By Jindal Haria

India Ratings and Research (Ind-Ra) has assigned a final rating to NeoGrowth Credit Private Limited’s (NeoGrowth) non-convertible debentures (NCDs) as follows:

Instrument Type

Date of Issuance

Coupon Rate

Maturity Date

Size of Issue (million)

Rating/Outlook

Rating Action

NCDs

-

 

-

USD5 (INR325)*, #

IND BBB/Stable

Assigned

*This is a part of NeoGrowth’s INR500 million NCD programme which was assigned a ‘Provisional IND BBB’ rating with a Stable Outlook on 29 November 2016.
#Considering USD1/INR65. The issuance size would be determined by the exchange rate at the time of issuance; the total issuance shall not exceed INR500 million.

The rating reflects NeoGrowth’s ability to sustainably implement a merchant finance-centred business model while capitalising on the fast-growing digital payment ecosystem. NeoGrowth benefits from an early-mover advantage in this segment, considering digital technology is already in place for credit monitoring and risk management. Also, the company capitalises on its promoters’ experience of over 20 years in the payments industry. Its investors are focused on financial inclusion and longer investment tenors than those of private equity firms and mutual funds. They made an equity investment of INR1.1 billion in June 2016. Moreover, the rating reflects the higher risk profile of its borrowers, unsecured nature of its loan products, untested borrower behaviour in stress and limited track record. 

KEY RATING DRIVERS

Capitalises on Low Capabilities of Merchants: NeoGrowth’s core borrower segment (i.e. retail merchants) faces issues such as low profitability, excessive documentation and long bank loan turnaround time. The company’s credit assessment model is largely based on electronic sales patterns and borrower credit behaviour. NeoGrowth processes loans in a short period. Moreover, NeoGrowth follows a daily repayment model, where merchants’ sales transactions are carried out using debit and credit cards  at its partners’ point-of-sale terminals. It monitors sales, borrower behaviour, payments and settlement behaviour daily across its portfolio. 

Manageable Credit Costs
: NeoGrowth operates at the higher end of the yield curve, where annual interest rates on most loans are in the range of 25%-35% on reducing balance (3QFY17: INR5.1 billion loan book). In the long run, NeoGrowth will have to continually add new borrowers to continue to operate at these interest rates (about 65% merchant retention rate). Ind-Ra expects the company’s credit costs to remain at 2%-3% in the medium term. Ind-Ra’s stress tests indicate profitability buffers would absorb 10%-15% merchant mortality in the discretionary segment (about 50% of the company’s portfolio) by about FY19. To expand its portfolio to about INR20 billion by FY20, NeoGrowth plans to acquire 7%-10% of addressable merchants with point-of-sale terminals. The number of addressable merchants was estimated to have stood at 0.3 million-0.4 million in 4QFY16, which would increase given the focus of banks to encourage digital payments in Tier 2 and Tier 3 cities post demonetisation. 

Diversification of Funding Sources Likely to Pose Challenge
: NeoGrowth had high borrowing costs of about 14.3% in 1HFY17, considering its main lenders are non-banking financial companies (NBFCs). The company plans to diversify its sources of funding by using structured products and accessing other development financial institutions until bank loans form a higher portion of its liabilities. The company has tied up its financing requirements up to 1QFY18. In Ind-Ra’s assessment, funding could be challenge for NeoGrowth’s expansion owing to the nature of its loan assets. At the existing levels of borrowings, liquidity is comfortable due to the short tenor of its loan assets (90% of its loan portfolio have a tenor of less than two years). Ind-Ra expects the company to have a lower leverage (1HFY17: debt/equity 1.94x) than that of similar rated peers because of its borrower profile. 

Declining Operational Costs key to Profitability
: NeoGrowth faces operational risks, where the merchant could replace NeoGrowth’s point-of-sale terminal or prompt customers to pay by cash, resulting in NeoGrowth’s loss of visibility about borrower’s cash flows. Such risks are partly mitigated by its daily monitoring model. Ind-Ra expects NeoGrowth’s operating costs as a percentage average loans to decline to 8%-10% in FY19 from 25% in FY16 on account of an improvement in operating leverage. 

In the last two years, the company installed credit assessment and monitoring systems, hired a field team, appointed experienced management members and set up a network of agents and branches. Operating leverage thus could improve return on assets to 3.5%-4% by FY19 from about negative 0.9% in FY16. The company started making profits in 1HFY17, with a profit before tax (not adjusted for prepayment expenses of INR12.5 million) of about INR15.9 million. 

Adequate Capital
: NeoGrowth plans to maintain a minimum capital adequacy ratio of about 20% and a Tier 1 capital of about 15% (September 2016: INR1.51 billion equity capital, 37.4% Tier 1 capital and 37.4% capital adequacy ratio). Considering its asset profile, Ind-Ra expects NeoGrowth to maintain higher capital levels than its peer-rated NBFCs on an ongoing basis. 


RATING SENSITIVITIES

Positive: Sustained growth in operational scale and portfolio while maintaining credit quality, diversification of funding sources, ability to raise a longer tenor debt while maintaining adequate short-term liquidity, and strong capital and operating buffers would enable the company to move down the borrower risk curve, leading to a positive rating action. 

Negative:
Unsustainable increase in credit costs, capitalisation falling below or nearing minimum regulatory requirements and net loss in a financial year could lead to a negative rating action. Moreover, the company’s inability to consistently reduce operating costs or an unsustainable leverage could lead to a negative rating action.


COMPANY PROFILE

NeoGrowth is an NBFC with 11 branches. It primarily lends to retail merchants. Its loan portfolio stood at INR3.92 billion at the end of September 2016.


RATING HISTORY

Instrument Type

Current Rating/Outlook

Historical Rating/Outlook

Rating Type

Outstanding Limits (million)

Rating/Outlook

21 December 2016

NCDs

Long term

USD5 (INR325) (a) *, #

IND BBB/Stable

Provisional IND BBB/Stable

NCDs

Long term

INR175 (reduced from INR500) (b) *, #

Provisional  IND BBB/Stable

Provisional IND BBB/Stable

Commercial paper

Short term

INR100

IND A3+

IND A3+

*Considering USD1/INR65. The issuance size would be determined by the exchange rate at the time of issuance; the total issuance shall not exceed INR 500 million. 
#The sum of (a) and (b) shall not exceed INR500 million. 


COMPLEXITY LEVEL OF INSTRUMENTS

NCDs are instruments with low complexity levels, where the relationship between the inherent risk factors and intrinsic return characteristics is straightforward. 

For more information, visit
https://www.indiaratings.co.in/complexity-indicators.

SOLICITATION DISCLOSURES

Additional information is available at www.indiaratings.co.in. The ratings above were solicited by, or on behalf of, the issuer, and therefore, India Ratings has been compensated for the provision of the ratings. 

Ratings are not a recommendation or suggestion, directly or indirectly, to you or any other person, to buy, sell, make or hold any investment, loan or security or to undertake any investment strategy with respect to any investment, loan or security or any issuer.

ABOUT INDIA RATINGS AND RESEARCH

India Ratings and Research (Ind-Ra) is India's most respected credit rating agency committed to providing India's credit markets accurate, timely and prospective credit opinions. Built on a foundation of independent thinking, rigorous analytics, and an open and balanced approach towards credit research, Ind-Ra has grown rapidly during the past decade, gaining significant market presence in India's fixed income market. 

Ind-Ra currently maintains coverage of corporate issuers, financial institutions (including banks and insurance companies), finance and leasing companies, managed funds, urban local bodies and project finance companies. 

Headquartered in Mumbai, Ind-Ra has six branch offices located in Ahmedabad, Bengaluru, Chennai, Delhi, Hyderabad and Kolkata. Ind-Ra is recognised by the Securities and Exchange Board of India, the Reserve Bank of India and National Housing Bank. 

India Ratings is a 100% owned subsidiary of the Fitch Group.

For more information, visit www.indiaratings.co.in.

DISCLAIMER

ALL CREDIT RATINGS ASSIGNED BY INDIA RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTPS://WWW.INDIARATINGS.CO.IN/RATING-DEFINITIONS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE WWW.INDIARATINGS.CO.IN. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. INDIA RATINGS’ CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE.

Analyst Names

  • Primary Analyst

    Jindal Haria

    Director
    India Ratings and Research Pvt Ltd Wockhardt Towers, 4th floor, West Wing Plot C-2, G Block. Bandra Kurla Complex Bandra (East), Mumbai 400051
    +91 22 40001750

    Media Relation

    Mihir Mukherjee

    Manager Corporate Communications and Investor Relations
    +91 22 40356121