New Delhi [India], August 28 (ANI): Non-banking financial companies (NBFCs) are entering a new cyclical recovery, with improving loan growth, asset quality and profitability expected to drive a broad-based earnings upgrade, Motilal Oswal Financial Services said in a report.

The brokerage expects profit after tax (PAT) for its NBFC coverage universe to grow 24 per cent in FY27 and 18 per cent in FY28, as the first-quarter earnings season validated a recovery that is increasingly being supported by multiple factors rather than only lower credit costs.

'The 1QFY27 earnings season has strongly validated our thesis that NBFCs are entering a new cyclical recovery,' the report said, adding that operating performance has improved through healthy loan growth, broad-based asset-quality normalisation, resilient margins and improving operating leverage.

The report said the current recovery differs from earlier cycles because earnings improvements are being supported simultaneously by healthy loan growth across secured and unsecured segments, faster-than-expected normalisation in credit costs, moderation in funding costs, resilient margins and improving operating leverage.

However, the report flagged several risks that could affect the sector's recovery. The ongoing West Asia crisis and any further escalation could push up crude oil prices and domestic inflation, potentially delaying monetary easing and tightening financial conditions. Higher energy prices could also raise borrowing costs and weaken credit demand.

Monsoon conditions and the possible development of El Nino are another key monitorable, particularly for rural-focused lenders. A weaker-than-normal or uneven monsoon could hurt rural incomes and consumption, reduce credit demand and lead to higher delinquencies in segments such as microfinance and vehicle financing, the report said.

Motilal Oswal also expects interest rates could rise by 25-50 basis points over the next 6-9 months, depending on inflation and broader economic conditions. Such a rise could increase funding costs and put pressure on margins, particularly for NBFCs with limited pricing power.

Asset quality has emerged as the 'most notable surprise', according to the report, with collection efficiencies improving and fresh slippages moderating after nearly two years of stress in segments including microfinance and unsecured loans.

The brokerage expects diversified NBFCs' PAT to rise 40 per cent in FY27 and 28 per cent in FY28, while vehicle financiers' PAT is projected to grow 39 per cent and 18 per cent, respectively. Housing finance companies are expected to see more moderate PAT growth of 8 per cent in FY27 and 13 per cent in FY28.

The report further said the sector's focus is shifting from recovery to the durability of the earnings and return-ratio cycle. 'The question is no longer whether the cyclical recovery will materialize but how far the earnings and return-ratio cycle can extend,' it said. (ANI)