Rating- buy; HDFC Bank -Deposit mobilisation is the key

Rating: buy; HDFC Bank -Deposit mobilisation is the key

Hdfc bank’s fourth quarter fiscal year 2023 (Q4FY23) PAT missed estimates by 2.4%, and there was a 4.9% miss in operating profit. The need to increase deposit mobilisation, in which HDFC Bank has outperformed its peers, is causing a drop in loan-to-deposit ratios (LDRs), which is putting pressure on net interest margin (NIM). Additionally, the bank is making aggressive investments in branches and employees, which is affecting the cost/income ratio. These investments are necessary and will likely result in slower EPS growth in the short term, but they should strengthen HDFC Bank’s position among its peers in the medium to long term. We have revised our PAT estimates downward by 4.0/4.3% for FY24/25e to account for a more moderate NIM and a higher cost/income ratio. Nonetheless, we maintain our preference for HDFC Bank as a preferred stock in the banking sector. We value the stock at 2.9x FY25e BVPS and raise the TP to Rs 1,930, retaining our Buy rating.

Downside risk: Higher operating expense ratios due to accelerated spend on distribution, higher retail deposit rates, and slowing loan growth.

* Rising cost of funds offset the benefits from increase in yields. While reported NIMs were stable q-o-q, at 4.1%, calculated NIMs moderated by 14bp q-o-q.

Also read: ICICI Bank mulls raising funds by issuing debt securities on April 22; shares gain marginally

* Operating profits declined by 2.1% q-o-q. It was impacted by higher operating costs on account of branch additions, new employees, and ESOPs-related costs of Rs 3bn. Cost-to-income was up 240bp q-o-q to 42% (vs 39.6% in 3QFY23).

* Loan growth was driven by retail and SME loans while corporate loans declined y-o-y. Deposits growth was driven by both retail and wholesale deposits.

The majority of deposit growth is attributed to maturing customers acquired earlier in FY18-21, as well as the bank’s successful utilisation of its relationship managers and branch network to increase retail deposit penetration. HDFC Bank has stated that any interest rate changes would not cause a deviation in NIM beyond 10-15 basis points (bp). However, a shift in the mix towards retail and small and medium-sized enterprise (SME) deposits would be the primary driver of NIM. It also acknowledged that the increase in cost of funds would accelerate and it needs to offset this through commensurate yield increases. As per management, the recent reduction in MCLR benchmarks is unlikely to have any material impact on NIM. Its cost/income ratio would trend at c42% in FY24e due to continued investments in employees, branches and spends on ESOPs.

Also read: 2023 the likely end of conventional and dawn of new creator economy?

Valuation risks to our view

To value the bank, we utilise a Gordon growth model. We have assumed an average RoE of 17.6% (compared to 18.3% previously) for the period of FY24e-28e due to higher operating costs. Our cost of equity is 10.0%, based on a US risk-free rate of 2.0%, an inflation differential for India of 2.5%, an equity risk premium of 5.5%, and a beta of 1. Additionally, we have factored in a long-term growth rate of 7.3%. Based on these inputs, our fair value price-to-book (P/B) multiple for FY25e is 2.9x. We apply our target P/B ratio to our book value per share (BVPS) estimate for FY25e of `665, generating our new TP of Rs 1,930. We have a Buy rating as we believe strong execution could help the bank to further gain market share and remain a leader on RoE by some distance among its peers.