Edelweiss: HDFC Bank (HDFCB IN, INR 2,448, Hold)

HDFC Bank (HDFCB IN, INR 2,448, Hold)

We recently met HDFC Bank management to discuss the bank’s growth strategy and understand the current business environment. Key highlights of our interaction are:

n  Business growth to remain ahead of industry

Management expects both wholesale and retail books to grow at same pace—faster than the system. In the wholesale segment, while focus continues to remain on working capital funding, growth opportunities are also being targeted in the term/project lending space, especially with existing customers. In the retail segment, competition is heating up as State Bank of India (SBI) has extended the teaser rates offer till December and ICICI has re-entered the space. However, intensity of underlying demand is too strong for disruptive pricing to act as a growth deterrent in the segment.

n  Impeccable asset quality, high credit standards paying off

High credit standards maintained are paying rich dividends with the bank’s delinquencies declining across all segments of the loan book. While credit costs dropped from 256bps in Q1FY10 to 110bps (including floating provisions of INR 500 mn) in Q1FY11, the bank expects the period of 110-120bps bps credit cost to extend by a couple of quarters. Management guided for 140bps credit cost (including standard provisioning) over FY12.

n  NIMs to sustain at current level; ROAs to touch new highs

HDFC Bank recently raised deposit rates. However, barring a few maturity buckets, rates continue to remain lower than peers. The bank is expected to raise the base rate soon. Since the bank is currently not holding any excess SLR, a further credit growth will warrant balance sheet expansion. Weak deposit growth at the system level could be a cause of concern, posing a potential risk of deposit rate hike in H2FY11. However, management believes that with limited liquidity in the banking system, banks will exhibit pricing power and pass on this cost to borrowers. This will help sustain NIMs at the current level, which, coupled with decline in credit costs, could boost RoAs to a new high of ~1.7% (FY06-10 average 1.5%) and RoAE to ~20% by FY12E.

n  Outlook and valuations: Rich; maintain ‘HOLD’

Overall, the meeting gave us positive insight into HDFC Bank’s credit growth, NIMs and credit costs. The stock is currently trading at rich valuation of 4.0x FY12E adjusted book and 22x FY12E earnings. We believe that the bank has hit a sweet spot – strong growth and lower credit cost which will enhance return ratios and support the current multiples. We maintain ‘HOLD’ recommendation on the stock and rate it ‘Sector Performer’ on relative return basis.