India is making good progress in dealing with bad-loans that are weighing down on the country’s banks, suggesting long-term valuations for the financial industry are set to improve, according to the head of HDFC Bank Ltd.The resolution of soured debt will help boost valuations, Aditya Puri, HDFC Bank’s managing director, said in an interview at his office in Mumbai. The market value of the financial sector now accounts for 36 percent of the country’s publicly-traded companies, after a world-beating increase of 11 percentage points during the past five years, data compiled by Bloomberg show.
Getting rid of the country’s $180 billion of bad loans is crucial to reviving credit growth and investment in an economy that expanded at the slowest pace in two years in the March quarter. The Reserve Bank of India is said to have ordered lenders to refer 12 debtors with bad loans totaling $31 billion to the nation’s insolvency courts after Prime Minister Narendra Modi’s administration gave the central bank new powers earlier this year to combat stressed credit.
“The government has put in now very good measures, which will lead to bad-loan resolution,” Puri, 66, said. “Now you will find the founders are very worried about losing their company, banks more proactive and a legal mechanism in place. With this, the whole problem should be behind us in 12 to 18 months.”
Under Puri, HDFC has maintained consistently low bad-loan ratios by limiting its exposure to heavily-indebted Indian corporations and lending to the country’s growing middle class. The bank, which has the biggest weighting in the benchmark S&P BSE Sensex, has climbed more than 40 percent this year to a record high.
By contrast, shares of government lenders such as Bank of Baroda and State Bank of India have lagged behind as they struggle to bring their soured loans under control. State Bank of India recently announced the biggest share sale by an Indian company in two years to help strengthen its balance sheet.
The weighting of the financial industry in the broader market is based on a “tremendous undervaluation of public-sector banks,” Puri said. “If they get that situation right, the valuation is going to be higher than what it is today.”
HDFC had a capital adequacy ratio of 14.6 percent at the end of March and a gross bad-loan ratio of 1.05 percent. That compares with 13.6 percent and 9.6 percent, respectively, for India’s banking system as a whole.
Its conservative lending approach means it is better placed than peers to capitalize on India’s expanding economy. Gross domestic product grew 7.1 percent in the fiscal year to March, slower than the previous year, yet among the fastest for a major economy.
“Our growth is dependent on the pace of expansion in gross domestic product, and we also gain market share every year,” Puri said. “We expect India to continue growing at one of the fastest paces globally.”
Global funds have been enamored by HDFC for years and have paid a premium over the Mumbai-based lender’s local share price to get their hands on the limited number of shares available to foreigners.
UBS Group AG, one of the most accurate forecasters of HDFC shares in the past year, predicts its valuation will climb further. The bank has a consensus analyst rating of 4.56 on a scale where 5 denotes a unanimous buy recommendation, the highest among Indian lenders, according to data compiled by Bloomberg.
HDFC will be able to narrow its cost-to-revenue ratio by about 60 basis points in each of the next few years due to its investments in technology, Puri said. The lender is attempting to capture the shift toward digital banking channels, deploying technologies that hasten loan approvals, give customers advice on wealth management and support transactions through its internet and mobile platforms.
As digitization lowers operating costs, HDFC has also broadened its rural network with branches dotting the nation, from Kargil, bordering Pakistan, to the Andaman and Nicobar islands, near Indonesia’s Aceh province. About 52 percent of the banks 4,715 branches were in rural and semi-urban areas as of March 31, exchange filings show.
Expanding into more rural areas in the world’s second-most populated nation has made HDFC Bank the largest financial institution on the assets side in that market, Puri said. Selling financial services to a rural population about the size of that of the U.S. and European Union combined will help maintain the bank’s pace of growth even as competition intensifies in urban markets.
“Fundamentally in India, for financial services, demand exceeds supply,” Puri said. “There is no need to reduce margins to increase the growth rate, nor take incremental risk to gain business. With little asset quality issues and strong growth, we expect ourselves to be a global leader in terms of returns.”