Macquarie Research:: HDFC 3Q FY11: Good show as usual

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HDFC
3Q FY11: Good show as usual
Event
 HDFC Ltd reported 33%YoY growth in net profit to Rs8.9bn, vs our estimate of
Rs8.1bn and the consensus estimate of Rs8.5bn, mainly on account of higher
profits from sale of investments. Maintain Outperform with TP of Rs775.

Impact
 Disbursements and loan growth at 20% levels, as guided: Loan growth is
picking up for HDFC Ltd after being subdued for most part of last year.
Balance sheet loan growth has picked up from 9% YoY in 3Q FY10 to 21% in
3Q FY11. Disbursement growth for the quarter was at 21% YoY lower than
the 25%+ levels seen in previous quarters, probably due to lower
disbursement on the developer portfolio. Individual loan sanctions and
disbursements for 9M have grown at a very healthy pace of 39% YoY and
38% YoY, respectively.

 Spreads marginally down despite sharp rise in rates: HDFC’s reported
loan spreads for the quarter came in at 2.30% (9M at 2.33%), vs 2.34%
observed in previous quarter. NIMs have been maintained at 4.3–4.4% levels
(QoQ), which we find quite commendable. The company has run down close
to Rs30bn of investments in liquid funds to fund credit growth. As a result,
their need for market borrowings and deposits were lower this quarter.

 Adjusted for ZCBs – 9M profits would be 15% lower: Management
clarified that roughly Rs3.8bn in 9M FY11 has been debited through the
securities premium reserve for the ZCB (zero coupon bond) issuances done.
The full-year debit to the reserves is likely to be around Rs5.3bn.

 Additional provisions for teaser loans and corporate loans adjusted
through reserves: The revised regulations mandate higher standard asset
provisioning for teaser loans and non-individual loans. This requirement has
been partly met by utilisation of Rs2.7bn from additional reserves under
Section 29 C of the National Housing Bank Act, 1987. Consequently the book
value is down by 1.5%. Note that HDFC continues to hold excess provisions
of nearly Rs3bn over and above statutory requirements. The company has
utilised a part of the excess provisions (which were at Rs4bn at the end of 2Q)
to provide for teaser and non-individual loans. No further additional provisions
are required to meet the revised regulations.

Earnings and target price revision
 We have done marginal changes to EPS. TP is retained at Rs775.

Price catalyst
 12-month price target: Rs775.00 based on a Sum of Parts methodology.
 Catalyst: Strong earnings growth, listing of life insurance subsidiary.

Action and recommendation
 What to do with the stock? Clearly from a long-term perspective we believe
HDFC Ltd is on track to show an improving trajectory of growth and
profitability metrics. We would recommend investors hold onto the stock.
However, from a near-term perspective we do not see any triggers for the
stock to re-rate significantly from 5.0x FY12E P/BV.


Loan growth and disbursement trends at guided levels of 20%+
HDFC Ltd’s loan growth pre-sell-down has actually started inching up after being subdued for most
part of the last year. Balance sheet loan growth is at 21% in 3Q FY11, up from 9% at the end of 3Q
FY10.


The trend in sanctions and disbursements remains healthy. Sanctions/approvals growth continues to
be healthy at 20% levels.


Loan spreads maintained
Despite a very tight liquidity situation, HDFC Ltd has managed to maintain its spreads at 2.3%. On a
9M basis the spreads were at 2.33%, compared with 2.34% reported in 1H FY11, implying spreads
for the quarter were at 2.30%



The company’s dynamic resource management ability to fluctuate among deposits, bank borrowings,
bond markets and CP markets based on the prevailing liquidity conditions has helped the company
to maintain spreads over several quarters. HDFC Ltd has smartly run down its investments in liquid
funds this quarter to fund this credit growth.


Valuation
We value HDFC Ltd on a sum-of-parts basis in which the core mortgage business is valued using a
two-stage Gordon growth model and the life insurance business is valued using the appraisal value
method, which is the sum of embedded value and new business value. Other businesses are valued
either as a percentage of AUM or a multiple of book value.


We have assumed the total investment done in subsidiaries/associates to be around Rs92bn, out of
which approximately 25% is done through equity and the rest through borrowings. Hence we have
taken the 25% equivalent amount of Rs23bn and deducted from book value to arrive at core book
value.