HDFC Bank met consensus estimates, with Q3FY15 net profit of R27.9 bn (up 20% year-on-year) which was 4% above our estimates. However, similar to recent quarters, the quality of earnings growth remained weak, with a core profit growth of just 15%, excluding treasury gains. Loan growth slowed down to 17% y-o-y (vs the last four-quarter average of 23%).
NIM (net interest margin) expanded 20 bps y-o-y on a low base but declined 10 bps q-o-q, as the CASA (current account and savings account) ratio continued to slide. Core fee income growth picked up but still remained weak at 8% y-o-y and operating expenses grew at 19%. Whilst the gross NPA (non-performing assets) ratio remained stable, provisioning cost increased sharply by 22% quarter-on-quarter and 44% y-o-y.
With little headroom to improve NIM, operating efficiency and credit cost, coupled with the weak trends in core fee income, we expect EPS (earnings per share) growth to settle at a new normal of 17-18% y-o-y, going forward. However, the valuation remains punchy at 23x FY16e P/E (price-to-earnings multiple) for earnings growth of 17-18%. We remain SELLers with a TP (target price) of R939/share, implying 20x FY16e P/E.
Results overview: Core profit growth was relatively weak at 14.6% y-o-y; however, treasury gains of R2,655m during the quarter (vs gains of R951m in Q2) helped the bank to deliver a net profit growth of 20% y-o-y and meet consensus expectations (but 4% ahead of us). NII (net interest income) growth remained strong at 23% y-o-y (3.4% q-o-q) on a low base last year and was marginally below our expectations. Loan growth slowed down to 17% y-o-y as FCNR (foreign currency non-resident) loans becomes part of the base. Year-on-year growth of 22% in corporate loans continues to drive loan growth. Retail loan growth at 11% y-o-y, though showing a pick-up, remained weak. Within retail, growth in consumer loans (home, car, credit cards/personal loans) remained strong and is showing a pick-up. However, the CV/CE (commercial vehicle/construction equipment) and business banking loan book continues to show a decline.
Whilst asset yields declined 18 bps y-o-y (5 bps q-o-q) due to the loan mix change towards lower-yield assets, lower funding cost from market borrowings (due to ease in liquidity) led to lower funding cost and NIM improvement on a y-o-y basis. However, funding costs increased 5 bps
q-o-q, leading to overall 10 bps q-o-q decline in NIMs.
The CASA ratio continued to slide and was at 40.9% vs 43.2% at Q2 primarily due to lower growth in CA deposits. Core fee income growth remained weak at 8% y-o-y. Operating expenses growth at 19% y-o-y was in line with last quarter trend. The bank opened 59 branches during the quarter and increased headcount by 1.2% q-o-q. The core cost-to-income ratio was at 44.5% and was flat on a y-o-y basis. Whilst gross NPAs remained stable at 0.99% (vs 1.02% at Q2 and 1.01% at Q3FY14), provisioning costs increased sharply by 44% y-o-y and 23% q-o-q and did not support the profitability the way they did over the last couple of years.
Where do we go from here? The quarterly EPS growth, which averaged 30% over the major part of the last decade, has slid to less than 20% y-o-y in FY15 and is now in line with the loan book growth. We expect loan growth to moderate to 19% CAGR in FY14-17e (vs 24% during FY11-14). Beyond loan growth, NIMs are close to peak levels. With a moderating CASA ratio and increasing proportion of lower-yielding corporate loans, NIMs are unlikely to increase in the future. Also, credit costs are at decadal lows. Its cost-to-asset ratio has already decreased by 30 bps and we do not see more than a 15-20 bps improvement in the ratio, as the bank sheds its tight cost control to chase growth. With lower growth from retail loans, fee income growth is unlikely to grow at more than 20%.
We expect core earnings CAGR of 18% over FY14-17e. Whilst the recent capital raise of R100 bn is 15% BVPS(book value per share)-accretive, it is 4% EPS-dilutive and 250bps RoE (return on equity)-dilutive and hence not a huge valuation driver.
With earnings growth of 18% over FY14-17e, we believe the current earnings multiple of 23x is expensive. A comparison of P/E multiples with two-year EPS CAGR estimates (consensus) shows that the current PEG (price/earnings-to-growth) ratio is close to its peak levels. Our one-year forward TP (target price) for the bank is R939 (20.4x forward earnings and 3.4x forward book). Higher-than-expected system loan growth and/or higher-than-expected market share gains by the bank are key risks to our Sell stance.
By Ambit Capital