HDFC Bank - Resilience and consistency displayed to its core - ICICI Securities

HDFC Bank concluded FY21 - a year of pandemic and business disruption - with 19% earnings growth (almost similar to past 5-year average), 1.32% GNPAs (lower than pre-pandemic levels), 0.6% restructuring, 1.7% slippage run-rate, 1.5% credit cost (including 30bps contingency buffer), 14% advance growth, and 16% deposit growth. That's indeed commendable and what gives us further confidence in the franchise, are: 1) precautionary credit reserve of 60bps still exists; 2) best-in-class deposit franchise (<4% deposit cost) supporting 4.2% NIMs; 3) beefing-up of resources (123 branches added) to boost retail growth (from 6.7% in FY21); and 4) enhancing technology capabilities to address outage issues. We revise earnings by 5%/8% for FY22/23E and maintain BUY with a revised target price of Rs1,818 (valuing the bank at 3.7x FY23E P/ABV). Key risks: 1) recent technology outage further defers visibility on credit card rollout ban; 2) the second wave of Covid, if prolonged, can weigh on credit cost or growth.

- How we read Q4FY21 earnings: 1) GNPAs settling at 1.32% surprised the most; slippages too were contained at 1.66% (similar run-rate as for 9MFY21); 2) Credit cost at 1.65%, albeit relatively higher than the 9MFY21 figure of 1.4%, is in line with our FY21 expectations of 1.5%; 3) Provisioning includes Rs13bn of contingency buffer (Rs8bn credit reserves and Rs5bn interest on interest reversal); with this it carries cumulative credit-related contingency + floating buffer of 60bps; 4) NII growth moderated a tad to 13% with NIMs remaining steady at 4.2%; 5) advance growth on a higher base and due to corporate repayments settled at 14% (lower than recent past averages); 6) core fee income regained its lost momentum (up 20% YoY) further supported by higher forex income and recoveries; 7) HDB Financial Services with IGAAP NPA of 3.9% (vs. proforma stage-3 of 5.9% in Q3) and credit cost of 4% (down from >5.5% in Q3FY21) reported a profit of Rs2.8bn (FY21 RoA of <1%).

- Read-through for other banks on a few aspects: 1) HDFC Bank, despite its resilient asset quality performance in FY21 and existing contingency buffer, built further buffer in Q4FY21 (albeit marginal, of 8bps). Management highlighted that it is precautionary in nature rather than anticipatory (of stress outlook) due to Covid second wave. We believe, other banks too would create intermediate disruption buffers (against expectations of0 their utilisation). 2) Impact of waiving interest on interest for loans above Rs20mn has led to provisioning of Rs5bn (though IBA's methodology for calculation is awaited). This is equivalent to 5bps of advances for 48% of the corporate book. We can extrapolate a similar trend for other banks to gauge NIM impact.

- Enhancing technology capabilities to resolve outage issues: HDFC Bank highlighted that last month's (March) outages were intermittent due to server hardware failure. It is building up technological capabilities on the core system: setting higher standards, enhancing security, migrating to cloud for resilience, card management and activation, etc. Bank has demarcated various initiatives for the shorter term as well as medium-to-longer term and will effectively address the risk of outage issues.

- FY21 GNPAs at 1.32% a big surprise: GNPA, with slippages of 1.66% and higher write-offs at Rs35bn, settled at 1.32% (lower than pre-Covid levels). It is even lower than prudently accelerated proforma GNPAs of 1.38% in Q3FY21. Despite the pandemic and economic disruption, slippages for FY21 settled at 1.66% - quite a positive surprise (we anticipated >2.5%).

- Provisioning however elevated due to further contingency build-up: Overall provisioning cost came in higher at 1.65% (though relatively higher than the 9MFY21 run-rate of 1.4%, it is in line with our FY21 expectations of 1.5%). Provisioning includes Rs13bn of contingency buffer comprising Rs8bn credit reserves and Rs5bn interest on interest reversal. With this, the bank carries cumulative credit-related contingency + floating buffer of 60bps (comprising floating provisions of Rs14.5bn and contingency provisions of Rs58.6bn). It has dipped into Rs36bn of contingency provisions (of Rs86.6bn as of Q3FY21) for proforma slippages of 9MFY21. Management highlighted that contingency buffer is precautionary in nature rather than anticipatory. Despite the second wave of Covid, we expect the resilient performance on asset quality to be displayed in coming quarters too and we estimate credit cost to settle at ~1.3%/1.2% for FY22E/FY23E.

- Demand resolution and recovery trend is improving: Retail demand resolution (amount collected as a percentage of amount demanded) has improved steadily since October and has reached pre-Covid levels in almost all segments. Cheque bounce rate from October to March has also been gravitating towards pre-Covid levels. However, in April, it has increased back to January levels. Resolution run-rate of bounce cases is also tracking towards pre-Covid levels across segments. Surprisingly, even in such a non-conducive environment, recoveries have been a pleasant surprise -30% higher (15% in Q3FY21) than pre-Covid levels.

- Restructuring at 0.6% of advances: Management highlighted, over and above the 50bps of restructuring as of Q3FY21, there were more restructuring requests in the pipeline. In line with the guidance, HDFC Bank has disclosed restructuring of Rs65bn (0.57% of advances) - almost 85% of it flowing from the retail segment.

- Corporate as well as retail to aid robust growth in FY22E: For FY21, the corporate book expanded 22% YoY while retail growth was modest at 7%. However, retail momentum is looking up (8.8% in H2FY21) and extrapolation of this trend suggests >15% growth going forward. Bank is also beefing up resources to support the growth momentum - it recently announced plans to raise debt securities of Rs500bn, added 123 branches in Q4FY21, is investing into technology, focusing on semi-urban/rural areas, with average LCR at 138%. Given retail:corporate mix at 47:53, we believe the bank is poised for credit growth of 18%/20% in FY22E/FY23E respectively.

In retail, gold loans continue to shine with 8% QoQ / 33% YoY growth and the bank is further sizing up its distribution network in this segment, given strong demand. Buyout of the home loan portfolio from HDFC has supported 11% growth in housing loans. Furthermore, loans against securities was up 11% QoQ / 2% YoY, Kisan Gold cards up 12% QoQ / 11% YoY and business banking up 8% QoQ / 11% YoY. On unsecured lending, the credit card portfolio was up 2% QoQ / 12% YoY; given the ban on the bank for sourcing new credit card customers, it is churning the existing base to drive growth. Also, personal loans, which have the highest share in retail portfolio at ~23%, increased by a mere 3% YoY as the bank was slow towards unsecured lending.

Overall, for FY21, retail growth was largely dominated by secured lending products like housing, business banking, gold loans, etc. With the overall economy on revival path and normalising, we believe retail unsecured lending (namely personal loans and credit cards, which form 35% of total retail credit) is also likely to resume its growth trajectory after the slight pause in FY21. Bank highlighted that retail assets momentum is getting back to pre-Covid levels as resilience of the middle class is coming back.

- NIMs draw comfort from lower deposit cost: With 32bps QoQ improvement in cost of deposits (interest expenses being down 3% QoQ / 9% YoY), margins were steady at 4.2%. This was despite 10-15bps impact on margins, due to excess liquidity levels. Bank has created a buffer of Rs5bn towards interest on interest reversal on loans above Rs2mn though it is currently routed through provisions. Had this been adjusted through interest income, margins would have been lower by ~15bps.

HDFC Bank has been consistently guiding for 4.0-4.5% margins for past several years and, as a policy, asset pricing is based on similar mark-up over deposit cost. Given consistency in NIM profile and stable liability franchise, we expect margins to remain at similar levels (4.1%) in FY22E as well.

- Fee income sees strong rebound; opex up as businesses resume: Fee income growth was up 19% YoY in Q4FY21 while it ended the year on a flat note. Core fee income regained the entire lost momentum - up 20% YoY. Treasury profits came in lower at Rs6.5bn (compared to Rs32bn in 9MFY21) as the bank monetised some gains and was reflected in interest on investments. Forex and derivative income also came in higher at Rs8.8bn (compared to average quarterly run-rate of Rs5.3bn) and recovery income too was higher at Rs10.4bn. Retail constitutes 94% of the fee income while the corporate proportion is 6%.

Opex (ex-employee costs), on the contrary, rose 9% QoQ which was largely attributed to full-fledged business activity and is also in line with the Q4 trend over the past few years. For FY21, opex was up 7%. As a result, 'cost to income' after touching lows of 35% in Q1 retraced to 37.2%. With increased investments in building franchise, promotions, technology spend, etc., the bank expects cost/income to inch-up in the interim to 38-39% and later move towards its medium term target of 35%.

- Distressed retail sell-down continues in Q4FY21 as well: Management highlighted that in recent quarters, it has been witnessing growing interest from market participants to buy distressed retail assets. Hence, for Q4FY21, the bank sold retail assets worth Rs10bn, since the bank believed that there is economic value disposing off now, rather than recovering on its own at a later stage.

- HDB Financial Services (HDB) back in black; FY21 RoA <1%: Asset quality saw a sharp improvement with I-GAAP GNPAs at 3.9% vs proforma stage-3 assets of 5.9% in Q3FY21, while credit cost too was relatively lower at Rs6bn (annualised run-rate of ~4%) vs Rs8bn QoQ. On growth, AUM reached Rs613bn, up 15% YoY, while disbursements were up 32% YoY and 15% QoQ. Overall, for the quarter, HDB reported PAT of Rs 2.8bn vs a loss of Rs443mn QoQ. It ended FY21 with a PAT of Rs5bn, translating to <1% RoA. It maintains enough liquidity with LCR at 265%.

Shares of HDFC Bank Ltd was last trading in BSE at Rs.1428.45 as compared to the previous close of Rs. 1430.15. The total number of shares traded during the day was 306955 in over 15757 trades.

The stock hit an intraday high of Rs. 1444.95 and intraday low of 1423.4. The net turnover during the day was Rs. 440657700.

Source : Equity Bulls

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