India Ratings & Research (Ind-Ra) has upgraded Shriram City Union Finance's (SCUF) Long-Term Issuer Rating to 'AA' from 'AA-'. The outlook is stable. Ind-Ra has also assigned SCUF's proposed Rs 2 billion non-convertible debentures issue an 'AA' rating.

The upgrade reflects strengthening in SCUF's credit profile as reflected in its healthy capitalisation levels and continued strong pre-provision operating profit (PPOP) buffer. The upgrade also reflects the company's tested risk management systems that have helped it maintain stable through-the-cycle asset quality, and its well-diversified funding profile and sound liquidity. Ind-Ra expects that these metrics will be sustained over the near-to-medium term. The prevailing weak economic environment may exert pressure on SCUF's loan portfolio, leading to a rise in near-term delinquencies; however, the company's strong PPOP and adequate loan loss reserves provide sufficient cushion to absorb increases in delinquencies and credit costs. 

SCUF's ratings also factor in operating support from the Shriram group. SCUF leverages its strong inter-linkages with the group (Shriram Transport Finance Company, 'AA'/Stable', and Shriram Chits) for customer acquisition, regional expansion and funding access.

Operating profitability remains strong (PPOP/average loans: 8.64% at 9MFY14; FY09-9MFY14 median: 8.47%). PPOP may further improve in the near-term due to higher overall yields on advances as SCUF continues to taper its proportion of lower-yielding gold loans and increase higher-yielding SME and two-wheeler loans. Return on average assets (RoAA; 9MFY14: 3.19%; FYE13: 3.13%) is highest among peers rated in the 'AA' range, and is supported by a robust net interest margin (9MFY14: 11.5% of average earning assets) and reasonable operating expenses (cost/income ratio: 38.6%).

Ind-Ra estimates that provisions in The Companies Act, 2013 requiring non-banking finance companies to maintain 15% of their debentures maturing during the year in either deposits or central or state govt securities may lead to SCUF's RoAA dropping by around 15bp-20bp over the medium-term. That being said, SCUF is likely to pass on increased costs to its customers, who are largely under banked and thus somewhat less price sensitive.  

Shares of the company declined Rs 8.45, or 0.7%, to settle at Rs 1,202. The total volume of shares traded was 178 at the BSE (Friday).