PL INDIA: HDFC - Upgrade to BUY - 25% ROEs v/s less than 3.0x book - Very Reasonable - BUY

PL INDIA

HDFC             BUY               

Q1FY13 Result Update - Upgrade to BUY - 25% ROEs v/s <3.0x book - Very Reasonable

We upgrade HDFC to ‘BUY’ from ‘Accumulate’ with a PT of Rs800/share as last two years of under perfomance (largely technical) has created a sweet spot for long-term investors. The mortgage business will continue to deliver +25% ROEs with ~20% growth and we believe valuations at <3.0x 1-yr fwd book is extremely reasonable. Q1FY13 margin and growth performance addresses concerns on competitive intensity and related growth pressures. We do not consider accounting issues very significant and any investor concerns are likely to get addressed as HDFC moves to IFRS accounting in H2FY13.

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n  Q1FY13- A steady quarter: HDFC reported PAT of Rs10bn, up 19% YoY, in line with our estimates. Margins continue to remain stable driven by flexibility in funding mix. Individual loan growth surprised us with ~24% YoY growth, more than offsetting slower growth in the corporate/developer book (Refer page 5&6).

n  Mortgage valuations extremely reasonable (Page 2): Though reported ROEs are at 21-22%, ROEs adjusted for subsidiary investments and also interest on zero coupon bonds is +24-25% which we expect will sustain. With no asset quality/regulatory risk and more importantly large de-rating over the last two years relating to technical factors (secondary sale by strategic investors), we believe mortgage business valuations is extremely reasonable at <3.0x 1-yr fwd book. HDFC is currently trading at the lower end of trading band with no dilution in growth or return ratios v/s historic levels - Top pick among defensive financials.

n  IFRS accounting to address accounting concerns if any (page 4): ZCB issuance has been in line with investments in subsidiaries (not consolidated) and we see limited impact from reserve accounting for ZCB interests. Moreover, HDFC is moving to IFRS accounting from Q2FY13 and that would address investor concerns if any. Consolidated ROEs remain at ~22-23% even after factoring in ZCB interests.