Shriram Transport Revisited

Last year I wrote about the business model of Shriram Transport Finance (STFC). You can read about it here. At that time I liked the business model of the company. But I did not purchase the stock. In the last few weeks the company lost 40% of its market capitalization. This piqued my interest and I took another look at the business. And this is the subject of this post.

Imagine that you are playing the game of snake and ladders. You start at square one and cruise your way to square fifty. On your next landing you get engulfed by a big snake and find yourself back at square one. This is what happened to the investor who purchased STFC in 2011. The price chart given below tells you the snake and ladder story. What happened?


Before analyzing the reason for the correction let’s look at STFCs sales and profit growth of its core CV business for the last five years. From the chart you can see that sales compounded at 10% and profits didn’t grow at all. Why did this happen?

stfc-income-profitsIn order to answer this question we need to look at the cost structure of the company. There are three components to STFCs cost structure (1) finance cost (2) operating expenses (3) provisioning. From the chart given below you can see that its finance and provisioning cost went up by a lot which resulted in zero growth in profits. Why did finance and provisioning cost go up?


Let us first look at why the finance cost went up. In order to control the inflation of food and other commodities, RBI had increased the repo rate by 3.75% in several rounds since March 2010. Repo rate is the rate at which RBI lends money to commercial banks in the event of any shortfall of funds. This increased the cost of funds for STFC and reduced its net interest margin. What is a net interest margin (NIM)?  It is interest income less interest expense as a percentage of average earning assets. All else being equal higher NIMs results in higher profits.

In 2011 and 2012 more than 50% of STFCs operating income came from securitization. Since securitized assets qualify as priority sector lending, the banks were willing to take a lower interest rate and this resulted in higher profit margins for STFC. But in 2012, RBI changes its securitization guidelines. According to the new guidelines, for the loan to quality as a priority sector, assets should conform to a maximum interest rate of eight percent above the bank’s base rate. This reduced its profits margins. Also the new guidelines insisted pass through certificates (read it as middle man) which is not favorable for banks compared to the earlier bilateral arrangement (read it as no middle man). This reduced the overall securitization volume. You can read about the new guidelines here and here.

stfc-finance-cost-analysisBefore looking at why provisioning went up let us understand few things about provisioning. Given below is the income statement for banks A and B. From this can you tell which is the better bank? If you answered B then you flunked the provisioning test. You need more information about provisioning before coming to any conclusion.


Banks are in the business of giving loans to individuals and businesses. Some of its customers will neither pay interest nor principal for sometime due to tough business conditions. Banks will classify these loans as non performing assets (NPAs). Once the condition improves the customers will pay back the interest and principal. But if the condition doesn’t improve for the customer then he will default and the bank will write off this loan. The bank has to estimate how much loans will get defaulted and set aside some portions of its profits as provisions to cover future losses.

Take a look at the table with provisioning information. Bank A has an NPA of $500,000 and has provisions for $550,000. Even if all of its NPA turns sour, A is well protected as it has a coverage ratio of 110%. On the other hand B has an NPA of $2,000,000 and has set aside only $100,000. It’s coverage ratio is only 5% and even if 10% of its NPAs turns sour it is screwed. From this we can conclude that Bank A is better than B even though B has higher accounting earnings.


Now let us look at why STFCs provisioning went up over the last few years. STFCs customers operate commercial vehicles like trucks for transporting goods. For them to pay their interest and principal on time they need (1) to transport goods (2) cheap diesel prices (3) get better freight rates. But all of them had issues over the last few years and this resulted in higher provisioning. The next question is that how do we know if STFC has provisioned enough. For that we need to look at its net NPA which is gross NPA minus provisions. Any value under 1% is good and STFC has done an excellent job in provisioning.

The slowdown in Indian economy, lower freight movement due to restrictions on iron ore production and weak coal output coupled with high interest rates are major factors impacting the truck financing business in 2011-12. Your Company, having regard to long-term interest of the business, had consciously adopted more cautious, conservative and selective approach in terms of customer assessment, loan margins and disbursement, not perturbed by aggressive practices adopted by the competitors to grab business. All the aforementioned factors moderated the growth of the Company’s business for the year ended March 31, 2012. The suspension of mining of iron ore by order of the courts impacted business of transportation of iron ore leading to defaults and re-possession of certain specially built vehicles financed by the Company. As such, the Company has made higher provision and write off for the year ending March 31, 2012 compared to the last year. – 2012 Annual Report


Mr. Market is aware of higher financing and provisioning costs. And the recent crash didn’t happen because of this. It happened because of the mismanagement in handling one of its subsidiary business – Shriram Equipment Finance Company Limited. In the recent quarter its non performing assets went up to almost Rs 400 crores and it set aside Rs 235.75 crores as provisions. This wiped out its reserves and surplus which the company accumulated for over five years. This situation reminded me of Nassim Taleb’s turkey which was fed well for 999 days and was chopped on the 1000th day.

stfc-ce-reserves-and-surplusConsider a turkey that is fed every day. Every single feeding will firm up the bird’s belief that it is the general rule of life to be fed every day by friendly members of the human race “looking out for its best interests,” as a politician would say. On the afternoon of the Wednesday before Thanksgiving, something unexpected will happen to the turkey. It will incur a revision of belief.* – The Black Swan

These provisions did not bother me much as the management is confident of collecting them. What bothered me was that the management was unaware of the situation until the last minute. The economy slow down was an ongoing thing and it didn’t happen all of sudden in the recent quarter. Had the management been awake then they would have noticed that a lot of NPA is about to move to the 180 days bucket. And informed the markets much earlier than waiting until the very last minute. By not doing this they failed couple of psychology tests: deprival super reaction syndrome and reason respecting tendency.


If I present this case to Sherlock Holmes what would he tell? The world is full of obvious things which nobody by any chance ever observes. Here are the obvious things that I can see.

(1) The management didn’t hide their screw up in the construction equipment (CE) business. They provisioned a loss of 60% instead of the mandated 20-25%. They are doing the right thing by being conservative and not worried about managing the short term earnings.

(2) People from the core business are getting involved to recover the money. This is not a write off situation and the management is confident in working with the customers and make them repay once the business picks up instead of repossessing the vehicle. They are holding on to the core mission statement of their founder. Also most of the customers are contactable. They are not going to lend more money to CE business until the situation improves. And they are going to come up with a strategy on how to take the CE business forward. Most likely they will lend only for equipments that have multipurpose use.

(3) Securitization is a high margin business. I don’t know if the company will be able to increase the volume in future. And I am not worried about it. This is because the company has adopted to the situation and is tapping funds from other long term sources like non convertible debentures. The company is used to handling these kinds of regulatory changes. During 1998-99 the only source of funds for the company was retail fixed deposits. At that time RBI put a rule telling that NBFCs cannot receive funds through fixed deposits. The company changed its strategy by building relationships with the banks.

(4) High NPAs over the last few years happened due to slowdown in the economy. Once that situation improves its customers will be able to pay interest and principal on time and this should result in lower NPAs. Recently the repo rates was cut by 0.50%. This will reduce the cost of funds and result in higher net interest margins. STFCs income statement has the power of operating leverage. What do I mean by that? On Rs 60,000 crores of asset under management, a 1% increase in net interest margin will result in pretax operating income of Rs 600 crores. After paying 30% taxes, this translates to an EPS of Rs 18.50.

(5) Despite of all the adversities the company focused on increasing its number of customers and branches. This will make life much harder for competitors to take away STFCs marketshare.


The overall pie of the commercial vehicle (CV) industry is growing. Also the preowned CV industry is highly fragmented with unorganized players controlling 70-75% marketshare. STFC is one of the key organized players and the leader in preowned 5-12 years CVs with pan india branch network. Also the construction equipment industry is at nascent stages and has a market size of Rs 40,000 crores. On top of this the company is successfully executing on its rural strategy. There are over 6 lac villages and the company has covered only 15% of them. So growing profits at 15% for a very long time is a very conservative estimate.

The Indian Commercial Vehicle (CV) Industry is the lifeline of the economy. Approximately 66 percent of the goods and 87 percent of the passenger traffic in the country moves via road. We expect India’s demand for commercial vehicles to remain strong. India’s stock of commercial vehicles is currently low at six vehicles per thousand people versus 11 for China and 48 for other Asian peers. The gap is expected to narrow down in the coming years in wake of GDP growth and increase in infrastructure spending. – 2011 Annual Report

After adjusting for the mismanagement in CE business the profits after tax comes to Rs 1,325 crores. Remember that the company is operating under tough economic conditions and we are working on depressed profits. So there is conservatism already built in my future projections. Let us assume that the company grows its after tax profit at 15% for ten years. This means its profit after tax after ten years will come to Rs 5,360 crores. At that point let us assume that the discount rate is 10% and the profits will not grow at all. This means that after ten years the company will be valued at Rs 53,600 crores. As of this writing the stock is selling at Rs 773 and this translates to a market capitalization of Rs 17,538 crores. An investor buying the stock at Rs 773 and holding it for ten years can expect to make a CAGR of around 12%.

The total book value for STFC comes to Rs 442.85 [Core: Rs 405.54; CE: Rs 22.00; Automall: Rs 15.31]. At the current price of Rs 773, the price-to-book ratio comes to 1.75. For FY2015 the core business EPS comes to around Rs 55. Also let us ignore both the subsidiaries to get a feel for the valuation. At the price of Rs 773 the company is giving an after tax earnings yield of 7.12%. Overall the valuation looks reasonable for a quality business like Shriram Transport. I believe at this price there is a decent margin of safety.


Mr. Market overreacted to the current situation in CE business. I thought about the current situation for sometime. And Confucius statement came to my mind and I became a shareholder of STFC. Disclaimer: This is not a recommendation to Buy-Sell-Hold. And I am not a SEBI registered analyst. Being a shareholder my writing could be tainted with confirmation bias and liking tendencies.


63 thoughts on “Shriram Transport Revisited

  1. Thanks , Jana!! Succint writeup..Been interested for a long time in Shriram Transport especially after reading up about the founder and his mention as an “Owner Operator” by Sanjay Bakshi. For businesses with such dedicated and shareholder-friendly owner/managers , tough to go wrong if you buy at a reasonable price

    • Sarathy,

      As I wrote in the disclaimer, I cannot give Buy-Sell-Hold recommendation. Use your own judgement.


  2. Thank you Jana for the write up, after answering proff Bakshi’s final question paper & the annual reports… It augurs well. At one price what might be a great company may not be at a different price ! Are today’s prices of stfr worth buying…? That is upto one’s own judgement 😏 to make. I know mine…..! Once again thank you Jana…!

  3. Detailed, Simple, easy to understand even for a layman like me…Thanx Jana for the excellent write up


  4. Great write up, thanks. Was discussing the stock with friends last weekend ! One view was that with Mr Piramal on board, the numbers are unlikely to be massaged and provisioning would be more conservative, this augurs well for the LT in my opinion and your write up seems to reflect that too. Thanks again.

  5. Excellent post. I have been following the stock for some time now. As an investor your view are reassuring for me. I like the simplicity and clear thought process behind this analysis. Thanks for writing this.

  6. Jana,

    Discounting 53600 value after 10 yrs to present value at a discount rate of 10% gives us a present value of 20665 cr and comparing it to present valuation of 18200 cr , 10% margin of safety this doesnt include the dividends and retained earnings during the 10 yr period. is there safety priced in ?

  7. Hi Jana,
    Good luck with ur bet on STFL. But just a couple of things. We should be reasonable sure NPAs would not be keep raising before doing any meaningful valuation,loans against CVs are like against inventory- perishable, if they can not recover it soon it has to be written off. I don’t know if they follow system designated NPA otherwise the quality of NPA declared is not good and you would keep getting surprises.
    To give credit to management they are keeping the new loan disbursement high to dilute impact of bad past loans and some how they ve kept a image of customer focused business but down south here in TN the group is known as stickler in their terms and recovery only those so can t get loan anywhere else do there but this is a necessary evil for finance business.
    I hold sundaram finance a bit boring and not a market darling like shriram but has made slow and steady compounding over the years but now I m worried for any rub off effext

    • Thanks Subu. I have heard a lot of good things about Sundaram Finance.


  8. Nice post. Do you see any risks of banning 10 year old diesel vehicles on CV resale market? The ban is currently proposed only in NCR but it may be extended to the whole country later.

    • Deepak,

      There are around 90 lakhs vehicle in LCV and M & HCVs and of which 30 lakhs vehicle is above 10 years old. It can’t be taken away just like that [Deprival super reaction syndrome]. They are trying this for the last 15+ years. So the probability of this happening is very low.


  9. [Deprival super reaction syndrome) -SUPER COINING – WHAT DOES IT MEAN BY THE WAY

  10. Very interesting. There is much different between US valuation of financial companies and Indian companies. Will be interesting to compare these differences sometime. Thanks for the write up.

  11. Hi Jana,

    Great read as always. I have one question for you, something that Ive been struggling to answer myself. Imagine if you had bought STFC (or any other company for that matter). And the stock falls 40% off its highs. We know that the company we hold is good, but being outside investors with only publicly known information what is your drawdown level to hold?
    At what level do doubts start creeping in that the insiders know more than we do? Sometimes in a bull market, we see great companies reach extraordinary valuation levels. Too much expectations creep into the price. Then one bad quarter and we see big drawdowns. Happened recently in great companies like eicher/symphony and many more. Your thoughts on the same or a drawdown model will be much appreciated. How to differentiate, if the drawdown is an opportunity to buy more or sell?


    • Hi Abhishek,

      Thanks for the comments. Before you buy a stock you need to write a paragraph explaining why you are taking a position and what are the key metrics that you are going to track. For Shriram my storyline revolves around

      The overall pie of the commercial vehicle (CV) industry is growing. Also the preowned CV industry is highly fragmented with unorganized players controlling 70-75% marketshare. STFC is one of the key organized players and the leader in preowned 5-12 years CVs with pan india branch network. Also the construction equipment industry is at nascent stages and has a market size of Rs 40,000 crores. On top of this the company is successfully executing on its rural strategy. There are over 6 lac villages and the company has covered only 15% of them.

      As long as this holds good and the management lends judiciously, I would buy more on dips.


  12. Dear Jana,

    Very well written. I had a question on the growth that the stock is currently factoring in. If I discount the profit of 1325 Cr by 10% I get a value of 13250 Cr, hence if the profits stay at these levels (zero growth scenario) the value should be 13250 Cr. If I take the market cap of 17538 Cr, the difference 17538-13250= 4288 Cr, my question is how do I calculate the growth rate of this 4288 Cr.

    Chetan Chhabria

  13. Hi Jana
    Very lucid analysis minus the jargon; great stuff.
    Do share with us the Confucius statement which tipped the scale for you.

    • Ramesh,

      Better a diamond with a flaw than a pebble without. The image with Confucius statement is already present in the blog.


  14. Jana
    It close to Piramal’s buy which gives great comfort to buy more. But Suppose if it falls another 10% from present level, is it prudent to average more. Really, i failed in averaging. But i made success after shuffling. Really , i like to draw your attention to write one more post on holding the laggards whereas watchlist is leaping with big percentage….

  15. Hey Jana,

    As usual a nice article. I had read ur first article too on STFC but i liked this one more🙂. reason being i was searching for mechanism of how securitization helps STFC and what factors can impact it. I had mailed and called CS of STFC but he did not agree for talk but i think this article has compensated for the gap in my understanding.

    Yes you are correct in saying that in view of RBI changing regulation on securitization, may be STFC management has to change the strategy, but what would be it going forward, we can’t be sure. I listened to their latest concall, they too think that recovery is at least 2 qtrs away and are waiting for the same.


  16. Dear Jana, this is an interesting write up. Had a query: would your opinion change if the INR 400 crores of Shriram Equipment Finance NPAs were to be completely non recoverable? The management has stated that they are confident of recovery, but usually managements tend to be over optimistic as far as NPA recovery is concerned.


    • Sam,

      If the reasons are genuine then I would consider it as one time special dividend.


      • Dear Jana, not sure I quite followed you. You mean you will consider the INR 400 crores to be a dividend cheque lost in email? Also you should check out Professor Bakshi’s tweet today, he suddenly seems bearish on the stock because of this very 400 crore NPA issue.


      • Hi Sam,

        I hope that doesn’t happen. But worst case I will be ok as long as the core business is stable and solid. I saw the tweet from Prof. Bakshi. Not sure if I can conclude that to bearishness.

        I purchased the ticket to the movie. And I am going to see how it unfolds by taking a front seat. It’s going to be fun and a volatile ride!


      • Jana,
        Be bit careful, it s OK to watch movie in front seat but don’t t loose your shirt. I ve seen people do that with teledata and geodesic. I had positions in them before fact and was willing to give benefit of doubt all the way to penny stock and vanish and saw many heros doing analysis and justification and lose their entire fortune.
        However clearly you can t compare that with shriram, it s too big to fail but might be in doldrums for long like IOB. It might be prudent to wait couple of quarters to bet big even if it meant little high price. I would jump in if there is panic and price goes down by 60 – 70% further,like it happened in jet airways couple of yrs back, beml and auribindo after corruption charge, bhel when they reported poor order book, all of them were quick and rewarding bets for me. I was confident as they were too big to fail, not a serious issue and at a very attractive price -which was the only driving factor

      • Do you mean this like Buffett’s Amex comment way back when the salad oil scandal was on? Quite a different notion, as I recall that situation.

  17. Do you happen to know what interest rate they are paying on the new debentures they used to recapitalize the CE biz?

    • Mary,

      The cash of Rs 100 crores in given from the parent company to its subsidiary.


  18. Hmmm, interesting. I see it – they have been steadily raising debt at about 9.25%. You can see the increases on the balance sheet line II (d). So they moved it into the subsidiary in this case, it is fascinating to look at this. I don’t read Indian docs much. The debt is all private placement, which is a good thing.

  19. Jana,
    Excellent post. Few questions, considering average Indian inflation is at 8%(its down now due to low oil prices) , wouldn’t you assign a higher discount rate than 10%. Also as a US based investor do you discount currency fluctuations?

    • Rahul,

      Thanks for your comments.

      (1) I look at discount rate as risk free rate that I get by putting my money in fixed deposits. As of this writing it is 8%. To be conservative I kept it 10%

      (2) The cash I have in India will not be converted back. So I am not going to worry about currency risk. Having said that I will pay long term taxes in the US in dollars if I sell on profit.


  20. Your articles always add a new dimension to way one looks at a given situation. Great job of simplifying business model understanding.

  21. Thanks Jana for sharing the article !!! A question on the Securitization business, how does it generate higher margins; isn’t the business a pass through if it is selling those assets (i.e. loans) to investors or did you mean that by securitization they were able to raise capital at a lower interest rate than what the banks are charging them. Regards, AP

    • Ankush,

      It was able to borrow funds at lower interest rates due to priority sector lending.


  22. Great Analysis. Shriram has not generated free cash flow in any of the years. What’s your take on it?

    • Amit,

      Banks/NBFCs need capital to lend so nothing will come as free cash flow. You should use their book value.


  23. Hi Jana,

    I dont understand much about banking and NBFC industry but still have a couple of queries based on my understanding of the subject. Firstly i understand that provision is made in anticipation of loans going bad, like providing some share in the income earned expecting bad debts. Like say 50 crore provision is made this year and the profits are reduced to that extent. The actual loan that may turn bad out of it could be only 10 crore which will be written off. In the case of STFC i would like to know what if the management knows that loans for which they have made huge provisions are actually not going to be realised, say a major part of it?

    Secondly how can it be said that this wont continue going forward ?

    You are going a great job


    • Ram,

      Thanks for your comments. Your second question is easy to answer. We don’t know for sure and we have to trust the management. For the first question take a look at this book


  24. Hi Jana,
    Nice analysis, I have a question, recently they have board meeting to merge equipment business with transport business. Is this merger will help the company any manner?


    • Kiran,

      Merging is better as this business will be closely monitored by the parent team.


  25. Hi Jana,

    I was just looking through the last annual reports, two things i couldnt find an answer is

    1) Interest income on loan portfolio , deposits and investments as detailed in scheduled 16 of annual reports is different from interest income of standalone figures shown in investor updates . Any reason for the discrepancies . Am i missing something?

    2) Which bank does shriram takes loan majorly from, just to see how their base rates are moving historically and compare it with its interest cost

    Request you to let me know if possible

    Mallikarjun Gaddam

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