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A diversified business model will take Motilal Oswal forward, but the market turmoil could hamper its growth

Motilal Oswal Securities LtdMotilal Oswal Securities Ltd was (MOSL) founded in 1987 as a small sub-broking unit, with just two people running the show. Today, after over two decades, the company has evolved into Motilal Oswal Financial Services — a diversified financial services group with presence in the businesses of securities, commodities, investment banking and venture capital.

Company’s customer-first attitude, research-based value investing and the implementation of cutting-edge technology has enabled it to blossom into a 2,000-member conglomerate.

The company witnessed rapid organic growth due to favourable market conditions as well as efforts put in by the company itself. Furthermore, between FY05 and FY06, the company grew inorganically and acquired three significant regional broking firms in Karnataka, Kerala and Uttar Pradesh.

The company’s portfolio of services comprises advice-based broking (equities and derivatives), portfolio management services, e-broking, depository services, commodities trading, IPO and mutual fund investment services. Motilal Oswal’s solid foundation is based on research. At present, it has 24 equity analysts tracking over 26 sectors. its research reports have received wide coverage in the media and the company has won various accolades from the Asiamoney broker’s poll as well.

Investment Rationale
Strong Competitive Positioning
MOSL, being one of India’s leading stock broking firms, has an ever-growing client base and a wide distribution network. Its respected research presence has helped it attain robust growth in its retail business. The company also has a strong institutional equity business. It has consistently improved its market share in terms of traded volumes on the stock exchanges.

Prominence in Retail Broking
In FY07, about 70 per cent of MOSL’s broking revenues came from the retail segment, which is a phenomenal achievement. The company has focused on retail clients right from the time of its inception and has increased the retail base very rapidly in the past couple of years. A wide distribution network and customised investment management services coupled with initiatives like internet-based trading has enabled the company to carve a niche for itself in retail broking.


Financials
  FY 06  FY 07  FY 08
Net Sales (Rs cr) 0.02 10.97 35.48
PAT (Rs cr)* -0.24 5.75 17.18
EPS (Rs) - 0.47 1.27
RONW (%) - 6.97 6.14
ROCE (%) - 10.61 10.41
FY ending March 31 each year
*Net of non-recurring transactions

Institutional Broking Prospects
MOSL provides equity broking services in the cash and derivatives segments for institutions. The company’s institutional clients include FIIs, corporates, mutual funds, banks & financial institutions and insurance companies. On 31st December, 2007, MOSL had 283 institutional clients. Furthermore, the company has immense potential of increasing its institutional broking business with its strong research focus and foray into investment banking.

Empowered Robust Franchise Model
On 31st December, 2007, MOSL had presence in 426 cities and towns across India, with 1,339 outlets. The company has achieved this wide network through a robust franchise model where it authorises those who are interested in running brokerages. MOSL lends its brand name and infrastructure and in turn gets a share in the brokerage generated by the franchisee. This model has brought the company various benefits in the form of a wider distribution network, low capex in setting up branches and better operating efficiencies.

Risks & Concerns
Dependence on Capital Markets
MOSL’s business verticals of securities, venture capital management and investment banking are directly leveraged to the performance of the capital markets. In the event of a market downturn, like the one we have experienced now, the company’s profitability could get adversely affected.

Fragmentation in Financial Services
Most segments in the financial services sector are highly fragmented, which signifies the fact that the entry barriers to the industry are low and therefore puts pressure on pricing power and profitability. However, of late, a consolidation has started taking place in the sector. But at the same time, any unwarranted consolidation can also lead to pricing wars in the industry.

Regulatory Risks
With the recent volatility in the Indian markets, SEBI has become increasingly vigilant and hence, any new imposition of trading and legal laws might impact the trading activity in the markets and consequently, affect the business of broking companies.

Differences with Franchisees
A significant amount of MOSL’s retail business comes from its franchisees and any differences with the franchisee owners might affect the company’s business growth adversely.

Valuations
It is believed that brokerage firms should command multiples above/below the index multiples. The median multiples at which the Sensex has traded over the past 15 year is 15x. Factoring this, and taking into account MOSL’s diversified revenue business stream, the company’s stock should ideally trade near the index multiple. A P/E multiple of 13x (10 per cent discount to the market multiple and keeping in view the high beta of brokerage stocks) has been assigned to its FY10E EPS of Rs 63.4 to arrive at a target price of Rs 824, which implies an upside potential of 41 per cent over a period of 12-15 months.



Source: ICICI Direct