out?

You are right about the investment leverage, which is one of the highest in the industry and, therefore, a strong point in terms of the investment corpus and the related yield that it gets per the industry. But there are 2, 3 factors that are developing. One is, as you are aware, the Motor Vehicles Act has been notified effective 1st April. And there are -- both Supreme Court and a few high courts have also confirmed the applicability of many of the provisions that are favorable to insurers for accidents occurring on or after April 1, 2022. So what this would mean is that the speed with which the claims get reported, that is poised to go up. And in the revised procedure, the speed of settlement will also happen. So that is one development which is both positive because the uncertainty of motor TP loss ratios for the future is poised to reduce, one. One impact that we do [ now ] that the cash flow will -- the cash outflow, rather, will be faster towards the end of the year, H2, as we proceed to settle those claims faster. So this is the effect on the leverage. The second dimension is our own ambitions to grow in motor as to what it would be. We are clearly on the path of -- while we will certainly grow strong in motor -- and we are just about the joint fourth largest amongst the private sector in the motor line of business. While we will grow, but the diversification in the balance sheet in terms of business profile will also be to keep continuously reducing the motor proportion. So that also will be happening with growth both on the property side, where even as you can see in Q1, we have grown much faster, and the trend is poised to continue, as also in our traditional businesses of personal accident, which has come back strongly, and retail health, both in the bundled side as well as in the retail side. So the growth in these will be at a faster clip and which will keep reducing the proportion of motor business.

Okay. And -- okay. And in case of -- so this has been notified long back, but this has actually not played out. So I think the -- can you just help us understand on ground how this clear intimation -- I mean, when is it actually going to start playing? Because I think this has been notified 6 months or a year back, probably when the...

We got notified in March as effective from 1st April. Amongst the many provisions that are being notified, the single most important one is the time limit for intimation of a motor accident claim, which is now placed clearly at 6 months from the date of accident. Motor third party, typically, historically, has had a practice of getting reported even up to 7 years, which is what brought out a high level of uncertainty. More importantly, in the amended provisions, the power of courts even to condone a delay has been taken out and which provision has been confirmed categorically by Kerala High Court and in a weird way has also been confirmed by the Supreme Court in some of its recent decisions.

But sir, like you mentioned 1st April '22, it has been notified, right? It's applicable from 1st April '22.

For accidents on -- occurring after 1st April '22.

But sir, my question is how it is actually playing out right now? Because what I heard is that this has still not been playing out, the 6 months' time line. I mean, what is the response that we are seeing from the court and how it is actually playing out right now because we are in August '22 already?

These confirmations by both Kerala High Court and Supreme Court has happened sometime in July. So I'm sure the entire legal fraternity will take cognizance of this. And anyway, even the first claim has time to be reported until October.

Yes. 1st of October.

So we will get to see. Probably, we will clearly have an indication by the month of -- by October and November. We will see as to how this is actually happening in the market. What I meant to say is that these confirmations by apex court has -- is positive for the industry and for any player who has a larger presence in the motor line of business.

Okay. Okay. And in case of -- when we look at the run rate of advertisement and sales promotion, it used to be around INR 60 crores to INR 80 crores up till Q2 FY '22. That increased to INR 130 crores in Q3 FY '22, and it increased by almost INR 100 crores in Q4 FY '22 to INR 183 crores. Now when we look at all this increase, it is only because of absorption in fixed cost, which is happening upfront or we have also structurally increased some kind of ad spends or there is a target to some segments of the business? Because what I see that these are largely -- they have increased in motor insurance only. So as a percent of net written premium, it was, I think, around 17%. So that has increased to 21%, 22%. So is it only the change in accounting which has noted some delta or even we have stepped up our advertisement in some segments? And if at all, any benefits we are expecting from them, if you can just share your perspective there?

See, broadly, this is a combination of multiple factors. One is the absolute increase in volume itself. So we've had a 43% growth, which in absolute terms is about -- quarter-to-quarter is a INR 400 crore accretion. So that strong growth, going by the present industry structure on cost, pulls in an element of cost structure in its multiple forms. So -- and within that, the proportion of the long-term business is even higher. In our -- traditionally, we have been strong and doing good volumes in niche segments, profitable segments of personal accident, dwellings and then health benefits and all of that. And you can see in the Page 49 as to the rate of growth that is there in the PA and health and dwellings will come under the fire segment. So the profile of business that we have been growing has also meant that costs have been pulled in. As to real marketing, proper advertising expenses, which is there, right, there were elements -- for example, in Q1, Chola MS associated itself with the RCB in the IPL. So there were some related advertising costs which were also there, which were expensed off in Q1. Is there anything else?

Yes. It's a combination, as you rightly said. There are expenses incurred on advertisement like Delhi Metro and also in the FM. These are also part of that. Every segment requires a level of campaign and also an increase from the point of view. So the advertising expenses tend to be higher when the volume goes up.

Our next question is from the line of Sanketh Godha from Spark Capital.

Sir, if you can quantify, out of the total company GWP or NWP that you have in the current quarter, how much would be long term in nature, that is benefits-based health or PA or dwelling business as a percentage of the total business? And how much different it is compared to last year? And how it could potentially play out for full year of FY '23?

Yes. Sanketh, the long-term policies which are embedded into the GWP, as you know, it's playing for July 1 previously. So in Q4 2022, we are talking about -- Q1, sorry Q1 '22, we were at 5% level, and it has grown to 10.6% by Q1 2023. Clearly, that shows that the long-term premium embedded in the form of dwelling has been -- PA is growing for us. That growth will have an impact on the cost, as you know that. It is all absorbed upfront into the P&L.

But this 10.3% as a percent of GWP probably, it's because business could be seasonal, and it's got upfronted in the quarter 1. Do we expect for the full year this number to be around 10%? Or therefore, maybe if it comes back to 7% or 8% for the full year, naturally, you'll see a better OpEx ratio to play out in subsequent quarters. Sir, that's my idea why I'm asking the question, whether the number will remain at 10%. Or you can see this number to come out better and, therefore, you can see an improvement in the operating ratios.

Sanketh, yes, let me take this question. So since these are, by and large, profitable lines of businesses, as I mentioned a while ago, in terms of dwellings and PA and health benefit, our intent would be to try and maintain that high proportion because these are inherently and economically profitable businesses. But with -- normally, motor is a larger season as we go along. Q1 is like a leaner season for motor, and that will be much larger as we go along in the rest of the 9 months. That would play out in terms of reducing the percentage. So I would tend to think that the 10.6% may -- could come down to about 8.5% or so when we reach the end of the year position. But our intent would be to grow these businesses.

Yes. Got it. Got it, sir. But as a seasonality factor, as you said, probably it will come back to 8.5% kind of a run rate. That's the way I need to read it, right, sir?

Yes.

Okay. And if you can do the same exercise probably with our OpEx except commission, it was almost INR 3,700 crores. So sir, if you are comfortable, this INR 3,700 crores, how much each towards these long-term businesses and how much each towards the annual policies expenditures? If a rough cut number, whether it is in line with the 10.6% in the OpEx or it is on the higher side? Maybe that will give a picture how OpEx ratio will evolve going ahead.

Yes. Sanketh, refer to Slide #48, where we have explained on a note the -- we have given the 2 costs separately. There is a INR 33 crores of the sourcing cost incrementally. That's a long-term premium embedded cost that is already embedded. It is also including the motor part. And also, it is embedded in the TP part. INR 33 crores is the sourcing cost. Additionally, that has been there in Q1 '23. In addition to that, you know that we have grown at 43% growth, which is because of last year's PAT. That has also got some impact on that. We are on another process to doing Q1 PAT. So of that, there is an impact towards the acquisition being -- acquisition cost being absorbed fully. So that comes to around INR 59 crores there. Together, if you look at INR 59 crores and INR 33 crores, it's fully absorbed incrementally in Q1 2023.

To add to what Venu has said, the annual portion will naturally moderate because there, it will start reflecting in the earnings as we go along. And the growth rate also will not continue at that same clip because on a much smaller base, the base effect is there.

Got it, sir. Yes. But this has -- since you touched upon the growth, quarter 1 growth of 43%, I believe that growth to sustain for the full year might be tough. So I just wanted to understand what is the growth rate we are looking for the full year compared to 43%, what we have reported in Q1? And which segment -- if, in Q1, all products are fired very well, whether there will be anything -- some skew towards some other products from your perspective?

See, rather than putting out a percentage, I would say our growth was 1.9x of industry growth, GI -- excluding the [indiscernible]. If I look at it, it's 1.9x. So we would tend to think that we would still, by end of the year, be at about 1.5 to 1.6x of GI growth. I think that is the kind of growth that we expect. And as I said earlier, our own emphasis in property and the other lines will be larger given our conscious build to diversify and derisk from motor.

Got it. Got it, sir. And just on the loss ratio, see, just wanted to clarify on motor part. For the 76% loss ratio in motor OD seems to be a little elevated despite having mix in favor of a little -- better profitable products like CVs and 2-wheelers, which will be supportive to the lower motor OD loss-making products. Since still we have an elevated motor OD loss ratio, sir, I just wanted to understand if it's more to do with discounting. Or do you see this number to improve going ahead or not? That's point number on motor OD. On motor TP, this 78% loss ratio, naturally, this [indiscernible] clearly has increased. But this 78%, somewhere we have the India benefit. Or it is without India benefit in this 78 percentage? And as India benefit will kick in, this number can potentially improve by end of the year.

Sanketh, you only invite attention. I think you are also reading only from Page 53 of the presentation deck, for the benefit of others. You can see that the motor OD loss ratios have moderated from Q4 levels of 82.8%, but it still is elevated as compared to the past, but by and large, in line with the industry in terms of what other players are experiencing in terms of OD loss ratios as well. Very clearly, the pressure both on discounting is there, and we are also seeing many of the OEMs increasing the labor charges as well as the parts price. So the general increase is between 4% to 6% by almost all OEM manufacturers with respect to material price -- parts price. So this inflationary effect has been there and will probably continue. But the question is how the players are now getting that much more granular in terms of their choices that they make in respect of geographies and subcategories, and Chola MS is also doing forth. So you -- the other advantage that Chola MS will have going forward is that our commercial vehicle business, especially with respect to the financial tie-ups, is slowly restoring back. And when that gets restored, there will be some positive effects to come in the [ OpEx ] side. We can also see the proportion of CVs going up from present level but certainly not up to the levels of what it used to be in the past, in 2018, '19 or even '20. So that is one trend on the motor OD part. On the TP side, yes, this -- obviously, we have not considered any Motor Vehicle Act benefits that are there. On this, we would definitely want to wait and see as to how it actually gets adopted in the marketplace. While the reaction of courts initially has been very positive, as I mentioned earlier, we would love to see it actually pan out and get implemented. At which point, I'm sure our actuaries will take a relook in terms of advising us on what ratios that we should be providing for.

Got it, sir. And last question, on health side, if you can break down the health business. I think you did around INR 138 crores in the current quarter. So can you break it down into benefit-based and indemnity to explain what we have done?

See, INR 138 crores, health benefit would be about INR 74 crores.

Okay. Okay. So sir, the contribution of benefit definitely has gone up in the current quarter compared to last 2 years, right, sir?

Yes. It has gone up.

[Operator Instructions] Our next question is from the line of Pritesh Bumb from DAM Capital.

Sir, just wanted to check on investment yield. We're still at about 6.2%, and it's broadly unchanged from last quarter. So do we see the investment book itself or the yield picking up from here on? And how do we -- I mean, does the profitability start improving without increasing the leverage? That was the first question.

Yes. So can I answer that? Actually, the yield has started increasing, as you rightly said about that. There are 2 things that is happening. The incremental investment is also operationally growing. After the COVID and all is over now, we started accruing to the investments. That is getting deployed at the higher yield. That is clearly as a part of that advantage to Chola MS. Also, the reduction -- and also, we are clearly still talking about INR 380 crores of accretion in the Q1, which is the normalized one. Compared to the previous year, it would be much, much higher. That is -- that shows that we have normalized level of everything. However, the average duration is around 3.6 years. That shows that the current yield seems to be lower basically because of the current investments which are there as a part of -- that is at the lower yield. Hence, the incremental investments are getting deployed at a higher yield. And in fact, in July, after the prices went down, what we have done as a part of the difference [indiscernible] percentage. So basically, that is going to give a clear advantage to the alignment in terms of the investment income.

Sure. Sir, the 3.6 duration means that we will have a large part of investments done in the COVID period itself. That's why the yield is lower because -- it doesn't make sense, right? Because you will have invested at about 5.5% or 6% when the yields were at that levels.

So one advantage of a lower duration mix, because if you compare with the other companies where the duration used to be higher, whenever they invest at a longer duration, it will take much more period for redemption. So that means that they continue to be in the lower yield. But for us, it is 3.6, which also includes 5.3% of lower portfolio is in the bank deposits, which are less than 1 year part of it. So when it gets mature, we get the clear advantage on that particular front. It is a strategy that we adopted in the last year during the COVID that we deploy a major portion of the accretion into the bank deposit of less than 1 year and then redeploy it at the higher yield. So that is really happening now. And those deposits unit is getting matured, is getting deployed at the very higher rate, particularly when the RBI has increased it. Also, all the -- even now, we are not investing in the long term. We are -- though we are increasing the tenure slightly up to get more of the yields, but we are one of the companies who invest not more than around the 4.5 to 5 years as a duration. So that will give us -- the duration risk will be very, very little for us.

Sure. That is clear. Second question was, we mentioned the mix change, which can happen in the motor OD side. Just wanted to check, does the OpEx also change when we do more of CVs compared to the PVs? Does the OpEx also change?

Yes. OpEx will change as we take our foot off the OEM business and move towards more of financial business. So as volumes from financial tie-ups go up, then the pressure will reduce. And also, more importantly, in terms of cars and 2-wheelers, who would have a larger pressure in terms of OpEx, CVs would have more pressure.