Strong revenue growth of 30% y-o-y: This was driven by acceleration in net interest income growth (32% y-o-y vs. 23% last quarter, per share basis), now growing faster than fee income growth (23% y-o-y). Margins improved
3 bps q-o-q to 4% (12 bps y-o-y) helped by lower funding costs (higher CASA, lower bulk deposit costs) and higher share of fixed rate loans. Loan growth was strong at 26% y-o-y. Both corporate (25% y-o-y) and consumer book (28% y-o-y, incl. Business banking) did well. Within consumer loans, vehicle loans grew 22% y-o-y, while non-vehicle loans grew 42% y-o-y helped by business banking (36% y-o-y), LAP (36% y-o-y) and credit cards (59% y-o-y). Consumer loans (incl. business banking) constituted 48% of total loans (vs. 47% last year). Core fee income grew 23% y-o-y—most segments did well except FX income, which fell 8% y-o-y due to lower FX volatility.
Strong asset quality; discussion on LAP exposure provides some comfort
GNPL formation moderated q-o-q (1.3% of loans, annualised vs. 1.4%). Credit costs and impaired loans ratio was broadly stable. With respect to the LAP segment, management highlighted that NPA ratios have been stable on y-o-y basis at 0.4% and exposure to relatively riskier NCR region is low at 15% of LAP book (<1% of overall loan book). Even the indirect exposure (via NBFCs) is not high. The bank has 4-5 accounts under discussion for SDR— however, the quantum is quite low. Pipeline for S4A or 5:25 refinancing is nil.
Stay OW, Raise Price Target
Our 17% PT increase is driven by: roll-forward of valuation reference year by six months; lower CoE on falling rates; and higher net interest margins in medium term. The stock is our preferred pick given strong balance sheet (Tier 1 ratio of 14.7%, low impaired loans ratio of 1.6%), high profitability, diversified loan/ revenue mix, new growth opportunities (MFI, rural) and expanding distribution network. This should drive sustained strong earnings compounding, in our view.
Strong balance sheet, high profitability
- Well positioned for the longer term given: strong retail franchise; the company is still in the early stages of growth with multiple growth drivers; management has done a solid job of delivering key metrics.
- The company has rapidly expanded its distribution network – it expects to grow its branch network to 1,200 by FY17 (+20% y-o-y).
- Balance sheet and profitability metrics are robust: (i) low exposure to stressed assets; (ii) good Q2FY17 B3 CET1 ratio at 14.7%; (iii) low impaired loan ratio (FY16) at 1.3% (1.6%including security receipts).
- Profitability is strong and is likely to improve as vehicle loan growth accelerates: We expect 27% EPS CAGR during F16-19e.
- Valuation at 3.1x F18e P/BV and 19.1x P/E looks attractive amid strong earnings compounding.
Risks to achieving PT
Slowdown in CASA owing to higher competition and moderation in interest rates; sharp slowdown in loan growth; material pickup in slippages from the midmarket corporate banking book.
Price target discussion
We raise our price target from Rs 300 to Rs 525. We use a probability-weighted residual income model with three-phases—a five-year high-growth period and a 10-year maturity period, followed by a declining period. We use a cost of equity of 13.25% (down from 13.5% earlier), assuming a beta of 1.1 (unchanged), a risk-free rate of 7.25% (lowered from 7.5%) and a market risk premium of 5.5% (unchanged). We use probability weights of 65% for the base case; 10% for the bear case (to factor in the risk of a double dip in the economy), and 25% for the bull case (reflecting the probability of a V-shaped economic recovery, which our economists view as a slightly greater likelihood).
Our probability weightings remain unchanged. We increase our price target by 17% driven by: rolling-forward of reference year for valuation by 6 months from June-17 to Dec-2017; lower cost of equity given lower rates; and higher net interest margins over the medium term.