UGRO Capital Limited (511742) Earnings Call Transcript & Summary

[Audio Gap] And a warm welcome to you all. My name is Shreepal Doshi from Equirus Securities. We thank the management of U GRO Capital for allowing us to host their 3Q FY '20 result update call. On behalf of the company and Equirus Securities, I would like to thank you all for participating in company's earnings conference call. On the call from management, we have Mr. Shachindra Nath, Executive Chairman and MD; Mr. Abhijit Ghosh, CEO and Director; Mr. Kalpesh Ojha, CFO; and Mr. Vivek Seshadri, Head of Strategy and Investor Relations. We will start with the opening remarks from the management followed by Q&A. Over to you, sir.

Thank you, Shreepal. This is Shachindra Nath. I'm Executive Chairman of U GRO Capital Limited. Let me start with my opening comments. The challenging macroeconomic condition for the lending sector, particularly the NBFC, has persisted in quarter 3 FY '20. With uncertainty regarding resolutions on ILFS, DHFL, Reliance and the newcomer Altico as well as continued lack of sufficient liquidity. This has been exaggerated in the SME space by elevated NPA level, making borrowing that more expensive. However, we are pleased to note that U GRO continues to navigate these rocky waters well, thanks largely to our conservative credit approach at this time. We strive to maintain our steady and controlled growth going forward, scaling at an excellent pace, while concurrently ensuring that our loan portfolio is this time. Our aspirations of building in highly technology-driven small business financing platform with a portfolio of construct, which is reflective of a traditional NBFC. We are gradually moving towards a high degree of digitization in our business. And over a period of time, our technology prowess with portfolio conservative approach should not only give us the scale and operating leverage, but also create a highly robust portfolio. Moving on to the quarter. This quarter saw us reached INR 1,073 crores of total disbursal and closing assets under management of INR 753 crores, which are excellent figures to have achieved only in 1 year of lending operation, let alone in the current market conditions. This quarter saw the launch of our direct digital channel, GRO-Direct, which we anticipate will become revolutionary method to provide eligible customers with a nonintermediated access to financing. The beta launch of GRO-Direct in December was limited to only 2 of our subsectors, and yet, we have already achieved our first disbursal through this channel. Quarter 3 has seen us to take great strides towards achieving full potential of our 4-pronged distribution model. Not only we have commenced the final remaining channel in digital lending, we have also disbursed our first loan against machinery. These are proteins of our vision to provide the broad set of products with the highest level of specificity possible to Indian SMEs. We continue to disburse at a similar rate to quarter 2 with a slight drop in the disbursal number from INR 402 crores to INR 372 crores in that -- and that is accounted for by our desire for conservative portfolio construction, particularly for the first INR 1,000 crore of our assets under management. Our AUM growth has progressed well and now stands at INR 753 crores, up from INR 575 crore at the end of the last quarter. It is spread across 7,512 loans for a highly granular average loan size of INR 10.6 lakhs. Our traditional channel continues to perform efficiently. We have increased our GRO Partner network by 34% quarter-on-quarter to a total of 311 spread across key SME clusters in India. Our GRO-Plus app is undergoing continual improvement, and this is being reflected in superior turnaround times. Our ecosystem channel saw growth in this quarter with 5 incremental anchors added, bringing the total to 21. As a result, we have been able to onboard 62 more vendors and increase our supply chain finance asset under management by INR 41 crores. We have also started building partnerships to disburse loan against machinery, with a partnership already signed with Ace Micromatic Group. Development is ongoing for growth chain, which will be an all income passing platform to facilitate end-to-end supply chain financing when launched. The BFSI channel has seen significant success with our first secure colending disbursed in November through our partnership with CIHL. We have now disbursed both secured and unsecured loans through our colending partnership, setting the table for tremendous growth opportunity in the future. We are also very proud to have announced coregulation partnerships on the liability side with ICICI Bank, the largest private sector bank in India. ICICI Bank joins both State Bank of India and Bank of Baroda as a premier financial institutions who have placed their trust in our ability to source and underwrite a high-quality book. The biggest development for us this quarter was, of course, the beta launch of our direct digital channel GRO-Direct. This is a project we have been working on for a long time, and this quarter saw the completion of both our web-based and chatbot-based journeys, the former of which is now live, while the latter is awaiting API integration. While we are undoubtedly delighted with the successful release of GRO-Direct, we have ambitious plan for this channel and what we believe can revolutionize the SME lending space, and we can't wait to share our progress on this front with you going forward. Our overall portfolio is well diversified by geography and sector and 2/3 of our book is secured, all of which are how we would like them to be. The performance of our portfolio is excellent, and our GNPA stands at less than 1% despite our book now showing some vintage. On the liability front, we have raised a total of INR 194 crores from several institutions, including Kotak Mahindra Bank. This number has been modulated by an amount of cash we have had on hand, and we expect to be able to significantly grow this number in the quarters ahead. Our capital structure underwent some changes as Samena Capital, one of our shareholders exercised INR 66.2 crores worth of warrants this quarter, which we saw as a capital infusion. With this, there are no longer any further diluted instrument outstanding. U GRO's financial performance saw a monumental shift as we have achieved profitability within 1 year of commencing lending operations. The company's network now stands at INR 901 crore and our net income has increased by 15.4% quarter-on-quarter to INR 23.7 crores. Our quarter 3 PBT stood at INR 5.8 crore, driven by a combination of rise in revenue and falling costs. We remain highly liquid, which we consider a necessity in these times of constrained and expensive liquidity. Overall, we are happy with the direction of the company, as we've seen, we are taking the right steps, and this is getting reflected in our performance over time. We hope that you will keep faith with us and afford us to demonstrate the culmination of our collective aspirations. Thank you all. Over to you, Shreepal and the Equirus team.

I think we can take the question-and-answer queue.

[Operator Instructions] The first question is from the line of Anadi Kaistha from Vivriti Capital.

Congratulations to U GRO team for the good set of numbers in this quarter. Sir, my questions are -- there are a couple of questions which I want to ask. First is regarding this average ticket size. So if I would see this average ticket size, so it has increased for secured and unsecured both the -- in both the segments. So what is the reason for that? Because taking the current scenario, everybody is going for smaller ticket size. So can you please throw some light out on that?

If I understand correctly, you're saying our average ticket size from last quarter has increased. Is that what your question is?

Yes, sir.

I don't think so that is the case. Vivek, can you confirm?

Yes, it changed slightly to the north, and that's nothing to do with -- it has nothing to do with our difference in strategy, et cetera. It's just to do with the originations. Obviously, quarter-on-quarter, those numbers -- the origination mix, the channel mix changes a lot. This time, the emphasis was more around the traditional branch-led channels and the ecosystem-led channel vis-a-vis the partnership-led channel, and that's the reason why you're seeing the increase in ticket size.

Okay. So -- because -- but is the market trend right now is like -- but I have seen that ticket size is likely coming down for all the companies in the same sector, like for secured and unsecured. So this was a little bit surprising. And again, the average yield is also coming down. Like in Q2, the average yield was 12.7%. Now in this the average yield is 11.9% for secured loans. In case of unsecured, it is again, against 18.8%, it's 18.3%. So is there any kind of cost or borrowing benefit which is being passed on to the clients also?

Sorry, I couldn't understand what you're saying. The last part of the question, I didn't understand.

No, Vivek I'll take this. So let me give you a broader strategy and that will give you sense of how our portfolio get constructed. As we explained that U GRO has a 4 different broad-based channel strategy, we have a channel, which we call intermediated or our traditional direct channel, which is driven by a platform called GRO-Plus. The second channel is our ecosystem channel, which is our supply chain finance. Third is our BFSI channel, wherein we colend with the smaller NBFCs. We also look at -- looking at their portfolio and providing liquidity through that. And fourth is our digital channel, which has not started yet. So the average ticket size is the function of in a quarter which channel has done well. Our core intermediated or traditional challenge is in secured ticket sizes of anything between starting from INR 50 lakh to a INR 3 crore. And our BFSI colending channel provides a much granular portfolio. In the last quarter, our -- we had a defined strategy to build our direct channel sourcing much bigger than our indirect channel sourcing, and that's why there is an incremental ticket size upgrade. If these average yield would keep -- average portfolio ticket size would keep changing depending upon which channel we have utilized for onboarding the customer base.

Sure, sir. Sure. My second question is with respect to the employee expenses. So employee expenses are highly fluctuating. Though it is growing, and we are hiring new employees also. But still, like if I see -- so in Q1, it was INR 11.2 crore; in Q2, INR 14 crore; and in Q3, it's INR 10 crore. So is there any specific reason of decline in employee cost in Q3?

Yes. So look, last year was our build-out year, so as the current year itself. And in our build-out year, we -- there are certain costs of -- with respect to employees, for which we do provisioning. And then we change those provisioning norm depending upon what we see would come as an actual expense. So assuming that we are at the end of the last quarter of the financial year, some of the provision which we have done towards benefit of employee pool, we thought that, that would not actualize and that's why those provisions has reversed, and that's why you see a fluctuation in the employee cost. But what you are seeing, at least for next 2 quarters, is our run rate cost.

Okay, sir, fine. Sir, with respect to operating expense, which is mentioned in the deck that there were some specific costs due to which operating cost was high in Q2. So can I get some sense what kind of operating expense was that?

Where you are reading that? On the deck, which page?

Yes. Let me take that. So last time around in relation to the setup of the company, we had incurred -- we continue to incur certain legal costs, certain hiring-related costs as well. That -- those are all onetime costs, which are relating to foundation. For instance, we needed to draft multiple customer agreements. There were certain new employees hired because of which there was a fee paid to headhunter, so on and so forth. Those costs have gone down to 0 in this quarter, and this is going to be a steady-state expense going forward, if you will. So in the last presentation, these expenses were specifically called out.

Okay. Fine. Fine, sir. And sir, one last question with respect to the concentration. So what would be the roughly concentration of top 50 clients in the book?

Sorry, we can't get your question. Can you repeat?

Sir, I'm asking with respect to the concentration of clients, so what would be the roughly concentration of top 50 clients in the total book, total AUM?

No. I think he is asking some top 50 client concentrations. Sorry, I can't...

So we'll get back to you those numbers -- with those numbers offline. We don't have those numbers handy with us right now. But that is not going to be a very high number. It will be less than 15% of the book.

Fine, sir. Fine.

Yes. But just to broadly on answer, our sectoral distribution of our portfolio is very diverse. The highest being roughly around 18%, which is food processing and then going downward. Secured is 67%, unsecured is 33%, and geographical dispersion is also very, very broad, highest being 12% in Gujarat and lowest being 1% in many states. So from both sectors as well as geographical dispersion, we are very granular.

The next question is from the line of Kaitav Shah from Anand Rathi Financial Services.

Congratulations on a good set of numbers. Sir, I just wanted to check with you on the cost of fund trajectory for you. How is it for December quarter? And is it different in January or going forward?

Yes. So we have just started our liability program. As we know, till date, up till last quarter, we have been funding our book largely through equity. We started our liability program a little earlier than before exhausting our equity because we maintain an x amount of cash, and we intend to do that going forward as well. And that's why this leverage has come in. Our blended, as we have mentioned in our deck, that our blended average cost of liability today stands at 11.5%. It is very difficult to predict what would be the cost of liability going forward. Obviously, the endeavor is to bring it down further given the size of equity capital and the kind of granular and secured portfolio, which we are building up. But simultaneously also we have deep focus on building our colending partnership and operationalize them because they are -- while they are not on balance sheet liability, but they are a great source of earnings for us. So both -- we are working very hard to operationalize our partnership with Bank of Baroda, SBI and ICICI, and there are a few more partnerships which are in the line. And we hope that a few of them would become fully operational, wherein we will start disbursing loans on the colending basis. And obviously, the revenue portion of that is very attractive vis-à-vis on balance sheet borrowing.

Okay. And can you explain where this co-origination model has reached in terms of the entire piece?

So yes, of course. And I would specifically like to answer that because I think there is a general skepticism within the analyst fraternity that colending model has not worked for the industry as a whole. We generally believe that going forward for NBFCs, vis-à-vis on balance sheet borrowing vis-à-vis some form of off-balance sheet businesses would take precedence, that can be in form of colending, securitization or multiple type of the similar structure. And also, we believe that the mature players who have the capacity to borrow on balance sheet are gravitated towards -- more towards lending from their own balance sheet versus working very hard to build a colending model. We looked at -- so we have 3 -- a few very major headwinds. And against that, we were successful in signing up 3 partnerships. First, that we were competing against some very established player in the market, wherein most of these large financial institutions like to have vintage, both entity vintage as well as portfolio vintage and some threshold rating parameter. We crossed the hurdle of rating parameter, but we didn't had the vintage of entity vintage and the portfolio vintage. But eventually, most of the large vendors saw the power of our tactical underwriting and the granular underwriting approach and our sectoral specialization which we bring on the table, and that led to after a hard effort of signing with 3 of the large lenders. That's Point #1. Number two, in terms of operationalizing, as we said, we have signed up with all 3 of them. We are in the process of putting the operating metrics and finding legal mechanics. And last, but not the least, putting the technology behind it. You need a very defined approach in terms of how you will operate on a granular small loan in terms of a colending. And we launched our platform, which is called GRO-Xstream, which has this ability to retain our own policy and align that with a large bank and system automatically picks up a loan file and takes it to the bank where it is more suited. So all of that being done, that's why I said at the beginning that we are hopeful that in next quarter, we'll see some disbursement happening on a colending basis with at least 2 of the 3 partners we have signed up.

Okay. Sure. And in terms of the overall asset quality outlook going forward as well, given that there is some pain visible in MSMEs, banks are slowing down. So what are you hearing on from your employee base about stress in the MSME sector?

So we have a view in terms of -- obviously, first and foremost, it is not denying -- we are not denying the fact that generally, the small businesses and micro businesses are under stress. They are under stress on twofold. This stress started from -- start from demonetization, led to GST and then became accentuated with the liquidity crisis and then also growth trajectory is reversing towards the lower growth. And all coupled with that have put the small businesses and micro businesses cash flow under serious stress. Having said that, our belief without this current market have always been that there is a correlation between the gross yield of the loan to a loss ratio. And we think that the majority of their stress currently is in the micro SME segment at the highest strata of the loan yield. So NBFCs or businesses which are in that 25% to 30%, 35% yield segment would -- you'll see an expanded loss ratio, I mean from an average of 3% should now go to 6%, 7%. But the prime market, which is the small businesses, secured between 11.5% to 12.5%, you'll see that pain to be lesser. Our beginning strategy have always been that as a new entrant into the market, we would first build our portfolio in the prime segment and not go to the micro segment directly on our own. Wherever we are doing micro segment that we are doing on a colending basis, wherein we have some form of a first loss cover and an underwriting or a geographical spread, which is controlled by a partner, NBFC of ours. So -- and we have tightened our underwriting norms further. So our underwriting is driven by statistical bureau-based altered underwriting, where we have moved up our cutoff to even further upward trajectory, even if it comes at a sacrifice of a little bit of yield. So I think that generally -- broadly, the market would continue -- or NBFC will continue to suffer with increased gross NPA ratio, especially players who are playing the micro MSME market or even a shade below that. But for us, we think that this is the right time to build quality portfolio because there will be a lot of players who will be exiting because of these challenges.

The next question is from the line of Sumit Bhalotia from MK Ventures.

Congratulations for good set of numbers. Could you -- just extending the point of your liability program and on the spreads that you're making, could you please share the incremental spreads, adjusting for the borrowing that you would have done against your deposits in cash?

So sorry, your question is what is our blended...

So blended cost that you've mentioned is around 11.5%, right? What is your -- that would include some of the borrowings that would have been done against the cash that you're holding that -- is that true?

No. That's not true.

That's not true. So incremental cost for us, so we can borrow -- still borrow at 11.5% in the market?

Yes. So all of this, the cost of liability is on our balance sheet, it is not backed by cash or cash-driven collateral. In fact, we carry cash on a negative spread because we have borrowed some money and kept in FD. So we expect our future cost of borrowing into the same range or coming down because our public sector borrowing has yet not started, not because banks have not approved the credit, but it's just slower for us because, as you know, that U GRO's Board is majority of Independent Director, it has been provided in our articles that we will always maintain a Board, which is majority Independent Director. Out of our 7 Independent Directors, there are 4 Directors who are on the Board of the other banks. And as per RBI's circular, it necessitates every bank who we apply for a loan has as to take our proposal straight to their Board of Directors. So that just elongates the process of our sanction. But now we are at the end of, wherein most of the banks, it has already reached at the top, and we should start seeing the incremental borrowing to come from a diversified set of lenders, right from small finance banks, private sector banks and public sector banks. So hopefully, that should bring down our incremental cost of borrowing a little bit from where we are today.

Great. Great. And obviously, we'll be completing 1 year of full operations that would also give comfort to a lot of banks in terms of term loans, right?

Absolutely.

Yes. So my next question is, I understand this colending model is progressing well for us, but it's just taking time to get converted on a monthly basis, the actual borrowing to start. So assuming that full fledged you start operations with all 3 banks that you mentioned, ICICI, Bank of Baroda and SBI, what is the monthly quantum or a quarterly quantum of funding that you're looking at, say, in -- by next 6 months? And how would your overall spreads and NIMs change once you are able to achieve that?

Yes. So good question. I think the way we are approaching because this is too new for the market, Sumit. So the way we are approaching that we are creating capacity that our origination engine, which is roughly around now INR 100 crore a month, we should be able to fulfill the need of that through on-balance sheet borrowing. But we are very clear that as soon as these partnerships get operationalized, we would start flowing these assets to these banks. Now whether -- and most of these partnerships are in the range of 20-80 or 30-70. But it is very hard for me to predict that whether we will achieve the disbursement through this colending in the next quarter itself. I'm hopeful of getting at least, as I said, 2 out of these 3 operationalized. And I think for the first quarter of next year, we should get full scale on that. But as of today, we are not dependent upon the colending partnership to start operationalizing at a full flow. And that's why we intend to continue building our on-balance sheet borrowing capacity, including doing securitization. So as of yesterday, we did our second securitization transaction as well. So in an early stage of our life, we have done 2 securitization transactions. So we are building a track record of all sources of liquidity and financing for ourselves, and we are quite successful in doing that in spite of a very difficult market circumstances for all the NBFCs.

Okay. So do you have any target securitization number in mind? Just -- I'm trying understand the funding part of the book that -- so we're going fairly quickly now. We've already reached -- I think we are on track to achieve more than INR 1,100 crore, INR 1,200 crore around by year-end, going by the run rate that we are doing. So by -- I'm just trying understand that by FY '21 end, whatever AUM we have, how are we going to fund it? Because our liquidity is now exhausted mostly, and we would be keeping some cash buffers, at least for the next few quarters. So that would be -- if you can give some color on that, what kind of -- what percentage of the portfolio will be securitized?

I get what you're trying to ask, and I'm finding it little difficult to predict that. We are very confident that the year '21 number, even if these colending partnership would have not been there, we would have still been able to maintain our run rate, and we have no doubt about it. But our aspiration or expectation is to large portion, at least 50% of that will come through colending is our aspiration because our spread on colending is superior to our on-balance sheet borrowing.