Five Star Finance seeks $1.2 billion valuation, Morgan Stanley may exit

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Exclusive: Five Star Finance seeks $1.2 billion valuation, Morgan Stanley may exit

Investors in non-bank lender Five Star Business Finance are in talks for a secondary share sale, valuing the company at $1.2-1.3 billion (Rs 9,000 crore) and making it India’s newest unicorn, sources told Moneycontrol.

Existing investor Morgan Stanley Private Equity could sell a part of its stake for close to $100 million to Sequoia Capital’s Global Growth Fund, an $8 billion investment vehicle meant to back the best companies from its portfolio worldwide, said these people, who requested anonymity. Sequoia India is already an investor in Five Star.

Five Star, which provides secured loans to small businesses, also counts Matrix Partners, Norwest Venture Partners and private equity giant TPG as its investors. It was valued at $950 million in July 2019, when TPG led a $50 million round.

Sequoia declined to comment while Five Star and Morgan Stanley did not respond to emails seeking comment.

Birth of Five Star

Five Star Finance was founded in 1984 by VK Ramanathan, who then handed over control of the business to relative D Lakshmipathy. It started by focussing on consumer and auto loans.

However, it shifted focus to small and medium businesses (SMEs) in 2005. Till 2004, it had a loan book of less than Rs 1 crore, which grew to Rs 100 crore by 2012. The lender’s real growth has come since 2012, and it has grown 20 times since.

It also raised its first round of funding from Matrix in 2014. The promoters also brought in Rangarajan Krishnan from investment banking firm Spark Capital in 2015. Krishnan is the company’s CEO now.

It currently lends between Rs 3.5-4 lakh on an average to self-employed borrowers, including small shop owners for 2-7 years, at an interest rate of about 20 percent. About a quarter of its business also comes from mortgage loans to SMEs and small ticket consumer housing loans.

Tamil Nadu, Karnataka and Andhra Pradesh accounted for 96 percent of the company’s overall disbursements, although it has been looking to expand in Uttar Pradesh, Chhattisgarh, Maharashtra and Madhya Pradesh more recently.

For FY20, Five Star reported a net profit of Rs 261.9 crore on a total income of Rs 787.3 crore, compared with a net profit of Rs 156.7 crore on a total income of Rs 408.9 crore for FY19.

The lender’s net non-performing assets (NPAs) or defaults rose from 0.7 percent in FY19 to 1.1 percent in FY20, according to a report from rating agency ICRA. It has lent over Rs 4,000 crore so far to over 1.5 lakh customers over the years, as per its website.

COVID-19 hit most unlisted lending and new-age lending firms, with disbursements stopping for a few months, followed by a relatively slow recovery. However, sources said that Five Star’s secured lending model, as well as an experienced team, helped it bounce back quickly. For the first quarter of FY21, Five Star was expected to have a profit of Rs 88.6 crore on a revenue of Rs 243.9 crore.

‘Dream investment’

Five Star is an offline lender and has 262 branches, but has still been able to grow quickly and profitably, unlike some of its fintech rivals, which have ventured into unsecured lending for small businesses and been app-based digital lenders, but have not reached similar scale yet.

Because the company is profitable and growing, the existing round is also meant to facilitate Sequoia Growth’s entry and Morgan Stanley’s exit, with only a negligible part of the $100 million, going as primary capital into the company.

“There are very few NBFCs which have performed well as Five Star in the last decade. They have grown like a tech company without any of the risk or the cash burn. They keep growing and have managed to keep defaults low. It is a dream investment for all its investors,” said an investor in the space, requesting anonymity.

Sequoia’s Global Growth Fund was raised with much fanfare, and was seen as an attempt to match Softbank’s much larger Vision Fund, in an era of abundant late-stage capital for internet firms.

However, Sequoia has been somewhat careful to invest from the fund, and has been looking for companies which are less capital-intensive. Its investments from this fund include TikTok owner- China’s ByteDance, and enterprise software firms Snowflake and the homegrown Freshworks.

The deal could also make Five Star Finance 2021’s fourth unicorn — private firms valued at over a billion dollars — after insurance distributor Digit and software-as-a-service firm Innovaccer and business-to-business marketplace Infra.market.