The Piramal group has taken its first step towards its aspiration for a banking licence through the demerger of the pharmaceutical business. With this, Piramal Enterprises has become a pure non-bank finance company, listed on the stock exchanges. However, the company is not in a tearing hurry to become a bank and would build scale through inorganic and organic means, said Jairam Sridharan, managing director of Piramal Capital and Housing Finance. The company has about Rs 10,000 in unallocated capital that can potentially be used for mergers and acquisitions. Over the next 4-5 years, the NBFC would focus on doubling its balance sheet and aim for a rating upgrade that will enrich its liabilities profile and reduce the cost of funds.
In an interview with Moneycontrol, Sridharan, an ex-banker, said the company would focus on markets where banks are not large players and there is a high return. Besides affordable housing, PCHFL is looking at microfinance and lending to small businesses as the next growth engines. Edited excerpts:
Is inorganic growth more than organic the basic premise at Piramal?
Piramal is a place where inorganic is always given a seat at the table. This does not come naturally to most companies. Trying to make a deal happen is like pulling teeth elsewhere and is not easy. Here it comes a lot more naturally and there are internal capabilities that can make things happen. There is no drama here in dealmaking. If you look at the models of large financial institutions globally, one of the models is to grow consistently through inorganic means. At Piramal, because we have that M&A DNA, this type of strategy is on our minds. There are three things we look at – product expansion, scale and capabilities. In many ways, DHFL was a scale acquisition. We were doing affordable housing, we know how to do it. But what Dewan did is gave a large customer base, we very quickly became relevant. The second is capability. There are some things that a specific organisation would do, which we want. We took a 10 percent stake in EarlySalary, which is a fintech company. It was a capability-based transaction. It is not going to give us scale and it is not a product that we want to deeply learn. But it was more of how they think about the market, how they scale through tech. The third way we think of acquisition is the particular product categories we would like to enter. For instance, we have entered the microfinance segment. If there is something interesting in microfinance from an acquisition perspective, we would be keen to look at it. It is not a massive book but it is a decent one. You will see us participate in all these M&As. There are a couple of interesting conversations which are in more advanced stages, not necessary that they would consummate but they are on the table.
Has the DHFL book lived up to the expectations in terms of returns?
We have been very pleased with the quality of the book with DHFL. It has turned out to be exactly as advertised. The RBI was running the ship for two years and when it was sold we had fair transparency in terms of data. I will thank the RBI and the administrator for doing a spectacular job in disclosing all the right things about the book. There was no post-facto heartburn. We paid about 43 cents to a dollar for the book and we used the 57 cents discount to write down the problematic part of the book. In the wholesale book, we wrote down almost 95 cents to a dollar and in the retail book we wrote down about 35 cents to a dollar. We have about Rs 1,500 crore of the book left on our balance sheet. The retail book had a 25 percent NPA ratio which is an incredibly high number for a mortgage book. The rest of the book is creating enough value for us. We have begun to get some recoveries on the retail book. We have written back Rs 430 crore into our P&L so far.
What kind of growth are you looking at in the coming years?
We think over the next 4-5 years we would double our book at the full company level. At the pure retail level, we should be able to triple our business in AUM in the next 4-5 years. That is very much doable. Beyond that, we need to think of the liabilities side, the potential of banking licence, etc and all that questions. We have a runway of solid growth ahead.
How much capital is committed towards inorganic growth?
At the company level, capital is Rs 30,000 crore, of which about Rs 16,000 crore we have allocated for lending business, about Rs 1,500 crore for alternatives and 1,000 crore for life insurance. We have about Rs 10,000 crore of unallocated capital. Things like inorganic will be applicable in this. The stake in Shriram is also included in this. Over the next few quarters, we would be able to monetise our stake. But we would do it in partnership with the Shriram Group, we have a lot of respect for them. And we do not want to do anything that would create problems for them.
Is affordable housing space, would microfinance be the core of your business?
Our choice strategically is to compete in spaces that are not the primary focus of banks. There is no market in which banks don’t exist but there are segments which are either not interesting to banks or not large enough for them to bother. We define such segments around customer dimension, product or geography. For instance, used-car loans is a category banks don’t want to do seriously. Geographically, smaller towns and fringes of cities where banks are less intensely competitive are one way to see it. Banks are focused on salaried segments, and in our case, more than 60 percent is focused on self-employed. We are quite happy to serve customers who have income coming in parts in cash. We will pick and choose spots which are not primary competition areas of banks. We have no intention of going head to head with banks and trying to prove our mettle. We will lose. I am like a little bit of a lightweight boxer who dances around. As long as I am in the blind spot of the heavyweight, I am fine.
But is the business you are pursuing a high return business and does it justify the risk?
It is high return business and, of course, high risk too. Let us take the affordable housing business. Prime customers get housing loans at 8.0-8.5 percent today from banks. For our housing customers, we offer products at an average 11.3 percent. We do the MSME secured business at 12-13 percent interest rates. The unsecured part is about 19-20 percent interest rate. Needless to say, a large part of the market is prime. In housing, 75-80 percent of the market is prime and we cannot address that market. We are looking for the blind spots here. Is the rate good enough to justify the risk? We believe we understand the difference. We have done a good job at building underwriting models. Our statistical models are built on industry experience and now have the DHFL data too. We have been able to use it to build models to predict credit risk. This is a big advantage in M&A, you suddenly get access to all the data and experience. From the Dewan pool, we are able to personally meet the customers and do personal discussions. It is essentially an attempt to marry high-tech underwriting, which is common in banks and fintechs, with the high-touch underwriting more common among NBFCs and traditional local lending institutions.
As an NBFC, you would have to chase high return business as the cost of funds is high. Are there enough opportunities to generate high returns?
It is easy to underestimate seeing someone reporting 16 percent average yield and saying let us do that business. I can do that business at maybe Rs 50 crore a month but Rs 2,000 crore? There is no market. There is a tail in the market where higher yields are possible but the tail gets thinner and smaller. You cannot build a large-scale business in the tail, you can build a niche. For someone like us, there is a particular scale at a particular yield profile. Beyond that, we will have to change our strategy. Where we are, we continue to see growth and that is why we have been growing at 50 percent quarter of quarter (post DHFL). This trajectory kind of continues this quarter too. But if we reach 2X of our scale, we may not be able to grow at this level. We have to see at that point.
What challenges do you see in terms of the cost of funds?
The key question is what needs to happen for us to be able to raise liabilities at pricing which is appropriate at AA. Today, we are AA but we are raising money at 8.50 percent, which is a little bit expensive. It has happened because we went through all the trouble two years ago. Our risk spread went up. Since then the risk spread has come down and we are almost at levels of pricing for AA but still a tad higher. We need to close this gap and then pursue a rating upgrade. For us, becoming AAA is important in the long run. Just piling up on a whole lot of high risk and high return is not a good idea. I want to do some business which is 10 percent in housing, not entirely 11.0-11.50 percent business. We want to build the right kind of retail-wholesale mix, the right profitability profile and, of course, the level of capital we have in the company. It is important for us to get past the big challenge of scale to get the rating upgrade too.
Is the banking licence now a little farther?
We don’t need to be in a tearing hurry to be a bank. We have enough runway to operate in the NBFC model. We recently went through a demerger process and Piramal Enterprises is now a listed NBFC. This is step one in creating a simple and clean governance structure to become a bank. It will take time to settle down and maybe we go through a couple of RBI inspections and then they get the comfort and satisfaction that we are well governed. From a governance standpoint and internal control, we are doing all things necessary for RBI to get comfort. We will do whatever is the rule of the game in the market. It is true that in the long run, the banking business model provides the kind of liability flexibility that an NBFC will not have.
What is your motivation for tie-ups with fintechs?Is the fintech doing enough that they have preferential access to the customers? Earlysalary has built a nice niche for itself by attracting small salaried customers. It is a differentiated platform. Number two is the governance level of fintechs. The RBI is very sensitive about digital lending. As a regulated entity we have to be on the right side of the regulator in this matter. We tend to look at the cap table, the founders and their track record. We tend to start small. We have 16 live partnerships and some are in the works. All of these are approaches to starting small and getting to know the business. We are not going to make any partnership really big. We don’t want to depend on any big partner and we will remain a multi-partner business. We want to make sure that no one becomes too big a part of our business.