Tata Capital growth outlook stays positive despite near-term headwinds

Asset quality is comfortable for the Tata Group-owned non-banking finance company (NBFC), with no signs of early stress. But sustained high crude prices are an area of concern. There is pressure on NIM (net interest margin), but a strategy of targeting higher yields should support recovery from the second half (H2) of 2026-27 (FY27).

Margins will be under pressure in Q2 due to rising costs of funds. Lower FCNR rates are yet to translate into lower borrowing costs for NBFCs. Tata Capital has increased its repo-linked borrowing, while roughly 66 per cent of assets are at floating rates. Management thinks the economy can absorb around 50-75 bps of rate increases without much impact on growth, and it does not envisage a sustained high-rate environment.

The proposed Reserve Bank of India (RBI) framework on revolving credit and flexi loans is an important monitorable. The draft amendment directions seek to restrict NBFCs from offering revolving credit. Management has given detailed inputs to the RBI, with a key regulatory concern being the liquidity risk of borrowers drawing their entire sanctioned limits during periods of stressed liquidity. Other stakeholders have also given inputs to the RBI.

The company said around 80 per cent of its customers using such facilities do not have similar limits from banks and that ticket sizes are generally small. LAS (loans against securities) and supply-chain or channel financing constitute around 95 per cent of the flexi exposure and could be more difficult to restructure if the framework is revised. Management expects the final regulation to change materially from the current draft.

Around 8-9 per cent of Tata Capital’s overall book falls under the broad flexi or revolving category. But less than 5 per cent of this exposure is a true revolving line, with the balance more like a term loan and thus relatively easier to convert into a conventional term-loan structure. The FIDC (Finance Industry Development Council) is still collecting additional data and feedback, particularly from smaller NBFCs.

The high FCNR inflows have improved system liquidity but have not translated into a meaningful reduction in NBFC funding costs so far. There hasn’t been a clear pass-through of lower FCNR funding costs from banks to NBFCs. Short-term funding costs, including commercial paper (CP) rates, have hardened recently. There is a possibility of higher rates going forward. Banks being flush with funds could get aggressive.

Tata Capital had increased its reliance on repo-linked liabilities and benefited during the rate-cut cycle. Around 66 per cent of assets are at floating rates. Bank borrowings account for 40 per cent of liabilities, of which around 84-85 per cent are linked to repo or G-sec rates. Going forward, lower funding costs could see banks become more aggressive in home loans and large corporate lending, increasing competitive intensity.

The company is increasing the mix of higher-yielding products, with home loans also to be added from the next quarter. The benefits of this strategy are expected to become visible from Q3 and Q4. Credit costs have positive trends, with credit cost guidance of less than 1 per cent, despite the higher-yielding mix, for a potential 5-10 bps increase in credit costs.

Management remains confident of achieving its growth guidance, as volume is healthy across retail and SME, while corporate and SME customers are also providing visibility. The trend is positive in two-wheeler financing, and passenger vehicle demand is also healthy. The CV segment is expected to break even in Q3 and return to growth thereafter.

There is no apparent cause for concern on asset quality, but high crude prices remain a near-term risk for SME and CV. Management may reassess the approach towards SME lending soon if crude stays elevated, and motor finance could require higher provisioning. Tata Capital has limited exposure to IT, with only 4 per cent of channel-finance exposure. The company is assessing the potential impact of GenAI.

The company will not pursue large inorganic opportunities given the constraints such transactions could create on the borrowing side. The strategic preference is to push growth organically across retail, SME, etc.

Apart from guidance of 23-25 per cent growth and credit costs and net NPAs being held below 1 per cent, the company is looking at a cost-to-income ratio of 33-34 per cent and believes it can deliver a return on assets of 2.5-2.7 per cent for a return on equity of 17-18 per cent.

According to Bloomberg, seven of the eight analysts polled this month are bullish, while one is neutral. Their average one-year target price is Rs 414, compared with Monday’s closing price of Rs 343.55 on the BSE.