Bajaj Holdings' prospects are closely entwined with those of India’s burgeoning middle class.

Based in Pune, Maharashtra, the company’s two businesses reflect the growing financial strength of the Indian consumer. Bajaj Auto is a leading manufacturer of two and three-wheeler vehicles, while Bajaj Fin Serve is a consumer finance company.

Our ‘follow-the-cashflow’ analysis, focusing on companies with strong balance sheets and attractive fundamentals, means we are always alert to opportunities in cash-generative businesses capable of paying out sustainable and growing dividends to shareholders.

Boom time for motorbikes and three-wheelers

Two- and three-wheelers rule the road in India. Scooters and motorcycles vastly outnumber passenger cars, and tuk-tuk auto rickshaws are ubiquitous in cities nationwide.

Bajaj Auto’s vehicles, including the popular Pulsar range of motorbikes, are competitively priced. Most importantly though, the company has invested in the durability of its products, which tend to hold their value better than those of competitors. Not only that, Bajaj has expanded into other geographical markets, such as Africa and Latin America, with exports comprising around 40% of the company’s total sales (1).

The next generation of transportation – electric vehicles – should also be a major positive for the company. According to McKinsey, Indian demand for small format e-mobility (which includes motorbikes, scooters and three-wheelers) could rise to about 9 million units by the 2030 financial year, taking an ever-larger share of the total market (2). Bajaj Auto has been extremely proactive already in electrifying its vehicles, which should mean it is able to further grow market share at home and overseas.

A roadmap for financial services

Originally, the finance arm of Bajaj’s operations was merely focused on providing loans for two and three-wheelers and there’s still a widespread view among investors that this is a niche part of the business. We don’t believe this is the case.

From small beginnings, Bajaj FinServe and its subsidiary, Bajaj Finance, have branched out into providing more substantial loans, mortgages and insurance. Over time, we expect the non-bank financial institution to take greater market share, in particular, from Indian state-owned banks.

The key to success for any financial institution is identifying a healthy customer base and pricing the level of risk into the interest rates it offers. Bajaj Finance has proved highly adept in this department, even as it expands into more complex areas like mortgages.

Accelerating digitalisation

A second real positive is the company’s leading role in digitalisation. It has forged ahead with new digital initiatives, including a personal loan app, to expand the availability of its products. Digitalisation is especially important in a country like India, where many of the population (particularly those in rural areas) have not previously had access to formal credit. A larger digital footprint means Bajaj Finance is now able to offer loans and services to large sections of the population previously considered as ‘unbanked’.

Navigating the aspiration nation

Bajaj’s growth is supported by India’s highly attractive demographics. A growing working-age population, coupled with fewer people having to support dependents, creates ideal conditions for faster economic growth. With it, a major shift is forecast in household income. As you can see in Chart 1 below, Morgan Stanley expects nearly half of India’s households to be in the $10,000–$35,000 GDP per capita bracket by 2031. In fact, the investment bank expects more than double the number of households to be in this bracket by 2031 versus a decade earlier (3). It also predicts that private consumption will more than double, from $2 trillion in 2020 to $4.5 trillion by the end of the current decade (4).

Chart 1: Households by income distribution

Source: Morgan Stanley Research estimates, 31 October 2022

A route to long-term income?

What does all this mean for equity income investors? Bajaj Holdings' dividend yield today, based on our initiation price, is 13.02% (5). As investors, we look for healthy businesses that can generate attractive income streams, pay some of that income to shareholders in the form of a dividend, and show the potential to grow that dividend over time. Bajaj Holdings ticks all our boxes.

Bajaj Auto operates in a part of the industry that is not capital-intensive – unlike car manufacturers – but is still cash-generative. Meanwhile, although the finance operations require capital to accelerate their growth, they have been remarkably successful at building business in a cost-effective way.

Putting the two streams together, we have an expanding cash-generative automotive business and a profitable and growing lender. These two revenue sources should lead reasonable yields with the potential to compound at a high rate.

Companies are selected for illustrative purposes only to demonstrate the investment management style described herein and not as an investment recommendation or indication of future performance. The value of investments, and the income from them, can go down as well as up and an investor may get back less than the amount invested. Past performance is not a guide to future results.