CDSL’s bull run faces a margin crunch: Should investors worry?

So what gives?

To understand what’s going on, let’s start with a simple metaphor called The Restaurant Test.

The Restaurant Test

Think of a restaurant. Whether it serves 50 people in one night or 500, some costs do not change. These are called fixed costs, such as rent, kitchen equipment, salaries of chefs and permanent staff, electricity, etc.

When the restaurant is full, these fixed costs get spread over a large number of customers. This means the cost per meal is low, and the restaurant makes more profit on each additional plate served. This is what people call operating leverage, working in your favour. Your profits grow faster than your sales once fixed costs are covered.

But imagine the situation reverses.

Suddenly, the restaurant only gets 50 customers a night. Even then, you still have to pay the same rent and salaries. You cannot send the chef home or switch off the kitchen just because fewer people came.

What happens now?

The fixed costs now get divided among a smaller number of meals, so the cost per meal goes up, and your profit margin shrinks drastically. This is called operating leverage working against you. Small drops in sales can cause a big fall in profits because those unavoidable costs remain the same.

That is, in my opinion, essentially what’s happening to CDSL right now.

For the uninitiated, CDSL is like a giant digital vault that holds all your stock certificates electronically. Every time you buy or sell shares, trade mutual funds, or participate in an IPO, CDSL (along with NSDL) facilitates these transactions. They’re the invisible infrastructure that makes India’s capital markets tick.

And for the past few years, business has been booming.

The golden years

From FY22 to FY24, CDSL was living the dream.

Revenue jumped from Rs 284 crore in FY20 to Rs 907 crore in FY24, and then to Rs 1,199 crore in FY25. The company was adding millions of new demat accounts every quarter. In total, close to 3.7 crore accounts were added in FY25 alone.

Figure 1: CDSL’s Key Financials from FY20 through FY24. Source: Company’s AR FY24

Figure 2: CDSL’s Key Financials of FY25. Source: Company’s Q4FY25

Transaction volumes were through the roof as retail investors poured into the markets.

This is where operating leverage becomes your best friend. CDSL’s business model is beautifully simple: high fixed costs (technology infrastructure, security systems, staff) and low variable costs. When volumes explode, most of that additional revenue flows straight to the bottom line.

Operating margins expanded from 40% in FY20 to over 60% in FY24. But then came Q4FY25, and the music stopped.

Here’s what happened in the fourth quarter that has analysts worried:

• Revenue took a nosedive: Total income fell 4% year-on-year and a sharp 14% quarter-on-quarter to just Rs 256 crore.
• Transaction revenue crashed 36% YoY and 17% QoQ as cash delivery volumes dried up
• New demat account additions slowed dramatically to 6.4 million from 10.9million in the previous year
• IPO activity reduced, hitting corporate action charges
• Even online data charges declined 29% YoY

But costs kept climbing: Operating expenses jumped 15% YoY to Rs 156 crore. Remember, CDSL has been investing heavily in technology, infrastructure, and human resources for “future growth.”

The result? Net profit margins collapsed from around 48% in Q4FY24 to around 39% in Q4FY25. That’s close to 900 basis points (~9%) drop.

The reverse operating leverage effect

This is operating leverage working in reverse.

When volumes were growing, every additional transaction was almost pure profit. But when volumes decline, you’re stuck with the same fixed costs while revenue shrinks.

Think about it: CDSL still needs to maintain the same level of security infrastructure, whether they process 100 million transactions or 50 million. The data centres still need to run, the compliance costs remain, and the technology investments continue.

The numbers tell the story:

Total cost-to-income ratio jumped from 51% in Q4FY24 to 60% in Q4FY25

PAT margins compressed from 48% to 39%

Despite revenue growth of 33% for the full year, Q4 showed how quickly things can turn

But wait, there’s more

What makes this particularly painful is that CDSL has to keep investing. As management noted, they’re continuing to invest in “four key areas: hardware, infrastructure, application, and security.” This is the cost of staying relevant in a rapidly digitising financial ecosystem.

They’re also integrating with LIC, rolling out new features in their MyEasi app, and centralising KYC operations. These are good long-term moves, but they add to the fixed cost base when revenues are under pressure.

The competitive reality

Here’s another twist: CDSL isn’t just fighting market cyclicality; they’re also in a duopoly with NSDL, which controls about 90% of the market. CDSL’s growth has largely come from gaining market share and overall market expansion. But if the pie isn’t growing and you’re already the smaller player, growth becomes much harder.

The company’s revenue mix shows this challenge:

• Transaction revenue (their bread and butter) is most volatile
• Annual issuer charges provide some stability, but limited growth
• IPO-related income is lumpy and unpredictable

What this means for investors

Motilal Oswal has cut its earnings estimates by 15% for FY26 and 13% for FY27, citing “slower account openings, weak cash volume trajectory, reduction in IPO actions, and continued investments.” They expect revenue/EBITDA/PAT to grow at just 12-13% CAGR over FY25-27, a far cry from the 30%+ growth rates of recent years.

The stock is trading at 52x FY25 earnings, which looks expensive for a business facing cyclical headwinds and structural margin pressure from continued investments.

The long-term view

India’s capital markets are still in their infancy compared to developed markets. The financialisation of savings, the growth of digital transactions, and the expansion of the mutual fund industry all point to long-term tailwinds.

But what Q4FY25 shows is that even the best infrastructure businesses aren’t immune to cycles. The same operating leverage that made CDSL a darling during the bull run is now working against it.

For investors, this is a reminder that in cyclical businesses, valuation matters. Paying premium multiples for even great businesses can be painful when the cycle turns, especially when those businesses have high fixed costs that don’t adjust quickly to changing demand.

CDSL’s story isn’t over, but it’s a perfect case study of why understanding operating leverage works both ways. The key question now: How long before the traffic picks up again?

Note: We have relied on data from the annual reports throughout this article. For forecasting, we have used our assumptions.

Parth Parikh has over a decade of experience in finance and research, and he currently heads the growth and content vertical at Finsire. He holds an FRM Charter along with an MBA in Finance from Narsee Monjee Institute of Management Studies.

Disclosure: The writer and his dependents do not hold the stocks discussed in this article.

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