Rating Rationale

Edelweiss Housing Finance Limited

Rating outlook revised to 'Positive', rating reaffirmed

Total Bank Loan Facilities Rated	Rs.8350 Million
Long Term Rating	CRISIL AA-/Positive (Outlook revised from 'Stable'; Rating Reaffirmed)

(Refer to Annexure 1 for Facility-wise details)

Rs.1.5 Billion Non Convertible Debentures	CRISIL AA-/Positive (Outlook revised from 'Stable'; Rating Reaffirmed)
Rs.5 Billion Short Term Debt	CRISIL A1+ (Reaffirmed)

CRISIL has revised its rating outlook on the long-term debt instruments and bank facilities of Edelweiss Housing Finance Ltd (EHFL; part of the Edelweiss group) to 'Positive' from 'Stable', while reaffirming the ratings at 'CRISIL AA-'. The ratings on the company's short-term debt instruments has been reaffirmed at 'CRISIL A1+'.

The outlook revision primarily reflects CRISIL's expectation of continued diversification in the Edelweiss group's business and earnings profile over the medium term. The group has also demonstrated its ability to build significant competitive positions in multiple lines of business. Furthermore, given the group's established market position in capital market-related segments, it will continue to benefit from the improved operating environment for these businesses, resulting in higher earnings and accruals to capital over the medium term. CRISIL's ratings also reflect the Edelweiss group's comfortable liquidity policy. These rating strengths are partially offset by the vulnerability of the Edelweiss group's asset quality to the inherent concentration risks in the wholesale lending segment. Furthermore, the group's gearing has been increasing and its profitability ratios are lower than those of its peers.

For arriving at the ratings, CRISIL has combined the business and financial risk profiles of all entities in the Edelweiss group because of their significant operational and financial integration.

The Edelweiss group has been diversifying within each of its key businesses, as well as entering new businesses, over the past few years. Many of these have now attained reasonable scale and are expected to lend greater stability to the group's earnings profile. In terms of diversification in lending, the share of retail and small and medium enterprise (SME) loans has increased to almost 30 per cent of the group's overall loan portfolio as on March 31, 2015, from 18 per cent four years earlier; this portfolio stood at Rs.41.9 billion as on March 31, 2015. The share is expected to increase further to around 50 per cent over the medium term. Increase in the share of retail and SME financing as planned is a key rating monitorable. Within capital markets, retail broking volumes now constitute around half the group's overall broking volumes. In the commodities business, agricultural commodities have become a focus area in 2014-15 (refers to financial year, April 1 to March 31) and the group is rapidly scaling up this business. In terms of new business lines, the group's life insurance business has grown significantly and is expected to break-even over the next three to four years. As the group's retail and SME businesses expand further, and the life insurance business turns profitable, the revenue contribution from the retail segments is expected to increase.

The Edelweiss group has also been able to build significant competitive positions across multiple business segments. While it continues to be a large player in the traditional broking business, it also has one of the largest wholesale lending books among non-banks; this portfolio stood at Rs.96.2 billion (excluding lending to its associate company) as on March 31, 2015. In the distressed assets segment, its associate company, Edelweiss Asset Reconstruction Company, is now the largest in the country with total securities receipts managed of Rs.200.8 billion. In the commodities space, the group is one of the largest non-bank importers of precious metals. It is also rapidly scaling up its agricultural commodities business and CRISIL believes that its presence across both the physical and financing segments of this business will allow it to build a meaningful presence.

The Edelweiss group's earnings and accruals to capital are expected to significantly benefit from the buoyancy in the capital markets over the medium term given its established market position in related businesses. Profit from the fee-based capital markets and asset management businesses has doubled in 2014-15 compared with 2013-14, and is expected to witness healthy growth over the medium term. The group has an established franchise in institutional broking and investment banking, and an expanding presence in retail broking, wealth management, and asset management. It is also one of the largest Indian institutional brokerage houses, with over 400 foreign and domestic institutional clients. The retail broking franchise is also expanding, with around 44 million clients as on March 31, 2015. The Edelweiss group operates across the corporate finance and advisory domains - equity markets, private equity, mergers and acquisitions, advisory structured financial syndication, and debt issues. The group's wealth business and alternate assets business has also witnessed significant growth.

The Edelweiss group also has a comfortable liquidity policy. The liquidity cushion, which was around Rs.8 billion till December 31, 2014, has been increased to Rs.10 billion from April 1, 2015 and is expected to further increase in stages to around Rs. 20 billion during 2015-16. The liquidity cushion consists of unencumbered government securities and fixed deposits, unutilised bank lines, and liquid shares. Within this, the proportion of liquid shares is restricted to around 15 per cent of the total liquidity cushion. To further manage liquidity requirements, the group has placed a limit on the quantum of debt coming up for repayments over a three-month period. The group's assets and liabilities continue to be well-matched as can be seen from the trend in cumulative mismatches in three-month and one-year buckets. CRISIL believes that the group's focus on liquidity will hold it in good stead as it grows its balance sheet.

However, the Edelweiss group's asset quality will remain vulnerable to the concentration risks inherent in its wholesale loan book, despite the strong focus on collateral. As on March 31, 2015, the group's wholesale book constituted almost 70 per cent of its total loan portfolio, with the ten largest loans constituting around 33 per cent of the wholesale portfolio. Furthermore, around 38 per cent of the wholesale portfolio comprises real estate loans; this segment is vulnerable to cyclical downturns. The group follows strong credit appraisal and risk management practices and has good collateral cover for its wholesale loans; the level of gross non-performing assets was comfortable at around 1.3 per cent as on March 31, 2015. However, CRISIL believes that the inherent nature of the loan portfolio renders the group vulnerable to economic stress; any sharp deterioration in asset quality would also impact its profitability and capital. The proportion of wholesale lending in the overall credit book remains a key rating monitorable.

Furthermore, the Edelweiss group's gearing has increased significantly in 2014-15 and is higher than that of its peers. As on March 31, 2015, the group's gearing was 7.0 times (5.8 times net of borrowings against government securities) against 4.2 times (3.4 times) as on March 31, 2014. This has been due to expansion in both the credit and commodities businesses, requirement for higher margins in the broking business, as well as the increase in treasury assets. With expected growth across businesses, especially credit, over the medium term, the gearing is expected to increase to around 8.5 times (net gearing of 7 times) over the medium term. While the risks of a higher gearing are partially mitigated by the group's limits on short-term debt maturity and the liquidity cushion available, the pace of increase in gearing will remain a key rating monitorable.

The Edelweiss group's profitability ratios are lower than that of other large financial sector groups with a return on assets of 1.4 per cent and a return on equity of 10.2 per cent in 2014-15. While profitability has been improving over the past few years, it remains lower than that of its peers. This is because a significant portion, over 25 per cent, of the group's capital (equity+ borrowings) is employed in businesses or investments that are either low-yielding or loss-making at this point. The group has a large balance sheet management portfolio, which comprises largely of government securities, fixed deposits, and corporate bonds; this is used for liquidity management. The return on capital employed in this portfolio was around 1.2 per cent in 2014-15. Furthermore, the insurance business continues to be loss-making (net loss of Rs.520 million in 2014-15). Investments for corporate purposes, such as for the office building, also do not earn returns for the group. Expected improvement in the profitability of the insurance business, and reduction in the share of funds allocated towards balance sheet management will benefit the group's profitability only over the medium to long term.