Investors are advised to refer through important disclosures made at the last page of the Research Report.

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1 BSE SENSEX S&P CNX 24,470 7,425 Bloomberg SKSM IN Equity Shares (m) M.Cap. (INR b) / (USD b) 67.6/ Week Range (INR) 590 / 369 1, 6, 12 Rel. Per (%) 16/5/40 12M Avg Val (INR M) 863 Free float (%) 97.3 Financials & Valuation (INR Billion) Y/E March 2016E 2017E 2018E NII 5,774 7,629 10,445 PPP 4,440 5,912 8,071 PAT 3,103 4,329 5,786 EPS (INR) BV/Sh. (INR) RoA on AUM (%) RoE (%) Valuations P/E (x) P/BV (x) January QFY16 Results Update Sector: Financials SKS Microfinance CMP: INR535 TP: INR619 (16%) Buy Firing on all cylinders; scorching performance continues SKSM 3QFY16 PAT was up 94% YoY to INR795m (in line with est.), driven by strong operating performance. Stellar AUM growth of 93% YoY, stable asset quality, increase in average incremental ticket size to above INR15,000 improving operating leverage and marginal cost of funds at sub 10% were the key highlights for the quarter. AUM during the quarter grew at a scorching pace of 93% YoY and 13% QoQ, driven by customer additions and traction in long-term loans. Ticket size increase was also led by RBI s regulation allowing MFIs to lend higher amount to existing borrowers. Long-tenure loans (typically of two years) now constitute 32% of the total loan book v/s ~28% in the last quarter. Disbursements during the quarter were at INR29.8b (up 93% YoY and 12% QoQ). Marginal cost of borrowings (both on and off balance sheet) now stands at 10% v/s 11.9% in FY15 on the back of reduction in base rates by banks during the quarter, further helped by MUDRA loan of INR1b which SKS availed at 10% during the quarter. Strong PAT performance was driven by operating leverage as costs were kept under control evident from C/I ratio, which remained below 50% (at 47%) for the second consecutive quarter. Asset quality improved as absolute GNPA declined to INR63m v/s INR75m in the last quarter. %GNPA stood at 0.1% (stable YoY) and NNPA at 0.1%. Valuation and view: Large unmet demand, low competitive intensity, supportive regulations, strong balance sheet and best-in-class operating metrics have put SKSM on a high growth path. SKSM currently trades at 3.8x FY17E and 3.0x FY18E BV. While the valuations appear high, we believe they are justified given the high medium-term growth visibility, strong profitability and superior asset quality. Current valuations should sustain and could improve, given the strong profitability (42% PAT CAGR over FY15-18), healthy asset quality and capitalization. We increase our FY17/FY18 estimates marginally by 1.4%/2.6% to account for higher growth. Maintain Buy with a target price of INR619 (3.5x FY18E BV). Sunesh Khanna (Sunesh.Khanna@MotilalOswal.com); Alpesh Mehta (Alpesh.Mehta@MotilalOswal.com) / Harshvardhan Agrawal (Harshvardhan.Agrawal@MotilalOswal.com) Investors are advised to refer through important disclosures made at the last page of the Research Report. Motilal Oswal research is available on Bloomberg, Thomson Reuters, Factset and S&P Capital.

2 Exhibit 1: Quarterly performance and reason for deviations Particulars 3QFY16E 3QFY16A v/s Est. Comments Net Income 2,068 2,107 2 Net income largely in-line Operating Expenses PPOP 1,080 1,118 4 Strong AUM growth led to higher PPoP Provisions Profit before Tax 980 1,031 5 Tax Provisions Tax rate 23% Net Profit Int Exp/ operating inc (%) Other Income / Total Income (%) Cost to Income Ratio (%) Tax Rate (%) AUM growth and fee income led to stellar performance AUM growing at stellar pace of 93% YoY AUM during the quarter grew at a scorching pace of 93% YoY and 13% QoQ was driven by customer additions as well as traction in long term loans. SKSM added 337,000 new active borrowers during the quarter which is a multi-year high. RBI during the quarter allowed MFIs to lend higher amount to existing borrowers, this helped the company to increase its average ticket size for exiting borrowers and the same spiked to INR15,692/borrower v/s INR13,405/borrower in the last quarter. Addition of new clients and increase in ticket size lead to strong growth in disbursement during the quarter at INR29.8b up 93% YoY and 12% QoQ. Long tenure loans (typical tenure of 2 years) now constitute 32% of the total loan book v/s ~28% in the last quarter (as ~65% of the fresh disbursement during the quarter were towards long term loan), however, income generating loan still continue to contribute over 41% of the total loan book (v/s ~43% in the last quarter). Cost of borrowing now at 10%; asset quality remains stable Marginal cost of borrowings (both on and off balance sheet) now stands at 10% v/s 11.9% in FY15. This is on back reduction in base rates by the most major banks following 50bps rate cut by the RBI towards the end of September. During the quarter, SKSM availed INR1b loan from MUDRA at 10% for onward lending. This also helped the company lower its borrowing costs. Strong PAT performance was also driven by operating leverage as costs were kept under control, evident from C/I ratio which remained below 50% at 47% for the second consecutive quarter. Asset quality continued to remain impeccable as %GNPA were at 0.1% (stable YoY and 0.2% last quarter) and NNPA at 0.1%. In absolute terms, GNPA declined to INR63m v/s INR75m in the last quarter. Other highlights: a) Market share gain continues for SKS with disbursement share standing at 19% in 2QFY15 and overall market share at 13%. b) MAT is now applicable on the company resulting in tax rate of 23%; un-availed DTA benefits stand at INR3.89b. c) RoE/RoA for 3QFY16 stands at 25.5%/4.5%; CAR at 23.9% with leverage of 3.6x. 28 January

3 Valuation and view The AP-crisis had resulted in a sharp decline in AUM and concurrent increase in GNPA for the MFI industry, leading to huge losses for the participants. However, timely RBI intervention led to stable and uniform regulations across the country. This de-risked the sector and provided a new lease of life to MFI companies, especially SKSM (SKSM had the largest AP portfolio at the time of crisis). The government has clarified that RBI would continue to be the sole regulator of the MFI sector and MUDRA, earlier envisaged as the regulator of MFIs, would now only provide refinancing. The regulatory clarity and continuity bodes well for the overall sector. SKSM has since witnessed an impressive turnaround, led by strong performance across operating parameters. The stock has also been re-rated in the last two years. We expect SKSM to continue to grow at a healthy pace, driven by vast geographic presence, experienced management and efficient operating metrics. We believe SKSM will be a prime beneficiary of underlying growth in the industry. With most of its peers busy turning themselves into SFBs, we expect 43% CAGR in SKSM s AUM over the next 2-3 years. SKSM would be the fastest growing company in our Financials coverage our 3-year PAT CAGR estimate for SKSM is 42%. Low competitive intensity, supportive regulations, strong balance sheet, and best-in class operating metrics have put SKSM on a high growth path. Currently, SKSM quotes at 3.8x FY17E and 3.0x FY18E BV. While these valuations appear high, we note that SKSM has traded at much higher multiples before the Andhra Pradesh crisis. We believe current valuations are justified, given high mediumterm growth visibility, strong profitability, and superior asset quality. Current valuations should sustain and could improve, given strong profitability (42% PAT CAGR over FY15-18), and healthy asset quality and capitalization. We marginally increase our FY17/FY18 estimates by 1.4%/2.6% to account for higher growth. Maintain Buy with target price of INR619 (3.5x FY18E BV). Exhibit 2: We marginally increase our estimates to account for higher AUM growth INR B Old Est Revised Est. % Change FY16 FY17 FY18 FY16 FY17 FY18 FY16 FY17 FY18 NII Other Income Net Income Operating Expenses Operating Profits Provisions PBT Tax PAT Loans Borrowings Spreads (%) RoAA (%) RoAE (%) January

4 Analysts meet highlights SKSM likely to grow at 70-80%: Potential in MFI industry still very large with unmet credit demand of INR1.5-3tn. SKSM hinted that growth is likely to remain at 70-80%; 50-60% coming from new client additions and 18-20% from increase in ticket size. SKSM intends to grow to faster pace primarily because it wants to acquire more clients before SFBs start operations. Further, threats from SHGs have largely subsided for SKSM as nearly 60% of SHGs are operational in AP and TN, areas where SKS has very minimal operations (some operations in AP and none in TN) Increased ticket size, raises concerns of over leveraging SKSM is taking utmost care in ensuring that MFI borrowers are not overleveraged and is strictly following the JLG principles and performing credit bureau checks. Further, as a prudent measure, it provides long term loans, which are loans above INR30,000 for upto two year tenure, only to customers who have completed two loan cycles with the company. With interest rates below 20%, political risks likely mitigated SKS reduced its interest rates to 19.75% in Dec-15. With this it has become the most efficient MFI in the world with sub 20% interest rate. The company is of the opinion that political risks associated with MFIs are largely mitigated by lending below 20%; as their exists many products such as personal loans by banks which charges more than 20% Operating efficiency to kick in with optimal utilization of existing infrastructure Operating leverage is likely to kick in FY17, as the company has now touched 4.2mn customers v/s 5.2mn before the crisis. It is only now that the company s existing infrastructure would be optimally utilized and thus cost efficiencies would kick in. Asset Quality to remain stable Asset quality likely to remain stable. The company being an NBFC is not required to make floating provisions, thus have not made any Cross sell to add 1% to RoA Increased focus on cross sell is likely to add 1% to RoA 28 January

5 Exhibit 3: Quarterly Snapshot FY14 FY15 FY16 Variation (%) 1QFY14 2QFY14 3QFY14 4QFY14 1QFY15 2QFY15 3QFY15 4QFY15 1QFY16 2QFY16 3QFY16 QoQ YoY Profit and Loss (INR m) Income from operations 1,028 1,143 1,148 1,169 1,272 1,658 1,635 1,767 2,173 2,664 2, Other operating income Total operating income 1,174 1,300 1,333 1,383 1,518 1,901 1,844 1,976 2,409 2,913 3, Other Income Total Income 1,226 1,352 1,397 1,474 1,690 2,010 2,069 2,262 2,826 3,243 3, Interest expenses ,008 1,169 1, Net income ,211 1,339 1,282 1,408 1,819 2,073 2, Total Opex Employees Depreciation and Amrt Others Operating profits ,099 1, Provisions and write offs Profit before tax ,012 1, Taxes NA Profit after tax Asset quality (Overall) Gross NPA Net NPA GNPA (%) NNPA (%) AUM related Overall AUM 23,450 23,480 23,640 28,370 27,830 30,430 31,950 41,710 47,970 54,620 61, On balance sheet 16,110 17,030 17,830 15,230 20,410 27,930 27,250 29,110 38,520 47,530 50, Other details CAR Branches 1,255 1,254 1,256 1,255 1,268 1,268 1,268 1,268 1,268 1,268 1,300 Centers (Sangam) 213, , , , , , , , , , ,214 Loan officers 6,429 5,647 5,350 5,259 5,124 5,094 5,104 5,286 5,656 6,066 6, January

6 Story in charts Exhibit 4: GLP grew at stellar 93% YoY SKS GLP (INR bn) YoY Growth (%) Exhibit 5: Client additions were also strong at 17% SKS Clients (mn) YoY Growth (%) QFY14 2QFY14 3QFY14 4QFY14 1QFY15 2QFY15 3QFY15 4QFY15 1QFY16 2QFY16 3QFY16 1QFY14 2QFY14 3QFY14 4QFY14 1QFY15 2QFY15 3QFY15 4QFY15 1QFY16 2QFY16 3QFY16 Exhibit 6: Ticket size spiked following RBI regulation Exhibit 7: Cost of borrowing declined to 11.3% 11,826 11,998 11,001 11,186 SKS Avg Tkt Size (INR) YoY Growth (%) 10,652 6 (4) (2) 14 (5) 12, , ,405 13,369 13, ,692 Cost of borrowing (%) 1QFY QFY14 3QFY14 4QFY14 1QFY15 2QFY15 3QFY15 4QFY15 1QFY16 2QFY16 3QFY16 1QFY13 2QFY13 3QFY13 4QFY13 1QFY14 2QFY14 3QFY14 4QFY14 1QFY15 2QFY15 3QFY15 4QFY15 1QFY16 2QFY16 3QFY16 Exhibit 8: Operating efficiency kicking in; C/I ratio at <50% Exhibit 9: Asset quality remains range bound Cost/Income Ratio (%) GNPA (%) NNPA (%) QFY14 2QFY14 3QFY14 4QFY14 1QFY15 2QFY15 3QFY15 4QFY15 1QFY16 2QFY16 3QFY16 1QFY14 2QFY14 3QFY14 4QFY14 1QFY15 2QFY15 3QFY15 4QFY15 1QFY16 2QFY16 3QFY16 28 January

7 Exhibit 10: Financials: Valuation Metrics 66 Rating CMP Mcap EPS (INR) P/E (x) BV (INR) P/BV (x) RoA (%) RoE (%) (INR) (USDb) FY16 FY17 FY16 FY17 FY16 FY17 FY16 FY17 FY16 FY17 FY16 FY17 ICICIBC* Buy HDFCB Buy 1, AXSB Buy KMB* Neutral YES Buy IIB Buy DCBB Under Review FB Neutral JKBK Neutral SIB Buy Private Aggregate SBIN (cons)* Buy PNB Under Review BOI Neutral BOB Buy CBK Under Review UNBK Buy OBC Under Review INBK Buy CRPBK Neutral ANDB Buy IDBI Neutral DBNK Neutral Public Aggregate HDFC* Buy 1, LICHF Buy DEWH Buy IHFL Buy GRHF Buy REPCO Buy RECL Under Review POWF Under Review SHTF Buy MMFS Buy BAF Buy 5, ,582 1, MUTH Buy SKSM Buy NBFC Aggregate *Multiples adj. for value of key ventures/investments; For ICICI Bank and HDFC Ltd BV is adjusted for investments in subsidiaries 28 January

8 Financials and valuations INCOME STATEMENT (INR Million) Y/E MARCH E 2017E 2018E Interest Income on books Port. 3,589 2,200 3,930 5,665 9,587 12,983 16,860 Interest Expense 2,001 1,427 2,142 2,790 4,970 6,555 8,114 Net Financing income 1, ,788 2,874 4,617 6,429 8,746 Change (%) Income from assignment of loans ,158 1,200 1,700 Net Income (Incl Secur) 1,933 1,353 2,345 3,542 5,774 7,629 10,445 Change (%) Other operating income ,054 1,529 1,964 Other Income ,541 1,741 1,841 Net Income 2,722 2,098 3,306 5,240 8,369 10,899 14,250 Change (%) Operating Expenses 4,224 2,626 2,462 3,204 3,929 4,986 6,180 Change (%) Operating Profits -1, ,036 4,440 5,912 8,071 Change (%) Total Provisions 11,735 2, % to operating income PBT -13,237-2, ,936 4,030 5,479 7,324 Tax ,151 1,538 Tax Rate (%) PAT -13,606-2, ,877 3,103 4,329 5,786 Change (%) -1, Proposed Dividend ,157 BALANCE SHEET Y/E MARCH E 2017E 2018E Equity Share Capital 724 1,082 1,082 1,263 1,263 1,263 1,263 Reserves & Surplus 3,623 2,822 3,510 9,202 12,305 16,633 21,065 Networth 4,347 3,904 4,592 10,465 13,568 17,896 22,328 Borrowings 10,213 16,186 15,313 32,800 55,955 68,898 93,377 Change (%) Other liabilities 2,245 5,024 5,067 3,722 4,094 4,504 4,954 Change (%) Total Liabilities 16,805 25,115 24,972 46,987 73,617 91, ,659 Loans 9,496 15,654 17,528 29,584 49,800 63,386 85,907 Change (%) Investments Net Fixed Assets Other assets 7,101 9,346 7,330 17,299 23,724 27,827 34,675 Total Assets 16,805 25,115 24,972 46,987 73,617 91, , January

9 Financials and valuations RATIOS Y/E MARCH E 2017E 2018E Spreads Analysis (%) Avg. Yield - on Financing portfolio Avg. Cost of funds Interest Spread on Financing portfolio Net Interest Margin (incl Securitization) Net Interest Margin (Excl Securitization) Profitability Ratios (%) RoE RoA Op. Exps./Net Income Empl. Cost/Op. Exps Asset-Liability Profile (%) Net NPAs to Adv Debt/Equity (x) Average leverage CAR Valuations E 2017E 2018E Book Value (INR) Price-BV (x) EPS (INR) EPS Growth (%) -1, Price-Earnings (x) E: MOSL Estimates 28 January

10 Corporate profile Company description SKS Microfinance (SKSM) is the largest microfinance company in India in terms of gross loan portfolio. Its core business is providing small value loans and other basic financial services to its customers, who are predominantly located in rural areas. The company extends loans to them mainly for use in small businesses or for other income generating activities and not for personal consumption. As of 3QFY16, SKSM had an overall AUM of over INR60, with active customer base of 4.2m spread across 1,268 branches. Exhibit 11: Sensex rebased Exhibit 12: Shareholding pattern (%) Dec-15 Sep-15 Dec-14 Promoter DII FII Others Note: FII Includes depository receipts Exhibit 13: Top holders Holder Name % Holding IDFC Premier Equity Fund 5.3 Amansa Holdings Pvt Ltd 4.3 Sandstone Investment Partners I 4.1 Vinod Khosla 3.3 Tree Line Asia Master Fund (Singapore) Pte Ltd 3.0 Exhibit 14: Top management Name Designation Exhibit 15: Directors Name Name P H Ravi Kumar Chairman (Non-Executive) Sumir Chadha S Balachandran* M R Rao Managing Director & CEO Tarun Khanna* Punita Kumar Sinha* Paresh D Patel Geoffrey Tanner Woolley* P Krishnamurthy* *Independent Exhibit 16: Auditors Name S R Batliboi & Co LLP Type Statutory Exhibit 17: MOSL forecast v/s consensus EPS (INR) MOSL forecast Consensus forecast Variation (%) FY FY FY January

11 N O T E S 28 January

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