Articles || Bajaj Finance || Combining the best of Banks, NBFCs and FinTech

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Bajaj Finance has transformed from being a captive auto financing NBFC(past) into the most profitable and well-run NBFC(present) and is positioning itself as the most promising fintech(future). All this in a matter of 15 years. This phenomenal achievement is due to the laser-focused vision and unerring execution of the Bajaj Finance management in building out a unique financing unit that combines the benefits of banks, NBFCs, and fintech. Bajaj Finance is not a bank, but it has been thinking and acting as one in (i) garnering retail deposits, (ii) providing diverse loan products and thereby cross-sell successfully, and (iii) strong fee income generation levers. Bajaj Finance is the best of the NBFCs by (i) strong on-ground execution, (ii) being opex-light, and (iii) creating a strong foothold in niche segments like consumer durables loans, doctor loans, etc. And Bajaj Finance right from the early 2010s has acted as a fintech company through (i) strong customer focus, reducing pain points, increasing the speed of execution, (ii) using high-frequency payments as a model of customer acquisition and then cross-selling other loans and (iii) tech leadership through best-in-class data analytical capability and system-readiness. Today, Bajaj Finance has a very large opportunity size with only 1.5% market share of credit in India, with proven risk-management practices, visionary management, and future-ready systems and processes. The NBFC is well on its way to continue expanding its share in the coming decade. The big risk in the stock price comes from (i) BF not meeting the high expectations of growth in the market, (ii) the failure of its upcoming omnichannel strategy, and (iii)loss of market share in consumer durable loans as more and more sales go digital, thereby slowing down new customer acquisition.

Company Overview

Bajaj Finance is the largest NBFC in India. It was initially started as Bajaj Auto Finance Limited, a captive financing unit for Bajaj Auto in 1987. Bajaj Finance was doing only vehicle financing for 2W and 3W until 1998 when they started consumer durable financing. Bajaj Auto Finance was demerged from Bajaj Auto in 2007. This was the start of the turnaround in the business. Until this time, Bajaj Finance was no different from many other NBFCs apart from a solid business house backing.

Bajaj Finance is held by Bajaj Finserv, which is the holding company for the financial services arm of Bajaj group. Apart from Bajaj Finance, Bajaj Finserv also houses the group’s life and general insurance business. The strong parentage, high levels of corporate governance, and management quality are visible throughout the group as all these businesses are amongst the best-run in their respective businesses.

Sanjiv Bajaj, Rahul Bajaj’s younger son was given the Bajaj Finserv business. Under the guidance of his uncle Nanoo Pamnani, who had just retired from Citibank, Sanjiv Bajaj started building Bajaj Finance as a standalone entity. Rajeev Jain was brought on board and there has been no looking back since. Over the next decade, what Rajeev Jain and his team have built is nothing short of incredible. In the last 14 yrs, Bajaj Finance’s AUM grew by 37% CAGR and profits grew by a CAGR of 51%. This extraordinary performance has resulted in sky-high expectations for the coming decade. We will focus on why investors are willing to give Bajaj Finance a P/B of 12 while the rest of the top-quality banks and NBFCs trade at P/B of 4-6.

Very soon into its demerger from the auto business, Bajaj Finance started focusing on finding its own niche and building strong competitive advantages which would enable it to earn a superior return on equity and high growth. Some of the significant decisions were related to focusing on shorter tenor financing options like consumer durables, digital and lifestyle products financing, and the introduction of EMI cards. Bajaj Finance was the pioneer of no-cost EMI or the recently popularised fintech term Buy Now Pay Later(BNPL).

Timeline of introduction of different products

Bajaj Finance is today the top NBFC in the country, with a market cap of roughly 4.5 lakh crores. But, its market share of total credit is a paltry 1.5%, which shows the level of opportunity that still lies ahead. But, how has it been able to aggressively grow its share over the last decade, and what gives confidence to the investor community at large that it will repeat its success over the coming decade. To understand this question, we need to understand how Bajaj Finance has carefully crafted its strategy and execution to incorporate the best of the banks, NBFCs and fintech companies into its operations.

Bajaj Finance, the “Bank”

  1. Stable and sticky liability profile:

Banks’ main source of funding is through taking deposits from its retail and corporate customers. These deposits include highly stable and sticky current-account savings accounts (CASA), retail term deposits and the slightly more risky bulk deposits.The Banks which are able to build a strong brand and get a good share of CASA, retail deposits have an advantage of low cost of funds as the retail customers independently are not very demanding of high-interest rates. Moreover, an average retail customer won’t be using more than 2-3 savings accounts and hence the deposits are relatively sticky. Bajaj Finance over the last few years has built a strong retail deposit machine. From almost no fixed deposits to around 21% of its funding coming from fixed deposits, Bajaj Finance has been able to fairly build a reasonably stable liability profile, which is definitely superior to the other NBFCs

  1. Diversified loan product offerings and cross-sell potential

Unlike NBFCs which are product-focused, Banks are usually customer-focused providing a wide list of loan products from mortgage loans, vehicle loans, personal loans, credit cards, etc. Through the different loan and liability products, banks try to capture a good part of the customer’s wallet by cross-selling multiple products. Also, low cost of funds allows the banks to offer the most competitive rates and thereby the ability to choose the most credit-worthy borrowers. In effect, banks are able to attain a high wallet share of the most credit-worthy customers.

Bajaj Finance, though starting out as focused on auto and consumer durable loans, over the period, has diversified into personal loans, home loans, credit cards(in partnership with RBL Bank), SME loans, and corporate loans. Throughout this period, Bajaj Finance has been dead-focused on the mass affluent customer profile, and the different products needed to attain incremental wallet share with these customers.

Bajaj Finance’s loan products could be split into

  1. Scale providers and
  2. Profit generators.

In order to provide stability to the loan book and the ability to operate at scale, Bajaj Finance has focused on mortgage loans, commercial and SME loans. Mortgage loans sit under its housing finance subsidiary. Of the mortgage loans, 62% of AUM is on home loans and 90% of its customers are salaried, thereby providing a safe base.

Apart from mortgage loans, personal loans to the salaried, corporate and SME segments provide low-risk assets helping reduce quarter-to-quarter variability in performance.

The real profit generators are the segments where Bajaj Finance has strongly built a moat on.

Consumer durable financing, digital product financing, lifestyle financing, Bajaj 2W and 3W loans, personal loans cross-sell, all provide a significantly high ROE and help Bajaj Finance maintain a strong ROE profile over the years.

  1. Fee income generation machine

Banks have multiple sources of fee income generation right from loan processing, payments products, distribution fees(selling insurance, mutual funds products), cash management, forex, trade and treasury services. Given that NBFCs are usually product-focused and not customer-focused, usually, fee income is very limited barring the loan processing fees. But, a big advantage in fee income is that it is low-risk income which can give a hedge to the usual cyclical nature of credit cycles, thereby giving higher predictability.

Bajaj Finance has been able to deliver strong fee income delivery by innovating with EMI(Existing member identification) card which can be used to purchase on EMI across consumer durables like TV, AC, digital products like mobiles, laptops, lifestyle products like healthcare, furniture, etc. Currently, Bajaj Finance has 25 million EMI cards, which if considered as a credit card with a longer tenor, will be 1/5th of credit cards in India. In comparison, HDFC Bank, the leader in credit cards, has 14.5 million cards in force.

Outside of EMI cards, Bajaj Finance also has tied up with RBL Bank for credit cards and has more than 1.5 mn cards in force. It is currently the no.5 player on credit cards. This is another source of fee income.

Bajaj Finance also cross-sells insurance products, especially pocket-sized insurance products to its customers along with the short tenor loans, thereby generating decent distribution fee income.

As a result of all the above, Bajaj Finance has been able to maintain strong fee income as % of assets.

The fee income generated by Bajaj Finance as % of its assets is higher than the best of the Banks in comparison. Such is the fee income-generating machine Bajaj Finance has grown into.

Bajaj Finance, the “NBFC”

  1. Closer to ground. Accessibility to unbanked customers

Bajaj Finance has very quickly built up its branch presence which today is more than most of the private banks barring the top 3. On top of it, Bajaj Finance also has a presence in 1.2 lakh retail touch points which increases its access to underpenetrated categories and customers.

  1. Opex-light

NBFCs in general are not bound by a lot of regulations and don’t need to open big branches with a high number of employees, as a result of which they can operate in lean structures. Bajaj Finance’s cost ratios as % of income are at least 5-10% lower than HDFC Bank, ICICI Bank, etc. The management has been able to consistently bring down costs by increasing direct sourcing, investing in technology, and building operating leverage.

  1. Specialization in specific product lines giving experience in credit underwriting (eg) Muthoot, Manappuram - Gold Finance, Chola, Shriram Transport Finance - Vehicle finance, HDFC, Canfin Homes - Home loans

Bajaj Finance has built its moat around certain loan products which were niche at the time, for example, consumer durable loans.

Consumer durable (purchase of TV, AC, Refrigerator, Washing machines,etc.) penetration is quite low in India. It was a segment that went unfocused by banks. This is where Bajaj Finance sensed an opportunity. Bajaj Finance started offering No-cost EMI products. It started tying up directly with the manufacturers to offer to finance. It tied up with all the major consumer durable manufacturers.

The way this zero-cost EMIs work is through subvention. Once the customer chooses Bajaj Finance as the lender, the payment is made to the dealer. The amount paid is at a discount (majorly provided for by the Manufacturer and partly by the Dealer). For an item which costs Rs. 100, Bajaj Finance usually pays the lender Rs.93, with an additional rupee coming in as processing charges by the customer. And then over time, the customer repays the monthly installment depending on the loan tenor of between 3-24 months. This arrangement is beneficial for the customers as it increases their affordability, for the dealer and the manufacturer, it increases its sales velocity.

Bajaj Finance quickly ramped up its distribution in both urban and rural areas. Today, the no-cost EMI model isn’t restricted to consumer durable loans, but also to digital loans (mobiles, laptops, cameras), lifestyle financing (furniture, healthcare, tyres, professional coaching, bicycles, etc.). Today, their reach is around 1.2 lakh touchpoints across 3300 locations. Today, no-cost EMI might seem like an omnipresent product offered by all the banks, but the level of competitive intensity is quite low with the rural retailers. This is how Bajaj Finance truly dominates the segment.

Bajaj Finance has a market share of more than 50%, with its share being 70% in physical stores. These loans act as the perfect customer acquisition tool. Over time, with the data Bajaj Finance accumulated working with the retailers, they are able to turn around a loan in minutes.

But, is the moat only around quick processing times and relationships with manufacturers. Most well-run banks and few fintechs can emulate these at some point. The biggest moat is Bajaj’s debt management engine. The NBFC deals with 1600+ collection agencies reaching out to the customer via a variety of mechanisms like SMS, call, email, personal visit, etc. in order to get failed automatic payments. Given that Bajaj Finance disburses around 25 million loans in a year, assuming 10% loans need to be followed upon. This is a huge load on any financial institution. The well-oiled debt management machinery that Bajaj Finance has built, can’t be emulated soon.

Bajaj Finance also has close to 50% market share of 2W and 3W financing in Bajaj dealerships.

Another nice segment that Bajaj Finance has mastered is their professional loans. Bajaj Finance has built detailed data models on doctors right from their school of education, area of practice, etc. to underwrite these loans. As these professionals didn’t have salaried income in the truest sense, they used to be offered higher rates by banks. But, through its superior data modeling and underwriting, Bajaj Finance has been able to price the risk accordingly and has thereby gained a good share of this segment.

Bajaj Finance, the Fintech player

  1. Strong customer acquisition machinery

Fintechs focus on strong customer acquisition through high engagement tools, primarily through payments. Take the example of PayTM, Google Pay, or PhonePe, they all start with wallets and payments, as it is a high engagement activity that drives brand reinforcement. And then, these players make money by cross-selling other financial products like loans, insurance, and investment.

For Bajaj Finance, customer acquisition happened through no-cost EMI loans, which are essentially Buy Now Pay Later(BNPL) loans (the buzzword of FinTech currently). Along with these loans, most customers will be offered EMI cards, which could be used for other such purchases.

Apart from customer acquisition, the other big benefit from payments is the amount of data that is generated through regular transactions. For the player with the right data analytical capability, this data is a goldmine of sorts that helps in identifying the best customers and improving the credit-underwriting model.

Bajaj Finance has over the years, built a detailed database on its potential customer base. Currently, the customer franchise stands at 50 mn. Of these, depending on its data analytics, Bajaj Finance finds 56% of customers suitable for cross-selling other loans.

Over the years, Bajaj Finance has focused on cross-selling loans to its existing customers, which as per the management has a risk of 0.15x default in comparison to new customers. Today, around ⅔ loans are made to existing customers.

  1. Reducing friction

FinTechs primarily gain entry by easing certain pain points in the current financial system. In India, PayTM gained acceptance as it enabled digital payments to the banked and the unbanked. Customers didn’t need to have a card. Similarly, right from its early years, Bajaj Finance has focused on reducing friction and increasing convenience for its customers. It can process a new CD loan in minutes and can pre-approve a personal loan as cross-sell to this new customer in 15 min. Such is the level of its efficiency of credit model and numbers on feet-on-ground. And by offering EMI cards with these initial purchases, the friction for subsequent purchases are minimized to a great extent.

  1. Tech leadership

Bajaj Finance has been spending ahead of the curve on technology. Its complete tech architecture is built on the cloud which helps in scaling up or down the infrastructure as required. Moreover, the data lake created from the data captured by working with 1.2 lakh retailers, is used to perfect the credit model with AI + ML technologies.

And Bajaj Finance has recently taken the next step in its technology journey. From Bajaj 1.0, where Bajaj Finance focused on financing retail payments in physical marketplaces with its credit engine, the company is transitioning into building an omnichannel presence by developing marketplace apps and getting into payments through Bajaj Pay.

Bajaj Finance is building an EMI store (for purchasing consumer durables, lifestyle, digital products), insurance, investment marketplaces apart from a healthcare and booking app. These user apps will be focused on its 100 million potential mass affluent customers. These marketplaces help in aggressive customer acquisition and thereafter superior cross-sell. Also, with payments, Bajaj Finance gets more data to perfect its credit model.

Apart from the user apps, Bajaj Finance has also tied up with 25+ partners like e-commerce players, delivery apps, travel apps, etc. which will drive engagement within the app. In short, Bajaj Finance is going the PayTM way in building a super app of sorts. Just that, Bajaj Finance already has a very profitable lending business and these apps will just help in accelerating its lending business and drive a higher wallet share of its customers.

90% of the focus in this article has been on Bajaj Finance’s products, processes, technology, data capability, etc. But the most important factor for Bajaj Finance’s success has probably been the management. Most of the senior management has been with the company for 8-10 years or more and the vision of the management is what has enabled Bajaj Finance to invest and execute ahead of the curve.

In spite of maintaining 40% growth over the last many years, the focus has been primarily on risk management. In spite of the risky unsecured loans that Bajaj Finance does, it has maintained its credit cost in the 1.2-1.5% range for the most part.

Derating Risks

  1. Slowdown in growth
  2. Failure in pick-up of the omnichannel strategy
  3. Market share loss in e-commerce no-cost EMI loans, with increasing penetration of e-commerce, resulting in a slowdown in new customer acquisition.

Want suggestion that 28th Oct 21 onwards Insider employees bought(I also bought) But 9th Nov Onwards Director sold more than 125Crore which indicates something & also market is in correction mode. Actually i invested for positional trading for some amount. But i i have invested some amount for long term also. What is ur view based on this action on short term(1Month) & long term 3 years.

@Anand is better equipped to answer on short-term price action and expectations. From a fundamental perspective, Bajaj Finance is probably the only large-cap financial player providing visibility of consistent 25%+ loan growth today. That said, the valuations are quite rich based on the expectations of its app ecosystem. So, personally, I am not accumulating further at this price and waiting for a 10-15% correction before further buying.

S Prashanth . I Understood. It means Around 7000Rs levels are accumulating Zone & Also Bajaj finance not corrected mush even though after director sold.